Wednesday, March 19, 2008

Fed rate cut fails to instill condfidence

Well here we are less then a day later and we are already seeing a disappointing reaction from the markets. All of the European markets are down today and the US futures are now turning green because of JP Morgan but were in the red before JP's earnings. Here is a great Bloomberg article discussing the reaction from a rate perspective. A few comments from the article:

"The cost of borrowing in dollars, euros and pounds rose, in a sign that the Federal Reserve is failing to instill confidence in money markets.
The London interbank offered rate, or Libor, for three- month loans in dollars rose 6 basis points to 2.60 percent today, the first increase since Feb. 26, the British Bankers' Association said. The euro rate climbed 1 basis point to 4.67 percent, while the pound rate also added 1 basis point to 5.98 percent, both the highest this year."

My take:

The one number that caught my attention was the libor rate. I like like to look at libor because many mortgages rates are set in the US based on this rate and its also considered one of the benchmark rates to look at to measure fear in the markets. So the Fed makes a big cut and libor rises. Guess that didn't work too well did it. This is because its a trust issue not a monetary issue. This reaction shouldn't be a surprise. The article goes on further:

"Money-market rates are rising as banks hoard cash on speculation financial institutions will reveal more losses. Bear Stearns Cos. had to be rescued by JPMorgan Chase & Co. this week after a run on the bank. HBOS Plc, Britain's biggest mortgage lender, said today it has ``ready access'' to funding after the company plunged as much as 17 percent.
``The market is concerned about another Bear Stearns-type event unfolding in Europe,'' said Richard Bryant, a bond trader at Citigroup Global Markets Inc. in New York. ,'' People are ``on edge yet again", he said."

Like I said yesterday the banking crisis is not over people. I have heard speculation that UBS might be the bank in trouble but I have been unable to confirm. One more quote:

"Credit-default swaps on Edinburgh-based HBOS rose 19 basis points to 270, according to CMA Datavision.. The securities, used to speculate on a company's ability to repay debt, rise as credit quality worsens. A basis point is 0.01 percentage point."

Final take:

Well the Fed comes to the rescue for a fourth time and you are seeing the same results. One bullish day in the markets the day of the cut followed by the reality the next day that nothing has changed. The final quote on HBOS simply means that banks don't trust lending money right now because they are not confident they will be paid back. There are a lack of qualified buyers out there to lend to.

Wouldn't you be hesitant to lend to another bank after seeing the 5th largest bank in the US evaporate in 2 days? Every risk managament division at every bank is now scrutinizing every trade done by their institution. The backlash of Bear Stearns will only make this worse because they now know the risk is real. "Repo" trades are down considerably since this all went down. These are trades where for example one bank might lend another bank $1 million dollars cash overnight for $1 million in bonds at a price. These trades are done daily all the time between institutions. Expect these to decline further and if word gets out that one bank won't "repo" trade with another bank then everyone else might stop "repos" with the same institution. This was one of the things that brought Bear Stearns down. It could easily happen again.

The Fed made the moves they did to lower rates and provide liquidity to the markets. the reaction from the markets is the opposite!! Rates have risen instead of fallen and as a result there is less liquidity then before the Fed cuts. All of the liquidity in the world isn't going to help if the banks refuse to use it and lend.

So what did the Fed accomplish yesterday? Rates rose, the dollar stregthened because the cut was less then expected but it will eventually further weaken IMO. The credit crunch and fear still have hold and inflation will probably edge higher. Nice job guys.

One more little piece of info. Lehman and Goldman used the Fed discount window yesterday. Lehman borrowed $2 billion dollars. After such announcing such "strong " quarters sccording to the analysts I found this a little amusing.

Once again the Fed's actions have not worked. Strike four! I thought you were out after three strikes. I guess if you are the Fed you get as many as you want. Back to the reality of the credit crunch and banks hanging on by a thread. I hope you enjoyed your one day vacation.

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