Sunday, September 21, 2008

Lehman Brothers Bankruptcy - Impact on Stock Market

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Lehman Brothers has filed for Chapter 11 bankruptcy protection. Merrill Lynch was rescued by Bank of America for $50 billion. Already a number of investment banks and government sponsored institutions like Freddie Mac and Fannie Mae have either shut down their shops or have been rescued by the government or other corporates. AIG was rescued by the government for $85 billon.

Is the current finanical crisis over? Will the bailout package of more than $700 billion of tax payer's money be sufficient? More importantly, is it proper for the government to spend tax payer's money? Is this the end of true capitalist era?

The sub prime crisis is still not over. It looked like things are better over the last 3 months. But after news of Lehman Brothers, Merrill Lynch and AIG, it has re surfaced and in much bigger propotions. It has impacted stock markets world over. The derivatives - Mortgage Backed Securities and Asset Backed Securities have led this fall. There are no takers for such instruments offered by Lehman. Now, we have talks of Morgan Stanley and possibly Goldman Sachs - the last 2 standing independent investment banks being talked of being in trouble. Let us take the above questions one by one:

The current financial crisis may be over in the short term with the bailout package of the goverment. However, it may not be sufficient. The stock markets world over may recover in the short term owing to the good news of a bailout package. However, the actual impact is still not completely seen. Lot of banks dependent on such institutions may be in trouble in the near term. Nobody wants to price these instruments for now. If the valuations are very low, many banks will incur mark to market losses. Housing industry will go through a rough patch in the US and the world over. There would be more job losses.

Having said that, the bailout package is a necessity. It is against the capitalist principle for government to bail out few institutions but if they don't it will spiral into a bigger financial crisis. So, if the government did not take tax payer's money and solved this crisis it will lead to bigger crisis in the medium term. It doesn't solve the problem completely immediately but will help prevent bigger crisis. The government and institutions will get some time to assess the impact and risk and hopefully solve the issues so that the crisis doesn't snowball into bigger crisis.

What do we look forward to? In the short term, the stock markets may rally owing to good news of bailout package. We would like to believe that it a good time to sell your stocks - make profits or cut losses as the case may be. It would be a good idea to be in cash right now. In the medium term, there may be more news of such instiutions in trouble so stock markets may fall. This might be a good idea to buy into stocks - especially the large cap ones and some selective mid cap stocks. In the long term, we are bullish on India. The focus is shifting from US and Europe to India and China. GDP growth would be good - crude prices are falling and inflation is slowing down. There may be few IT companies in trouble who get business from such troubled institutions. Since the Rupee is depriciating that may be of some help to the IT companies. So, look out for opportunities to buy good stocks when the markets fall drastically.

We had recommended some stocks for september. Have a look at these stocks - very good ones to hold. Though we would look at opportunities to sell them if there is a rally in the stock market in the short term. Then again buy them later when the stock market falls. We will be posting new stock tips - for free!! So watch out this blog for the details.

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