Borrowing costs swell as banks clamp down

NEW YORK – STUNG by billions of dollars in bad debts, banks in the United States are clamping down on loans, making borrowing costlier for the consumers and companies that are the best hope for keeping the US economy out of recession.

Economists are increasingly worried that reluctant banks plus skittish borrowers will create a recipe for economic disaster, and even aggressive interest rate cuts by the Federal Reserve may not be enough to prevent a downturn.

‘It’s a vicious cycle. As banks tighten lending standards, credit is harder to get, which is worse for the economy, and that makes banks tighten up more,’ said Mr Ray Soifer, the chairman of bank consulting firm Soifer Consulting.

‘Fed rate cuts will have some impact, but cutting rates by itself does not improve the availability of credit.’

The central bank’s Beige Book survey of economic conditions, released on Wednesday, showed that both business and consumer lending activity slowed from mid-November up till last month, with most regions reporting tighter credit conditions.

Banks have reason to be concerned about credit quality as US consumers struggle to stay current on a growing pile of debt.

American Express, which traditionally focuses on wealthier consumers less exposed to an economic slowdown, said that delinquencies suddenly ticked up last month.

Citigroup – which is raising at least US$14.5 billion (S$20.7 billion) of new capital, with US$6.88 billion of this coming from the Government of Singapore Investment Corporation – said fourth-quarter credit costs for US consumer loans jumped because of rising delinquencies in credit cards, mortgages and car and personal loans.

Borrowers with clean credit histories will still find lenders willing to push money their way, but the easy money that kept the economy rolling in recent years has dried up as banks, hobbled by the US sub-prime mortgage mess, scramble to shore up their balance sheets.

Deutsche Bank estimates that losses from sub-prime mortgage loans will reach US$300 billion to US$400 billion, of which one-quarter will probably fall on the banking sector.

‘We are more optimistic than some observers who have predicted a major credit crunch because of write-offs on sub-prime loans,’ the German bank’s analysts wrote in a note to clients.

They added: ‘But we expect the balance sheet repairing process to reduce banks’ inclination to extend new credit, resulting in higher lending rates and tighter lending standards.’

There are already subtle signs that consumer credit terms are tightening, and that could be particularly painful for the US economy as consumer spending accounts for more than two-thirds of the country’s economic activity.

Credit card issuers are mailing out fewer solicitations, according to Credit Suisse. The credit card industry mailed out 595 million offers in November, 3 per cent lower than in October and 11 per cent below the figure a year ago.

Loans from car dealers have not kept pace with the Fed’s interest rate cuts. The average interest rate on new car loans was higher in November than it was in August, even though the Fed lowered benchmark overnight rates by three-quarters of a percentage point over that period.

On the corporate side, loan volume for companies with high credit ratings remains robust, in part because businesses are relying less on other funding avenues, such as commercial paper.

But junk-rated companies are expected to borrow less this year than they did last year, because banks and investors are much less interested in taking that risk.

 

Source: REUTERS (The Straits Times 18 Jan 08

A quick guide to sub-prime issues

How individual loan defaults in a faraway land can have a domino effect all over the world – including here

PAUSE for a moment to consider these facts: HSBC, the world’s third-largest bank, announced that 50 per cent of its earnings in 2006 were wiped out by sub-prime losses from its US subsidiary. Since the beginning of that year, over 50 US mortgage companies have put themselves up for sale, closed or been declared bankrupt. In July this year, Bear Stearns closed two of its ailing hedge funds, while in June, BNP Paribas announced the suspension of three of its funds due to exposure to US mortgages.

With news like this making waves in financial markets lately, it is hardly surprising to see the proliferation of doomsday headlines like ‘Market falls parallel previous collapses’, and ‘Anxiety attack knocks markets down’. No longer confined to the US real estate or financial markets, the topic of America’s sub-prime mortgage market has taken centre-stage, as fears of a spillover spread to financial markets in Europe and Asia – even Singapore.

How did it all begin?

Before the US real estate bubble burst, sub-prime lending was a rapidly growing segment of the mortgage market.

It worked by banks extending credit to borrowers who, for a number of reasons, would otherwise be unable to qualify for credit. According to the US Department of Treasury guidelines issued in 2001, ’sub-prime borrowers typically have weakened credit histories that include payment delinquencies, and possibly more severe problems such as charge-offs, judgments and bankruptcies’.

Most US sub-prime mortgages have an attractive initial fixed-rate mortgage payment for a few years, followed by a higher adjustable rate for the remaining life of the mortgage. The sub-prime mortgage industry began to proliferate earlier this century and estimates say that about 21 per cent of all mortgage originations from 2004 to 2006 were sub-prime – a sharp increase from 9 per cent in 1996-2004. At its height in 2005, sub-prime mortgages were worth US$805 billion.

Although not all sub-prime loans are necessarily high-risk, many of them were made to homebuyers with poor credit or little income. As the US housing market boomed, thousands of lenders greedily sought greater profits by aggressively touting loans to individuals with poorer credit ratings and making greater exceptions to guidelines. In certain cases, individuals were not even required to produce any proof of their income.

These sub-prime loans were bought mainly by big banks which bundled the debt and sold them to Wall Street firms. To sell these ticking time bombs, Wall Street packaged these risky loans with supposedly safer loans to create instruments known as collateralised debt obligations (CDOs) – making them more attractive to risk-averse investors. In 2006, an estimated US$100 billion of sub-prime debt went into US$375 billion worth of CDOs.

In pursuit of higher yields, investors stretching from Europe to Asia invested in these instruments for their potentially higher returns, as compared to bonds with the same ratings.

What went wrong?

Trouble started brewing when the US economy began showing signs of slowing down. Interest rates crept up, house prices tumbled and sub-prime mortgage defaults began climbing at an alarming rate, reaching 12.6 per cent at one point.

As default rates soared, creating losses on the underlying mortgages of CDOs, investors began to question the reliability of the models and ratings which valued these CDOs; indeed, credit rating agencies like Moody’s have come under fire for misjudging default rates in sub-prime mortgages. With the uncertainty surrounding the current analysis and valuation of credit risk, many investors have decided to pull back on investments in CDOs and hedge funds with stakes in such securities.

Explained Jeremy Goh, an associate professor of finance at the Singapore Management University (SMU): ‘When investors heard all these negative things about default rates in the news, they started withdrawing their money from hedge funds and parked them in safer money market instruments like treasury bills.’

The result was a triggered chain of reactions which affected markets worldwide. Hedge funds were forced to unload their assets in order to raise cash.

The scattered ownership of CDOs has in turn created widespread loss of confidence in financial markets. Besides affecting all holders of sub-prime-related assets, the greater and more serious implication of the sub-prime crisis is a squeeze on liquidity. Due to the uncertainty over other financial institutions’ exposure to sub-prime losses, they became unwilling to lend to each other.

A tsunami or ripple effect?

However, central banks around the world have responded by injecting liquidity into the markets to ease fears of a liquidity crunch. The US Federal Reserve has also cut its discount rate (which it charges for emergency lending to banks) from 6.25 per cent to 5.75 per cent.

Asian equity funds have also been hit hard, and among those affected the most are funds from Singapore and Malaysia. Data from Morningstar Asia showed that funds from both countries sank an average of 10 per cent.

Asian stock markets has also been tumultuous, spreading fears that a slowdown in the US economy will extend to the rest of the world.

Although the sub-prime crisis in the US may be a cause for concern, investors here should not be overly worried as Asian fundamentals remain strong. Many industry watchers agree that Asia’s economies are no longer as reliant on the US as in the past. As intra-regional trade grows, Asian giants like China and India have become increasingly important trade partners for other Asian countries instead of the US.

Fundamentals of Singapore’s economy remain firm as well, analysts agree. With the introduction of Formula One and the integrated resorts in the coming years, demand and consumption is likely to continue to propel Singapore’s growth.

Prof Goh concurs: ‘I think the jittery stock market in Singapore is only temporary, and I believe that highly-rated CDOs are still safe. Even if the US economy is heading for a recession, it will be a mild one, so the problem could be due to panic selling in the markets or hedge funds unloading some illiquid assets.

‘ As a result, it triggers fear in the lending market. Lenders are more reluctant to lend, which might have some effect on the economy – but nothing major, in my opinion.’

 

Source: Business Times 10 Sept 07

Rate cut not always needed: Fed official

Market disruptions can be addressed using tools available

(NEW YORK) Federal Reserve Bank of Philadelphia president Charles Plosser said there is an ‘underlying stability’ in the US economy and officials need not always cut interest rates in response to turmoil in financial markets.

‘Disruptions in financial markets can be addressed using the tools available to the Federal Reserve without necessarily having to make a shift in the overall direction of monetary policy,’ Mr Plosser said on Saturday at a conference in Waikoloa, Hawaii.

Mr Plosser said while the housing slump has lowered forecasts for the expansion and there is ‘considerable uncertainty’ about the outlook, he expects economic growth to return ‘toward trend later in 2008.’ The drag from housing will ‘gradually’ ease, concluding sometime next year.

The comments suggest that Mr Plosser has yet to conclude a reduction in the Fed’s benchmark rate is critical to safeguard the economy, which lost jobs for the first time in four years in August. The Philadelphia Fed chief doesn’t vote on the rate-setting Federal Open Market Committee until next year.

Lowering the benchmark rate is an ‘option if financial sector problems spill over to significantly harm the outlook for the broader economy,’ said Mr Plosser, 58, who took office a year ago. And, when shocks threaten market stability, a central bank ‘must be prepared to act promptly,’ he said.

Mr Plosser said that the US has coped with blows in the past, such as the devastation of Hurricane Katrina in 2005 and oil-price shocks, and that a decline in one industry ‘does not always imply major problems in the economy as a whole.’

‘It is important to understand and appreciate this underlying stability of the economy in the face of temporary disturbances as we seek to assess monetary policy,’ Mr Plosser told the Pennsylvania Association of Community Bankers convention.

Investors and economists said on Friday there’s little doubt Fed policy makers will lower the main rate after a government report that day showed employers unexpectedly cut 4,000 from payrolls in August.

‘The committee usually does not base its decision to change monetary policy on any one number,’ Mr Plosser said, without referring specifically to the August jobs report.

Answering questions following his speech, Mr Plosser said the outlook for inflation is ’still up in the air,’ and it’s not clear that the moderation in prices of recent months will be sustained.

 

Source: Bloomberg (Business Times 10 Sept 07)

Fed has effectively cut funds rate: analysts

They say unusually large spread between fed funds target and effective rates signals Fed’s next move

(NEW YORK) Here’s a secret: The Federal Reserve has already cut the fed funds rate.

Yes, the Fed’s target rate is still the same 5.25 per cent it has been since June 2006, and the US central bank has only formally cut the less-used discount rate on loans it makes directly to banks.

But going back to Aug 9, when global central banks started flooding financial systems with cash to prevent a complete shutdown of credit markets, the actual rate at which US banks are providing each other overnight funds, the fed funds effective rate, has averaged just under 5 per cent, according to Federal Reserve data.

That’s equivalent to the 25-basis-point reduction in the fed funds target rate that many investors expect US monetary policy-makers to announce at their next meeting on Sept 18.

‘The Fed already eased,’ said Jim Bianco, president of Bianco Research in Chicago, a member of the bond market camp that says a de facto rate cut happened a month ago and a formal announcement of one on the 18th would be little more than a rubber stamp.

‘This is really hard for many market participants. They are so locked into the target rate that they cannot see the game has changed. The target rate is meaningless,’ Mr Bianco said.

Mr Bianco’s view is not universal, however. Others counter that the Fed’s out-sized liquidity injections are strictly temporary measures to ease credit conditions and are not the equal of a formal policy change by the Federal Open Market Committee.

This group does agree, though, that rubber stamp or not, the unusually large spread between the fed funds target rate and the effective rate is a clear signal of the Fed’s next move.

Typically the effective rate rarely sways beyond a few basis points on either side of the target rate. But through last Thursday, the 21-day moving average on the effective rate has been 4.99 per cent – a 26-basis point spread.

In fact, the last time such a significant deviation between the two occurred for a persistent period was after the Sept 11 attacks. The Fed kept the banking system flush with cash and followed through with two rate cuts by the first week of October, including a rare inter-meeting cut on Sept 17, 2001.

The effective fed funds rate – a weighted average of where federal funds trade over one session – was 4.98 per cent last Thursday, well below the 5.25 per cent target rate.

‘Federal funds typically would move only 5 basis points around the target,’ said Kenneth Kim, economist with Stone & McCarthy Research Associates, in Princeton, New Jersey.

Normally, ‘maybe not until a day or two before the meeting you could see some slippage.’ ‘But these are extraordinary circumstances,’ he said.

Since Aug 9, the Federal Reserve has added US$199 billion of temporary reserves to the banking system. These operations have eased the pain for banks struggling with the US subprime mortgage debt crisis and have also contributed to striking volatility in the overnight money market.

And, despite the sudden gap between the target and effective rates, some analysts say the recent moves in federal funds simply reflect those upheavals and fast-changing credit conditions.

