International Law

The Cause of This Bubble?

Image via CrunchBase

If Mark Cuban is right in his diagnosis, the current credit fiasco should have no permanent damage.

"Let me get this straight.  In 2008, funds trying to squeeze out another basis point or two thought they were being conservative  buying insurance on heavily leveraged portfolios of sub prime loans and other debt.

Once those loans started to default, it  created a cascading deleveraging event which lead to major financial institutions failing and the "smartest" minds on Wall Street being forced to dump everything to raise cash, which in turn lead to a crisis of confidence and deleveraging that created the worst week in the history of the stock markets.

Did I get this right ?

In 1987, funds, trying to squeeze out another basis point or two thought they were being conservative, buying insurance on leveraged stock portfolios. Once the stock prices on those portfolios started to drop, their insurance programs pushed them to dump everything AND sell stock index futures to raise cash, which in turn lead to a crisis of confidence and deleveraging that created the worst single day melt down in the history of the stock markets. 

Did I get this right ?

Think it wont happen again ? Of course it will.  Whatever money the Fed makes available to stimulate the economy will be used, as intended,  by entrepreneurs and businesspeople to create and grow businesses."

I think that Cuban is wrong. In 1987, the problem created by portfolio insurance was discovered relatively quickly. But, in 2008 the bankers still don't have a good grasp about how their risk models failed, what to do about it, and what the correct valuation model ought to be. This crisis of confidence will run deeper than what portfolio insurance caused.

Full post as published by Misleading Advertising Law on November 03, 2008 (boomark / email).