Best of the Week
Most Popular
1. Trumponomics Stock Market 2018 - The Manchurian President (1/2) - Nadeem_Walayat
2.Yield Curve Inversion a Remarkably Accurate Warning Indicator For Economic & Market Peril - Dan_Amerman
3.China is Now Officially at War With the US and Japan - Graham_Summers
4.Markets Pay Attention Moment - China’s Bubble Economy Ripe for Bursting - 16th Jul 18 - Plunger
5.Stock Market Longer-Term Charts Show Incredible Potential - Chris_Vermeulen
6.U.S. Stock Market Cycles Update - Jim_Curry
7.Another Stock Market Drop Next Week? - Brad_Gudgeon
8.The Death of the US Real Estate Dream - Harry_Dent
9.Gold Market Signal vs. Noise - Jordan_Roy_Byrne
10.The Fonzie–Ponzi Theory of Government Debt: An Update - F_F_Wiley
Last 7 days
SPX Losing Gains - 17th Aug 18
What Gold Is Not - 17th Aug 18
Dollargeddon - Gold Price to Soar Above $6,000 - 16th Aug 18
Stock Market Higher Again, Correction Over? - 16th Aug 18
Up Your Forex Trading Game - 16th Aug 18
Large Caps Underperformance vs. Small Caps is Bullish for Stocks - 16th Aug 18
“The Big Grab” - Failing Pension and Retirement System - 16th Aug 18
How US Indo-Pacific Vision Forgot Asian Development - 16th Aug 18
Impulse Moves in the Currencies - 15th Aug 19
Best Merlin UK Theme Park Summer Holiday 2018 - Thorpe, Alton Towers, LegoLand or Chessington? - 15th Aug 18
The Essence of Writing an Essay that Must be Understood - 15th Aug 19
Is Solar Energy Rising From The Ashes Again? - 15th Aug 18
A Bullish Bond Argument That Hides in Plain Sight - 15th Aug 18
Jim Rogers on Gold, Silver, Bitcoin and Blockchain’s “Spectacular Future” - 15th Aug 19
A Depressed Economy And A Silver Boom - 15th Aug 19
Moving Averages Help You Define Market Trend – Here’s How - 14th Aug 18
It's Time for A New Economic Strategy in Turkey - 14th Aug 18
Gold Price to Plunge Below $1000 - Key Factors for Gold & Silver Investors - 14th Aug 18
Dow Stock Market Trend Forecast 2018 - Video - 13th Aug 18
Stock Market Downtrend to Continue? - 13th Aug 18
More Signs That the Stock Market Will Rally Until 2019 - 13th Aug 18
New Stock Market Correction Underway - 13th Aug 18
Talk Cold Turkey Economic Crisis - 13th Aug 18
Which UK Best Theme Park - Alton Towers vs Thorpe Park vs Lego Land vs Chessington World - 12th Aug 18
USD is Rising. What this Means for Currencies and Stocks - 12th Aug 18
Hardest US Housing Market Places to Live - Look Out Middle Class - 12th Aug 18
America’s Suburbs Are Making a Comeback - 12th Aug 18
Stock Market US Presidential Cycle, Seasonal Analysis and Economy - Video - 12th Aug 18
Yield Curve Inversion and the Stock Market - Video - 11th Aug 18
Land Rover Discovery Sport 1st Dealer Oil Change Service - What to Expect - 11th Aug 18
How to Setup Webinars and Use Them to Overcome the Barriers in E-Learning - 11th Aug 18
Big US Stocks’ Q2’18 Fundamentals - 11th Aug 18
Dow Stock Market Trend Forecast 2018 - 10th Aug 18
SPX Testing Its First Support Level - 10th Aug 18
Dreaming of a "Comfortable Retirement" on a Public Pension? - 10th Aug 18
The Forrest Gump of All Future Democrat Election Losses - 10th Aug 18
More Uncertainty as Stocks Got Closer to January Record High - 10th Aug 18

Market Oracle FREE Newsletter

Trading Any Market

THE Financial Crisis Acronym of 2008 is Sounding Another Alarm

Interest-Rates / Financial Crisis 2018 Apr 16, 2018 - 06:53 PM GMT

By: Michael_Pento

Interest-Rates

LIBOR, or the London Interbank Offered Rate, was the most important acronym most investors never heard of before 2008. However, it quickly became the most critical variable in markets leading up to the Great Recession.

What has now become clear is that we haven’t learned any lessons from the financial crisis except how to accumulate more debt and to artificially control markets more extensively. And, to conveniently try to sweep under the rug the very same warning signs that forebode the day of reckoning just over a decade ago.


Today, the main stream financial media is obsessed with inane Congressional hearings surrounding Facebook—as if it were a surprise to users that the company’s privacy policy is to invade it-- rather than talking about the more salient issues...like LIBOR.

In layman’s terms, LIBOR is the average interest rate required by leading banks in London to lend to one another. It originated in 1969 when a Greek banker by the name of Minos Zombanakis, arranged an $80 million syndicated loan from Manufacturers Hanover to the Shah of Iran. Zombanakis constructed the loan using reported funding costs derived from a group of reference banks in London. Other banks began tying debt to this rate, and by the mid-1980s the British Bankers’ Association took control of this new rate that we now refer to as LIBOR. Today, the banks that encompass the LIBOR panel are the most significant and creditworthy in London.

LIBOR performs two major purposes for today’s markets. First, it serves as a reference rate used to establish the terms of financial instruments such as short-term floating rate financial contracts like swaps and futures. It also serves as a benchmark rate--a comparative performance measure used for investment returns.