‘While the Fed may very well cut the funds target on the 18th, I don’t think you can make the leap of faith that the effective fed funds rate being below target was the signal,’ said Kevin Flanagan, fixed income strategist for global wealth management with Morgan Stanley in Purchase, New York.

In fact, the daily trading in the fed funds rate has been the most volatile since at least 1994, careening from effectively zero to as high as 6.05 per cent in just one session on Aug 10.

Before 1994, federal funds traded rates were a main tool for tracking Federal Reserve policy, and big swings then were a signal of a policy change. In 1994, though, the Fed adopted the current system of targeting a specific rate and announcing changes to its target the same day, as part of an effort to increase transparency to markets.

Since then, the effective rate has lost some of its predictive power, and for clues to pending rate moves investors have turned instead to rate futures markets.

Still, the current gap probably cannot continue for much longer. Either the Fed has to cut the target rate, as most now expect, or it has to ease up on the liquidity injections to allow the effective rate to float back up to a more typical spread.

 

Source: Reuters (Business Times 10 Sept 07)

ECB, Britain’s central bank leave rates unchanged

This comes as US Fed pumps $48b into banking system to bring down lending rate LONDON – THE European Central Bank (ECB) and Bank of England (BOE) held interest rates steady yesterday, saying it was too soon to gauge the damage wrought by a global credit crisis.

The ECB also pumped 42.2 billion euros (S$87.6 billion) into money markets to lower borrowing costs and said there was more to come.

Across the Atlantic, the United States Federal Reserve added US$31.25 billion (S$47.8 billion) to the banking system, the most in almost a month, pushing down the overnight lending rate to the central bank’s target of 5.25 per cent.

The cash infusion was the largest since the Fed added US$38 billion in reserves on Aug 10.

After leaving euro zone rates at 4 per cent, ECB president Jean-Claude Trichet cast doubt on further increases, dropping his key phrase ’strong vigilance’ that he has consistently used to signal a looming hike and pledging to watch developments in turbulent financial markets closely.

‘Given the high level of uncertainty, additional information is needed before further conclusions for monetary policy can be drawn,’ he told a news conference.

The BOE left its rate at 5.75 per cent and issued a statement saying it was too soon to fathom the crisis’ impact on the British economy.

Before the liquidity crisis, stemming from mass defaults on US sub-prime mortgages, both central banks had been expected to tighten policy again.

‘Heightened concerns about a variety of asset-backed securities have led to disruption around the world, not only in markets for those financial instruments but also in money markets more generally,’ the BOE said.

‘It is too soon to tell how far the disruption in financial markets will impair the availability of credit to companies and households.’

On Wednesday, the BOE acted for the first time to temper sky-high money market rates, something which other central banks have been attempting for a month with limited success.

Mr Trichet said the ECB would hold an extra tender to allot three-month refinancing for euro zone banks on Wednesday to ease money market conditions, which have seen rates soar to a near six-year high above 4.5 per cent.

‘This operation aims to support a normalisation of the functioning of the euro money market,’ the ECB said in a statement.

The global credit squeeze remained as tight as ever.

Banks have shied away from lending over the past month, as they scrambled to calculate exposure to the US sub-prime mortgage sector.

Source: REUTERS, BLOOMBERG NEWS (The Straits Times 7 Sept 07)

Property bubble may burst: Daiwa House

A concerned CEO of Japan homebuilder aims to cut costs and expand in China

(TOKYO) Daiwa House Industry Co, Japan’s second biggest homebuilder by market value, wants to cut local costs and expand in China as the developer is concerned a property ‘bubble’ may burst, slashing land prices.

‘The property market has become dangerous,’ Takeo Higuchi, chairman of the Osaka-based homebuilder, said in an interview. ‘I wouldn’t be surprised if the real estate bubble goes bust.’

Land prices are key for Japanese homebuilders like Daiwa House because declines in population are shrinking the residential construction market. Housing starts in the first half of this year averaged about 23,000 a month fewer than they did 20 years ago.

Daiwa House wants to build condominiums in China and Vietnam and is increasing sales of cheaper steel-frame homes in Japan. The company is also investing in energy and research into rechargeable batteries.

The Ministry of Health, Labour and Welfare in December predicted Japan’s population would drop to 95.2 million by 2050 from 127.8 million in 2005 because people are marrying later in life and having fewer children. That compares with a January 2002 forecast for a 21 per cent decline in the population to 100.6 million by 2050.

The homebuilder’s overseas expansion plan is a positive move, considering the shrinking market at home, said Yoji Otani, an analyst at Credit Suisse Group. Even so, it may be difficult for Daiwa House to meet the needs of consumers in foreign markets, he said.

‘Homes are a highly local product,’ Mr Otani said. ‘It may be risky for a foreign builder to expand broadly into another country’s market.’

Annualised housing starts fell 23 per cent in July from a year earlier to 947,088, after surging 6 per cent to 1.35 million in June after changes to construction laws prompted companies to apply for building permits the previous month. Under the new rules, approvals can take as many as 70 days, compared with 21 days before the change.

Daiwa House, whose shares have dropped 27 per cent this year, plans to spin off a real estate investment trust (Reit) within a year as Japan’s real estate market rebounds from a 15-year slump.

The Reit will contain 100 billion yen (S$1.32 billion) worth of properties, including warehouses, rental apartments and commercial buildings, Mr Higuchi said. The properties will be mainly located in Tokyo, Osaka and Nagoya.

Japan’s land price growth quickened last year to 8.6 per cent from 0.9 per cent in 2005. The gain was the fastest since the National Tax Agency started to compile national land figures. The rapid gain in land prices has become worrisome for Daiwa House, Mr Higuchi said.

Osaka’s Midousuji, one of the city’s main streets for office centres, experienced the most rapid growth, with prices soaring 40 per cent to 6.96 million yen per square metre, the tax agency said on Aug 1.

Daiwa House forecasts profit will surge 25 per cent to 58 billion yen for the year ending March 2008, as sales are expected to advance about 5 per cent to 1.7 trillion yen.

The company is cutting costs by increasing sales if its ‘xevo’ line of two-story, steel-framed houses.

The company plans to sell 1,200-1,300 xevo houses a month this year, exceeding an earlier goal for 1,000 a month.

From next year, Daiwa House expects all of the new homes it sells to be based on xevo frames, up from about 85 per cent now, Mr Higuchi said.

Daiwa House will next month start selling 830 apartments in the seaport of Dalian, north-east China. The developer also plans to build 10 condominiums with 1,200 units in Suzhou, near Shanghai, seeking to meet its two trillion yen sales goal by 2010.

In Vietnam, Daiwa House plans to build 200 units of rental apartments near Japanese schools in Hanoi by 2010.

‘In the long run, it is impossible to achieve such growth if we only focus on the Japanese market,’ Mr Higuchi said.

The company is also looking to expand into energy. Daiwa House bought 52 per cent of Eneserve Corp, which makes electricity generators, for 2.51 billion yen in April.

In addition, it has invested an undisclosed sum in research on lithium-ion batteries, a type of rechargeable battery commonly used in consumer electronics, for residential usage to combat carbon emissions contributing global warming.

The homebuilder plans factories in the Tokyo and Osaka regions and may start producing rechargeable batteries for properties by 2009.

Daiwa House also plans to start producing power- assisted walking devices for the disabled from next year, Mr Higuchi said.

 

Source: Bloomberg (Business Times 6 Sept 07)

Hedge fund investors withdrew US$32b in July

Outflows may increase in August, industry survey finds

(NEW YORK) Investors withdrew a net US$32 billion from hedge funds in July, the most in any month since at least 2000, helping to spark global stock and bond sell-offs, according to a new industry survey.

Funds of hedge funds, which invest clients’ money with other managers, pulled US$55 billion, according to the TrimTabs BarclayHedge Flow Report. That was partially offset by US$23 billion in direct investments into hedge funds. Outflows may increase in August, the report said.

Withdrawals by funds of funds represented almost 5 per cent of their estimated US$1.2 trillion in assets, according to the report, which was prepared by Santa Rosa, California-based TrimTabs Investment Research and Barclay Hedge Ltd of Fairfield, Iowa.

Hedge funds and funds of funds oversee a combined US$1.9 trillion, according to the survey.

‘We believe deleveraging and risk reduction by funds of hedge funds was a major cause of the turbulence in the credit markets and the equity markets in July and August,’ Charles Biderman, chief executive officer of TrimTabs, said on Monday in a statement.

Most hedge funds require clients to give at least 30 days’ notice before they can redeem money, meaning that fund managers started seeing requests for July withdrawals in May and June.

The report was the first by TrimTabs, which tracks fund flows, and Barclay Hedge, which compiles data on more than 5,400 hedge funds and managed futures funds.

Meanwhile, a study found that hedge funds in the US might leave the country if subjected to burdensome regulation.

‘With a heavy regulatory hand, there is a risk of hedge funds moving totally offshore,’ said a Federal Reserve Bank of New York study.

New York Fed vice-president John Kambhu, assistant vice-president Til Schuermann and vice-president Kevin Stiroh wrote the paper released on Tuesday.

‘Outright regulation of hedge funds such as through activity restrictions, required capital or leverage restrictions has not received much attention and could have substantial costs,’ the authors wrote in the report.

Hedge funds are largely unregulated pools of private capital that are linked to the broader economy as their gains and losses affect banks, the paper said. In the event of big declines, a bank’s ‘greater exposure to risk may reduce its ability or willingness to extend credit to worthy borrowers’, the paper said.

Hedge fund assets worldwide increased almost threefold in the past five years to US$1.75 trillion as at June, according to Chicago-based Hedge Fund Research Inc.

As they grow in size relative to the US economy, disclosures that do not impede the business interests of the hedge funds would ‘help’ investors and regulators better understand the risks, the authors wrote.

Otherwise, under ‘more forceful’ oversight, ‘regulators might go from seeing little to seeing nothing’, the paper said.

 

Source: Bloomberg (Business Times 6 Sept 07)

Sub-prime beast won’t drown in sea of liquidity

IN TOKYO

WHAT one veteran banker dubbed the ’securitisation monster’ created by financial innovation has bitten back. And it is proving to be a painful lesson for those who reposed faith in securitisation to make financial risk a thing of the past by spreading it around so thinly that it could no longer be detected.

The question now is, how much more damage will the beast do before it is tamed or put back in its cage?

One man who is not underestimating the dangers is Japan’s recently appointed minister in charge of financial services and administrative reform, Yoshimi Watanabe, who declared yesterday that the fallout from the sub-prime debacle could yet become a ‘tremendous problem’ for Japan.

The securitisation monster (as Shinsei Bank chief investment officer Mark Cutis has dubbed it) took a big bite out of the US sub-prime mortgage lending market. But not content with that, it went on to maul socalled structured investment vehicles and hedge funds, before snapping viciously at the very heart of the US and European banking systems.

Now, it turns out that Asian financial institutions have also been savaged more seriously than at first feared. Reuters published a list this week of Asia-Pacific firms that have revealed actual or potential damage through exposure to structured products such as collateralised debt obligations and asset-backed securities as a result of the fallout from the sub-prime market debacle.

As the Institute of International Finance in Washington has remarked, this could be just the tip of the iceberg. The roll call so far includes Australian hedge fund manager Basis Capital, Macquarie Bank and Rams Home Loan; Taiwan’s Cathay Financial Group; Singapore’s DBS Group and United Overseas Bank; the Bank of China, Industrial and Commercial Bank of China and China Construction Bank; Japan’s Sumitomo Mitsui Financial Group, Mitsubishi UFJ Financial Group, Shinsei Bank as well as Nomura Holdings.

There may be more to come in Japan, as minister Watanabe admitted. His agency will watch very closely the half-term results due soon from Japanese banks and other financial institutions to see how many more problems they reveal. But not all accounting regimes are as (relatively) transparent as Japan’s; and even in Japan (as in other advanced economies), the scope for ‘window dressing’ of accounts is  onsiderable.

Thus, the relative calm that has descended on Asian and other emerging markets may be deceptive, as the Institute of International Finance in Washington said recently. For one thing, asset holders domiciled in emerging market countries may simply not have recognised fully as yet the losses they have suffered on financial instruments linked directly or indirectly to defaulted mortgage-backed obligations in the US and elsewhere. For another, the tangled web of instruments spawned by securitisation is so hard to untangle.

Rating agency Standard & Poor’s also acknowledged this week that ‘global debt markets’ are in the midst of a jarring repricing of risk. ‘Uncertainty abounds, but we believe the financial sector as a whole has sufficient strength to absorb significant bank loan and securities markdowns, reduced earnings in investment banking and trading, and increased credit losses that are sure to come in the second half of 2007.’

The fact is that no one wants to take the blame for the meltdown that occurred in global financial markets last month – and which is still rumbling like an angry volcano beneath a surface that has been temporarily cooled by jets of emergency liquidity from central banks.

