Wednesday, September 12, 2007

The Current Libor Issue

Read this posting by Financial Sense market commentator, Frank Barbera, The View From 30,000 Feet

  • “It’s a matter of trust” says Robert Kessler, head of Kesslet Investment Advisors, a Denver based manager of Treasury Securities. While Libor rates are based on the rates between some of the world's largest banks, shaky confidence has led the market to demand higher yields on inter-bank lending versus the Fed Funds Rate and Treasuries, which are seen as risk free. The widening yield spreads in recent days have been quite dramatic, and have served to strengthened overseas currencies. Yet the big downside risk ahead still resides in the US Credit Market where the long march of “resetting” adjustable rate mortgages has just begun. Looking out over the next 12 months, the US is facing a monumental series of ‘resets’ to its pile of Adjustable Rate Mortgages on the order of $50 to $60 Billion dollars per month, with some months north of $70 billion. In this light, the surge in recent weeks in overseas Libor Rates is potentially devastating news for the US Homeowner because within the US, increases on Adjustable Rate Mortgages are tied to the LIBOR Rate, and NOT the Fed Funds Rate. In fact, a recent article by Randall Forsyth in Barron’s pointed out that most resets will take place at several points ABOVE LIBOR. “This means that some of those borrowers may face mortgage rates of close to 10%, with the recent rise in Libor rates exacerbating this squeeze.” Consequently, even if the Fed lowers the Fed Funds rate by 25 basis points, the offsetting rise in Libor Rate imply that for most borrowers, there will be no benefit whatsoever.

Do give the rest of the article a good read: The View From 30,000 Feet