The last few days have been quite remarkable in the stock market. One of the top American investment banks, Bear Stearns (BSC) had almost collapsed. The stock chart says it all:
That's right, the stock went from $60/share all the way down to $4/share in mere days. What spawned such chaos? Bear Stearns had a lot of bad loans from the subprime mortgage mess, and people were worried that they wouldn't be able to withdraw their money from the investment bank. This is a liquidity problem which is quite scary.
Basically this is how it works, say you put $100 in the bank. The bank will then loan that money out, charge interest, and make money. They might loan out $90 of your dollars, and keep $10 back just in case you needed to withdraw some money. Usually holding back a little money is okay because not everyone's going to withdraw their cash at the same time. However, if everyone at the same time wanted to pull their money out, we have a problem, because a lot of that money is tied up in loans.
Now, say that loan goes bad, and the bank loses that $90. You hear about this, and you want to pull your cash out, but they don't have the money on hand to give you back the cash. So, what good is a bank if you can't get at your money? This situation basically undermines the trust in the financial system. This is what is happening right now, and that's why Bear Stearns is on the verge of bankruptcy.
What's absolutely remarkable is the Federal Reserve's stunning move to save Bear Stearns. They guaranteed a loan of $30 billion to JP Morgan Chase to buy Bear Stearns for $2/share. This is what I call bailing out a corporation, and it's insanity. Shouldn't a company that takes on way too much risk their money (ie loaning to subprime) be punished for it's actions? On top of that, the Federal Reserve has cut interest rates again to try to prevent another massive drop in the stock market. The interest rate cut will only devalue the American dollar more so, and everything's going to go up in price.
AP News is carrying an article entitled, "
Fed Set For Big Rate Cut Amid Market Turmoil." This is quite the mess.
The only safe places to invest in stocks right now seems to be oil, gold, agriculture, and the classic defensive stocks (Johnson & Johnson, Coke, Proctor & Gamble, etc). Any financial stock currently is absolutely poisoness and can't be touched at all.
Cash is king right now.