It has all been a kind of act of God from which we must learn lessons, was the message of leading central bankers meeting in Jackson Hole, Wyoming, last weekend.

There were suggestions from some of the lesser bankers that the current crisis is the price to be paid for financial innovation – a suggestion also advanced by a prominent analyst at a seminar that I moderated in Tokyo last week, where he argued that the crisis is simply the teething troubles of a ‘new financial architecture’ that was spawned recently.

Such arguments allow regulators to get off the hook too easily. They knew that financial innovation was running ahead of their ability to police sophisticated new markets effectively. The dictum caveat emptor (let the buyer beware) should never be applied in financial markets. That is one area where many buyers (and many market practitioners too) do not really understand what they are getting into.

The crisis is almost certainly not over yet and it demands much more considered and comprehensive response than just drowning it in liquidity or empty official assurances that all will be well.

 

Source: Business Times 6 Sept 07

Harvard economist warns of recession, urges rate cut

FED CONFERENCE

Key rate slash to shield US economy from sub-prime fallout: Feldstein

(JACKSON HOLE, WYOMING) Harvard University economist Martin Feldstein said that the United States housing slump threatens a broader recession, and the Federal Reserve should lower interest rates.

‘The economy could suffer a very serious downturn,’ Mr Feldstein, head of the group that charts America’s business cycles, told a Fed conference here on Saturday. ‘A sharp reduction in the interest rate, in addition to a vigorous lender-of-last-resort policy, would attenuate that very bad outcome.’ Mr Feldstein made a case for lowering the overnight lending rate between banks to 4.25 per cent from 5.25 per cent to cushion the economy from the fallout of defaults on sub-prime mortgages.

Chairman Ben Bernanke told the same gathering on Friday that the Fed will do what’s needed to stop this month’s credit-market rout from ending the six-year expansion.

Lowering interest rates may result in a ’stronger economy with higher inflation than the Fed desires’, a situation that Mr Feldstein described as the ‘lesser of two evils’.

‘If that happens, the Fed would have to engineer a longer period of slow growth to bring the inflation rate back to the desired level,’ said Mr Feldstein, 67, president of the National Bureau of Economic Research (NBER).

Some investors speculated that Mr Feldstein was a candidate for Fed chairman before Mr Bernanke was picked to succeed Alan Greenspan. Mr Bernanke wasn’t in the room for Mr Feldstein’s speech, though most other Fed officials were, along with central bankers and economists from around the world who travelled to the annual mountainside conference hosted by the Kansas City Fed bank.

‘Marty is a guy of good judgment,’ said former Fed governor Lyle Gramley, who attended the event. ‘Everybody in the room recognises that. Everybody, including the people at the Fed, will think carefully about what he said.’

The US economy expanded at a 4 per cent annual rate in the second quarter, the fastest pace in more than a year, before turmoil in the credit markets forced the Fed to warn in an Aug 17 statement that risks of slower growth had increased ‘appreciably’.

Already, some indicators are suggesting a weakening economy. First-time applications for jobless benefits rose to the highest level since April in the week ended Aug 25. Property values in 20 metropolitan areas fell 3.5 per cent in June from a year earlier, according to an Aug 28 report by S&P/Case-Shiller.

The economy was last in recession from March to November 2001, according to NBER. Mr Feldstein outlined a ‘triple threat’ from housing: a ’sharp decline’ in home prices and construction; higher borrowing costs and a ‘freeze’ in credit markets stemming from sub-prime-mortgage losses; and fewer home-equity loans and refinanced mortgages, leading to less consumer spending.

Investors expect the Fed to cut the federal funds rate on overnight loans between banks to 5 per cent on Sept 18 and at least another quarter-point by year’s end. The central bank has left the rate at 5.25 per cent since June 2006 after raising it from one per cent over a two-year period.

Mr Gramley, a senior economic adviser at Stanford Group Co in Washington, said he was surprised by the gloominess of Mr Feldstein’s 25-minute speech, which capped a conference where many participants were pessimistic.

Kansas City Fed President Thomas Hoenig, speaking briefly after Mr Feldstein, said that the symposium gave him and probably his colleagues ‘a lot of useful information to use as we deal with some difficult issues that confront us all’.

Earlier in the day, Fed Governor Frederic Mishkin presented a paper in which he said that US banks can cope with ’stressful’ conditions and that the financial system is in ‘good health’ even with the disruptions of the mortgage market.

Mr Feldstein had said in an interview on Friday that there is a ’significant risk’ of a downturn and urged the Fed to cut borrowing costs.

 

Source: Bloomberg (Business Times 3 Sept 07)

Wild ride for investors ahead: analysts

WALL STREET INSIGHT

But they expect rally once sub-prime uncertainty clears

IN NEW YORK

ON Wall Street, stock market analysts and money managers see stocks ready to register gains once the considerable cloud of dust kicked up by the turmoil in the world’s credit markets sparked by the sub-prime mortgage market settles in the weeks ahead.

But stock traders warned that investors should prepare themselves for potentially huge short-term dips and advances as the market reacts to a steady stream of data leading up to the all-important meeting of the Federal Reserve’s interest rate policymaking committee on Sept 18, which will coincide with the beginning of a pivotal third quarter earnings reporting season.

‘The only thing I’m ready to predict for this month is a wild ride for investors,’ said Hugh Johnson, chief investment strategist of Johnston Illington Investors.

The US stock market’s performance last week could have been a microcosm for the entire summer. Huge ups and treacherous downs leaving the major stock indexes, in the end, pretty much at the same point at which they started the week off.

‘There’s an old saying on Wall Street: go away in May, don’t buy until Labour Day,’ observed Joe Battipaglia, the chief investment strategist at Ryan & Beck, who has seen more than his share of stock market gyrations, volatile markets, bull runs and short term meltdowns over more than 30 years of stock market forecasting.

‘And if investors had followed that rule, they’d have made themselves some very nice returns from the beginning of the year, and be in a situation to enjoy what I think will be a strong run sometime this fall, once the uncertainty over the credit market meltdown, how it’s affecting the economy, and what the Fed will do in response, calms down,’ he said.

Mr Battipaglia’s prognosis sounds simple enough, but investors probably will have several more weeks of the kind of volatility witnessed throughout the summer months and typified in last week’s often frantic trading action, before answers to those three key questions become clear.

The market remains on the edge, poised to either jump in with both feet and start a buying frenzy like the one witnessed following the late February plunge, which eventually sent the Dow to new record highs in July; or to cut and run, pull money out of the market at the dizzying pace seen in August’s sell-off, which brought the stock indexes to the brink of a full-blown bear market.

‘It’s going to be a wild and crazy September,’ echoed Joe Kalinowski, chief investment strategist at Grace Financial.

‘You’re going to see a lot of speculative buying and selling until the dust clears on the economy.’

September is known as the worst month of the year for stocks, with the Dow losing an average of 1.2 per cent for the first month of fall since 1929, and it could happen again if the Fed does not act to cut rates, as the investment community is clearly expecting at this point. The Federal Open Market Committee convenes on Sept 19.

Speculation over the likelihood of the first cut in the Federal funds rate has been running hot and heavy since the Fed took the unusual action of raising the discount rate target by 50 basis points two weeks ago in order to keep liquidity from drying up in the credit markets and to reassure the world that it would not allow the financial system to be plunged into chaos by the greed and speculative behaviour that led to the sub-prime mortgage crisis, which has spread to all financial markets.

On Friday, Fed chairman Ben Bernanke’s much-anticipated comments at a conference in Jackson Hole only stoked those expectation to a higher degree. ‘Everybody thinks they heard what they wanted to hear from Bernanke,’ said Mr Kalinowski. ‘Bernanke said the Fed would not let the credit crisis spread to the economy. The market took that to mean he’s more than likely to cut rates at the Sept 18 meeting,’ he said.

Indeed, investors responded strongly to Mr Bernanke’s speech, sending the Dow Jones Industrial Average soaring 119 points, or up 0.9 per cent to 13,357.74. It was a broad-based rally, too: of the Dow’s 30 components, 27 finished higher. The S&P 500 rose 16.35 points, or 1.1 per cent, to close at 1,473.99. The Nasdaq closed up 31.06 points or 1.2 per cent, at 2,596.36.

For the week, the blue chip index advanced nearly 1.2 per cent while the S&P 500 finished with a loss of 0.4 per cent, and the Nasdaq gained 0.7 per cent.

All three indexes registered gains of more than one per cent for the month of August, with the S&P 500 leading the way with a 1.28 per cent gain. The Dow and the Nasdaq posted 1.1 per cent advances.

The coming holiday-shortened week will get off to a fast start for traders coming off their Labour Day break, concerns over the credit crunch and its effects on the economy remaining front and centre.

Tomorrow, the Institute for Supply Management’s August manufacturing index will be released. That will be followed two days later by the ISM services index, which gives a similar snapshot of the non-factory sector. ‘These are both important and timely indicators and are some of the earliest readings on economic activity for August and do include the period of market turmoil,’ said Joel Naroff, president of Naroff Economics.

Exactly how much the real economy has been affected will have a direct bearing on the Fed’s interest rate decision at its Sept 18 meeting. The Fed funds futures market is pricing in a 100 per cent chance of a quarter-point cut, with another quarter-point cut expected by year-end.

The credit markets will also face a big test starting tomorrow, when investment bankers will be looking to finance several major buyouts, including the US$26 billion buyout of First Data Corp by Kohlberg, Kravis, Roberts.

‘If that deal goes smoothly, it could give a big boost to the credit market and would be a step in the right direction of reassuring investors that liquidity is not still in crisis,’ said Mr Johnson.

 

Source: Business Times 3 Sept 07

CCB reveals US$1.06b sub-prime exposure

HONG KONG – China Construction Bank, one of the country’s ‘big four’ state lenders, said it held US $1.062 billion worth of US sub-prime mortgage loan-backed securities at the end of June and expects the securities to have ‘limited impact’ on its operating results for the year.

The exposure is far lower than the US$9.65 billion revealed late last week by another big state-run lender, Bank of China, which sent its shares skidding as much as 8 per cent on Friday before ending 5.4 per cent lower.

China’s biggest bank, Industrial & Commercial Bank of China, on last Thursday said it held US$1.23 billion in US sub-prime-related mortgage-backed securities. It’s shares lost as much as 2.4 per cent on Friday before closing 0.2 per cent higher.

Beijing-controlled China Construction Bank said in its first-half earnings report released late on Sunday that it had set aside 139 million yuan (US$18.37 million) to account for potential losses on its sub-primerelated portfolio, a small amount given its 6.11 trillion yuan in total assets.

 

Source: REUTERS (Business Times 27 Aug 07)

ECB rate rise uncertain, Asia sub-prime fears grow

NEW YORK/LONDON – Central bank officials said market turmoil made a euro zone rate rise far from certain while three Asian banks’ heavy exposure to the limping US home loan sector reinforced global credit worries on Friday.In the US, the Federal Reserve refrained from open market operations ahead of a weekend for the first time since May, helping steady markets, while economic data from July pointed to economic strength just before credit markets began to tighten.

Major US share indexes rose more than 1.0 per cent as unexpectedly strong data on home sales and durable goods relieved anxiety about the economy.

Earlier in the day, national central bank officials said the ECB was focusing on financial market turbulence, saying it would be the decisive factor in determining whether it raises rates by a quarter point to a six-year high of 4.25 per cent.Investor nerves were kept on edge as Singapore’s

DBS Group Holdings, state-controlled Bank of China and its Hong Kong subsidiary, BOC Hong Kong , revealed a combined exposure to the US sub-prime mortgage market of almost US$13 billion.

The news raised fears that Asian banks, generally risk averse following the Asian financial crisis 10 years ago, were more vulnerable to the crisis as investors had thought.

Stock markets tumbled from Sydney to Seoul in response but later on Friday, European and US stocks were firm.

‘If there is a normalisation in the markets a rate hike is still possible. If not the ECB will wait with the next step,’ said a senior official at a euro zone national central bank.

Source: REUTERS (Business Times 25 Aug 07)

Dow up but analysts warn there could be more upheaval yet

NEW YORK -WALL Street is heading for another volatile week, but the bulls could get a further reprieve if calm brought on by the Federal Reserve’s liquidity injections and a surprise cut in its discount rate lasts.

The coming week will see the release of a slew of economic indicators, including July existing home sales and preliminary figures on second-quarter gross domestic product, which should shed more light on the economy’s health.

On Friday, the Dow Jones industrial average shot up 142.99 points, or 1.08 per cent, to end at 13,378.87.

The Standard & Poor’s 500 Index climbed 16.87 points, or 1.15 per cent, to finish at 1,479.37.

The Nasdaq Composite Index rose 34.99 points, or 1.38 per cent, to close at 2,576.69.

But analysts warn there could yet be more upheaval, as weakness in the housing industry still pervades the market and could make for cautious trading ahead of the Labour Day holiday on Sept 3.

Lots of economic numbers and exceptionally light volume often is a recipe for volatility. The Chicago Board Options Exchange Volatility Index (VIX), also known as Wall Street’s fear gauge, ended Friday at 20.72, down 8.4 per cent.

