OUTSIDE THE BOX
IF you have experienced an earthquake, then you know exactly what it feels like when the shaking starts. If you have felt more than one earthquake, perhaps a big one, then you also know that for the first few seconds they all begin the same. The vibrations grow larger and larger and you can only hope that they will stop and not carry on to something great causing large damage.
The financial earthquake has started and we can only wait to see whether it will grow larger.
You probably never heard of MF Global (MFG) before this week. MFG is one of the largest global clearinghouses for commodity and foreign-exchange trading and perhaps the largest in Asia. A clearing broker has a critical function in the financial markets, standing between the buyer and the seller and guaranteeing that the transaction will go through and both sides will get paid.
The same system works on the stock exchange since we buy through a stockbroker and transact our purchase through another stockbroker who handles the selling side. In the Philippines, the Securities Clearing Corp. of the Philippines (SCCP), owned by the Philippine Stock Exchange, guarantees that money and stock properly change hands.
However, in the financial markets that are global and cross borders, the exchanges designate sort of “super brokers” to guarantee the settlement of the trades. MFG was one of those. The impact of the failure of MFG is important enough that the Australian Stock Exchange has suspended trading “until further notice” on its commodity exchanges because MFG handles most of the settlements.
MFG is out of business because it bought $6.3 billion of European debt believing that there was not any chance that the countries would default. They bought this debt because the interest rates were very high and they would have made a fortune. Note that this were corporate funds, not client money. But then came along Greece again not being able to pay its bills. MFG was looking at losing a large portion of the money that it loaned out. The company was not large enough or liquid enough to be able to afford this kind of loss.
So what’s the big deal?
Assume in MFG’s case that there was no fraud and nothing illegal about its activities (We will wait and see on this one). We had a similar situation in the Philippines a few years ago with Uniwide Holdings (UW). UW had a great chain of low-cost grocery/department stores. It decided to become like Shoemart so it built a financial disaster called Coastal Mall, using corporate money. UW went bankrupt, leaving millions in unpaid bills to its store suppliers. Everything was fine until it all exploded.
A few months ago, MF sold its debt to the public and was given an investment-grade rating. MFG’s books were examined and everything seemed just fine until it all exploded. Now the question that the markets are very worried about is how many other financial firms seem just fine and yet may be ready to explode?
In Europe, everything seemed just fine with the debt deal that was being worked out with the Greek government. Except, that deal just exploded. Greek Prime Minister Papandreou decided to allow the Greek people to vote on whether to take the bailout money. It was a brilliant political move. If they vote yes, he does not take any heat for the massive austerity measures. If they vote no and Greece fully defaults, it is not his problem.
It is very unlikely that the Greek people will vote yes and Greece will default. If that happens, European governments will be forced, no long discussions this time, to bail out their banks.
And Greece will leave the euro, effectively exploding the euro zone. Greece will then print a much-devalued currency, the drachma. Bondholders will be left holding an empty bag and we may see another even bigger (maybe more than one) MFG hit the headlines.
But of course, you do not do business with MFG. You do not own any Greek bonds and it is unlikely that your bank does either. It is also unlikely you have part of your wealth in euro currency.
However, the financial shaking is going to rumble your world, too.
During and after an earthquake you need to stay close to home and that means holding pesos. This is not the time to be speculating if the peso is going higher or lower. The stock markets are going to be very volatile also. For the short term, any opportunities to take profits or cut losses should be done quickly. And fasten your seat belt.
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