The c-word
Friday, 19 October 2007
The c-word
Regular readers will be well aware that I am absolutely fascinated by the slow unravelling of the securitisation market.
For new readers, the story so far is:
- Some sub-prime lenders in the US reported unexpected levels of bad debts. (This was the start of the slow motion avalanche).
- Those losses sparked a worldwide realisation that wholesale lenders had forgotten about the risk of bad debts.
- Wholesale lenders reacted by charging a higher risk premium for prime lending, and withdrawing altogether from some parts of the markets.
The impact was most keenly felt in CDOs and conduits. CDOs I’ve explained earlier. Conduits are off-balance sheet vehicles for the banks, which borrowed short term on the now near-extinct short term commercial paper market to invest long term (quite possibly to fund CDOs).
In today’s market, conduits are unloved orphans. Investors don’t want to lend to them because there is a lack of transparency (where is our money really going?) and their “parents” – the banks – don’t like them because the squeeze in margins has turned them into a guaranteed loss maker.
That’s not the end of the problems caused by the conduits. Because the conduits can’t obtain funding in the markets, the banks must fund them directly. That has put strain on balance sheets, so much so that banks are starting to informally ration credit.
Banking tenders that would have been hotly contested six months ago are of little interest now and creditworthy customers are (politely) being shown the door if the rate is not right.
This week, a think tank of big American banks announced a plan to solve the conduit crisis: they will form a super-conduit.
This response intrigued me. I suspect that if you assembled a panel of independent judges and presented them with the idea of replacing a group of conduits with a large conduit they would struggle to describe it as an idea of breathtaking vision and originality.
Time may prove me wrong, and in fact I hope it does. In the meantime, I suggest that you plan on interest rates continuing to creep up.
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