October 20, 2008 / 9:22 PM / 11 years ago

Crisis turning point may yet mirror recent history

NEW YORK (Reuters) - Those on Wall Street who point to history as their greatest guide are breathing a little easier as early signs emerge of a thaw in credit markets frozen by the biggest financial crisis in a generation.

Signs marking the entrance to Wall Street are seen in New York October 6, 2008. REUTERS/Shannon Stapleton

Still, another camp of fund managers and analysts remain concerned that the Great Panic of 2008 exceeds anything that market veterans alive today have ever faced and they fear it has more unpleasant surprises to deliver.

Patterns of previous crises in the past half century suggest interbank lending rates tend to reach extremes about two months after a major financial shock, some note. In the past week, incipient signs that credit conditions are easing — albeit with the help of colossal central bank liquidity injections — are starting to conform to this pattern.

Libor or the London interbank offered rate, the leading global benchmark off which short-term borrowing costs are set,

will go on declining from its most extreme levels seen last week, broadly replicating patterns seen during previous periods of market turmoil, says Tony Crescenzi, chief bond market strategist with Miller, Tabak & Co. in New York.

Three-month dollar Libor has fallen for six straight sessions and was fixed at 4.05875 percent on Monday. Even so, that is still more than 2.5 percentage points above the Fed’s target rate. The spread is extremely wide by historical standards, suggesting some banks are still hoarding cash and waiting to see how the next phase of the crisis unfolds.

“It tends to take about two or three months for investors to begin to overcome financial shocks,” as was the case in 1987 after the stock market crash, and in 1998 after the Russian debt default and the fall of hedge fund Long Term Capital Management, Crescenzi said.

In retrospect, the nadir of the global financial crisis may have been early to mid-September when the U.S. government seized control of mortgage finance giants Fannie Mae and Freddie Mac and when Lehman Brothers’ filed for bankruptcy, some analysts say.

“We are already entering the second month now and entering that timeframe when significant progress is starting to occur and being sped up by substantial government action,” Crescenzi said.


If market participants’ fears continue to fade, a key signal to watch for is whether 3-month Libor falls near 3.50 percent, Crescenzi says. That development would be accompanied by substantial improvements in sentiment in both the stock market and the investment-grade bond market, he added.

Another classic sign that investors are already recovering a little composure and venturing cautiously into riskier assets is the rebound of rates on ultra short-dated safe-harbor Treasury bills, as flows start to go into interbank lending markets and riskier assets such as stocks.

“Signs are emerging that the credit crisis is in the early stages of easing,” wrote Tom Sowanick, chief investment officer at Clearbrook Financial LLC in Princeton, New Jersey, in an e-mail note on Monday.

“The most impressive signal has been the near collapse of the overnight Libor rate,” he wrote.

Treasury bill rates’ steep rise up toward the 1.5 percent fed funds target rate is another sign that money markets are normalizing, Sowanick wrote. The U.S. 3-month T-bill rate jumped to 1.20 percent Monday, the highest in a month and up from 0.81 percent late Friday.


But no one is convinced the crisis will be truly over until the prop of massive central bank and government support is actually removed from the markets and banks can lend to each other without help — a development that could take a long time.

Before financial markets can start to trade with any semblance of normality, analysts agree, banks must lend to each other and to companies, whose plight in the 15-month-old credit crunch now threatens to tip the world into recession.

“We do have to get back from total unwillingness to lend. We are probably talking about weeks or months to get markets functioning well on the credit side,” said Jay Mueller, senior portfolio manager with Wells Capital Management in Milwaukee, Wisconsin.

A trader works on the floor of the New York Stock Exchange October 10, 2008. REUTERS/Shannon Stapleton

Incipient glimmers of improvement in still severely dislocated credit markets may yet fade, analysts warn.

Since the global financial crisis has precipitated a degree of government involvement in markets that even veteran market participants have not seen in their lifetimes, some still wonder if following tried-and-tested metrics may not serve as a roadmap out of the market turbulence.

“One reason why the uncertainty factor has been so high is that it has been difficult for us to find anything in our professional careers or even in the history books as a playbook,” Mueller said.

Reporting by John Parry; Editing by Jan Paschal

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