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Isn't it incredible that the failure of one firm, Lehman Brothers, almost brought down the global financial system? It is equally incredible that, less than three years later, a small country of 11 million has the world teetering on the edge of another systemic crisis. Today's circumstance is a sad testament both to the instability of the international Credit "system" and to the lessons left unlearned from the previous crisis...

I have posited that the global policy response to the 2008 crisis only expanded and solidified the market's notion of "too big to fail." Most in the marketplace believe that policymakers now recognize that allowing Lehman's failure was a major policy blunder. The expectation today is that the EU, ECB, IMF, Germany, China and the Fed will not tolerate a Greek debt default. This faith had better not be misplaced...

While the Lehman failure proved the catalyst for the 2008 crisis, it was definitely not the root cause. The problem was instead the Trillions of unsound debt underpinning Trillions of leverage, Credit insurance, and sophisticated risk intermediation that, through "Wall Street alchemy", had transformed really bad loans into seemingly appealing ("money-like") debt instruments...

The markets must now face the reality that policymakers don't, by any stretch, have the Greek crisis contained. Last year's big "fix" is now appreciated as a mere little band-aid. What appeared an incredible sum for the one-time bailout of an inconsequential economy is increasingly recognized as the tip of the iceberg for huge structural problems at Europe's periphery and beyond. The markets are beginning the process of recalibrating the potential costs -- including financial, economic and social, along with myriad unknowable attendant risks - associated with festering Credit and market crises. The results are frightening.

Here are some comments from Doug's missive last week (which we neglected to post):

It has been my thesis that last year's aggressive market interventions -- QE2, the European fiscal and monetary "bailouts," and massive global central bank monetization -- incited a highly speculative Bubble environment vulnerable to negative liquidity surprises. And now we're down to the final few weeks of QE2. The European bailout strategy is unwinding, with little possibility of near-term stabilization. Meanwhile, the US economy has downshifted in spite of massive fiscal and monetary stimulus. Risk and uncertainty abound; de-risking and de-leveraging are making a comeback.

Bloomberg went with the headline, "Fed's Maiden Lane Sales Trigger Bank Stampede to Dump Risk." At The Wall Street Journal, it was "As `Junk' Bonds Fall, Some Blame the Fed." Both articles noted the deterioration in pricing for a broadening list of Credit market instruments, including junk bonds, subprime mortgage securities, and various Credit derivatives. And while the Fed's liquidation of an old AIG portfolio is surely a drag on some prices, I believe the rapidly changing liquidity backdrop is more indicative of global de-risking dynamics. This is providing important confirmation of the bear thesis.

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