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Strategies & Market Trends : The Stock Market Bubble -- Ignore unavailable to you. Want to Upgrade?

To: Box-By-The-Riviera™ who wrote (1308)	8/28/1998 8:35:00 AM
From: Bob Davis	Read Replies (1) \| Respond to of 3339

A post late yesterday on one of the Internet forums stated that "Everyday the market takes a hit, it's generally the same excuse - Asia, Europe, Russia, etc." The message of this post seemed to be that, since these places were geographically far away from the US stock market, there was no reason to expect that they could have a real effect on it. As I thought about this comment, I realized that the person who wrote this post did not fully understand the extent to which the world financial markets are bound together. Since a significant portion of TNL's readers has limited investing experience I thought it might be good if I explained how a default in Russia can impact the US financial markets. Since the fall of Communism, the US and Western Europe have made massive investments in Russia and the other former members of the USSR. Primarily, this investment has been in the form of high yield debt, rather than in stock, and these loans have been made both to the Russian government and to its industry. On August 23rd, I quoted an article in Barrons which stated that: "The Russian financial crisis slammed onto U.S. shores last week, pummeling mutual funds, hedge funds, investment banks and commercial banks that had taken big positions in Russian debt securities-or loaned money to investors in those markets. The damage quickly spread to emerging debt and equity markets worldwide on Friday, and contributed to the sharp decline in U.S.equities as hedge funds and other leveraged investors were forced to sell securities to meet margin requirements." To give you a simplified example of what is happening, a Major Fund has reportedly lost $2 billion as the result of defaults on Russian investments. This $2 billion originally came from "somewhere" - most likely from pension funds, other institutions, and even commercial banks. A large portion of this $2 billion was borrowed, using the Russian investments as collateral for the loans. Now that the value of the original collateral has declined $2 billion, some of those sources for these funds may be asking the Major Fund to put up more collateral, and others may be asking for it to pay off the loans. This, in turn, would force the Major Fund to sell other stock in its portfolio so as to raise cash. However, other investors are now realizing that there are major problems in Russia and they are rushing to move their assets out of the stock market and into the relatively secure Treasury bill market. As the Russian economic problems radiate outward, the financial markets elsewhere feel the pressure, and the market value of their assets decline. Investors living in those countries who have investments in US companies may be forced to sell, to cover margin calls or generate liquidity. In addition, in the United States, investors begin to worry about other non-US economies. After all, approximately half of the profits of the companies that make up the S&P 500 are generated abroad, and Coca-Cola reportedly generates about 75% of its business internationally. Investors in these companies react to the possibility of drastically reduced earnings by selling these stocks. As a result, the Major Fund is forced to sell at the same time that others are also selling, which leads to the price declines that we saw earlier today. Russia's crisis and Asia's problems are not an "excuse" for anything - they are the forces that are driving this current decline in the market. Bob Davis The Napeague Letter napeague.com