That was a heck of a slide yesterday. Markets were certainly riled. But let’s maintain some perspective here. It wasn’t anywhere near the 20% of 1987, or the Great Depression.
It wasn’t even a 10% drop, just 7.9%, which is bad, but not a disaster. Don’t forget that the higher markets go, the larger the point drops loom. A drop of 7.9% when the market is above 11,000 looks much larger than a 20% drop when the market is at 4,000.
And while there is no doubt that advisors and money managers are having a stressful go of it — one advisor suggested over email yesterday that “Shock is the key word” — but there is no reason to think that the centre is dropping out of western capitalism this week.
The most pressing worry here is that credit markets tighten up and seize. This was what gave the Great Depression its name, and it’s the big worry right now. But this morning indexes are already inching higher, and credit markets, though, not working perfectly, don’t appear to be seized. So that’s the main thing.
We may have to suffer through a few days of seat-of-the-pants volatility. (The Vix, a measure of volatility, has hit 52 in recent days). But it seems this is largely a political show now. So enjoy the theatre.
Congress won’t sit again until Thursday, and that means another day to go. And if there is one reason not to worry, it is the idea contained in a recent note Sherry Cooper, Global Economic Strategist for BMO Financial Group, sent out.
According to Cooper, a group of more than 160 well-respected academic economists (including several Nobel Laureates) sent a letter to Congress warning that any rush to judgment is dangerous and expressed alarm at how fast all of this was happening.
The note certainly seems to have helped slow the momentum that Paulson and the Bush administration had built up.
Sure, the plan will get bad assets off the balance sheets of troubled banks. And that will help us avoid trouble. But according to the economists, this would do nothing to reduce the number of homes at or near foreclosure.
In fact, said these economists, the Republicans and the administration were over-playing this. The $700 billion is far more than they need, and it would be under the control of Paulson at the Treasury (a profoundly undemocratic notion), and would in the end be just a subsidy to business that would have longer-term consequences for the market.
In fact, the economists went so far as to say (according to Cooper) that the situation was not “as dire as Bernanke, Paulson and Bush suggest,” and that some thought, ”the freezing up of lending markets is strategic behavior on the part of big financial players who stand to benefit from the bailout.”
That throws some gasoline on the political fire. And we’ll see how it all turns out. But another suggestion from the economists — that some time out for study was needed — seems rational. Especially in face of the fact that credit markets are turning over this morning.
If there were more signs of trouble there it would be incumbent on Congress to sit and get this dealt with. But not even the legislators seem that worried. The populists and the capitalists have agreed to retreat to their respective corners until after Rosh Hashanah, the beginning of the Jewish high holiday.
Also known as the Days of Awe, this is, of course, the Jewish New Year, a time for introspection, and an opportunity to look back on the year and think about what mistakes were made. Everybody chill out. Think about it and come back to work on Thursday and get something intelligent done.
Credit markets really took a beating last week after the decision to let Lehman Brothers go under. Many in the market assumed the Fed would help out bondholders in that situation (as they had done with Bear Stearns). Not so. The resulting surprise tugged dangerously at the net of credit derivatives that ties the firms on Wall Street together. And that is worrying.
We don’t know what could go here, since so much of this stuff is opaque and was built up over years in the unregulated shadow banking industry that arose through a generation of deregulation. So there could be some surprises out there we don’t even know about.
Of course, it was derivatives similar to these that are supposed to make the market “safe” — though in the same way that “portfolio insurance” made your holdings safe in the months before the 1987 crash that was intensified by similar derivative/insurance products. And so there is real danger in this.
But with markets seemingly in limbo, waiting for Congress to come back, we’ve got a chance to think. Give the academic economists a say. After all, they are the only ones here not paid or supported by Wall Street. Their radical suggestion — that markets should just be allowed to do what they do and that we should let the normal course of business failure and bankruptcy play out — is not the craziest thing that has ever been uttered by capitalists