The VIX is down almost 45 per cent from Aug 16, when it climbed to 37.50, a five-year high.

More worrisome, analysts and money managers said, would be any news that pointed to further turmoil in the sub-prime mortgage sector. This past week, several mortgage providers, including Accredited Home Lenders Holding, said they were cutting hundreds of jobs as the lending squeeze and lingering jitters in the credit markets take their toll.

Still, surprisingly strong data on July new home sales and durable goods orders contributed to the market’s calmer tone last week.

Mr Jim Fehrenbach, head of Nasdaq trading at Piper Jaffray, in Minneapolis, said the jobs report, due a week before the Fed’s policy-setters meet on Sept 18 to decide on interest rates, is among the data that may seal the market’s fate in the weeks ahead, along with reports on housing.

As he put it: ‘If those numbers turn south, that’s going to really increase recession fears.’

Source: Reuters (The Sunday Times 26 Aug 07)

BNP to reopen frozen funds in sub-prime mess

Paris – FRENCH banking giant BNP Paribas has said it plans to unblock three of its investment funds, whose suspension earlier in the month sparked turmoil on global stock markets.

On Aug 7, BNP Paribas suspended the funds, which had made investments linked to risky sub-prime home loans in the United States, because of difficulties in valuing them.

In a statement on Thursday, the bank said ‘conditions had been met’ for valuing them, and that the funds would be unblocked on Tuesday and Thursday.

‘BNP Paribas Investment Partners has drawn up a methodology allowing, as it committed itself at the outset to do, to resume the process of subscriptions and redemptions,’ the subsidiary said.

The funds – BNP Paribas ABS Euribor and BNP Paribas ABS Eonia – will be unblocked on Tuesday, while Parvest Dynamic ABS will be unfrozen on Thursday.

The funds hold asset-backed securities – complicated financial instruments that are linked to sub-prime borrowers with poor credit histories in the US.

Defaults by these borrowers have led to losses for many banks and investment funds, and appetite for assetbacked securities linked to sub-prime loans has dried up.

This led BNP Paribas to declare a total lack of liquidity in the market for asset-backed securities, which meant it was impossible to value the assets.

BNP Paribas said it expected the value of ABS Euribor to be 2 per cent to 3 per cent lower compared to its value on Aug 7. ABS Eonia is seen down by 2.5 per cent to 3.5 per cent, while Parvest Dynamic ABS is seen down between 4 per cent and 5 per cent.

The estimated value of the total assets under management by the funds had dropped between July 27 and Aug 7 from around two billion euros (S$4.1 billion) to 1.6 billion euros partly due to withdrawals by investors.

BNP Paribas chief executive Beaudoin Prot told a French newspaper it was too early to assess the impact of the US sub-prime market crisis on BNP Paribas accounts, but that the decision to freeze and then reopen the funds underlined its prudent investment approach.

Source: AGENCE FRANCE-PRESSE, REUTERS (The Straits Times 25 Aug 07)

Keeping rates too low may spur risky investing: BOJ

(Japan) Although bank keeps rates unchanged, governor’s words signal he intends to raise borrowing costs TOKYO – BANK of Japan (BOJ) governor Toshihiko Fukui said there is a risk that keeping interest rates too low will spur risky investment, signalling that the central bank intends to raise borrowing costs.

‘Distortions and the misallocation of resources could occur if interest rates are kept at levels inconsistent with the economy,’ he told reporters in Tokyo yesterday, after his board kept interest rates on hold as expected.

‘Our policy is forward-looking and we can act when we’re confident in our judgment.’

Central banks in Japan, the United States and Europe injected more than US$350 billion (S$535 billion) into the banking system this month, after credit dried up following the collapse of the US sub-prime mortgage market.

Mr Fukui’s comments indicate that he may resume his policy of gradually increasing borrowing costs later this year.

Mr Richard Jerram, chief Japan economist at Macquarie Securities in Tokyo, said: ‘If stability returns in the coming weeks, then the BOJ will probably feel comfortable to raise rates in a month.’

Investors see a 39 per cent chance of a rate increase next month, according to Credit Suisse Group calculations based on interest payments.

Mr Fukui said the central bank’s policy needs to dissuade investors from making one-sided bets in the currency market. Still, he maintained that monetary policy is based on an analysis of the economy and prices.

‘It’s highly likely that the Japanese economy will achieve sustainable growth with stable prices,’ he said, repeating last month’s assessment.

‘However, we’ll examine upcoming data and financial market movements at home and abroad and will make an appropriate policy judgment.’

Japan’s key rate of 0.5 per cent is the lowest among major economies.

Mr Fukui has said the bank needs to normalise policy now that the economy has overcome 15 years of stagnation that followed the bursting of a stock and property bubble in the early 1990s.

He described the tumult as a ‘repricing’ process and said investors are adjusting from a ‘too-loose’ judgment of risk. He said the bank will watch whether the correction is orderly and whether the moves will affect economic growth.

‘It’s not the type of problem that will go away in a few weeks,’ he said.

Some analysts said the US Federal Reserve’s decision last Friday to cut the rate at which it lends to banks may have made it difficult for the BOJ to tighten credit.

Mr Fukui said the BOJ is not influenced by the policy judgment of other central banks. Each monetary authority views the prospects for growth and prices in its own economy, he said.

‘Although Fukui denied the BOJ’s policy should be simply affected by other central banks, it’s not realistic to expect a BOJ rate hike when the Fed’s cutting rates,’ said Bank of America senior economist and strategist Tomoko Fujii.

The BOJ’s next decision will be on Sept 19, a day after the Fed holds its regular policy-setting meeting.

Interest-rate futures show traders are betting the Fed will cut its key overnight lending rate on Sept 18 or earlier.

The European Central Bank this week added more funds to the banking system, while saying it would stay vigilant on inflation, prompting investors to raise bets of a Sept 6 rate increase.

Source: BLOOMBERG NEWS (The Straits Times 24 Aug 07)

UAE annual mortgage lending jumps 86% in Q1

(DUBAI) United Arab Emirates mortgage lending increased an annual 86 per cent in the first quarter as foreigners bought property in the Gulf state.

Outstanding loans to buy homes rose to 42 billion dirhams (S$17.4 billion), the central bank said in its quarterly statistical bulletin published yesterday on its website.

Bank lending for mortgages has increased rapidly since 2002, when foreigners were allowed for the first time to buy property in Dubai, the UAE’s second-largest sheikhdom.

The number of housing units in Dubai will double to 530,000 between 2006 and 2010, according to EFGHermes Holding, Egypt’s largest investment bank.

The increase in lending ‘is more than expected because mortgage deployment has been on the high side in the UAE’, Mihir Marfatia, a financial analyst at Global Investment House in Kuwait, said in a telephone interview. ‘The demand for housing units is likely to remain strong.’

Growth in loans, advances and overdrafts to the private sector slowed to an annual 9.3 per cent in March from 31 per cent in December, the central bank said yesterday.

Slower non-mortgage lending is a result of both a maturing market and banks being more selective, Mr Marfatia said. ‘You will see some sort of moderation in terms of credit growth,’ he added.

The central bank said yesterday that its foreign assets increased 26 per cent in the first quarter to 129 billion dirhams. Annual M3 money supply growth, a measure of future inflation, accelerated to 25 per cent in March from 22 per cent in December.

 

Source: Bloomberg (Business Times 23 Aug 07)

ECB to lend $82b to banks, may still raise rate

FRANKFURT – THE European Central Bank (ECB) said it will lend 40 billion euros (S$82 billion) to banks for three months to further support a ‘normalisation’ of the money market and that it may still increase the key rate.

The ECB decided to ‘conduct a supplementary liquidity- providing longer-term refinancing operation’, it said in a statement yesterday. The bank also said that ‘the position of the governing council of the ECB on its monetary policy stance was expressed by its president’ on Aug 2.

Meanwhile, the United States Federal Reserve injected US$2 billion (S$3.06 billion) temporarily into the financial system to ease credit woes that were upsetting global markets.

The Federal Reserve Bank of New York, which handles the overnight repurchase agreements for the Fed, announced the infusion on its website.

The latest injection brought the total to US$103.25 billion added to money markets in repurchase agreements in the past two weeks.

The Fed last Friday unexpectedly cut its discount rate to commercial banks to 5.75 per cent from 6.25 per cent to ease lending between banks.

Market speculation has been feverish that the Fed could cut its fed funds rate before its regular meeting next month.

The ECB has injected emergency funds into the money market over the past two weeks, after the US subprime crisis made some banks reluctant to lend to each other.

Some economists had speculated that the market turmoil would prompt the central bank to keep its benchmark rate at 4 per cent next month.

ECB president Jean-Claude Trichet said on Aug 2 that the bank will show ’strong vigilance’ on inflation, wording which he has used over the past two years to signal when a rate increase is imminent.

The ECB statement ’suggests to us that the council continues to view the chances of a rate increase in September as high,’ said Royal Bank of Scotland chief euro-region economist Jacques Cailloux.

The three-month euro money market rate has risen every day for more than five weeks, and was set yesterday by the European Banking Federation at 4.68 per cent, its highest level since May 2001 and up from 4.23 per cent a month ago.

Source: BLOOMBERG NEWS, AGENCE FRANCE-PRESSE, REUTERS (The Straits Times 23 Aug 07)

Fed ‘cautiously upbeat’ bourses will stabilise

TOKYO – UNITED States Federal Reserve officials are cautiously optimistic that the steps they have taken to relieve a squeeze in credit markets are working, The Wall Street Journal reported yesterday.

It added that the Fed may wait until its next policy meeting before considering a cut in the federal funds rate.

The paper said Fed officials acknowledged that conditions are far from calm and could take a turn for the worse. But a pickup in issuance of jumbo mortgages and steadying stock markets were evidence of improving conditions.

‘As long as Fed officials think things are getting better, they are less likely to feel pressured to cut interest rates immediately and are more likely to wait until their scheduled meeting on Sept 18 to decide,’ the Journal reported on its website without citing sources.

The article was written by the paper’s Fed reporter Greg Ip, who is known for sometimes reflecting the thinking of senior policymakers.

The Fed cut its discount rate, for banks borrowing directly from the central bank, last Friday and has pumped extra funds into the market to help relieve the crunch from fears about banks and funds suffering losses from US sub- prime mortgages.

A cut in the fed funds rate target would be a fresh test of Fed chairman Ben Bernanke’s credibility. He received a nudge from Congress on Tuesday, after a meeting with Senate Banking Committee chairman Christopher Dodd.

At a press conference after the meeting, Mr Dodd said the central bank chief agreed to use ‘all of the tools at his disposal’ to restore stability in markets roiled by the sub-prime mortgage crisis.

He added that he did not ask Mr Bernanke to cut the fed funds rate and that the Fed chief did not pledge to do so.

Strategists at Barclays Bank concluded: ‘Mr Dodd emphasised that he does not want to put pressure on the Fed or interfere with policymaking by the Federal Open Market Committee (FOMC). But his comments and the scheduling of the meeting itself revealed that the FOMC is facing some degree of political pressure.’

A pre-emptive Fed move would plunge Mr Bernanke waist-deep in a ‘moral hazard’ morass: the sense that the Bernanke Fed, like its predecessors, will step in to bail out financial dealers who have badly over-reached on the greed versus fear scale.

On Tuesday, Richmond Fed Bank president Jeffrey Lacker poured cold water on the chances of an imminent rate cut, saying on Tuesday in a speech at a conference that market turmoil warranted a change in rates only if it affected the outlook for inflation or growth.

Source: REUTERS (The Straits Times 23 Aug 07)

Sub-prime crisis infects $459b of money market funds

Some of the largest funds invest in debt packages backed by risky mortgage loans

LOS ANGELES – MONEY market funds were invented to offer investors better returns than bank savings accounts while providing a high degree of safety.

Most of the US$2.5 trillion (S$3.8 trillion) in these funds is invested in assets like United States Treasury bills, certificates of deposit and short-term commercial debt.

Unlike bank accounts, money market funds are not government- insured. They almost never fail.

But unbeknown to most investors, some of the largest money market funds today are putting part of their cash into one of the riskiest debt investments in the world: collateralised debt obligations (CDOs) backed by sub-prime loans.

CDOs are packages of bonds and loans, and almost half of all CDOs sold in the US last year contained subprime debt, according to a report by Moody’s Investors Service.

US money market funds run by Bank of America, Credit Suisse, Fidelity Investments and Morgan Stanley held more than US$6 billion of CDOs with sub-prime debt in June, according to fund managers and filings with the US Securities and Exchange Commission (SEC).

Money market funds with total assets of US$300 billion (S$459 billion) have invested in sub-prime debt this year.

The danger of owning even highly-rated CDOs containing sub- prime loans was thrown into sharp relief in June, when two Bear Stearns hedge funds that were holding sub-prime CDOs collapsed.

Global financial markets were rocked last month and this month, first by the collapse of the Bear Stearns hedge funds and again when banks and insurance companies worldwide disclosed their US sub-prime debt holdings.

