Why The Market Was Spooked By Bear Stearns Friday

The following quote is from John Succo and Scott Reamer in the Minyan Mailbag. It's a great read and sheds some understanding into why the stock market was spooked Friday by the on going difficulties at Bear Stearns (BSC), and its collapsing hedge funds.

On the accusation that we are merely ‘talking our book’: we are not short any of the ABX indices or, for that matter, do we travel in these circles from a trading standpoint at all. We are simply trying to understand the credit market dynamics of these instruments because we have believed for the past two years that the credit bust we see coming will originate from these murky waters. The troubles that the Bear Stearns hedge fund has had over the last two weeks speaks directly to this risk. The ‘’fat tail’’ potential in this area, given the amount of leverage utilized in this sector, is enormous. Who’s to say if the trade is crowded or not? Since crowded can’t be quantified, we prefer to stay away from conjecture and merely focus on the facts. We find that the very entities exposed to losses in credit derivatives are buying more assets to "prop" up prices is extremely disturbing.

This week could be a very bad week for the stock market, unless things simmer down on the mortgage derivatives front. Below is the 2006 ABX bbb, and 2007's also look the same.

click to enlarge

The broader issue remains the cat getting out of the bag about CDOs, and how they are grossly mis-priced. Attempts by Bear creditors to sell some of the "assets" was met with offers of 10-cents on the dollar. Scary stuff.

From Wikipedia:

According to the Securities Industry and Financial Markets Association, aggregate global CDO issuance totaled USD $157 billion in 2004, USD $249 billion in 2005, and USD $489 billion in 2006.