Groundhog Day?

Are the markets melting down from the bottom up? Again?

Those of us who have been in the market for a couple decades may be having a sense of déjà vu. We remember this movie. In 1998 cash shortages in some emerging markets led to capital flight which led to currency issues which led to ratings problems which led to a run on the global financial infrastructure. A small hedge fund with a couple of Nobel laureates on staff had a couple trillion dollars in notional swap exposure and the Fed engineered a takeover and recapitalization of the fund by its creditors. A global financial meltdown was averted, but things were pretty hairy for a while.

Are we on the same slippery slope? Cash issues in the “fragile five” emerging markets—Brazil, India, Indonesia, South Africa, and Turkey—have caused their currencies to tumble 15-20% over the past year. Credit downgrades are possible. All that’s needed is another hedge-fund levered 50-to-1 or 100-to-1 to announce that it is closing its doors and for a multi-trillion dollar bank like JP Morgan or Paribas to announce mega-losses and potential capital issues.

But there’s the rub. After the 1998 crisis, loans to hedge funds saw a lot more scrutiny. During the 2008 Financial Crisis, hedge funds were hardly involved, except as profit-seeking vultures that profited from the collapse in housing prices. In addition, the ’98 crisis involved currencies that had been pegged to the Dollar, then had to abruptly break that fixed ratio. The sudden disruption to their markets and economies was as much of a problem as the change in the currencies’ level.

Generals, it is said, always prepare to fight the last war. That’s why people are afraid of a real-estate bubble now, even when cash-sales predominate. Leverage is a necessary condition for a contagious bubble. When unlevered prices simply fall, they fall. Period.

Douglas R. Tengdin, CFA

Chief Investment Officer

By | 2014-02-03T10:51:09+00:00 February 3rd, 2014|Global Market Update|0 Comments

About the Author:

Mr. Tengdin is the Chief Investment Officer at Charter Trust Company and author of “The Global Market Update”. The audio version of each post can be heard on radio stations throughout New England every weekday. Mr. Tengdin graduated from Dartmouth College, Magna Cum Laude. He received his Master of Arts from Trinity Divinity School, Magna Cum Laude and received his Chartered Financial Analyst (CFA) designation in 1992. Mr. Tengdin has been managing investment portfolios for over 30 years, working for Bank of Boston, State Street Global Advisors, Citibank – Tunisia, and Banknorth Group. Throughout his career, Mr. Tengdin has emphasized helping clients manage their financial risks in difficult environments where they can profit from investing in diverse assets in diverse settings. - Leave a comment if you have any questions—I read them all! - And Follow me on Twitter @GlobalMarketUpd

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