The sub-prime crisis and equity markets: Bandaid solutions for a bleeding jugular?
by Alex Frino Finance Discipline
This talk
• The US real-estate bubble bursts • How the burst found its way into equity markets and across the pacific • The band-aid solutions put up by equity market regulators • ASIC: A case study in a firm decisive regulator
The real estate bubble
Source: Shiller (2008), The Sub-Prime Solution
Shillers offers lots of explanations for the bubble
• An “epidemic” driven by house price optimism • Information cascades
But not why it burst….
A contributor to the “epidemic”
• Comparable sales models contributed to the epidemic:
– AVM’s – Desktop/Drive-by valuers – Valuation agents
2008 2 2007 3 2006 4 2006 1 2005 2 2004 3 2003 4
Source: Office of Federal Housing Enterprise Oversight
When did the bubble burst? a first look
2003 1 2002 2 2001 3
US House prices
2000 4 2000 1 1999 2 1998 3 1997 4 1997 1 1996 2 1995 3 1994 4 1994 1 1993 2 1992 3 1991 4 1991 1
250.00 200.00 150.00 100.00 50.00 0.00
100.00
150.00
200.00
250.00
50.00
0.00
Jan-87 Jan-88 Jan-89 Jan-90 Jan-91 Jan-92 Jan-93 Jan-94 Jan-95 Jan-96 Jan-97 Jan-98 Jan-99 Jan-00 Jan-01 Jan-02 Jan-03 Jan-04 Jan-05 Jan-06 Jan-07 Jan-08
Case Shiller Composite
When did the bubble burst? a second look
Source: S&P
-0.08
-0.06
-0.04
-0.02
0.02
0.04
0.06
0.08
0.12
-0.1 0.1 0
The bubble bursts: a closer look
19 91 1 19 91 3 19 92 1 19 92 3 19 93 19 1 93 3 19 94 1 19 94 3 19 95 1 19 95 3 19 96 1 19 96 3 19 97 1 19 97 3 19 98 1 19 98 3 19 99 1 19 99 3 20 00 1 20 00 3 20 01 1 20 01 3 20 02 20 1 02 3 20 03 1 20 03 3 20 04 1 20 04 3 20 05 1 20 05 3 20 06 1 20 06 3 20 07 1 20 07 3 20 08 1 20 08 3
CA MI
-0.15 0.05 0.15 -0.1 0.1 0
-0.05
The real-estate market in free fall
19 91 1 19 91 19 3 92 1 19 92 3 19 93 1 19 93 3 19 94 19 1 94 3 19 95 1 19 95 3 19 96 1 19 96 19 3 97 1 19 97 3 19 98 1 19 98 3 19 99 19 1 99 3 20 00 1 20 00 3 20 01 1 20 01 20 3 02 1 20 02 3 20 03 1 20 03 3 20 04 20 1 04 3 20 05 1 20 05 3 20 06 1 20 06 20 3 07 1 20 07 3 20 08 1 20 08 3
AK AL AR AZ CA CO CT DC DE FL GA HI IA ID IL IN KS KY LA MA MD ME MI MN MO MS MT NC ND NE NH NJ
350.000
Oct-04 Nov-04 Dec-04 Jan-05 Feb-05 Mar-05 Apr-05 May-05 Jun-05 Jul-05 Aug-05 Sep-05 Oct-05 Nov-05 Dec-05 Jan-06 Feb-06 Mar-06 Apr-06 May-06 Jun-06 Jul-06 Aug-06 Sep-06 Oct-06 Nov-06 Dec-06 Jan-07 Feb-07 Mar-07 Apr-07 May-07 Jun-07 Jul-07 Aug-07 Sep-07 Oct-07 Nov-07 Dec-07 Jan-08 Feb-08 Mar-08 Apr-08 May-08 Jun-08 Jul-08 Aug-08 Sep-08 Oct-08 Nov-08 Dec-08 Jan-09 Feb-09
370.000
390.000
410.000
430.000
450.000
470.000
490.000
Australian house prices
RP Data Rismark Hedonic Index
What caused the real-estate bubble to burst?
What caused the real-estate bubble to burst?
The virus
• Mortgage backed securities • Sub-prime paper • Toxic debt
Mortgage backed securities
• A certificate 1B-A1 in amongst issue
– – – – $150 million worth of paper AAA rated 0% delinquencies 1,200 loans => 30% california and florida
The transfer to the stock market….
1800
1600
1400
1200
1000 800
Case_Shiller Composite S&P 500 Index 600
400
200 0
December November October 2008 September August 2008 July 2008 June 2008 May 2008 April 2008 March 2008 February January 2008 December November October 2007 September August 2007 July 2007 June 2007 May 2007 April 2007 March 2007 February January 2007 December November October 2006 September August 2006 July 2006 June 2006 May 2006 April 2006 March 2006 February January 2006 December November October 2005 September August 2005 July 2005 June 2005 May 2005 April 2005 March 2005 February January 2005 December November October 2004 September August 2004 July 2004 June 2004 May 2004 April 2004 March 2004 February January 2004
June 2006 October 2007
250.00
200.00
150.00
100.00
50.00
0.00
The transfer to the stock market….
140.00% 120.00%
100.00%
80.00% Financials S&P 500 60.00%
40.00%
20.00%
0.00% 3/01/2006
3/07/2006
3/01/2007
3/07/2007
3/01/2008
3/07/2008
The transfer to the stock market….
10.00%
22 Feb 2007
3/10/2006 3/01/2007 3/04/2007 3/07/2007 3/10/2007 3/01/2008 3/04/2008 3/07/2008 3/10/2008
0.00% 3/01/2006 3/04/2006 3/07/2006 -10.00%
-20.00%
-30.00%
-40.00%
-50.00%
-60.00%
RtFinancials RtMarket
The virus crosses the Pacific ….
