Eroding confidence stings bank shares

By Carter Dougherty

Monday, March 17, 2008

FRANKFURT:

Volatile markets and worried policy makers on Monday offered clear evidence that the months-long financial crisis linked to the U.S. mortgage market has turned into an acute crisis of confidence in the global banking system.

Stunned over the weekend by the emergency bailout and sale of the Wall Street investment firm Bear Stearns, investors on Monday were digesting the reality that lower U.S. interest rates and massive liquidity injections by central banks worldwide have offered only fleeting relief from the crisis.

Trust, a vital part of any financial system, was in short supply as rumors flashed around the world as to what bank, brokerage or hedge fund might fail next.

On Wall Street, the broadest measure of the American stock market, the Standard & Poor’s 500-stock index, finished down nearly 1 percent as it edged toward bear-market territory. The Nasdaq index shed 1.6 percent. The Dow industrial average managed to gain 21.16 points to end at 11,972.25, helped by a sharp gain in JPMorgan Chase.

But the day had its share of casualties. Shares of Bear Stearns lost $25.19, or 84 percent, to close at $4.81 a share, though the stock traded above the $2 a share JPMorgan Chase paid to acquire the firm.

And worries popped up across the market. Lehman Brothers, the victim of new rumors about financing problems, lost more than 20 percent, and MF Global, a major commodities brokerage firm, plummeted 65 percent as it sought to ward off a veritable run-on-the-bank.

UBS, the Swiss bank that has been hard-hit by the crisis, tumbled 14 percent after fighting off rumors that it would seek a new capital increase to compensate for losses, while the U.S. financial giant Lehman Brothers fell 19 percent after denying it was running out of cash. MF Global, the largest broker of exchange-traded futures and options, fell as much as 80 percent in New York trading on speculation that clients were withdrawing cash. The company said its funding was “sufficient.”

Officials around the world offered their own sober assessments of the crisis, acknowledging that it has entered a new, more serious phase whose effects are unlikely to be limited to the United States.

“The crisis, which started in the U.S., is now more serious and even more global than it was a few weeks ago,” Dominique Strauss-Kahn, managing director of the International Monetary Fund, said in Paris. “The risks of contagion are very high.”

Anoop Singh, the International Monetary Fund’s director for the Western Hemisphere, said turmoil in world credit markets could turn into financial “contagion” that could wipe $800 billion of value from the books of U.S. and global financial institutions, Reuters reported.

The crisis has not affected European or Asian banks as deeply, but credit market jitters emanating from the United States have raced across national boundaries. Rates for lending among banks - a barometer of confidence within the financial sector - shot up Monday to levels not seen since early January.

The Bank of England made an emergency infusion of £5 billion, or $10 billion, into the financial system only to find that banks would have gladly borrowed five times that amount. Even before that, equity markets plunged in Asia as the Bear Stearns bailout underscored how close U.S. officials believed the situation was to a financial crisis.

The dollar, a sort of financial ambassador of a U.S. economy that is probably already in recession and almost certainly grappling with the worst banking crisis since World War II, set new record lows against a raft of other currencies.

The euro rose as high as $1.5903 in Asia before easing to $1.5728, and the dollar fell as low as ¥95.77, a level not seen in more than a decade.

The U.S. Federal Reserve’s moves Sunday included a $30 billion credit line to JP Morgan Chase so that it could buy Bear Stearns and assume its risky liabilities and a new lending commitment to investment banks of the type not seen since the Great Depression in the 1930s. On Monday, President George W. Bush met with top economic advisers and pledged more support, if needed, during the “challenging times” conceded for the U.S. economy.

“When need be, we will act decisively, in a way that continues to bring order to the financial markets,” Bush said.

But the day’s events only served to highlight the scant success that officials have had in stemming the crisis, and how little influence they have over the near-panic that is washing over financial markets.

Deepening the crisis is the tendency of banks to hoard cash, call in loans and curtail lending. The banks themselves are guarding against losses linked to a U.S. housing market that has not yet hit bottom, where the problems are far broader than so-called subprime mortgages - those awarded to risky borrowers - that initially unleashed the crisis.

Massive interest rate cuts by the Federal Reserve have helped little because lenders lack confidence in borrowers, but the U.S. central bank is still expected to lower borrowing costs again when it meets Tuesday. The Fed has also resorted to more creative means - notably swapping hard-to-sell mortgage-backed securities for U.S. government debt - to free up banking lending.

Since the crisis began, the standard prescription has been for banks to write off their bad loans - believed to total at least $200 billion - linked to the U.S. housing market, and recapitalize themselves if necessary.

But Bear Stearns had already declared hefty write-downs, showing investors that such write-downs might not suffice to calm skeptical investors.

“In a liquidity crisis like this you get such irrational behavior,” said Simon Adamson, a banking analyst at CreditSights in London. “In the end, if markets go after a bank, there is not much anyone can do about it.”

The message heard with increasing frequency among investors is that the financial crisis will pass when the U.S. housing crisis winds down, a process with no clear timetable.

“Ultimately, the core of the problem is falling property prices in the United States,” said Christoph Rieger, an interest rate strategist at Dresdner Kleinwort in Frankfurt. “As long as that happens you cannot make any predictions about when this ends.”

The best that can be said in Europe, economists maintain, is that credit market tension has still failed to infect the rest of the economy, with lending still proceeding at a healthy rate.

“The most interesting decoupling so far has been the decoupling of the financial system from the real economy in Europe,” said Erik Nielsen, chief Europe economist at Goldman Sachs. “Everybody who thought there would be an impact would have expected it by now.”

As news of the Bear Stearns bailout emerged Monday, markets quickly retreated in Asia and in Europe. The unrest in Tibet and adjacent Chinese provinces was also cited as a factor.

“Local investor sentiment is not good - the Hong Kong market is really caught in the middle between happenings in China and the United States,” said Ricky Chan, a stockbroker at Phoenix Capital Securities in Hong Kong.

Keith Bradsher contributed reporting from Hong Kong, and Michael M. Grynbaum contributed from New York.