The collapse of Bear Stearns and the UK economy

Source: Money Week

"In fact, the pound even fell against the dollar, unlike almost every other major currency. The horrible reality is that the markets think that the UK is in almost as much trouble as the US…"

"The Dow Jones actually managed to end higher yesterday, up 20-odd points by the close, as traders gradually calmed down after no other banks went to the wall. Fear had centred on Lehman Brothers, which has a similar business model to Bear Stearns, but it seems that Wall Street rallied round the group to avoid a run on the bank igniting – for now at least.

Of course, it’s saying something when you can argue that Lehman investors might have been relieved that the company’s stock ‘only’ closed down by around 20%. Other financials such as Man Group spin-off MF Global dived by more than 50%, on little more than fear and rumour. But the real carnage was happening this side of the Atlantic, here in the UK.

Which UK banks are the biggest cause for concern?

British banks took a pounding once again, with HBOS, Britain’s biggest mortgage lender, the top faller, down 13%. As Alex Potter of Collins Stewart told The Telegraph: “If people can pull liquidity out of Bear [Stearns] at the rate they did, all bets are off on the rest of the banking sector.” The main reason people are worried about HBOS in particular is that it has the highest ratio of money raised from wholesale markets, compared to customer deposits, at 177%, according to The Telegraph.

That still compares very favourably to Northern Rock, which was on 345%. But HBOS also has £7.1bn of exposure to Alt-A mortgages in the US, which are just above sub-prime. If the US property market continues to weaken – as seems very likely – those assets are vulnerable to some nasty potential write-downs.

But HBOS is far from being the only bank that investors are worried about. It wasn’t thought to be among the desperate lenders clamouring for money from the Bank of England yesterday, for one thing. The Bank of England auctioned off £5bn of short-term loans at 5.25% yesterday, but banks requested almost five times that amount, £23.6bn. The move came as the inter-bank lending rate spiked up to 5.59%, in the largest rise in three months.

Incidentally, if you’re worried that the bank you hold an account with could be at risk, you can read James Ferguson’s article on where the safest places to park your savings are here: How to spot the riskiest banks...."