SHARES fell yesterday as the ripple
effect of the problems besieging
US investment bank Bear
Stearns crossed the Atlantic.
The Bank of England pumped
£5bn into the London money
markets to ease liquidity fears
caused by banks tightening their
criteria for lending to each other.
It followed the announcement
on Sunday that JPMorgan Chase
would acquire Bear Stearns for
$236.2m - or only $2 each for
shares that peaked at $169 - in a
deal that represents a stunning
collapse for one of the world's
largest investment banks.
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The £5bn Bank of England
money was made available for
UK banks to borrow to ease their
credit fears, but was five times
over-subscribed.
Bear Stearns got into trouble
because other banks refused to
lend it money over fears that it
had too many bad debts.
Last week, rumours of problems
at the bank swept the market,
and hedge funds, for which
the bank looked after millions of
dollars, began demanding their
money back. The bank was left
with no deposit base to fall back
on and could not borrow to see it
through.
The situation affected the financial
markets yesterday because
investors were concerned
that the dramatic downturn in
fortunes of one of Wall Street's
most respected names was a sign
that the credit crunch was getting
worse and lending might
stop.
London's FTSE 100 index
closed down 3.9 per cent, the Cac
40, in Paris, was down by 2.9 per
cent and the Dax, in Frankfurt,
was down by 4.1 per cent.
Across the Asia-Pacific region,
all major stock indexes were
down, including markets in Australia,
China, South Korea, Indonesia
and the Philippines.
India's Sensex dropped 5.1 per
cent in afternoon trading.
With such a respected name as
Bear Stearns getting into trouble,
investors may also have been
cautious.
"We are worried about what
comes next," said Shim Jae-youb,
a strategist at Meritz Securities
in Seoul, about concerns that
other banks may collapse.
Shim said investors were on
guard ahead of the release of
quarterly earnings reports from
big US investment banks this
week, including Lehman Brothers,
Goldman Sachs and Morgan
Stanley.
North-East financial expert
Anthony Platts, an assistant director
at investment management
firm Brewin Dolphin, believes
that the Bank of England
may have to put more money into
the London market, but said the
£5bn it put in yesterday should be
seen in context.
Mr Platts, a former foreign exchange
trader for a major global
bank, said: "They may have to
put more money in and it needs
to be co-ordinated with other central
banks in other countries.
"It has to be remembered these
large banks deal in billions, the
equivalent to us is £1, it would be
like us putting £5 in the market."
Mr Platts believed that although
the problems at Bear
Stearns should not affect too
many people in the UK, it could
have a relatively short-term affect
on the market.
He said: "It shouldn't affect
people in the UK too much. Although
it is the fifth biggest bank
in the US, it is relatively unknown
in the UK.
"In some ways, it is very similar
to the scenario involving
Northern Rock, but it has been
handled differently."
He added: "There could well be
credit turbulence in the markets
through to the summer but, by
that stage, we hope that things
have cleared up giving the market
confidence."
The buyout by JPMorgan
Chase was aimed at averting a
bankruptcy at Bear Stearns and
a spreading crisis of confidence
in the global financial system
sparked by problems in the US
sub-prime mortgage market.
Because the Federal Reserve,
the US version of the bank of
England, has guaranteed that JP
Morgan Chase can borrow up to
$30b against the value of its assets,
there is little risk of it losing
money in the takeover.
The Federal Reserve intervened
because of the risk of the
US economy slowing if credit dried up as a result of other
banks going bust.
This could have been triggered
if Bear Stearns had collapsed
completely, forcing it to sell its
assets into the market at low
prices.
If this had included sub-prime
mortgages it would have lowered
their value even further, risking
the financial stability of other
big banks.
The credit crunch was initially
sparked by high levels of defaults
on sub-prime mortgages, for people
with poor credit histories, in
the US.
Banks package up mortgages
and sell them to investors in a
process known as securitisation.
The high level of defaults in
the US has left investors with
heavy losses, making them reluctant
to take on mortgagebacked
securities.
As a result, the credit markets
have dried up as financial institutions
do not want to lend to
each other and lenders are finding
it harder to get mortgage debt
off their balance sheets.
In another move on Sunday,
the Federal Reserve cut the discount
rate, its lending rate to financial
institutions, to 3.25 per
cent from 3.5 per cent, effective
immediately.
It also created another lending
facility for big investment banks
to secure short-term loans that
would be available to big Wall
Street firms.
The Federal Reserve was also
widely expected to again cut its
headline interest rate by as much
as one per cent, at a meeting
today, in order to stimulate the
economy.
Oil prices, meanwhile, hit an
all-time trading high in Asia as
the dollar's tumble and the decline
in stock markets prompted
investors to seek shelter in commodities
such as crude oil.
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