Can somebody explain this credit crunch in plain English

[ER_Hopeful]

Just read about the Bear Stearns credit crunch story on Yahoo and it left me feeling more confused than before. Does it have to do with the subprime mortgage mess? Someone commented that BS's management is the ultimate wrongdoer to be blamed, does this have any merits in it? And if/when the Fed bailed them out, how does that affect us as taxpayers? If anyone can explain these in plain English to me, I'd appreciate it. thanks.

[brewer12345]

Simple: all capital markets participants have lost their minds. Eventually, they will regain their senses, most likely with the application of simultaneous beatings and snuggles from the Federal Reserve. Hang onto your (hopefully diversified) portfolio and don't waste too much time watching CNBC or reading the ignorant business press.

[FinanceDude]

Quote:

Originally Posted by brewer12345 Simple: all capital markets participants have lost their minds. Eventually, they will regain their senses, most likely with the application of simultaneous beatings and snuggles from the Federal Reserve. Hang onto your (hopefully diversified) portfolio and don't waste too much time watching CNBC or reading the ignorant business press.

Greed trumped basic good sense and logic, but the pendelum is swinging the other way, and the US taxpayers are about to get hit by it.........

[brewer12345]

Oh yeah: and you'd better dig a hole, stock it with water, food, guns, ammo, and a supply of tinfoil helmets and get ready for the next Depression.

I plan on developing a taste for frogs, rabbit, and maybe the odd bit of soylent green.

[FinanceDude]

Quote:

Originally Posted by brewer12345 Oh yeah: and you'd better dig a hole, stock it with water, food, guns, ammo, and a supply of tinfoil helmets and get ready for the next Depression. I plan on developing a taste for frogs, rabbit, and maybe the odd bit of soylent green.

I'm stocking up on Funyuns.........

[brewer12345]

Quote:

Originally Posted by FinanceDude I'm stocking up on Funyuns.........

My lazy-*** hunting dogs can get their butts off the couch and get me a rabbit. They've had enough funyuns, believe me.

[ziggy29]

Quote:

Originally Posted by brewer12345 I plan on developing a taste for frogs, rabbit, and maybe the odd bit of soylent green.

If I can develop a taste for weeds and the occasional Texas blind snake, my back yard will provide all the sustenance I need, at least for most of the year.

In the winter, I guess I'd need to stick to Soylent Green.

[brewer12345]

Actually, I think my entire town could be sustained for a long time on the danged Canada geese that are like big flying rats around here.

[Walt34]

Quote:

Originally Posted by brewer12345 Actually, I think my entire town could be sustained for a long time on the danged Canada geese that are like big flying rats around here.

Them, and the "rats with antlers" (deer) that jump out in front of cars. At a homeowner's assc. meeting somebody was complaining about the geese and I suggested placing an alligator in the golf course pond. Nobody thought I was serious.

[Texas Proud]

I'm glad that all answered the OP post....

Let me give you my feeble attempt...

ALL financial institutions (and even governments) operate on leverage..

So, a BS might have only 7% equity to support their whole company...

They buy money from others... and a lot of that is in short term paper... I bet a huge percent is overnight money...

SO, you are a bank or insurance company or pension plan with some money that you need to invest overnight... and you hear that BS is having a liquidity problem... so you decide that it would be better to sell your overnight money that you have been selling to BS for years to GE tonight...

Well, BS now is in a bind and does not have enough money to balance their portfolio... so they offer a higher rate to attract money... well, then company B is like... why are they offering so much to buy my money? Are they having problems So, company B sells to Exxon... and now BS is scrambling to get their overnight money.... and then their weekly paper starts to disappear... and the people with longer paper is trying to sell ASAP.... and then BS is toxic....

This can happen very quickly.... the 'bank run' as it were...

And there is not a bank in the world who actually could withstand a significant bank run... they are not designed to handle one...

So over the next 28 days, BS is going to be selling a lot of their investments to reduce their cash needs... but selling into a dropping market... which reduces their capital which means they sell more... etc. etc... and this then makes others have to sell because THEY are showing losses they can not handle...


As one talking head said.... someone will be picking up BS on the cheap in 28 days.... maybe JPMorgan as they are lending the money (well, at least the middle man as the FED is actually doing the lending)...


Now.. using my example above... what if they don't even want to sell to Exxon or GE... only buy treasuries... then the price of treasuries goes up, the interest rate goes down on them, but people 'feel' better... they are 'safe'....


A good explanation

[ladelfina]

To me it seems like:
There is no money.
We thought there was money.
But it's gone.
It may or may not have been there in the first place, but it's not there now.

Maybe Mr. Potter has it.