On Aug 9, France’s BNP Paribas froze withdrawals on three investment funds with assets of two billion euros (S$4.1 billion) because the bank could not find a way to value its US sub-prime bonds and other assets. CDOs are not bought and sold on exchanges and their trading has little transparency.

There are 38.4 million money market fund accounts in the US, according to the Investment Company Institute (ICI). People use these accounts both to hold savings and serve as an account to buy securities and place the proceeds of sales.

Investors have sought safety during the sub-prime meltdown by moving their holdings to US Treasuries and money market funds.

On Aug 8, US money market funds’ total assets hit a record high of US$2.66 trillion, with investors putting US $49 billion into such funds in a week, said the ICI.

As a sign of stability, money market funds never allow their share price to rise above or fall under US$1 for each dollar invested.

A money market fund that invests in sub-prime debt increases the risk that its share price could drop below US $1. If 5 per cent of a fund’s holding is sub-prime debt, and in a worst-case situation that asset collapses, then the value of the fund could drop to 95 cents.

Mr Lynn Turner, chief accountant of the SEC from 1998 to 2001, says the regulator is likely to look into money market funds investing in CDOs, particularly because the value of sub-prime collaterals of CDOs can collapse suddenly.

‘I’m betting some people at the SEC will be concerned,’ he said. ‘They’ll be more concerned in six months. How quickly did the Bear Stearns hedge fund evaporate?’

Source: BLOOMBERG NEWS (The Straits Times 23 Aug 07)

Beware the bubble fixes of Greenspan era

TOSHIHIKO Fukui is looking more and more like Asia’s answer to Alan Greenspan.

It’s exactly what many Japanese politicians had hoped for. When Mr Fukui became Bank of Japan (BOJ) governor in March 2003, lawmakers urged him to be the ‘Greenspan of Japan, if not Asia’. It was a bow to the then Federal Reserve chairman’s effect on markets and the power of his monetary policies.

Politicians got their wish – just not in the way many imagined. Now, markets are paying the price for Mr Greenspan’s mark on Japan’s rate policies. Mr Fukui’s BOJ, just like Mr Greenspan’s Fed, has both created and enabled bubbles overseas with ultra-low rates.

All this may come as a surprise to Mr Fukui’s supporters, and there are many. To them, he restored the credibility they felt had been lost during the 1998-2003 tenure of Mr Masaru Hayami. The adulation sometimes seems akin to how many view Mr Greenspan, who was dubbed ‘Maestro’ in a gushing 2001 book by Bob Woodward.

What’s conveniently overlooked about Mr Greenspan’s 1987-2006 tenure is his role in China’s asset bubble and, by extension, Asia’s. His policy of keeping interest rates unusually low in the first half of this decade fuelled speculation in high-risk assets. That led to a cheap-capital-fuelled investment bubble in China.

Mr Greenspan’s culpability for the financial contagion that the US sub-prime-mortgage mess is sending Asia’s way is almost beside the point. The first hint that Mr Greenspan’s fingerprints were on this crisis came in June when former Fed colleague Edward Gramlich told the Wall Street Journal that Mr Greenspan had opposed a proposal that would have boosted oversight of sub-prime lenders.

Mr Greenspan seems to be getting a pass from a Wall Street that remembers kindly how he bailed out investments time and time again. From the Mexican peso woes and the financial meltdown in Orange county, California, in the mid-1990s to Long-Term Capital Management’s collapse in 1998 to the Internet stock bubble of the late 1990s, Mr Greenspan proved to be a reliable market saviour.

That’s the Fed’s job, some might say. And Mr Greenspan’s genius, supporters say, rested in the very reason Woodward dubbed him Maestro: his ability to conduct all instruments of economics amid an orchestra of political demands.

More often than not, though, that meant helping Wall Street traders out of a jam. One side effect is what economists call the ‘bubble fix’, whereby central bankers’ attempts to calm markets lead to economic imbalances. Mr Greenspan’s time at the Fed featured more than a few such episodes.

Will Mr Ben Bernanke’s? It’s an open question following the Fed’s Aug 17 move to cut the discount rate – which it charges banks – by 0.5 percentage point to 5.75 per cent. The surprise reduction was aimed at containing the sub-prime collapse, which threatens the broader credit markets.

Significantly, the Fed didn’t lower the more potent federal funds rate. Slashing the rate banks charge each other for overnight loans would have had a more dramatic impact on markets – and on perceptions of Mr Bernanke’s betrothal to them.

Given that barely two weeks earlier the Fed was fretting about inflation, his move, while clearly forced by markets, was a savvy one. The trouble begins if he starts slashing more vital rates at the next policy meeting on Sept 18. Mortgage lenders did dodgy things; the Fed doesn’t have to save them from facing the consequences with a bubble fix.

By the time the Greenspan Fed began raising rates in mid-2004, it was already too late for Asia. Like clockwork, once the Fed lowered the federal funds rate to 1 per cent, speculative capital flows rushed to Asia.

In 2003, flows destined for Asia topped the previous peak in 1996, just before the region’s crisis began.

The biggest recipient, of course, has been China. Not surprisingly, Asia’s No. 2 economy is home to any number of speculative bubbles, from property to stocks.

Low US rates complemented zero rates in Japan. Today, as the BOJ begins a two-day policy meeting, the odds are extremely low that Mr Fukui will boost rates from 0.5 per cent. That may be a green light to investors to continue borrowing cheaply in yen and moving those funds overseas into riskier assets. The so-called yencarry trade is feeding bubbles globally.

One way in which all that easy money manifested itself was by fuelling a surge in the use of derivatives. The search for higher returns boosted growth in the market for collateralised debt obligations. The upshot was untold amounts of leverage and risk in a global financial system struggling to keep up.

Globalisation means Fed policies play a bigger role in Asia than folks in Washington may realise. The Fed is responsible for the US economy, of course, and Mr Bernanke will focus on trends there. Asia will just have to hope his policies don’t overwhelm its markets with easy money.

Safely back in the private sector, Mr Greenspan is now among those warning of bubbles in China. It’s one thing for investors such as Marc Faber to do that; it’s another for Mr Greenspan to – unless he’s looking in the mirror. Instead of Maestro, ‘Mr Bubble’ may be a more accurate nickname.

Source: BLOOMBERG (The Straits Times 23 Aug 07)

Asian stock markets make sharp rebound

INVESTORS who could not exit fast enough last week rushed back into Asia stock markets yesterday, sending share prices soaring.

The gains stunned even hardened traders. Singapore’s Straits Times Index (STI) rocketed 191.67 points, or 6.12 per cent, to 3,322.38, its second biggest single one-day gain ever, following a 204.27 point surge on Feb 2, 1998.

But Indonesia’s Jakarta Composite Index managed to trump the STI, leaping 6.97 per cent, while Hong Kong’s Hang Seng rose 5.93 per cent and South Korea’s Kospi was up 5.69 per cent.

It vindicated many market experts’ belief that last week’s regionwide sell-down – the STI dropped by 12.5 per cent at one point between Wednesday and Friday – was irrational and indiscriminate.

The opening bell here was more like a starting pistol, with traders piling in to battered banks, property and shipyard counters. The STI shot up more than 110 points in an instant and by 5pm, about $28.5 billion had been added to the value of local shares.

‘Fortune rewards the brave-hearted. Anyone who picked up blue chips as they were sold down last week would have made a big pile,’ said a trader.

While the size of the gains took some by surprise, most traders had expected the market to rise, given the dramatic gains in Europe and on Wall Street last Friday after a cut in a key US interest rate.

The Federal Reserve slashed its discount rate from 6.25 per cent to 5.75 per cent to make loans to banks cheaper and calm global markets that went into a panic over a crisis in the US mortgage market.

And last night, European bourses advanced for the second day. London was up 0.5 per cent, while Paris rose 1 per cent.

Another big boost to Asian bourses came as the Japanese yen weakened sharply against the US dollar and other currencies, after appreciating strongly last week.

This eased concerns that investors, who have borrowed massively in yen to buy assets in countries with higher interest rates, will unwind their positions soon.

A Citigroup report yesterday also showed that, despite the massive regionwide sell-off by hedge funds, long term investors who parked their funds in offshore Asian funds are staying put.

Net outflows from funds that invest only in Asian markets totalled US$73.5 million (S$112.3 million) in the first week of this month and a just US$100,000 last week.

By contrast, about US$4.5 billion was taken out during the correction in early March, while US$4.9 billion was withdrawn during the Asian market turmoil in May and June last year.

Citigroup also noted that in some markets like South Korea, local institutions and individuals had been big share buyers as hedge funds stepped up selling.

Yet experts do not believe the sharp rebound means the bulls are back in charge. Many are urging caution, warning that more wild swings are likely, while others want the US Fed to take more action on interest rates.

‘The Fed has its back against the wall, and we feel the inevitable outcome is further volatility,’ said European private bank LGT.

Deutsche Bank Private Wealth Management chief Asian strategist Marshall Gittler warned: ‘While the strong buying suggests that there is some bottom-fishing in the equities markets, we are not seeing a similar improvement in the bond market where the crisis started.’

AmFraser Securities’ research head Najeeb Jarhom added: ‘Traders should take profit and wait for the next downturn…The rebound does not mean that the market nightmare is over yet.’

 

Source: Business Times 21 Aug 07

Asian firms prepare for sub-prime fallout

(HONG KONG) Asian companies will have a tough time raising funds and will face weaker export demand if the global credit squeeze persists and a deteriorating US housing market crimps consumer spending.

But most firms in the Asia-Pacific, where robust consumption provides a driver beyond the traditional reliance on exports, are waiting to see how the fallout from the US sub-prime mortgage crisis works its way through financial markets.

‘We believe the sub-prime situation will have some impact on the real economy and on the spending of consumers,’ said Chu Woo Sik, executive vice-president for investor relations at Samsung Electronics.

So far, a handful of financial firms, mostly in Australia, Japan and Taiwan, have reported exposure to the US sub-prime crisis but to a far lesser degree than has been seen in the West.

‘Asian corporates are in a strong position as robust nominal GDP (gross domestic product) growth since 2001 and reluctance to leverage heavily leaves the region in a better position than most,’ said Ben Simpfendorfer, strategist in Hong Kong at Royal Bank of Scotland. ‘But the region is still exposed to global capex (capital expenditure) if a credit crunch drags down capex spending in the developed world.’

Companies with riskier profiles have been forced to scrap or delay fund raisings. Last Friday, bankers said

loss-making Melco- PBL Entertainment was having a hard time finding lenders for its Macau casino projects.

Exporters with heavy exposure to the US could see their sales crimped if consumers and businesses lose confidence. ‘A slowdown in the US housing market will certainly affect demand for appliances and electronics goods,’ said an official with South Korea’s LG Electronics.

China’s Baoshan Iron and Steel yesterday said that it was cutting steel product prices for the fourth quarter of 2007, which industry sources said is a result of weaker demand spawned by the global credit squeeze.

Asian companies will be forced to pay more to raise capital if tight credit persists. Already, issuers from higher-risk markets such as Pakistan and Indonesia have been forced to pull deals or pay more for bond issues.

 

Source: Business Times 21 Aug 07

Sub-prime woes spread to short-term securities

Several issuers of commercial loans backed by housing mortgages may get downgraded

NEW YORK – TURMOIL in the sub-prime mortgage market spread again yesterday – this time to a type of short-term security held by money market mutual funds.

These funds have become the investment of choice for many people seeking a safe haven.

Ratings agency Standard & Poor’s (S&P) warned yesterday that it might downgrade several issuers of commercial paper – a short-term IOU by companies that promise to repay loans typically within a few weeks to a year.

In these cases, S&P said, the commercial paper was backed by residential mortgages.

The amount of commercial paper in the United States has grown to US$2.2 trillion (S$3.3 trillion), according to Lehman Brothers, with about US$1.2 trillion backed by residential mortgages, credit card receivables, car loans and other bonds.

Major buyers include pension funds, insurance companies, hedge funds and short-term money market funds.

Investors have flocked to money market funds as they try to avoid volatile stocks as well as bond markets that have seized up. Last week, they put more than US$36 billion into money market funds, the largest move since December 2005. In all, about US$2.6 trillion is in money market funds, according to AMG Data Services.

Such funds are sold to investors as the equivalent of cash, and their net asset value per share of US$1 is considered sacred. But if the funds experienced big losses, the value of the assets could be vulnerable.

S&P acted a day after a US$1.6 billion cash management fund run by the Sentinel Management Group halted redemptions because it could not sell its assets at what it considered acceptable prices.

Until recently, the crisis in the credit markets has been limited to problems related to sub-prime mortgages, those given to borrowers with questionable credit histories. But as these troubles seep into other parts of the securities markets, fears of losses are rising in unexpected places.

The borrowers, companies that issue asset-backed commercial paper, have found it highly profitable. These companies usually use the money they borrow to buy securities such as slices of mortgage pools that generate yields much greater than the interest paid to the short-term lenders.

