We don’t know what we don’t know.
At the beginning of the year there were concerns about the fallout from the debacle in the sub prime real estate market. This was first evidenced with the collapse of New Century Financial, which was at that time the nation’s second largest sub prime lender. At first blush, people felt that the sub prime issue was contained to the sub prime arena. How wrong we have been.
It only took a few short months for some of the largest banks to acknowledge that the credit issues were also affecting their prime portfolios. It only took weeks for the 10th largest lender, American Home Mortgage, to shut its doors and file Chapter 11. Since then it has been a slippery slope. More and more, banks and lenders are unable to fund loans because Wall Street is not willing to step up and buy the same loans that they had been buying over the past several years. As a result, more and more mortgage banks and lenders are being forced out of business.
Yet, this credit crunch is no longer limited to the mortgage markets, let alone only the U.S. What has happened is back in the day, the rating agencies such as Moodys, Fitch, and Standard & Poors, threw caution to the wind. They were giving the highest credit rating to mortgage backed securities (MBS) when in fact they contained a larger portion of non-performing assets than their AAA rating would suggest. The question of how pervasive this problem is, at the time of this writing, is still largely unknown.
The fear of the unknown has roiled the markets. We simply don’t know what we don’t know. Even so, even with the worsening credit crunch many pundits are still trying to suggest that these problems are contained to the credit markets and will not spill over and affect the American consumer or the overall economy. Strong second quarter corporate earning, solid GDP growth, and other favorable economic indicators seem to support this theory. Any talk of a U.S. recession, let alone a global one, is recklessly cast aside.
The reality is neither the market nor the economy has had time to absorb the information. Therefore, the impact on the consumer and the economy will slowly and painfully unfold in the coming months and years. Some might argue that with the Dow Jones Industrial Average down more than 10% (officially a correction) that the market has already priced in the news. To the contrary, the market may have re-priced concerns about the credit crunch, but the impact on consumers is yet to come. The U.S. housing market has in many ways sustained and contributed to domestic (and international growth), it has fueled spending for domestic and foreign goods, and increased consumer confidence, to name a few.
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