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This week we look at the knock-on effects of the sub-prime problems eminating from the U.S.
Following the recent declines in the U.S stock markets after uncertainties in the value of exposure faced by US lenders in relation to domestic sub-prme lending (since which time those markets have recovered, well. at least at the time of writing they have!) we have seen international knock-on effects around the world. The UK lender Northern Rock was hit hard when investors decided to initiate a run on the bank, the first on a British lender for around 150 years. The UK 's Bank of England at first declined to intervene but as the crisis worsened it stepped in with large amounts of cheap liquidity. What exactly was the sub-prime problem all about?
In short the 'sub-prime' market is one where lenders provide mortgages to people who are considered to be a greater default risk, or put another way don't have the best credit ratings and are therefore at higher risk of getting into financial difficulty. Sub-Prime lending typically comes with a higher interest rate than available through the main stream lenders. Defaults on sub-prime began to rise and the markets became jittery when it realised that no-one knew the full extent of the financial institutions exposure. The market panicked; the major indices around the world dipped and banks began to reduce their interbank lending for fear of increasing their exposure in a potentially precarious market. Northern Rock depended, to a large extent, on interbank lending to fund it's operation. When this source of funds began to dry up, the market panicked and the rest
is history.
However, the ripples spread much further and in our next up-date we will take a closer look at this.
25/10/07
Part Two
How deep does the 'crisis' go? Speaking to those in informed positions across Europe reveals Banks are simply not prepared to take unneccessary risks. This places pressure on securitisation and makes churning harder. Does this mean that property finance is over? It would seem not according to the people we have been speaking with. It just means that those banks with sufficient liquidity can loan money for property deals but it means they may be a little more discerning in choosing which deals to back. Securitisation is simply the utilisation of other security to create a financial instrument which is then sold on to investors. Churning is where a bank for example lends on a property deal but then sells the transaction or a part of it to other financial institutions.
When we look around other parts of the world we see the effects of the sub-prime problem; from countries like Trinidad and Tobago in the Caribbean, where property transactions have slowed significantly, all the way to Russia where property development is still continuing at a healthy pace but finance for new projects is harder to come by.
In America, where it all started, we saw the ousting of Merrill Lynch 's chief executive Stan O'Neal following the firms reported $8.4 billion of write-downs. Today it is reported that the boss of Citigroup, Charles Prince, is about to resign following concerns over the credit crunch. Last month the bank reported write-downs of $6.5 billion and losses from credit markets. In the U.K it is reported that Northern Rock has now borrowed somewhere in the region of £23 billion from the bank of England. However, the market is now concerned that another round of debt repayment is due from Northern Rock shortly and it will need yet further significant injections of public funds.
We saw fierce, and in some quarters expected, reaction from the financial markets with some 500 points being wiped of the Dow Jones Industrial Average in the last two or three sessions! Continued weakness cannot be ruled out. What effect will this have on your money? We will be taking a look at this very issue in the next up-date.
04/11/2007
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