David Callaway: Money-center banks aren't fooling anybody

By David Callaway
MarketWatch.com
Thursday, August 23, 2007

http://www.marketwatch.com/news/story/four-little-piggies-went-market/st...

The decision by four money-center banks to tap the Federal Reserve for $2 billion to pry open the lending spigots of the U.S. financial system was seen in some quarters Wednesday as a turning point in the four-week old credit crisis.

It was. But unfortunately the point turned from denial to full-fledged fear.

Citibank Inc. kicked off the borrowing binge, tapping the Fed's discount window for $500 million, and was quickly followed by J.P. Morgan Chase, Bank of America, and Wachovia Corp., in for another $500 million each.

That this was coordinated by the Fed was pretty much proven by Citi's canned statement to the press, which stated that "Citi is pleased to inject liquidity into the financial system during times of markets stress and to support creditworthy clients."

That it was needed by the financial markets, and desperate corporate borrowers, can also not be denied. The commercial paper market had essentially been shut for the past several days, so kudos to the banks for stepping up, even if it was also in their own greedy self-interest.

But if anyone thinks this ends the credit crisis, then I've got a two-bedroom condo in Florida I'd like to sell them.

What this represented was the latest in a series of almost-daily attempts by Fed Chairman Ben Bernanke to assure the markets that the Fed and the banking system are healthy and on their side -- without having to cut interest rates. Bernanke knows that a cut in the federal funds rate, either at the next month's regularly scheduled Fed meeting or before, would be the final arrow in the central bank's quiver to halt the recessionary monster that is emerging from the collapse of the five-year housing boom.

He will try anything before using it, including a spontaneous pep rally of major banks in the middle of the trading day in mid-August.

But even the collective might of these banks can't stop the vicious unwinding of the housing bubble.

Foreclosures almost doubled in July from the same month last year, and late mortgage payments are at their highest level since the last real estate crisis in the early 1990s. Those numbers will continue to look bad for several months to come, at least until the end of next year.

Lenders continue to exit the U.S. market or go out of business on an almost daily basis. Some manage to tap credit lines to keep things going, but without a quick turnaround, that can't last forever.

The question is why the stock market still seems oblivious to what is happening. Even as more lenders abandoned some of the mortgage markets Wednesday -- including Lehman Brothers -- and several layoffs were announced taking the week's total to more than 5,000 people who won't be buying anything any time soon, the equity markets pushed ahead.

The return of some vague merger-and-acquisition speculation was all the market needed to leap 100 points at the open and stay higher throughout the day, with the Dow average closing up 145 points at 13,236.

Here's a news flash. The merger and acquisition market as we've known it over the past three years is dead as of this summer. With $300 billion in outstanding deals still hanging in the balance, there is going to be almost no appetite among corporations to do a deal right now.

That means shrinking M&A profits at the investment banks to go with trading losses and mortgage business losses, which will lead to investment banking layoffs, smaller bonuses, and the decline in the important financial sector of the markets.

The continued denial in equities is the major danger, because if there is an awakening one day and a collapse, that will really speed us toward recession. So Bernanke and the Fed are thinking on their feet here, even if they are scared to death about how this might play out.

The trick is to keep the markets as calm as possible as this thing unwinds, whatever it takes. Because it's going to be a while before it unwinds.
And as every investor knows, the next level down from fear is panic.

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David Callaway is editor-in-chief of MarketWatch.

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