1.4000
1.2000
1.0000
0.8000
Australia Financial US Financial 0.6000
0.4000
0.2000
0.0000
31/12/2008 1/12/2008 31/10/2008 3/10/2008 5/09/2008 7/08/2008 10/07/2008 11/06/2008 12/05/2008 11/04/2008 12/03/2008 12/02/2008 11/01/2008 11/12/2007 12/11/2007 15/10/2007 17/09/2007 17/08/2007 20/07/2007 21/06/2007 23/05/2007 24/04/2007 23/03/2007 23/02/2007 24/01/2007 20/12/2006 21/11/2006 24/10/2006 26/09/2006 28/08/2006 31/07/2006 30/06/2006 1/06/2006 3/05/2006 31/03/2006 3/03/2006 2/02/2006 3/01/2006
1.6000
1.4000
1.2000
1.0000
0.8000
0.6000
0.4000
0.2000
0.0000
* 1 RtAust 0.0 0.02* tUS 0.38 RtUS 0.08*RtUS 0.9 RtUS R 2 1
350.000
4
370.000
390.000
410.000
430.000
450.000
470.000
490.000
O ct -0 D ec 04 b05 r-0 5 Fe Ap Ju Au n05
RP Data Rismark Hedonic Index
g05 O ct -0 5 D ec -0 5 Fe b06 Ap r-0 6 Ju n06 Au g06 O ct -0 6 D ec -0 6 Fe b07 Ap r-0 7 Ju n07 Au g07 O ct -0 7 D ec -0 7 Fe b08 Ap r-0 8 Ju n08 Au g08 O ct -0 8 D ec -0 8 Fe b09
RP Data Rismark Hedonic Index
and crosses the Atlantic ….
1.40 1.20
1.00
0.80
UK financials USA Financials
0.60
0.40
0.20
0.00 3/01/2006 3/07/2006 3/01/2007 3/07/2007 3/01/2008 3/07/2008
The response of the regulators (bans on naked short selling)
Market USA Japan France Switzerland Germany Singapore Italy Netherlands Belgium Luxembourg Portugal Iceland Austria Covers FINS ALL FINS ALL FINS BUY-INN FINS FINS FINS ALL FINS FINS FINS Start date 21/07/2008 28/08/2008 19/09/2008 19/09/2008 20/09/2008 22/09/2008 22/09/2008 22/09/2008 22/09/2008 22/09/2008 24/09/2008 6/10/2008 28/10/2008 End date 31/03/2009 Indefinite Indefinite 31/03/2009 31/05/2009 28/02/2009 20/03/2009 Indefinite Indefinite 30/04/2009
The response of the regulators (bans on all forms of short selling)
Market United Kingdom Ireland Switzerland (SWX) Australia Australia United States Canada Pakistan Russia Taiwan Indonesia Korea Norway Greece Denmark Covers FINS FINS FINS ALL FINS FINS FINS ALL ALL ALL4 Top50 ALL FINS FINS FINS Start date 18/09/2008 19/09/2008 19/09/2008 22/09/2008 22/09/2008 22/09/2008 22/09/2008 24/09/2008 30/09/2008 1/10/2008 1/10/2008 1/10/2008 8/10/2008 10/10/2008 13/10/2008 End date 16/01/2009 Indefinite 16/01/2009 19/11/2008 31/05/2009 8/10/2008 8/10/2008 Indefinite Indefinite 5/01/2009 31/04/09 Indefinite Indefinite 31/05/2009 Indefinite
US reaction relative to slide in financials
10.00% 0.00% 3/01/2006 3/04/2006 3/07/2006 -10.00% 3/10/2006 3/01/2007 3/04/2007 3/07/2007 3/10/2007 3/01/2008 3/04/2008 3/07/2008 3/10/2008
-20.00%
-30.00%
-40.00%
Ban on naked short-selling of financials introduced in USA
-50.00%
-60.00%
Ban on short-selling of financials introduced in USA
RtFinancials RtMarket
The response of our decisive regulator
2008 Fri 19 Sep Sunday 21 Sep Monday 22 Sep Tue 23 Sep Announcement ■ Bans naked short sales ■ Bans covered short sales ■ Covered short sales for hedging permitted ■ Covered short sales for hedging, dual listed entities, exchange traded options, index arb, market makers etc. allowed ■ Lending permitted
Wed 24 Sep
The effect of the response…
10.00% 8.00% 6.00%
4.00%
UK USA Canada
2.00%
0.00%
-5
-2.00%
-4
-3
-2
-1
0
1
2
3
4
5
-4.00%
The effect of the response…
Market UK USA Canada Market Index FTSE-All Shares S&P 500 Composite S&P/ TSX Composite Finance Index FT S5fINL SPTEQFI Beta 1.19 1.43 0.70 Estimation Period 06/08/06 - 06/08/08 02/06/06 - 02/06/08 05/08/06 - 05/08/08 Event date 19/09/08 16/07/08 19/09/08
A bandaid solution at best…
20.00%
UK Announces ban
10.00%
Canada announces ban
0.00% 3/01/2006
3/05/2006
3/09/2006
3/01/2007
3/05/2007
3/09/2007
3/01/2008
3/05/2008
3/09/2008
-10.00%
UK_M.A.I._CAR -20.00% US_M.A.I_CAR Canada_M.A.I_CAR
-30.00%
-40.00%
-50.00%
-60.00%
USA Announces ban on naked short selling of financials USA Announces short selling ban on financials
CAR’s of Financial Indexes
Closing comments
• The equities markets dramatic fall was caused by toxic debt • Short selling attacked a symptom not the problem • So why do we still have short selling bans?