Common sense would tell you that an increase in the LIBOR implies that those top banks comprising the LIBOR panel believe that lending to their fellow financial institutions is becoming riskier; with a significant spike signaling the possibility of economic instability. LIBOR rang an ear-piercing warning bell at the onset of the 2008 financial crisis. Before mid-2007, LIBOR trended with other short-term interest rates such as Treasury yields and the Overnight Index Swap (OIS) rate. But in August 2007, that relationship began to break, signaling the start of liquidity fears that drove the 3-month USD LIBOR up to 5.62%, from its average of 5.36%. During the same period, the overnight Fed Fund's policy target rate for the Federal Reserve remained stable. Therefore, the spread between where traders believed the Fed Funds Rate would be and the rate banks would lend unsecured funds to each other started to blow out.



The LIBOR-OIS spread (the difference between LIBOR and OIS) continued to rise as concerns about bank liquidity and credit worthiness compelled interbank lenders to pare back funding and demand even higher rates. This spread, a barometer of the health of the banking system, averaged less than 10 basis points from 2005 to mid-2007, but ballooned to 360 bps following the Lehman Brothers bankruptcy.

LIBOR has once again started to rise. During the last two and a half years it increased from 0.3%, to 2.36%; and the pace of that increase has recently picked up steam. It jumped nearly a full percentage point in the last six months--outpacing the moves of the Federal Reserve. One reason is the deluge of short-term Treasury offerings displacing demand for short-term commercial paper, forcing companies to offer higher rates for their short-duration financing. Another explanation for the recent spike is the repatriation of foreign earnings derived by the recent tax law changes.



Regardless of the reasons surrounding LIBOR's recent spike, its influence in dictating interest rates on roughly $370 trillion in dollar-based financial contracts globally, from corporate loans to home mortgages, makes it extremely painful for the borrowers on the other end. Its recent jump increased all adjustable rate mortgages whose rate is based off LIBOR. In addition to adjustable rate mortgages and mortgages that have an ARM component, student loans, auto loans and credit cards, are also tied to LIBOR. Most importantly, the LIBOR-OIS spread, which proved to be the canary in the coal mine during the last financial crisis, has just hit its highest level since 2009.

LIBOR provides an essential read to investors about the health of the banking system. It allows them to decipher the risks that exist in the marketplace.  But despite LIBOR’s role as a Market Oracle, regulators around the globe are working on a replacement because they believe its key market participants can too easily manipulate it. The scandal that broke in the summer of 2012 arose when it was exposed that banks were falsely manipulating rates in both directions to profit from trades, or to give the illusion that they were more creditworthy.  

In the United States, regulators are seeking to replace LIBOR with another acronym SOFR, or the Secured Overnight Financing Rate. A rate based on repurchase agreements--overnight loans collateralized by Treasury securities. Where SOFR relies technically on a broader swath of market participants and is less prone to manipulation, its collateralization to the U.S. Treasury market ensures that it will no longer provide the vulnerability necessary to predict market risk.

The transition away from LIBOR is likely to be a long one due to the necessity to alter millions of legal contracts tied to this rate. But what should concern bankers and market participants more than the cumbersome legality involved in replacing LIBOR is the loss of this essential free-market indicator. LIBOR will move out of the hands of sophisticated market participants who are risking the health of their bank when they determine this lending rate and remand it into arms of the U.S. government and the Federal Reserve, which may leave banks and investors fewer warning signs and less options to protect themselves when the next financial crisis hits.  

The truth is governments have complete disdain for markets and are seeking to replace them with increasing alacrity. Governments and Central Banks are nearly always on the wrong side of the economy because they choose to ignore the signals that can be derived from whatever is left from the free market. This is why the Fed kept interest rates at near 0% for eight years when the economy was no longer on life support and is now raising rates while LIBOR is foreboding an economic slowdown. And this adds to the reasons why the next and even Greater Recession lies just around the corner.

Michael Pento produces the weekly podcast “The Mid-week Reality Check”, is the President and Founder of Pento Portfolio Strategies and Author of the book “The Coming Bond Market Collapse.”

Respectfully,

Michael Pento

President
Pento Portfolio Strategies
www.pentoport.com
mpento@pentoport.com

Twitter@ michaelpento1
(O) 732-203-1333
(M) 732- 213-1295

Michael Pento is the President and Founder of Pento Portfolio Strategies (PPS). PPS is a Registered Investment Advisory Firm that provides money management services and research for individual and institutional clients.

Michael is a well-established specialist in markets and economics and a regular guest on CNBC, CNN, Bloomberg, FOX Business News and other international media outlets. His market analysis can also be read in most major financial publications, including the Wall Street Journal. He also acts as a Financial Columnist for Forbes, Contributor to thestreet.com and is a blogger at the Huffington Post.
               
Prior to starting PPS, Michael served as a senior economist and vice president of the managed products division of Euro Pacific Capital. There, he also led an external sales division that marketed their managed products to outside broker-dealers and registered investment advisors. 
       
Additionally, Michael has worked at an investment advisory firm where he helped create ETFs and UITs that were sold throughout Wall Street.  Earlier in his career he spent two years on the floor of the New York Stock Exchange.  He has carried series 7, 63, 65, 55 and Life and Health Insurance www.earthoflight.caLicenses. Michael Pento graduated from Rowan University in 1991.
       

© 2018 Copyright Michael Pento - All Rights Reserved
Disclaimer: The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. Information and analysis above are derived from sources and utilising methods believed to be reliable, but we cannot accept responsibility for any losses you may incur as a result of this analysis. Individuals should consult with their personal financial advisors.

Michael Pento Archive

© 2005-2018 http://www.MarketOracle.co.uk - The Market Oracle is a FREE Daily Financial Markets Analysis & Forecasting online publication.


Post Comment

Only logged in users are allowed to post comments. Register/ Log in

6 Critical Money Making Rules