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Strategies & Market Trends : The Residential Real Estate Crash Index -- Ignore unavailable to you. Want to Upgrade?

To: MulhollandDrive who wrote (71532)	2/6/2007 1:55:59 PM
From: ChanceIs	Respond to of 306849

>>> Greater liquidity across the capital markets and the explosion of sophisticated financial instruments, they say, are reducing the level of risk permanently.<<< Hmmmm. I would tend to agree initially about the derivatives spreading the risk around and thereby adding stability to the overall financial system. It is very noteworthy that Alan Greenspan is on record praising the widespread use of derivatives and attributing them to the shallowness of the last recession. Warren Buffett curses the day they were born and warns repeatedly of the coming implosion. At its peak, Enron had gone "asset lite" and did nothing but trade risk. It got into trouble for many reasons, two of which were 1) being so big that nobody understood the net corporate wide risk, and 2) the pursuit of ever increasing profits led to suspension of normal fears about additional risk. So it was also with Long Term Capital Management. So how does liquidity fit into this?? I suppose that if one has cash on hand (bank deposits for example) one had better lend it out or otherwise put it to work because inflation is eating purchasing power (in what really is a very inflationary environment) or one is paying the depositor interest or for a corporation, the stockholders will take umbrage with the low return on equity associated with a lot of cash in the corporate vaults. So it isn't too clear to me that liquidity is stabilizing. So I guess I find it hard to take a position here. Going back to the kindergartener's view - money represents seed corn. Has the seed corn been invested wisely?? If so then no problem, even if someone lied about how much wealth was really backing up the money (i.e. too much liquidity). Did you give a little seed corn to someone who might come clean up a mess for you on a rainy day (i.e. use derivatives)?? Fine. Oppppps. It rained too much and the nice man who said he would come and help made too many similar promises or has otherwise gone to Bermuda with the cash. Who knows if the seed corn was well invested or the risk managers did it right? I don't think anybody does. Are we sitting on Goldilocks or a time bomb?? I don't know, but I suspect the latter. But hey, Schiller up there at Yale has introduced the real estate index through which J6P can hedge and protect his paper house gains, if he didn't spend the premium already on a plasma TV.

To: MulhollandDrive who wrote (71532)	2/7/2007 12:40:49 PM
From: ChanceIs	Read Replies (1) \| Respond to of 306849

Liquidity -- Just a Confidence Game Randall Forsythe WHAT'S DRIVING THE MARKETS THESE DAYS? Liquidity is the pat answer. A Factiva search turns up over 42,000 articles in the press citing "liquidity" and "markets" over the past three months. Too much money chasing assets is a formula for a bubble and the inevitable bust that follows. The blame frequently is placed at the doorstep of central banks, notably the Federal Reserve, by some economists, many of them British. But two top analysts from BCA Research argue that accusation isn't warranted. The Montreal-based publisher of respected research publications for investment professionals hardly can be considered part of the Wall Street rah-rah crowd. Still, Chen Zhao and Martin Barnes, managing editors respectively of BCA Global Investment Strategy and the Bank Credit Analyst, conclude that liquidity trends can drive equity prices still higher. There will be an eventual bust, to be sure; just not yet. For his part, Zhao contends the massive expansion in the money supply over the past quarter century hasn't been inflationary because it's coincided with consumer price disinflation. The extra supply of money merely accommodated the expansion of demand for money for transactions purposes. The global supply-side booms, from Nafta, the fall of the Iron Curtain and the opening of China, kept prices in check. Rising incomes and falling goods prices made for an explosion in wealth and asset prices. If central banks try to restrain asset prices, they risk deflation, Zhao writes. If they accommodate the supply-side improvement, asset inflation increases. Liquidity, adds Barnes, is like the late Supreme Court Justice Potter Stewart's observation about obscenity -- you know it when you see it. Central banks and the banking system no longer control the supply of money and credit. Much of it is created outside by banks via ever more complex instruments. While it's difficult to quantify, it's evident in record tight credit spreads and low volatility The global connection is crucial, he continues. The U.S. current account deficit acts to expand liquidity as foreign central banks buy up dollars, which gets recycled in various ways. The Chinese central bank purchases billions of Treasury securities. Capital flows out of Japan via the yen-carry trade, in which investors -- read hedge funds -- borrow yen at interest rates of a fraction of a percent to buy higher-yielding assets around the globe. One estimate puts the yen-carry trade at $1 trillion. "The yen-carry trade will not last indefinitely," Barnes warns. "The currency is overshooting on the downside, raising the odds of a rebound. Indeed, the global markets are on edge over prospects that European officials will push for a strengthening of the yen at the Group of Seven meeting later this week. The yen has fallen to a record low against the euro, which harms Europe's export competitiveness. Zhao and Barnes agree that the liquidity-driven asset boom has further to go, although it inevitably will end. "In a supply-driven, perfect-competition world, an asset market boom and subsequent bust is not only perfectly normal but also a recurring phenomenon. In fact, the boom-bust cycle could be a needed mechanism to ensure economic vibrancy, discipline and equilibrium in a market-driven economic system." Whether such a world exists is another question. It's the stated policy of the Fed not to prevent bubbles from inflating, but offset the effects of the bust. That removes the discipline from the system. Indeed, contends Morgan Stanley chief economist Stephen Roach, the Fed is a "serial bubble blower." It inflated the housing bubble by driving interest rates down to 1% to cushion the blow of the Nasdaq tech bust. Busts come when liquidity drives valuations to unsupportable levels, concludes Barnes. But, he says, it seems to worry on that score. Adds Zhao, the time to get cautious is when earnings yields (the inverse of the price-earnings ratio) are driven far below interest rates. That would imply a substantial rise in the S&P 500's P/E, from about 16 times forward earnings to over 20 times. That assumes continued abundant liquidity. But, observes Barnes, "liquidity in markets is, more than anything, a function of confidence." Though that confidence is abundant now, it can evaporate in an instant.