[mathjak107]

banks and brokerages sell the mortgages to investors. they take the money they get and re-loan it out. so now your a bank or brokerage with a bunch of these debt packages you want to sell . only no one wants to buy any right now , so your stuck holding them. whether they are good or bad loans it doesnt matter ,your stuck with them, so how do the banks or brokerages selling these packages value their worth on their books since no one wants them.

they can't really value them accuratly ,so they reduce the value by .10 on the dollar. when that doesnt seem right they reduce it again, and again. its not that these loans are bad , its that the markets are very gun shy of buying mortgage debt right now.....

picture taking a big bunch of mortgages both AAA and some subprime and bundling the whole thing up into a mix of 80% AAA and 20% subprime packages and selling it to investors offering different interest rates for the same mortgage debt package depending on the amount of risk that the investor wants to take. first sell some of that package to investors at 6% interest and guarantee they will get paid as the monthly mortgage payments come in from home owners. sell some more to investors at 9% interest and tell them they get a higher rate but they only get paid after all the 6% investors get paid. then sell some more of that exact same package and tell investors you get 10% but you only get paid after all the 9% and all the 6% people do.

now as long as everyone pays their mortgage everyones happy and all the investors get paid. but if you get a few defaults the 10% people dont get paid. now everyone panics even though there is still enough money coming in to pay the 6% and 9% people but everyones afraid now they may get screwed next if there is more defaults. . . suddenly no one wants to play this game anymore at any interest rate and thats where we are today


the entire mortgage market is at a stand still. banks cant sell what they have so they have little money left to loan out.

[ladelfina]

mathjak, that is an excellent summary.

In hindsight, though, shouldn't this all have been quite predictable as home prices went way beyond the historical norms of 2-3x annual income? That the money might not be there to pay back the mortgages when the music stopped? And not just in "subprime":

FRB: Speech--Bernanke, Fostering Sustainable Homeownership--March 14, 2008

Quote:

The current high rate of delinquencies and foreclosures is not confined to the subprime market. In 2007, about 45 percent of foreclosures were on prime, near-prime, or government-backed mortgages.

-Bernanke

Complacent investors (like me) assumed financial wizards were pulling down 7-, 8-, and 9-figure salaries to keep things running smoothly and securely, at least to the minimum extent necessary, and that risk was being fairly priced.

The biggest problem is not just that there is no liquidity.. it's that daily there's less and less reason to trust the entire system any longer; the whole game seems to be called into question as both gov. and corp. assurances and projections are found to be either shaky, wishful political thinking, or outright lies.


---
gaaahh!!

Quote:

Mr. Cayne dialed in from Detroit, where he was playing in a bridge tournament, say people familiar with the matter.

Fed Races to Rescue Bear Stearns In Bid to Steady Financial System - WSJ.com

Quote:

James E Cayne TOTAL COMPENSATION (2006) $28.40 mil (#36)

James E Cayne, CEO Compensation - Forbes.com

[clifp]

Well the good news is that Cayne stepped down as CEO and is merely chairmen.
Two of the richest men in the world are also avid bridge players.

Of course Bill Gates salary and bonus is under $1 million and Warren Buffett is only 100K. A pity the compensation committee never seem to use these two as comparison points.

[chinaco]

Sorry for the crude joke...

But you didn't get those hemorrhoids through natural means... It explains all the tax payer need to understand about the credit crunch.

[ladelfina]

Quote:

[March 13] NEW YORK (Reuters) - Bear Stearns Cos (BSC.N: Quote, Profile, Research) Chief Executive Alan Schwartz on Wednesday dismissed recurring speculation that the investment bank faces a cash crunch, saying it has hefty cash reserves that have remained little changed this year. Schwartz, in a televised interview on CNBC, also said he is comfortable with the range of analysts' earnings estimates for the fiscal first quarter ended Feb. 29. Results for the quarter are due next week. "We don't see any pressure on our liquidity, let alone a liquidity crisis," he said.

Bear Stearns CEO Says Liquidity Strong | Reuters

Quote:

Cash Compensation (FY November 2007) Salary $250,000 Bonus $16,237,150 Latest FY other short-term comp. $0 Latest FY other long-term comp. $19,247,272 Latest FY long-term incentive payout $0 Total $35,734,422

Alan Schwartz Profile - Forbes.com


When does this become fraud?
Never?
Will these people even see as much jail time as Paris Hilton?

[chinaco]

Quote:

Originally Posted by ladelfina Bear Stearns CEO Says Liquidity Strong | Reuters Alan Schwartz Profile - Forbes.com When does this become fraud? Never? Will these people even see as much jail time as Paris Hilton?

Get the Justice Dept and IRS turning over enough rocks and they will find something... maybe catch them in a lie (perjury). Give them no rest!

I believe Bear Stearns might be sued by shareholders. They may be personally sued for negligence. I am not sure how that might work. But it seems to me someone was not doing their job.

That crap about Moody's rating the securities wrong is BS. Although Moody's is culpable... Credible investment firms have their own groups that do independent analysis of securities. Throwing it back on the rating agencies is a convenient cover story. But I believe it can be demonstrated that most companies do independent analysis. If they are not, it is negligence or fraud. Or the company has no reason to be in business and should be driven out of business for stupidity and incompetence.

[dumpster56]

Quote:

Originally Posted by ladelfina Bear Stearns CEO Says Liquidity Strong | Reuters Alan Schwartz Profile - Forbes.com When does this become fraud? Never? Will these people even see as much jail time as Paris Hilton?

Greed and Fraud, inherent in capitalism.