Reuters Edge

Credit market meltdown

The U.S. financial system was shaken to its core, reports The Big Money. REUTERS/Slate/Handout

(The Big Money) - The U.S. financial system was shaken to its core yesterday with "investors running for safety," as the New York Times put it. The race continued this morning through Asian markets, where, in the wake (and we mean wake) of the Dow Jones Industrial Average shedding 4.1%, Hong Kong shares were down 7.7% while the Shanghai composite had lost 5.9% and the Nikkei lost 4%. the Financial Times reports. Yet European markets opened with cautious optimism about the just-announced Lloyds TSB-HBOS merger (more details below)

Simply put, yesterday was the day when the world's credit markets stopped functioning as investors dashed for safe havens (gold recorded its biggest one-day gain in a decade). "Investors were willing to pay more for one-month Treasury bonds than they could expect to get back when the bonds matured," reported the WSJ, suggesting that those investors were betting that "a small but known loss was better than the uncertainty connected to any other type of investment. That's never happened before," it added sanguinely. Just how bad are things? "This has been the worst financial crisis since the Great Depression. There is no question about it," Mark Gertler, a New York University economist who worked with fellow academic Ben Bernanke, now the Federal Reserve chairman, told the WSJ. "But at the same time we have the policy mechanisms in place fighting it, which is something we didn't have during the Great Depression." Maybe, but you know things are bad for American Capitalism Inc. when you have the French congratulating the U.S. for nationalizing AIG!

“Some economists worry that a psychology of fear has gripped investors, not only in the United States but also in Europe and Asia,” says the NYT. The FT concurred, writing that Asian markets were experiencing “pretty extreme scenarios” that mirrored the crash of 1987. “That’s within the memory <of many people in the market>. If it’s out of memory, then there are no guideposts,” one Hong Kong equity strategist told the FT. Needless to say the implications for the global economy are dire. “This stunning flight to safety, away from other kinds of debt as well as stocks, could cause serious damage to an already weakened economy by making it more expensive for businesses to finance their daily operations,” warns the NYT.

Just ask “Wall St. Titans” Goldman Sachs and Morgan Stanley - you know the “solid” investment banks. Amid a swirl of rumors Morgan Stanley stock lost 25% and Goldman 14% taking “executives within those firms, and their rivals,” by surprise says the NYT. It was enough of a shock to send Morgan Stanley scurrying to another troubled bank, Wachovia, in search of a merger. MS is also talking with one of its leading shareholders, China Investment Corporation as it hurries “to avoid becoming the next victim of the credit crunch,” says the FT.

The credit catastrophe is putting the deep freeze on M&A deals, FT reports. Credit is tightening everywhere, tanking stock markets are sinking corporate valuations and there are simply fewer investment bankers on the job these days. For example, Lehman’s collapse jeopardizes the timing of “for many deals, including Teva Pharmaceutical’s $8.8 billion merger with rival Barr Pharmaceuticals,” the newspaper writes. “Companies are putting many deals on hold at the moment because share prices are so volatile that they cannot decide the market clearing price,” Gavin MacDonald, global head of M&A at Morgan Stanley, told FT. But Lloyds TSB seems unaffected. On Wednesday night, Lloyds TSB acquired Britain’s biggest lender HBOS in a 12 billion ($21.8 billion) rescue takeover deal engineered in a matter of hours, The Guardian reports. The financial sector is likely to see even more distressed deals, the FT adds - the sale of Washington Mutual being on the cards says the WSJ. Tech too may have a big deal in the making. Korea’s Samsung Electronics has made a $5.8 billion unsolicited bid for flash memory specialists SanDisk, WSJ reports, a deal that would invite considerable regulatory oversight.

Short sellers and murky hedge funds, beware. The Securities and Exchange Commission on Wednesday drafted news rules that would make it harder for traders to improperly drive down stock prices, and it announced plans to require hedge funds to share more details on their trading positions, WSJ reports. CNNMoney says the rules “would ultimately ban the practice of so-called “naked” short selling, possibly providing some much-needed comfort for financial markets.” Fearing stock price manipulation as panic sets into the markets, the SEC chief Christopher Cox wants hedge funds and other large investors to disclose their short positions on a daily basis. The SEC has also sent subpoenas to 50 firms seeking information on trades to identify whether they tried to influence “specific securities” in recent days, WSJ writes. The new rules are already kicking up a fuss. The American Bankers Association applauds the move, grumbling it wishes they were proposed weeks ago, the newspaper writes. Not surprisingly, hedge funds aren’t thrilled. “There’s no reason loopholes should exist,” Rick Schottenfeld, who runs New York trading firm Schottenfeld Group, which buys and shorts stocks, told WSJ. “But...we’re placing the blame in the wrong place. Short sellers are seeing how leveraged financial companies are and are reacting to that.”

Finally, after the wastelands of Wall Street let’s visit a happier place - Google to be exact. It announced two forward-thinking ventures yesterday in the form of a green energy technology pact with GE and the release next month of its Android software-powered smart phone. It will retail at $199, a full dollar cheaper than a certain Apple product. Credit crunched bargain seekers take note.