But there are several risks. First, the companies that issue short-term notes backed by assets with considerably longer terms are exposing themselves to the risk that the interest they earn will not exceed the amount they must pay to their lenders.

Perhaps more significant, the borrowers must be concerned about possible losses in the assets they buy, especially when investors will no longer lend them money by buying their commercial paper.

S&P highlighted four issuers of commercial paper for possible downgrading – Broadhollow Funding, which was set up by American Home Mortgage Investment, a lender that filed for bankruptcy last week; KKR Atlantic

Funding Trust and KKR Pacific Funding Trust, two affiliates of the buyout firm Kohlberg Kravis Roberts (KKR); and Ottimo Funding, an affiliate of Aladdin Capital Management, an investment manager in Stamford, Connecticut.

KKR declined to comment on Tuesday.

Ottimo Funding holds about US$3 billion in residential mortgages, all rated AAA.

Mr George Marshman, chief investment officer of Aladdin, said: ‘It’s a negotiation process. We’re working with all the investors to make things as orderly as possible. I’m optimistic that we can get a good outcome.’

Among the money market funds that held commercial paper issued by the companies singled out for possible downgrading were two offered by Evergreen Investments.

 

Source: The Straits Times 16 Aug 07

Sub-prime woes push STI to 4-month low

Banks lead decline in index’s 6th triple-digit loss this year; other regional bourses hit too

(SINGAPORE) Regional stocks were yesterday swept under by US sub-prime mortgage and other related worries for the third time this month, resulting in the Straits Times Index (STI) suffering its sixth triple-digit loss of 2007, taking it to a four-month low. With Wall Street firmly in the grip of the sellers and the S&P 500 Index on Tuesday falling to within a hair’s breadth of dropping into negative territory for 2007, yesterday’s selling was relentless – Hong Kong’s Hang Seng Index dived 632 points or 2.9 per cent and the Jakarta Composite crashed 140 points or 6.4 per cent to 2,029.

In addition, the futures market for benchmark US indices traded in the red during Asian trading hours, suggesting more turmoil ahead for Wall Street.

Not surprisingly, the ST Index stood little chance, eventually plunging 113.34 or 3.4 per cent to 3,273.25, the lowest since early April.

Its previous five triple-digit losses came on Feb 27 (128 points), March 14 (105), April 19 (109), Aug 1 (116) and Aug 6 (127). Of these, three were US sub-prime-related while the other two were China-induced.

Banks led the decline yesterday, despite disclosures by all three local banks last week of insignificant exposure to the US sub-prime market via collateralised debt obligations (CDOs).

US wire reports said Tuesday’s plunge on Wall Street came after weak results reported by retailers Home Depot and Wal-Mart, and after fund managers Sentinel Investment fuelled the sub-prime worry by telling clients it wants to stop investors from withdrawing their cash to avoid forced liquidation.

As a result, European markets plunged on Tuesday in tandem with the US and opened weaker yesterday.

‘All markets are very nervous and on heightened alert for the next negative sub-prime development,’ said a dealer.

Local broker CIMB said in an Aug 14 report that although the worst is not yet over, Asia is unlikely to suffer a subprime contagion effect because, among other reasons, the banking system is strong and well capitalised.

In addition, it said Asian economies have become more resilient to external shocks and central banks have improved their regulation of high-leveraged activities.

Global markets have been sliding for the past three weeks on concern that increasing mortgage delinquency in a collapsing US property market might derail the financial sector. Specifically, concerns centre on the sub-prime mortgage segment, or loans made to borrowers of lower credit quality.

 

Source: Business Times 16 Aug 07

High-yielding NZ$ bears brunt of sell-off as investors cash out in flight from risk

Key currencies fall as investors sell assets funded by yen loans

THE United States sub-prime crisis that has wreaked havoc on stock markets has spread to currencies, hitting key units like the sterling and leaving experts wondering where it will end.

In three weeks, the sterling, the euro as well as the New Zealand, Australian and US dollars have plunged against the yen, posting drops of between 6 per cent and 14 per cent. The high-yielding NZ dollar took the biggest hit.

The US dollar fell below the key psychological level of 117 yen yesterday while the euro slid past 160 yen and the NZ dollar went under 85 yen.

‘It is madness,’ said Fortis Bank strategist Joseph Tan, on the turbulence in the foreign exchange market yesterday afternoon.

A flight from risk has caused investors to step up their exodus from investments in Europe, the United States, Australia and New Zealand, which were funded by ultra-cheap yen loans – a popular practice known as the ‘yen carry trade’.

The exit from assets denominated in these higher-interest currencies and ploughed back into yen – known as an unwinding – caused the currencies to dive against the Japanese unit, said analysts.

‘The kiwi, sterling and euro have broken through their support levels. What you are seeing is a massive unwinding of the carry trade,’ added Mr Tan.

A trigger for yesterday’s rush to unwind carry trades, said analysts, was news that yet more billion-dollar funds have stopped investors’ redemptions. This has led investors of other funds to fear that if they do not cash out, they will be caught out as well.

And yesterday was the last day for investors of certain hedge funds – those requiring 45 days’ notice for redemptions – to ask for their money back if they want to cash out at the end of this quarter, reported the Financial Times.

‘Fear has spread from funds invested in sub-prime assets to the credit markets, to just about anything,’ said United Overseas Bank economist Jimmy Koh.

If the unwinding picks up momentum, it would be a double whammy for asset markets, said economists.

Over the past week, central banks have been pumping liquidity into markets as risk aversion arising from the sub-prime debacle caused banks to be reluctant to lend.

Economists fear that if the carry trade unwinding snowballs and pushes up the Japanese currency further, yen denominated loans will become expensive and more investors will cash out. This, in turn, will lead to a deepening crunch in liquidity.

‘The unwinding is substantial but it’s not the worst yet,’ said Mr Nizam Idris, UBS director of foreign exchange research and strategy. ‘In the last three weeks, it was institutional investors unwinding their trades. Now we’re seeing the second leg of unwinding, by Japanese retail investors, your ‘mums and pops’.’ Mr Tan said that while carry trades are still largely profitable, fear is now ruling behaviour: ‘At this point in time, nobody in his right mind would get in.’

As for how much further the high-yielding currencies could fall, ‘it’s a multi-billion-dollar question’, said a Singapore-based currency strategist with a US bank.

‘Seriously, I have no idea how far this thing would go. Our forecasts don’t work anymore, because all the technicals have been broken on the downside,’ he said.

‘Suffice to say, the past three weeks is probably the tip of the iceberg.’

 

Source: The Straits Times 16 Aug 07

Market crisis just a speed breaker?

While agreeing that the bull market is intact for long-term investors, analysts say it would be prudent to revisit your asset allocation in the wake of the sub-prime crisis.

THE fallout from the crisis in sub-prime mortgages in the US has sparked a rout in credit and equity markets in recent days. The biggest question in investors’ minds must be whether the bull market in asset prices, fuelled by ample liquidity and relatively low interest rates, is over.

In this edition of Executive Money, strategists, analysts and fund managers share their views.

For long-term investors, the consensus is that the bull market is intact – but the consolidation may not be over. So far on a year-to-date basis, equity market indices based on the MSCI, remain positive, with gains of up to 24 per cent between January and Aug 13.

For some time now, strategists have been telling investors to take some profits off the table, while staying invested.

Now is not the time to panic, but it would be prudent to revisit your asset allocation. An asset class that has risen over the years could now comprise an outsize share of your portfolio. Here is what the experts say.

Lim Heong Chye, APS Komaba Asset Management:

‘The uncertainty may drag on for a while. Sub- prime mortgages actually comprise a small portion of the entire US mortgage backed securities market. But once they were packaged into collateralised debt obligations (CDOs), the contagion could spread into credit related issues – as it has today.

In credit markets, the only safe place is Treasuries. There will be volatility in the coming weeks, especially for credit issues lower than investment grade. In our fund we hold a lot of cash now, about 20 to 30 per cent. We’re looking to deploy the cash into issues where we see value. We bought some government bonds.’

David Bensimon, technical analyst and trader:

‘Ultimately there is no change to the larger picture. 2007 is a consolidation year. We haven’t finished the consolidation across a range of markets. My price target for the Straits Times Index is to go down to 2800. I’m looking for the S&P 500 to move to 1,360 and ultimately to 1,260. There is a structural difference between today’s environment and the past. In the past three years, the market drops have been 6 to 7 per cent.

There is a process of a re-pricing of risk to appropriate levels across a range of financial markets – interest rates, equities, commodities and currencies – because of the recognition that yields were not high enough to reflect the level of risk. With central banks moving to support the market, the perception has not been that the banks are solving the problem, but that there must be a bigger problem.

Between 2008 and 2010, we’ll see a resumption of tremendous prosperity. We really are living in a prosperity driven era of growth. We’re going to see substantial further gains. But this year is one of transition, and that has not finished. For stock markets, it’s almost just beginning.’

Dr Shane Oliver, AMP Capital Investors head of investment strategy and chief economist:

‘While shares have had a good bounce in recent days and there are signs that the credit market turmoil may be settling down, it’s too early to say the falls in shares are over.

While the ride is likely to be rough over the next few months and further declines are possible, the recent slump in share markets should not be seen as the start of a bear market. The historical record indicates that corrections of up to 20 per cent are not unusual in the context of cyclical bull markets, so investors should not get too alarmed by the recent turbulence.’

HSBC Investments:

‘Markets are now pricing a high probability that the Federal Reserve will cut US interest rates soon. In July this year we became concerned over a financial accident occurring in the second half of 2007. As a result, we have been cutting back our equity exposure since mid-July.

We do not think the current volatility will last long and would look to increase equity exposure on weakness.

Global equity valuations remain reasonable by historical comparison, and corporate earnings remain robust. As the economic cycle remains healthy, the longer term trend for equities is expected to be up.’

Robin Parbrook, Schroders head of Asia ex-Japan equities:

‘We expect Asia to be correlated to any short-term sell-off in global equity markets. But we continue to believe that buying Asia on weakness is the correct strategy. The region has a strong long-term growth outlook, and Asia’s dependence on the US economy for its growth has been much reduced.

While the current problems are worrying in terms of risk appetite (and the subsequent risk of market volatility), they do not undermine the fundamental investment case for Asia. The corporate sector in Asia is in good shape.

Balance sheets are strong, cash flows are buoyant, dividend payouts have been rising and capital expenditure plans to date have been relatively disciplined. Economically and politically, the region also looks sound. With the macroeconomic risks looking relatively benign in the region itself, we view a 15-20 per cent pull back from recent highs as a good entry point for long-term investors.’

Prudential Asset Management:

‘The recent sell-offs have been less dramatic than previous ones. Are investors really worried, or are they merely ‘testing’ the solidity of the underlying demand by aggressively selling? We think it is the latter.

Strong Asian growth will continue to support corporate earnings in this region. Corporate credit quality especially in Asia remains solid. 2007 may ultimately prove to be no more than a ’speed bump’.

Short-term valuations may look high but Asia’s valuations are not that high when looking at the longer term and comparing them against world levels. The Asian re-rating story is not over.’

Chen Zhao, managing editor, BCA Research (global investment strategy):

‘Market sentiment is still very fragile and emotional, as investors have been spooked. We urge clients to maintain composure. We should always be ready to buy when there is blood on the street.

The key point is that unless one believes the blow-up in the sub-prime mortgage market could significantly alter the underlying trends in the global economy and stock prices, the recent downturn in equity prices is in the very late stages and might have entered its final capitulation phase.

To be sure, like any bottoming process, this one will be volatile. But the prudent strategy is not selling into strength. Rather, investors should wait for opportunities to buy.’

Clariden Leu investment strategy team:

‘Equity markets in the emerging economies held their ground remarkably well in the recent correction. After a well earned breather in the summer, marked by heightened volatility, equity markets will resume their climb.

We recommend maintaining an overweight in equities and expanding it on price setbacks. Our preferred markets are Europe and selected emerging markets. In the light of further rises in interest rates, we remain underweight in bonds and overweight in the money market.’

 

Source: Business Times 15 Aug 07

Asian markets steady even without liquidity pump

Early trading in Europe, US shows signs of markets recovering

(SINGAPORE) Asian stock markets regained their composure yesterday after central banks around the world helped ease fears of a global credit crisis by pumping money into banking systems.

Interestingly, central banks in Asia refrained from trying to boost liquidity in their own markets. They appeared confident that the fallout from sub-prime mortgage losses could be contained without injecting additional cash.

This approach seemed vindicated as Asian stocks mostly closed higher. The Straits Times Index ended the day at 3,380.61, up 21.43 points or 0.64 per cent. Seoul, which endured falls of more than 4 per cent last Friday, was up 1.1 per cent. Sydney gained 1.3 per cent and Shanghai surged 1.49 per cent to another record close.

The volumes traded were relatively light. The Nikkei-225 index closed up 35.96 points at 16,800.05. Turnover dropped to 2.47 billion shares from 3.35 billion on Friday.

