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Millionaire Now! by Larry NusbaumThis blog is based on the organizational principles found in my new book, "Millionaire Now! - A Financial Toolbox with Seven Steps to Wealth". |
The Stock Market: What Else Can Go Wrong?
Posted on 08/16/2007 14:36:20 | Link | Post Comment
1. Easy money loans to other places. When the Fed dropped rates to almost nothing, it made money cheap and plentiful. Investment bankers organized loans to everybody and their uncle for not just subprime home mortage loans. Credit requirements were loose. Which ones have gone wrong? And who is still holding the bag? Loans these days are moved around, sold like hot potatoes from one institution to another. Companies now holding these loans are in big trouble. Right now we don't know who they all are, nor the full extent of the damage. Not knowing is not good for stockmarkets. They get fearful. Fear drives them downward, viz. yesterday.
2. Loans to hedge funds to buy equities. Many, many hedge funds borrowed cheap money to finance the purchase of equities. They did because it increases their return -- if the stocks go up. For example I own a stock that goes from $100 to $10. Hence I made 10% on my money. But if I borrow $50 to finance my buy, then my return had risen to nearly 20% (i.e. $10 divided by $50 less the interest on the loan). Let's say I borrow $90. Suddenly I've made nearly 100% on my money (i.e. $10 divided by $10 less the interest on the loan). If the stock rises to $120, my returns start to look really interesting. What happens, however, when the stock falls by $11? The bank calls me in a panic. They're about to lose money. I know own collateral that's worth less than the loan. They insist I sell the stock before it gets worse. I do and it gets worse. Selling creates panic and more selling. Hence yesterday's drop.
The sad part we simply don't know the full extent of the hedge fund disaster. Many hedge funds actually borrowed from several places, i.e. they had severla prime brokers. Many are leveraged up huge amounts -- like 100 to one. They borrow $99 to buy $100 stock. (I kid you not.) It takes only a small hiccup in the stockmarket to wipe out their net asset value (the value of their stocks less their debt obligations). Yesterday was not a small hiccup. It was a large one.
3. Many private equity deals are about to south. Private equity funds have been buying big public companies and taking them private. This has driven up the value of all companes, since many investors expect their favorite companies to be bought at a price higher than what it is currently trading at. Private equity funds borrow money to help pay for these takeovers. Many people call these takeovers LBOs -- leveraged buyouts. There'll be less money around for these deals. Hence, there will be fewer LBOs.
To Goldman Sachs' credit they rescued their suffering quant, leveraged (six times) hedge fund called Global Equities with a $3 billion injection of new money (their own and outside investors). Goldman said it was not a rescue but a good investment. After the good $3 billion investment, the leverage in the fund will drop to 3.5 times. Bear Stearns didn't rescue its funds. I'm guessing they were too far gone. Thursday Goldman had a dial-in conference call to explain. Here's a transcript. One comment by Goldman from the call:
2. Loans to hedge funds to buy equities. Many, many hedge funds borrowed cheap money to finance the purchase of equities. They did because it increases their return -- if the stocks go up. For example I own a stock that goes from $100 to $10. Hence I made 10% on my money. But if I borrow $50 to finance my buy, then my return had risen to nearly 20% (i.e. $10 divided by $50 less the interest on the loan). Let's say I borrow $90. Suddenly I've made nearly 100% on my money (i.e. $10 divided by $10 less the interest on the loan). If the stock rises to $120, my returns start to look really interesting. What happens, however, when the stock falls by $11? The bank calls me in a panic. They're about to lose money. I know own collateral that's worth less than the loan. They insist I sell the stock before it gets worse. I do and it gets worse. Selling creates panic and more selling. Hence yesterday's drop.
The sad part we simply don't know the full extent of the hedge fund disaster. Many hedge funds actually borrowed from several places, i.e. they had severla prime brokers. Many are leveraged up huge amounts -- like 100 to one. They borrow $99 to buy $100 stock. (I kid you not.) It takes only a small hiccup in the stockmarket to wipe out their net asset value (the value of their stocks less their debt obligations). Yesterday was not a small hiccup. It was a large one.
3. Many private equity deals are about to south. Private equity funds have been buying big public companies and taking them private. This has driven up the value of all companes, since many investors expect their favorite companies to be bought at a price higher than what it is currently trading at. Private equity funds borrow money to help pay for these takeovers. Many people call these takeovers LBOs -- leveraged buyouts. There'll be less money around for these deals. Hence, there will be fewer LBOs.
To Goldman Sachs' credit they rescued their suffering quant, leveraged (six times) hedge fund called Global Equities with a $3 billion injection of new money (their own and outside investors). Goldman said it was not a rescue but a good investment. After the good $3 billion investment, the leverage in the fund will drop to 3.5 times. Bear Stearns didn't rescue its funds. I'm guessing they were too far gone. Thursday Goldman had a dial-in conference call to explain. Here's a transcript. One comment by Goldman from the call:
- "The developments of the last few days have been unprecedented and characterized by remarkable speed and intensity across global markets. But markets by their nature are cyclical. We have seen market dislocations in the past and, as painful as they may be at the time, know they present important opportunities in the longer-term."
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Examples
Morpheus Trading - Mon Jul 21, 2008 08:33AM
NOTE: Please click on the charts below to enlarge them if [read more]
NOTE: Please click on the charts below to enlarge them if [read more]
Morpheus Trading - Mon Jul 21, 2008 08:31AM
NOTE: Please click on the charts below to enlarge them i [read more]
NOTE: Please click on the charts below to enlarge them i [read more]
Millionaire Now! by Larry Nusbaum - Tue Jul 22, 2008 09:23AM
Hedge funds have made billions this year shorting the banks, [read more]
Hedge funds have made billions this year shorting the banks, [read more]
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