jeudi 19 novembre 2009

Subprime Crisis Impact on the Gulf

Starting by June 2007, the subprime crisis appeared to be a mortgage crunch which has few repercussions easy to identify and to manage. The reality was far away. We are living the worst disaster while twhole financial world delves into one of the most critical stage of its history. In just few weeks, the subprime crisis quickly spreads across borders; it was transformed into global credit crunch and then to a global liquidity crisis accentuated by the evaporation of confidence and all crowned by the fear of the contagion to the real economy. Its domino effect spill over the globe, starting by mortgage sector, to attack other sectors and from the United states to other countries to finish by devastating the international financial system. At this course, financial contagion is being called by means of blaming. As the quote of Richer Miller who says: "When the United states sneezes, the whole world may well catch a cold". I can define financial contagion as the situation in which a faltering economy in one country causes otherwise healthy economies in other countries to have financial disruptions. In fact, no one could believe that a financial crisis whatever its deep tremendous effect is, could have a sudden universal impact; what harm the economy of a country can in deed harm the economies of many other healthy countries in turn. Hence, one may conclude that no matter how it is the financial crisis and how it is structured, no matter where it is located, crisis spreads around like a contagious disease, without any apparent fundamental explanation. The history of economy has proved that. Many concrete examples we have: the Exchange Rate Mechanism attack of 92-93, Turmoil was all around Europe, the East Asian crisis of 97, the Brazilian devaluation of 99, the Dot-com bubble of 2001-02. Each crisis spreads around like a contagious disease, some times without any apparent fundamental explanation. This feature has stunned the attention of many researchers and analysits. One of the most recoghised work on financial contagion goes rewarded to Forbes & Rigobon (2000). They have defined contagion "as a significant increase in cross market linkages after a shock to one country or a group of countries". Let's back now to elaborate more the issue of contagion in this latest episode of the subprime crisis. Contagion is more than ever at the heart of financial turmoil: this crisis which has originated in very specific and relatively small segments of mature and emerging financial markets, has shaken the whole financial world to be called a Financial Tsunami Yet my focus goes toward the gulf where many commentators believed that it would continue its recent growth despite the downturn in Europe and US and we tented to hear that gulf economies would be immune and would be an oasis of calm in the ongoing financial turmoil. Besides, according to a standard&poors survey, gulf exposure to subprime instruments is limited. However, I want to show here below, some charts that debate this perception of immunity:

This chart represents the gulf stock markets crashes, especially and it is shown considerable immediately following the collapse of Lehman Brothers in mid-september 2008, where the gulf stock indices fell over 40% on value. Saudi index TASI fell over 59%,, ADI and Kuwait slumped for around 45%, DFMG index for 70%.
The world’s largest financial institutions announced their bankruptcy due to the toxic and heavy securization of the MBSs and the CDOs (the mortgage derivatives).
Obviously, the exposure to these subprime assets reduced their capital and hence their ability to lend which wiped out the capital market and reduced the availability of credit.
As the crisis deepened, more and more financial institutions avow their failures. The panic caused an awful withdrawal by the increasing skepticism; investors take their money out by fear of a continuous slowdown to invest in commodities as a store of value and the speculation party on future commodities fires up to set in motion a food price crisis and an odd oil surging prices ($147per barrel in July 2007).
Wherever, you just hear nagging words: taking over, acquisitions, nationalization to recover and survive, most in US and Europe.
Many commentators and analysts believed that the emerging economies would continue their recent strong growth despite the economic downturn in Europe and the United States and we tended to hear that the economies of the GCC would be an oasis of calm in the on-going financial turmoil. This was the idea of the great deal of the so-called ‘decoupling’ thesis.
However, since the bankruptcy of Lehman Brothers in mid-September, it has become clear that no part of the world will be immune to the current crisis. This event brings the global financial market to the brink of collapse. The international stock market hit a key of a dramatic plunge fuelled by a wild volatility of equity and commodity markets, it was the Wall Street nightmare while the Dow Jones fell by 500 points, it was the largest drop by points in a single day since the 11 September event. Unfortunately, this ripple reached the Gulf to reject the immunity perception. The UAE Central Bank disclosed a day after that 90% of “speculative” foreign money had flowed out the UAE markets due to concerns regarding the crisis and its potential impact on local currencies. Moreover, the Saudi (TASI) equity index was down about one-third year-to-date, as was the Dubai stock market which slumped 32% this year. Even the highly buoyant Qatar market was down 14% year-to-dates following the Lehman collapse. Gulf investors, like their counterparts elsewhere, seek safer havens for their capital and are shifting away from volatile equity markets. The world central banks start a month later their bailout by a total of $2.5 trillion of liquidity into the credit market; it was so far the biggest monetary intervention in world history.
Plainly, the financial world is living the worst disaster since 1929 and the mortgage crisis has exceeded all forecasts.
And here, at the core of the subprime meltdown, the financial contagion is being called into question.
How did the world’s market come into such meltdown? How an American indigenous crisis could cause all this damage? How did it spread so that, for example, a slowdown hits the UAE market while the housing bubble is purely American?
Is the financial contagion behind this global crisis?
How could we identify it?
Certainly, the financial contagion remains an elusive concern and acquires an implacable importance during economic crisis. Since, it is crucial in risk management and asset allocation to find how international financial markets interact and behave during financial turmoil. In fact, several studies had conquered the contagion phenomenon and looked into how an initial country-specific shock could be quickly transmitted to markets of very distinct sizes and structures around the globe. Generally, contagion is identified by ‘a simultaneous drop in asset prices, triggered by an initial fall in one specific market’. The extension of these analyses could lead to a better risk management. Since, it enhances portfolio modeling through a deep understanding of the dependence structure involving financial market and particularly it is useful for those institutional investors who are engaged in strategies of international diversification, as well as for the new macroeconomic policies and monitory authorities planning to bail out the markets affected by foreign crises.
In spite of the wealthy effect of the US subprime crisis that unduly triggers the international financial market into dreadful fallout as manifested above, academic assessments of its contagious effect are still sparse, not surprising because of its novelty. And although the rich media that portrays the general cross-country spillover effects of this famous crisis, its significant impact on the Gulf financial Market still too blurred.