Opening Position
April 2008
The media still talks about the credit crisis meltdown like there's no end in sight. The January 2008 housing data was just released, and even though existing home sales in the US were less than expected in January -- some say we may see an end in the housing crisis soon because of this -- they are still slowing, with January the sixth month in a row in which they were down. We can expect further slowing in economic growth, the manufacturing sector, and consumer spending, so realistically speaking, I think we are a long way from a rebound in the credit markets.
In light of what has happened in the credit markets of late, I think it is interesting and of note to see that if you go as far back as the 19th century, you can see parallels in the relationship between the stock markets and real estate. To put it in simple terms, during boom times in the stock market you'll see a boom in just about every speculative market, and that includes real estate. When the stock market collapses, you could sell your holdings and cover any margins to settle accounts with your broker.
But when the real estate market collapses, you're not going to immediately sell your asset. You're going to hold on to it and given that there will be a severe slowdown in demand, selling a home could take a long time. In the meantime you'll still have to pay the interest on your loan as well as property taxes. If it gets to a point where debts become a great burden for borrowers, the banks start to suffer. This starts the financial crisis, which will cascade to a point where cash needs to be reinflated into the economy.
In most instances this is done via government intervention. In our present economy we have already seen this start to happen. The initial signs were homeowners who were unable to make their mortgage payments, but these signs were mostly ignored, mainly because it didn't really affect those who didn't face this problem. The effects were finally felt when the financial companies faced a crisis.
A well-known economist by the name of Hyman Minsky, who did extensive work on the causes of financial instability, stated that the financial system always moves from booms to busts. This is part of the business/economic cycle. Anyone who has participated in the markets knows that a market bubble is bound to burst. But during those euphoric times you get so caught up in the greed that the possibility of a burst is not given much importance. If human nature were ruled by fear instead of greed, would things be that different?
Jayanthi Gopalakrishnan,
Editor
Originally published in the April 2008 issue of Technical Analysis
of STOCKS & COMMODITIES magazine. All rights reserved. © Copyright
2008, Technical Analysis, Inc.
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