It is a fact that we have to face the real risk of a full systemic meltdown.
The current financial crisis is becoming more severe by the hour. The reason: The U.S. Treasury’s enormous $700 billion rescue plan is failing to restore confidence at the moment of this writing. It has been rejected by the U.S. lower house and might well be dead and done for.
Interbank spreads continue to widen (TED spread, swap spreads, and Libor-OIS spread). They are at their highest level ever. Credit spreads like the junk-bond yield spreads over the Treasurys are at never-before-seen peaks. Short-term Treasury yields are back to near-zero interest yields as funds are flying to safety where interest compensation is requested at this moment.
CDS spreads for financial institutions are rising to unseen levels and, unfortunately, also thanks in part to the newly installed ban on shorting of financial stocks so that the pressures on financial firms now change course to the CDS markets.
For now, stock markets around the world are reacting very negatively to the U.S. rescue package at this very moment.
Yes, we could say that we are back “once again” to the real risk of a total systemic financial collapse.
It shouldn’t come as a surprise when financial institutions in the United States and other advanced economies are going bust. Last week, in the United States we had Washington Mutual, the largest of the savings & loans in the United States ,and now, Monday, we have Wachovia, which is the sixth-largest bank in the United States.
In the U.K. we had Northern Rock and HBOS, which were acquired by Lloyds TSB. This weekend in the U.K. we had also the bust and rescue of Bradford & Bingley.
In Belgium, also this weekend, Fortis went bust and was rescued by the National Banks of Belgium, the Netherlands, and Luxemburg. In Germany, Hypo Real Estate, a major financial institution, is also near bust and in urgent need of a government-orchestrated rescue.
As you can see, this financial crisis is not limited to the United States but rather is a global, developing financial crisis hammering all financial institutions in all of the “advanced economies.”
The stress in the short-term interbank markets is becoming more and more severe in spite of the fact that the Federal Reserve and other central banks are injecting unprecedented amounts of liquidity in the financial system.
There is no more room for denial. We all have to admit that we are in a full-blown solvency and credit crisis where no one trusts anybody anymore. Hoarding liquidity that is injected by central banks has become the only game in town.
In plain English, this means that all this central bank liquidity is going practically exclusively to banks and major broker dealers. The rest of the so-called “shadow banking system” is freezing to death as the credit transmission mechanism is blocked.
It seems now that investors have abandoned their trust most of the financial institutions — even Morgan Stanley and Goldman Sachs aren’t spared.
When an unprecedented $700 billion rescue plan isn’t able to rally or even calm stock markets worldwide, then you should know we have a serious global crisis of confidence in the financial system on our hands.
As an investor you should take your precautions as soon as possible.
And if all that bad news wasn’t enough, the actual situation is the mother of all nightmare bank runs because it is a silent, cross-border bank run that is now under way. Foreign banks are worried about the solvency of U.S. banks and therefore are reducing their exposure.
I don’t want to sound pessimistic. I only want to be realistic, but if this stealth (“stealth,” that is, for Main Street) bank run accelerates, a total meltdown of the U.S. financial system could occur.
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