Von John Browne ein interessanter Artikel, warum momentan alles gemieden wird, wo Subprime-Kredite enthalten sein könnten.
(Sorry - kein Link, da Newsletter / Hervorhebungen von mir hinzugefügt).
Understanding Contagion
The financial media is jam-packed with stories about the spreading contagion of the subprime real estate debacle — which we long warned of — and its extension into non-prime and even into vital non-real estate markets, like commercial paper.
But at the same time, many cheerleaders on Wall Street and its related media keep telling us that subprime, is such a small percentage of the total mortgage market that it is inconsequential in the bigger picture.
How do you explain the mismatch?
Great question. We believe the answer is deception.
To explain, let us use an analogy: How poison affects the human body.
Some poisons, such as a bee sting, show good old honest, up front symptoms, with a painful sting and a big, red mark.
Some, such as certain snake bites are a little more deceptive. The sting and red wound is often less than half the problem, as the poison hits the nervous system.
Other poisons are almost entirely covert until the patient shows signs of catastrophic illness.
Having said this, let us consider a large tomato grower who uses a cheaper pesticide or fertilizer to spray on his growing fruit.
Once harvested and commingled and sliced and diced with even the very best tomatoes (Like subprime mortgages, commingled with triple A mortgages) by the processor (investment bank) into tomato ketchup, which is sold onto a wholesale supermarket (hedge fund) and then to the public, retail consumer (hedge fund investor).
No one in this chain is even aware of the potential threat until end-consumers start to die.
Then, the cry goes up, where is it? No one can tell. The vast majority of source tomatoes were good and most of the tomato ketchup is clear of the poison.
The essential problem is that, like a germ entering our body, the toxic tomatoes were relatively very small in number. But, the entire batch is seen by consumers as potentially toxic.
If things are not rapidly sorted out, the processors entire brand image will be fatally hurt. (The financial system risks collapse.)
This is the true situation that now faces us with subprime defaults.
As we said many months ago, it is not the size of the subprime that is the key to its potential damage. It is the fact that the financial toxic waste is hidden in the bundles that form any number of derivatives such as CDOs (Collateralized Debt Obligations).
Over the past decade or so, derivatives have become vastly more acceptable to institutional investors, many of whom sell their own shares to the public.
Derivatives have many advantages, but they have, in our view, two potentially fatal flaws.
First, some of them commingle — slice and dice — toxic waste with the good.
Second, derivatives are relatively new financial instruments. They were developed by extremely cleaver number crunchers in the engine rooms of investment banks and are complex. Some are extremely complex. This makes them opaque.
The great, often unmentioned, problem of their complexity and opaqueness is that, very few regulators or top managers of even institutional investment houses understand them fully.
This has two implications vital to the current seizure of certain essential markets such as commercial paper — the key to the depth of the coming recession.
First is that the top management of major financial institutions were, until recently, largely unaware of the problem. Even today, they are not quite sure how much toxic waste they actually have in amongst some of the triple A rated investments. They have absolutely no idea of the value of an asset containing just some toxic waste.
Second, knowing of the grave uncertainties in their own investment positions, they are deeply suspicious that any of the many other investors they deal with, may be in the same or even worse position.
The word goes out, “Don’t lend and don’t accept commercial paper”.
Therefore, despite assured low cost liquidity from the Fed, lending dries up, including the purchase of commercial paper.
This effectively turns a credit crisis into a solvency crisis, on a scale so enormous that it could, if not checked, force a recession into a depression.
To think, that all this stemmed from a relatively small number of bad subprime loans.
That is what you call contagion!
We believe that our wise readers will take due heed of this if they prefer the return “of” their money to a hoped for return “on" their money!
As a case in point, we have just heard a contributor to CNBC suggest that, if you ignore the four worst states, the real estate market in our country is non-existent!
Doubtless, our readers will see immediately the fatal flaw in that cheerleader’s argument.
It is like a quack doctor saying to a patient, who has been bitten in the leg by a snake whose venom is effectively attacking his whole nervous system, “You’ll be alright, old boy, if we cut off your leg and get rid of the area of the snake bite!”
In summary, the present contagion is so dangerous, not just to the real estate market, but to our entire economy, because the toxic waste has been hidden by derivatives.
At present, people are scared by the unknown and a scared financial system puts our entire economy at great risk.
