Bond Outlook June 27th

Are the waves caused by the failures of the Bear Sterns hedge funds responsible for merely a short-term set back in stock markets and low-credit bonds, or do they reflect a long-term change in sentiment?

We see the arguments as follows:

• The sub-prime problems are minor compared to the capital and reserves of the major banks, which can be relied upon to ring fence any hedge fund failures. Money is still cheap and liquidity high, so leveraged buy-outs will continue, taking the US stock market to new heights
• The banks holding CDOs are reluctant to establish a true market price, because a new “mark to market” would not only book losses but would also reduce liquidity as they call upon reserves to cover the lower asset values. Remove cheap and easily available money and the entire basis for the current stock market boom evaporates

The least we can say about these two opposing views is that they call for caution by investors.