The Econophysics Blog

This blog is dedicated to exploring the application of quantiative tools from mathematics, physics, and other natural sciences to issues in finance, economics, and the social sciences. The focus of this blog will be on tools, methodology, and logic. This blog will also occasionally delve into philosophical issues surrounding quantitative finance and quantitative social science.

Monday, August 27, 2007

More on the Credit Crunch

Hopefully, all of you have read my last blog post -- Credit Derivatives Meltdown & Book Review of 'Traders, Guns & Money' (Aug. 16, 2007). In that blog post (among other things), I outline a major factor in the credit crisis and market fall that is being ignored (or misunderstood) by most commentators -- credit derivatives.

I found several articles in the most recent New York Times that relate to the current crisis in the credit and real estate markets (and their knock-on effects to the financial markets in general). I don't think they get to the heart of the matter (credit derivatives), but they do talk about issues that are nonetheless important to any attempted explanation of what is going on now.

Drop Foreseen in Median Price of U.S. Homes by David Leonhardt and Vikas Bajaj (Aug. 26, 2007) : In the last few years, almost every real estate 'expert' dismissed the idea of a nationwide decline in housing prices across the U.S. Guess what? ... It's happening!

Inside the Countrywide Lending Spree by Gretchen Morgenson (Aug. 26, 2007): With many mortgage banks/lenders at deaths door (either closing down or dramatically reducing their mortgage lending operations), Countrywide's recent bailout from other banks ($11.5 billion credit line had to be drawn down 2 weeks ago and Bank of America recently took a 16% stake in Countrywide for $2 billion) is emblematic of the recent crisis in the credit and real estate markets.

A Psychology Lesson From the Markets by Robert J. Shiller (Aug. 26, 2007): Yale financial economist and author of Irrational Exuberance comments on what is happening in the most recent market crisis.

Will the Credit Crisis End the Activists’ Run? by Andrew Ross Sorkin (Aug. 26, 2007): Speculates that credit crisis will reduce the ammunition needed by activist hedge funds to ply their trade.

Just How Contagious Is That Hedge Fund? by Mark Hulbert (Aug. 26, 2007): Hulbert cites research by 3 financial economists (the most prominent being Rene Stulz of Ohio State University) arguing that hedge fund strategies may be correlated with each other. This is flies in the face of hedge funds' advertised goals of using strategies that are unique and distinct from one another. What this means is that if the strategies of a few hedge funds fail, then there is a good chance that others will fail as well. To some extent, we are seeing some of this with the credit derivatives bets made by some hedge funds.

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