Asian central banks, however, seemed largely sanguine.

The Reserve Bank of Australia yesterday supplied less than the usual amount of money to its financial system, while the Bank of Japan loaned 600 billion yen (S$7.7 billion), an amount it has supplied on more than 20 occasions this year.

In contrast, the European Central Bank (ECB), the US Federal Reserve and other central banks injected US$154 billion to their systems on Aug 9 and US$135.7 billion on Aug 10 to cool a credit crunch. ECB followed that up yesterday with another loan of 47.7 billion euros (S$98.8 billion), while noting that ‘money market conditions are normalising’.

European markets rebounded in early trading yesterday. The UK’s FTSE 100 Index rose 2.6 per cent to 6,194.70 points, France’s CAC-40 gained 1.8 per cent to 5,546.11, while Germany’s DAX Index advanced 1.5 per cent to 7,452.73.

In New York’s morning trading, the Dow Jones Industrial Average gained 59.75, or 0.5 per cent, to 13,299.29 while the Nasdaq Composite Index increased 15.34, or 0.6 per cent, to 2,560.23.

Asia, however, needed no such booster for its markets as it is awash with cash. Malaysia’s central bank governor Zeti Akhtar Aziz said yesterday that the region has ‘high levels of liquidity’. Elsewhere in Asia, policy-makers also insisted there is enough money in the banking system to warrant them staying out.

‘Asia is still full of liquidity,’ said Tomo Kinoshita, chief Asian economist at Nomura Securities Co in Hong Kong. ‘It’s not necessary for Asian central banks to have further accommodative monetary policy.’

The region’s markets attracted US$269 billion in capital inflows last year, according to the Asian Development Bank.

That’s pressuring regional currencies to rise and creating bubbles in asset markets.

Central banks in Singapore, South Korea, the Philippines, Indonesia, India and Malaysia have said they are prepared to add cash into their systems if required. The Reserve Bank of New Zealand yesterday said it was ‘business as usual’ in its conduct of daily operations.

‘In Asia, the financial systems are working so central banks are letting markets price risk as they should be priced,’ said Robert Subbaraman, chief economist at Lehman Brothers Asia Ltd in Hong Kong. ‘The ECB and the Fed needed to provide liquidity to stabilise the money markets but it is not clear that is happening in Asia.’

‘A lot of countries here have seen massive capital inflows,’ said Chua Hak Bin, an economist at Citigroup Inc in Singapore. ‘When you talk about a liquidity squeeze, it’s not a problem for everyone, definitely not for Asia. Money growth is more of a concern.’

China’s money supply grew at the fastest pace in more than a year in July, even after the central bank raised interest rates three times this year and ordered lenders to set aside larger reserves on six occasions.

Meanwhile, policy-makers around the region are reassuring investors their economies are not at risk from a fallout from the sub-prime woes and the credit crunch.

Bank Negara’s Ms Zeti yesterday said Malaysia has ‘minimal’ exposure to collateralised debt obligations.

Thailand’s central bank governor Tarisa Watanagase last week said the nation’s financial system is ‘barely’ affected by credit market losses caused by sub-prime loan concerns.

Local banks in Singapore have already indicated that their exposure to collateralised debt obligations is quite small, relative to their assets, and is not likely to impact their earnings.

Financial institutions in Asia excluding Japan have at least US$258 billion of bonds outstanding at the end of March, according to the Bank for International Settlements. By contrast, those in the United States have US$4.12 trillion of debt outstanding.

‘Asia doesn’t have as big a credit quality problem so the contagion effect is therefore limited,’ said Nomura’s Mr Kinoshita. ‘After their bad experiences during the 1997 crisis, financial institutions have been keen to keep healthy assets.’

 

Source: Business Time 14 Aug 07

Portfolios take a ’sub-primal’ beating

HOW quickly investment sentiment can sour. Up till a few weeks ago, punters were still betting on penny stocks like there was no tomorrow. But the turning point came last month when a US bank, Bear Stearns, spooked the markets with news of major losses and accounting difficulties with its investments linked to risky US housing loans.

Losses by other banks and investment funds have led to what has been termed the ‘US sub-prime housing crisis’ – the source of turbulence and uncertainty in global financial markets in the last couple of weeks.

How these financial losses will trickle down to the real economy – the consumers and companies – remains to be seen.

Meanwhile, banks are now setting aside cash as a precaution against further losses from their bad investments and have become far more cautious about lending.

This is known as a ‘credit squeeze’, but the fear is that this could become a veritable ‘credit crunch’ in which companies and consumers have inadequate access to loans, according to an AFP report.

‘As private sector banks, in a time of uncertainty, set aside more funds for their own funding needs, we are seeing a shortage of liquidity in the money markets,’ AFP quoted Societe Generale’s chief Asia economist Glenn Maguire as saying.

A shortage of liquidity would restrict the ability of companies, and eventually consumers, to borrow, potentially slowing economic growth worldwide.

In an attempt to avert a crisis of confidence in global credit markets, central banks in the US, Europe, Japan, Australia and Canada last week added about US$136 billion to the banking system.

The Federal Reserve, in a second day of action in concert with the European Central Bank (ECB), provided US$38 billion of reserves and pledged more ‘as necessary’, in a statement unprecedented since after the Sept 11, 2001 attacks.

Money market rates had risen worldwide in the previous two days on evidence that the sub-prime crisis is spreading.

By the end of Friday, the central bank actions helped spark a turnaround in American stocks and drive the US overnight bank lending rate below the Fed’s target.

The Dow Jones Industrial Average recovered from a 210-point deficit to end just 31 points lower.

‘They accomplished their short-term mission to make sure the market stabilised ahead of the weekend,’ Bloomberg quoted David Resler, chief economist in New York at Nomura Securities International Inc, as saying. ‘It remains to be seen how much more they’ll have to do.’

Our portfolios declined by an average of 7.5 per cent last week. The one which fell the least – the analysts’ upgrades portfolio – is also the one with the highest cash component. This illustrates the truth of the saying ‘cash is king’ in a turbulent market.

It slid only 2.2 per cent. It had about 30 per cent cash as at last week due to the privatisation of companies like MMI and Amtek, and Want Want Holdings soon.

Meanwhile, small-cap stocks with dubious fundamentals which have been carried along in the wave of euphoria until a few weeks ago have seen the biggest declines.

The one-month top winners portfolio and the one-year top losers portfolio shed the most last week. Each fell by 9.4 per cent.

Big losers included General Magnetics, JK Technology and China Education. The lowest forward PE portfolio and the lowest price-to-book portfolio were down by 8.5 per cent and 7.9 per cent respectively.

 

Source: Business Times 13 Aug 07

Prices slump amid US housing woes

(LONDON) Global commodity prices slumped last week as speculators rushed to bank profits amid concern that demand for oil and metals will slide should the world economy dampen due to the US housing crisis.

Oil: World oil prices dived, with a barrel of Brent below US$69 for the first time since June, on concern that energy demand may weaken amid the US sub-prime crisis. By Friday, Brent North Sea crude for September delivery plunged to US$69.70 a barrel on Friday, compared with US$75.57 a barrel a week earlier.

New York’s main oil futures contract, light sweet crude for delivery in September, plummeted to US $70.68 a barrel, from US$76.67 a barrel.

Gold: Gold prices dipped as the dollar rose. On the London Bullion Market, gold fell to US$668.50 an ounce at Friday’s late fixing, from US$670.50 a week earlier.

 

Source: Business Times 13 Aug 07

Markets fear more volatility ahead

Uncertainty as traders watch developments

THE dramatic intervention by the world’s central banks helped to calm jittery bourses on Friday, but as Asian markets reopen for trading today, investors will be watching to see if the relief is only temporary.

Many traders believe that any move by the more optimistic investors or ‘bulls’ to stage a rally today will be met by an equally determined attempt by pessimistic ‘bears’ to sell into any rebound in share prices.

So, share prices are likely to remain volatile today as traders react to any fresh developments coming out of the credit markets, where investors’ appetite for risk has been soured by the crisis-hit mortgage market in the United States.

Bank of America senior economist Gilles Moec told AFP: ‘One of the big issues is that no one has any real clue of the amount of sub-prime loans which have been purchased by foreigners.

‘The big question is what is the overall amount, and this is bad for the markets because if there is one thing that the markets hate, it is uncertainty.’

Sub-prime loans are offered at high interest rates to Americans who have a poor credit rating and might otherwise be denied credit.

But Commerzbank analyst Andreas Huerkamp was more optimistic and predicted that the crisis would blow over.

‘There are strong parallels with the crisis in the mid-1990s, so you have to be a brave investor to buy shares at the moment,’ he said. ‘But history shows that everything will be forgotten in six months, and the market will recover.’

But given the state of uncertainty that now exists in global financial markets, most analysts believe it may be better for investors to simply sit on the sidelines while waiting for the mortgage crisis in the US to blow over.

Share prices in Singapore and other major regional bourses had see-sawed last week as fears of tightening credit gripped financial markets globally.

Even the commodities markets were whiplashed as traders unwound risky positions, leading to hefty falls in the prices of crude oil and base metals.

The current panic started last Thursday after French bank BNP Paribas froze three hedge funds with US mortgage exposure, sparking widespread fears the contagion had spread to European financial institutions.

This caused international banks to be so risk-averse that they refused to take any form of debt securities as loan collateral, causing interbank lending to come to a virtual standstill.

The European Central Bank was forced to pump 95billion euros (S$197billion) on Thursday and another 61billion euros on Friday to restore calm to the banking system.

The US Federal Reserve followed with a US$24billion (S$36billion) infusion on Thursday, and another US $38billion in three separate operations on Friday to ease a growing liquidity crunch as stock markets crashed across the globe.

What made the Fed’s intervention as ‘lender of last resort’ all the more significant was its decision to accept mortgage bonds as collateral from banks – shoring up investors’ confidence in the badly shaken credit markets.

In Asia, Singapore managed to escape relatively unscathed, with the benchmark Straits Times Index closing down just 53.99 points, or 1.6 per cent, at 3,359.18 on Friday after dropping 115 points at one stage.

But European markets suffered their worst one-day drop in more than four years as London’s FTSE-100 Index slumped 3.7per cent down, while in Paris, the CAC-40 Index was down 3.2 per cent.

Wall Street, however, managed to steady itself, with the Dow Jones Industrial Average recovering to close a mere 31.14points lower at 13,239.54 following the Fed’s intervention after initially crashing by 200 points.

Phillip Securities’ managing director Loh Hoon Sun said yesterday the local stock market is likely to remain vulnerable to any bad news coming out of Europe and the US in the coming weeks.

And this may leave traders to bet on two scenarios with few alternatives in between – a swift recovery or a meltdown.

‘Stocks will look cheap if international banks can swiftly work out the extent of the credit woes arising from the sub-prime loans and chop off their losses,’ a stockbroking director said.

But share prices may fall a lot more if a few big financial institutions could not take the heat and collapse, he warned.

The only good news is that retail investors here have been partly spared from the financial carnage because of the trading curbs imposed recently by local brokerages on highly speculative penny stocks after their daily traded volumes exceeded a few hundred million shares each.

The big concern now is whether the booming residential property market will be affected if the international credit crunch continues.

‘Some investors are obviously growing uneasy about the ability of private equities funds to complete some of the collective property sales which had been announced recently,’ said a dealer.

The abortion of any blockbuster en bloc property sales may hurt the share prices of listed real estate developers and construction counters quite badly, he said. 

 

Source: The Straits Times 13 Aug 07

IN ASIA: Rough ride for many more weeks: Analysts

HONG KONG – IF THE past week’s roller-coaster ride in Asian stock markets is anything to go by, investors should strap in tight for another bumpy ride in the coming sessions.

Ongoing jitters about a global credit squeeze and uncertainty about the fallout from the US sub-prime mortgage crisis will continue to roil markets, analysts say.

‘We’re going to see a pretty volatile ride over the next couple of months,’ said Mr Shane Oliver, head of investment strategy at AMP Capital in Australia.

‘But it’s not a bear market. As is often the case, the longer the bull market, the deeper the corrections become, and that’s exactly what we’re seeing at the moment.

‘The fundamentals globally still look pretty good…and most companies are in pretty good shape to deliver ongoing profit growth.’

Mr Sean Darby, a regional strategist at Nomura, said he expected ‘ongoing indiscriminate selling’ in regional markets as banks were likely to sell Asian stocks to fund their losses in illiquid assets such as sub-prime debt.

‘Irrespective of their fundamentals, Asian equities will be used as a source of funding to meet cash calls,’ he said. ‘It’s going to be a rough ride for the next couple of weeks.’

Analysts and economists differed on just how long or how closely Asian markets would remain tethered to the unfolding drama in the US housing market.

Most predictions have to do with ongoing debates about the vulnerability of the Asian economic and financial boom to the sub- prime fallout.

The first debate centres on the relative Asian dependence for growth on US demand for imports.

While some say Asian economies have generated enough trade with one another to offset a US slowdown, others say Asia will be hurt if the sub-prime mess translates into broader US housing problems and lower consumer spending.

