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| DOW JONES REPRINTS    This copy is for your personal, non-commercial use only. To order presentation-ready copies for distribution to your colleagues, clients or customers, use the Order Reprints tool at the bottom of any article or visit:www.djreprints.com. • See a sample reprint in PDF format. • Order a reprint of this article now. Have Swaps Overdone the Gloom?Values Imply Losses, Default Risk Across Wide Swath By SERENA NG June 28, 2008; Page B1 Stocks keep falling but the prices of derivatives that track how investors feel about potential defaults are signaling even deeper concern. The values of these credit-default swaps have hit levels that imply high losses or default risk over the next few years on everything from subprime-mortgage debt to bond insurers and auto makers. Analysts say the markets for swaps have likely gone too far and the doom they are predicting overstates the problems in the mortgage market and broader economy. But the moves reflect significant concerns in the marketplace over how individuals and companies will be affected by the mix of slumping housing prices, spiking oil and commodity costs, and a slowing economy. ![[Default Worries chart]](http://s.wsj.net/public/resources/images/MI-AR119_swaps_20080627212815.gif) Swaps tied to the bonds of General Motors Corp. and Ford Motor Co. are indicating that investors see more than a 70% chance that the auto makers will default in the next five years. For bond insurers MBIA Inc. and Ambac Financial Group Inc. the swaps are implying an even-higher default probability of over 90%. In the subprime market, an index of swaps suggests that a majority of the home loans made to less-creditworthy borrowers in recent years will end up in default. Chip Stevens, U.S. head of active fixed-income trading at Barclays Global Investors, says investors bracing for a worst-case scenario are willing to pay more for insurance against bonds they feel are increasingly likely to default. He adds that while prices are probably overestimating default risk in some sectors, "as compared to the onset of the credit crunch, there's now a real chance that the recessionary outlook could become longer and potentially deeper." Banks and investors buy credit-default swaps to protect against losses on bonds or loans they hold; many traders and hedge funds also use the swaps to bet on the fortunes of companies or sectors. The swaps moves don't always correlate to the actual securities. In the past week, the ABX index of swaps, which tracks the performance of subprime-mortgage bonds, dropped to new lows as the cost of default insurance on these assets soared. The index that tracks triple-A subprime-mortgage-backed securities fell to 45.9 cents on the dollar, down 17% from a month ago and 38% in the year to date, according to data from Markit. The ABX has been criticized as an inaccurate indicator of subprime mortgage losses -- even the Bank for International Settlements said in a recent report that loss estimates implied by the triple-A slice of the index may be overstated. Financial institutions continue to use the index to hedge their holdings of mortgage assets, and their buying of protection has the effect of pushing the index lower still. Credit-default swaps tied to GM imply it has a 31% chance of defaulting in the next year, even though GM has billions in cash to tide it over the near term. Meanwhile, the cost of protecting against a default by Ambac and MBIA is especially high. However, "a fair amount of what's going on involves firms hedging their counterparty risk, rather than outright fear that the [insurers] will default in the next few months," says John Tierney, head of credit derivatives research at Deutsche Bank. Write to Serena Ng at serena.ng@wsj.com1
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| June 28, 2008 | |||
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| DOW JONES REPRINTS This copy is for your personal, non-commercial use only. To order presentation-ready copies for distribution to your colleagues, clients or customers, use the Order Reprints tool at the bottom of any article or visit:www.djreprints.com. • See a sample reprint in PDF format. • Order a reprint of this article now. What to Do to Survive This MarketBy LARRY LIGHT June 28, 2008; Page B1 As stocks flirt with bear-market territory, most investors, long schooled in the buy-and-hold philosophy, have ridden the market down. There's a decent argument to be made for buy and hold. Aside from the absurdity of liquidating an entire equity portfolio -- the tax headaches would be epic -- investors ultimately end up better off than if they had tried to sell at the top and buy at the bottom. "It's hard to time the market, so stay in and benefit from the inevitable turnaround," says David Dreman, chairman of Dreman Value Management. DON'T PANIC Why not selling in a bear market makes sense: 1. Despite the occasional slump, the market on average advances an annual 9.1%. 2. After a bear market, stocks typically recapture losses in a matter of months. 3. Timing a market is near-impossible, so getting out risks missing the inevitable upturn. But now that investors have lost 20% of their money, the next question is when can they expect to earn it back. The good news is stocks typically snap back from a bear market in relatively short order. Since 1945, according to Sam Stovall, S&P's chief equities strategist, bear markets lasted an average of 14 months, and took 12 months from their bottoms to regain the lost ground. Of course there is no such thing as an average bear market, each one is different and these numbers exclude the two most painful, when the market lost more than 40% from peak to trough. Mr. Stovall calls them "mega-meltdowns." The U.S., in the postwar era, has suffered only two of these, in the mid-1970s and the one earlier this decade. The last mega-meltdown began in March 2000 and ended in October 2002. The market took until mid-2007 to return to its March 2000 level. Nasdaq never came close to its old high. Still, mega-meltdowns are rare. The one before the 1970s debacle was in the early 1940s, when things looked dark for the U.S. "A mega-meltdown comes every 30 years or so," Mr. Stovall says. "That's not too bad." Assuming the newly christened bear market is somewhere close to average, then investors can expect a reasonable period of solid gains to follow. The reason is that the U.S. has a powerful and vibrant economy, despite occasional sick days, and the market tracks this. Since World War II through 2007, the Standard & Poor's 500-stock index has risen by an annual average of 9.1%. Add in dividends and it increased 13% yearly. During that time, the consumer-price index -- the real kind, which includes energy and food -- averaged 4.1%. Other than ride out the current bad times, whether this is a bear market or mega-meltdown, what should an investor do? Buy good stocks cheap, trading at multiples below the market's, the value maven Mr. Dreman says. Examples: banking colossus J.P. Morgan Chase & Co. (trading at a thrifty nine times trailing earnings) and oil driller Apache Corp. (14). All, he says, are poised to do well once the market recovers. And that's the best comfort of all.
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| June 28, 2008 | |||
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| DOW JONES REPRINTS This copy is for your personal, non-commercial use only. To order presentation-ready copies for distribution to your colleagues, clients or customers, use the Order Reprints tool at the bottom of any article or visit:www.djreprints.com. • See a sample reprint in PDF format. • Order a reprint of this article now. MBIA Is Selling Munis | ||||||
| URL for this article: http://online.wsj.com/article/SB121460344862011935.html | |
| Hyperlinks in this Article: (1) mailto:serena.ng@wsj.com (2) mailto:liz.rappaport@wsj.com |
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