You are here: Home > News & events > Law Updates > Review of the Economic Climate

Review of the Economic Climate

16 October 2008

There is no doubt that almost everyone will somehow feel the effects of what has happened during these turbulent times.  These effects will be felt in a number of ways: job losses, investment losses, concern about your bank accounts, house price falls, tax rises or even council tax rises due to loss of local authority funds.  There is no doubt that the effects of this economic crisis are wide reaching.

A problem that I have had in trying to write an update, is that the situation is changing daily, and I am fully aware that by the time you read this, the information is already out of date.

One thing that is clear, however, is that there is a great deal of uncertainty in world markets.  They do not yet understand fully the depth of problems that the banks face, and there is nothing that investment markets hate more than uncertainty.

For years now I have not been a fan of how banks do business, particularly in relation to how they advise their clients when it comes to investments.  However, like all of us, I was unaware of the extent to which they would go to try and generate profits.  I firmly believe that even they did not always fully understand the financial instruments that they were buying from the United States, which contained these potentially bad loans.  However they saw the opportunity to make money, without a real risk, as I think they felt that they would be bailed out whatever happened. Of course, they have mainly been proved right. Many of the problems in investment markets were caused when the US Treasury failed to bail out Lehman Brothers. This, plus the fact that some banks seemed to have been economical with the truth about their exposure to what has become known as “toxic debt”, gave the market a severe case of the jitters.  A recent rescue package has been put in place, to try to halt the world falling into a deeper economic crisis.

Certainly one could argue that the failure of Lehman Brothers in mid September was the catalyst. It was felt at the time by Hank Paulson, Secretary to the US Treasury, that US taxpayers should not pay for the failing bank. It seems that this triggered an unexpectedly damaging result. Lehman Bros held enough Money Market debt to affect the stability of funds, which should be almost as safe as money on deposit. Of course their holdings were now valued at zero and this was enough to show that banks could lose their capital in money market transactions. Banks now did not trust each other, and the US money market, which is used by banks around the world to finance their short-term needs, effectively ground to a halt as investors tried to withdraw their capital from the money market. This made what should have been a very liquid market, illiquid.

The banking system is an intrinsic part of how westernised economies run and to let it flounder would have been disastrous. One thing does seem to be clear, that the rescue package, where tax payers’ money is used to refloat the money markets was the lesser of two evils.

Over the weekend the final touches were put to the rescue package. The Government is taking what could be controlling stakes in HBOS (Halifax) and Royal Bank of Scotland (RBS). Barclays will try to solve its own liquidity problems. As we are already aware LloydsTSB and HBOS are to merge. This bail out is intended to restore confidence in the money market by increasing liquidity. This will come with strings attached, as those participating banks will be expected to continue lending to homebuyers and small businesses, and executive bonuses will be restricted. This will be music to the ears of those appalled by the $2.5 billion of bonuses still being paid to the failing executives at Lehman Bros despite its insolvency.
 
So where does this leave us? I cannot tell you exactly when the stock market will stop its downward trend.  Apart from the fact that once things become more clear as to the extent of the banks’ problems, the stock market should then start to move upwards.  Uncertainty is the catalyst that always drives markets down, and often markets over-exaggerate the problems and take the worst-case scenario.

As I write this the markets seem to have reacted positively to the rescue package, and I would like to think that the worst is behind us. Certainly a number of the most respected investment managers in the City believe that there are now a number of high quality investments out there at a cheap price and that equities have now become the most attractive asset class.

Bolder investors may see this as a buying opportunity, while many will prefer to phase money into investment markets over a period of time to reduce risk.

Investments have, of course, fallen in price, but look extremely good value at these levels and as confidence returns to the market we should see shares return to a more realistic price. However, we will probably see the FTSE 100 index still move in a fairly volatile manner for a while to come.

If I can provide any advice, it is to sit tight and try not to panic. UK banks should be safe now, but spreading your savings between more than one institution is a sensible thing to do. This is more important where you hold more than £50,000 within any one banking group, as this would exceed the compensation scheme for bank deposit accounts.

For more information contact Simon Ludden, Financial Planning Manager.

 

‹ Back

Quick contact

Furley Page Solicitors in Kent, London, Canterbury, Chatham & Whitstable
Get in touch on 0845 603 10 57