The second debate centres on the source of the cash driving up Asian asset prices.

Some say the bulk of those funds comes from Asia’s own vast pile of savings, and that they are bound to find their way back into local markets once calm returns.

Others, however, contend that the sub-prime fiasco is part of a broader retreat by global capital – a retreat from risk.

Mr Christopher Wood, CLSA’s Hong Kong-based chief Asian equity strategist, said investors should consider the current drop in global stocks as a chance to acquire Asian shares that will rise once the crisis has passed.

 

Source: The Straits Times 12 Aug 07

Morgan Stanley adds more sub-prime loans

MORGAN Stanley’s Saxon Mortgage is expanding its presence in sub-prime mortgages, capturing borrowers turned away by skittish lenders and taking business from rivals that abandoned the struggling market.

Saxon representatives on Thursday moved to assure brokers that Morgan Stanley is a strong backer and is giving business won from other lenders first priority, according to an e-mail obtained by Reuters.

Saxon is maintaining most loan products as other lenders nix theirs, giving it a leg-up in a market where borrowers are getting desperate to refinance.

‘We are still here now and are very willing to help you with any fallout loans you have had from previous companies. They get top billing, and we can get them moved through ASAP,’ the note said.

Saxon’s rates have increased, but mortgage offerings have ’stayed pretty much the same’, it said.

Saxon’s strategy to get a competitive edge on the sub-prime business where losses are causing upheavals in global financial markets compares with other lenders that have sought to reduce their market share.

Maintaining sub-prime loan programmes may be helpful for customers who need to refinance at least US$335 billion (S$504 billion) in loans whose payments are set to jump this year and next, analysts said.

That would alleviate some concern that sub-prime borrowers who obtained the adjustable-rate mortgages in 2005 and last year would find loan programmes too strict – and default.

‘Every day, we’re more inundated with pre-qualifications as my competitors are falling off the face of the earth,’ said Ms Deborah Cox, a Saxon account executive. ‘We are going to be one of the last standing.’

 

Source: The Straits Times 11 Aug 07

Sub-prime domino hits Asia again

Painful pattern takes shape as US ripples exact their toll

(SINGAPORE) For the fourth time in two weeks, stock markets in Asia plunged following steep losses in the United States and Europe the previous trading day.

As the fallout from rising defaults in US sub-prime mortgages continues to spread, the Straits Times Index fell 53.99 points or 1.6 per cent to end at 3,359.18.

Earlier in the day, the index was down as much as 3.8 per cent before clawing back some ground.

A distinct pattern – that seems set to continue for some time – has been unfolding of late. Each new piece of bad news related to the US sub-prime mortgage market has been followed by a plunge in the Dow Jones Industrial Average. This has invariably been mirrored the following trading day in Asia.

Fears of a global credit crunch hung over the US for the second day running as, shortly after opening yesterday, the Dow Jones index was down 124.8 points at 13,145.9.

Europe reflected the strain, too, as in London the FTSE 100 fell 3.1 per cent in morning trade, the Paris index was down 3 per cent and German shares slumped 1.6 per cent as fear of more bad news to come in credit markets gripped investors.

On Thursday, the trigger had been provided by French banking group BNP Paribas, which stopped withdrawals from three of its funds which own US sub-prime mortgages citing a ‘complete evaporation’ of liquidity.

Central banks across the globe have since been pumping in doses of liquidity to ease the crunch.

Here, the Monetary Authority of Singapore said it is monitoring developments in the markets and is ready to inject additional liquidity ‘if the situation so warrants’.

Meanwhile, Fullerton Fund Management, a unit of Temasek Holdings, told Bloomberg that it has no direct exposure to US sub-prime loans and its investments in collateralised debt obligations or CDOs amount to less than one per cent of its total assets under management.

Over the past week, banks and asset managers here have sought to reassure analysts and investors by releasing details of their exposure to US sub-prime property loans through their investments in CDOs.

The sub-prime woes in the US have already caused several hedge funds to suspend withdrawals by investors, usually seen as a sign that the value of the assets they hold may not be enough to repay investors in full.

‘The markets will remain volatile for a few more weeks. More hedge funds are going to have some terrible announcements to make,’ said economist David Cohen at Action Economics. But he added: ‘I wouldn’t get too upset by the fact that the central banks were injecting liquidity today – they were just accommodating the public want to hold cash rather than stocks.

‘That would have caused some cash-flow problems in the banking system, so they added some reserves. It’s not as if they’re bailing out the economy.’

In Asia-Pacific, stocks were again battered as all major markets in the region suffered losses.

South Korea saw the worst fall in percentage terms with a 4.2 per cent plunge, followed by Australia, where shares fell 3.6 per cent.

In Japan, the Nikkei 225 lost 2.4 per cent, while Hong Kong’s Hang Seng Index fell 2.9 per cent. China’s CSI 300 index slid 1.1 per cent.

In South-east Asia, the Kuala Lumpur Composite Index ended 2 per cent lower, while key indices in Thailand, Indonesia and the Philippines also lost 0.9-3.1 per cent.

 

Source: Business Times 11 Aug 07

How a liquidity crunch affects global economies

(NEW YORK) A capital crisis that roiled Wall Street on Thursday and took nearly 400 points off the Dow Jones Industrials has the potential to impact regular people on Main Street as well. Here are some questions and answers about exactly what a ‘liquidity crisis’ is and how it impacts global economies.

Q. What is a liquidity squeeze and why should I care if the Wall Street banks are having troubles?

A. Think of what people call ‘liquidity’ in the financial markets as being something like a faucet. When water pours from it at full blast, you can get a glass of water quickly and easily. But as the water pressure falls, it becomes increasingly difficult and takes more time to fill up a glass.

In periods of liquidity, there is plenty of trading, and big institutional buyers and sellers easily move into and out of stocks, bonds and other instruments. But during a ‘liquidity crisis’ the big banks get nervous about risk and become more cautious about doing deals and making trades. They’re less likely to extend the easy credit that has fuelled the economy in the past few years, and that makes it more difficult to match buyers with sellers. That is what happened to markets around the world on Thursday.

The fallout from a liquidity crunch causes a ripple effect. The most immediate impact is that loans could become harder to get. But troubles can spread to the wider economy, hurting people’s investments and endangering their long-term financial plans. If banks are not lending and no one will extend credit to anyone else, markets seize up and economic growth disappears.

Q. Why are these big firms so easily affected?

A. Major financial institutions can absorb hefty losses without toppling. However, liquidity concerns cause institutions to become reluctant to lend money to other banks. Loans between banks on an overnight basis, one of the primary ways they fund their operations, have become more expensive as concerns arise about their ability to repay the loans – and that forces costs up.

Banks also bring debt offerings to the market on behalf of their clients. But if investors are reluctant to buy them, many times the banks will be left holding the debt.

Q: How do central banks inject money into the economy?

A: As an example, the Federal Reserve carried out a US$12 billion one-day repurchase agreement and a US$12 billion 14-day repurchase agreement. In a repurchase agreement, or ‘repo’, the Fed arranges to buy securities from dealers, who then deposit the money the Fed has paid them into commercial banks.

The cash infusion adds stability to the market, and fosters more buying and increased cash reserves. When the banks get this unexpected windfall of deposits, it increases their confidence that there is enough money to fund operations and make trades.

Q. I thought this was an American problem. What’s the deal with Europe, and should we be worried about China and Asia too?

A. The sub-prime mortgage mess might be a problem in the US as risky borrowers default on their loans and banks become increasingly shy about offering credit. But it impacts European and Asian players who invest heavily in bonds and other products made up of pools of mortgages.

European investors were said to be heavily involved in two hedge funds operated by Bear Stearns that are now bankrupt after bad sub-prime bets. The announcement by BNP Paribas that it was blocking investors from taking their money out of some mortgage-exposed funds raised the spectre of a widening impact of US credit market problems.

These high-yield investments have been attractive because they offered big returns, and that caught the interest of investors globally.

Q. Aren’t the bad sub-prime loans contained, and what kind of impact would this have for regular Americans if they’re not?

A. Defaults in the US$2.6 trillion sub-prime mortgage market have caused many homeowners to lose their homes, while scores of others have reined in spending to keep on top of their payments. There has been some indication that fears about the housing industry have caused borrowers to watch their wallets. And that’s evident in the US economy, with retailers reporting sluggish sales figures in July.

 

Source: Business Times 11 Aug 07

Central banks move to ease credit crunch

Asian currencies and carry trades hurt as liquidity fears escalate

(SINGAPORE) Asian central banks acted swiftly yesterday to calm renewed fears of a liquidity crunch in the financial markets, after both Asian favourites and the high-yielding currency duo Down Under came under heavy selling pressure.

As the jitters escalated overnight, the Bank of Japan was reportedly obliged to pump an extra one trillion yen (S$12.9 billion), or about US$8.5 billion worth, of funds into the Tokyo money market yesterday – lent until Monday – while the Reserve Bank of Australia supplied up to A$5 billion (S$6.4 billion) in extra liquidity, according to a Reuters report.

Other regional central banks were also quick to offer reassurances on both the liquidity and currency fronts, after Asian currencies tumbled nervously in response to another rush to close out speculative or risky trades – with central banks in Indonesia, Malaysia, the Philippines and Taiwan widely cited as US dollar sellers against their falling currencies.

Locally, the Monetary Authority of Singapore also made it clear that it would act against any liquidity bottlenecks, if necessary.

That, however, could not stop the Singapore dollar from sliding in tandem with its Asian neighbours – lifting the US dollar to a one-week high of S$1.5238.

This despite cheery National Day news that local growth had been revised higher to 7-8 per cent for 2007 (from 5- 7 per cent before), or yesterday morning’s revelation that Q2 GDP had grown an impressive 8.6 per cent year on year as well.

The painful fallout for Asian stocks and currencies yesterday followed more bad news out of both sides of the Atlantic on Thursday – which was serious enough to force both the European Central Bank (ECB) and the US Federal Reserve to inject unusually large amounts of liquidity into their respective money market systems.

UK-based currency research firm IDEAglobal reported that before the US session was over on Thursday, the Chicago Options Exchange’s closely watched VIX measure of financial market volatility had surged to a four-year high of 26.9.

Wire reports suggested that, as a result, the ECB was obliged to supply as much as 95 billion euros (S$197 billion) worth of overnight money market funds, and the Fed was said to have offered a larger than normal US$24 billion in US domestic money market operations.

But as this was just one-day money, traders also warned yesterday, short-term US dollars lent for ‘tomnext’ (another one-day loan of funds between next Monday to next Tuesday) were being offered only at 6 per cent or even higher by the time London had started trading yesterday – compared to the Fed’s much lower reference rate of 5.25 per cent.

The ECB had to act for a second time in 24 hours, pumping more than 61 billion euros into the market.

Catalysing the renewed spike in financial market fears overnight was the news that French banking giant BNP Paribas had frozen redemptions on three funds valued at around 1.6 billion euros.

Thereafter, in US trading on Thursday, Wall Street’s benchmark Dow Jones and S&P 500 indices each suffered a dreadful one-day loss of almost 3 per cent after a US investment bank acknowledged similar liquidity issues at another of its hedge funds, and already nervous traders were shaken by warning rumbles about two US home loan outfits too.

By the Asian close yesterday, jangled nerves had lifted the US dollar as much as 1.3 per cent higher to 45.75 Philippine pesos, while a 4 per cent slide in South Korea’s Kospi stock index had boosted the greenback by 0.8 per cent to 931.8 Korean won – brushing aside an unexpected rate hike by the Bank of Korea just a day earlier.

Elsewhere in Asia, the greenback also finished the session between 0.4 and 0.6 per cent better off at S$1.5212, 9,340 Indonesian rupiah, 34.08 Thai baht and 3.4770 Malaysian ringgit – though nervous unwinding of carry trade positions had also forced the greenback one per cent lower to 118.08 yen at the same time.

Indeed, the worst ‘bloodshed’ yesterday was suffered by the high-yielding currencies Down Under. At their worst levels yesterday, the Australian and New Zealand currencies had each tumbled at least one US cent, 1.5 yen, and almost 1.5 Sing cents from the opening bell – before cutting back some losses.

In yen terms, however, this still left the Australian and New Zealand units a painful 2.4 and 3.3 per cent worse off compared to their Asian closes just two days earlier on Tuesday – at 99.85 yen and 87.96 yen respectively. In Singapore terms, this also left them 1.5 and 1.7 per cent weaker – at S$1.2883 and S$1.1331 respectively.

Looking ahead, UK investment bank Barclays Capital warned against attempting to buy the two on dips just yet, explaining that both the ECB and the Fed may well need to do more to stabilise short-term money markets, and this would impact currency prices too.

‘For instance, part of the reason for the move lower in the euro yesterday was probably investors swapping borrowed euro funds into dollars, as the ECB had injected far more liquidity into the euro money market than the Fed did in the US dollar market.’

 

Source: Business Times 11 Aug 07