Financial Armageddon? Three local experts don’t think so

MinnPost asked several local finance experts to offer their take on this week’s news involving the fate of three major financial institutions.

Although many personal investments are worth less today than they were last week, the situation isn’t a Financial Armageddon, according to three local finance experts we spoke with today. If you’re not an employee or investor of Lehman Brothers, and you have the time to wait out another market cycle, the impact could be negligible, they believe.

Here, in capsule form, is their view of this week’s financial news:

Prof. David Vang
Prof. David Vang

David Vang

Professor and finance department chair,
University of St. Thomas’ Opus College of Business


“My impression is the worst is over already.”
 
The markets, he explains, are forward-looking. Traders buy and sell based on what they think is going to happen the next day. So Monday’s trading already reflected investors’ fears about the future of AIG, the struggling insurance giant. Anything short of a worst-case scenario today should be enough to perk up traders, he believes.

It’s not great news for an economy struggling to pick itself up, but the direct impact of this week’s Wall Street drama will probably be contained to Lehman Brothers employees and investors and negligible for the rest of us, Vang says. The financial panic was ignited when fears spread over the weekend that AIG and two other major financial institutions were on the brink of failure. Lehman Brothers declared bankruptcy, but the second, Merrill Lynch, found a buyer in Bank of America. The private bailout, Vang says, offset the Lehman news and showed that the financial markets can still function.

“All three of those major events happening at the same time, that scared people.”

Still lingering are questions about the health of the banking industry, and whether more banks will fail in the wake of Lehman’s bankruptcy, Vang believes, but his assessment is that the big failures are mostly behind us.

He’s skeptical about how big a psychological impact the week’s news will have on the economy. That’s because most people’s stocks and portfolios are not used for day-to-day living expenses. People don’t make decisions about buying a new car based on their portfolio performance. Those decisions are based on income.

“You’re not making decisions today based on what your portfolio is worth,” Vang says. “Most people’s stocks and portfolios are not used for day-to-day living expenses, but they’re used for the long term.”

Another reason to believe the worst is over, Vang says: The Federal Reserve is at least now considering another interest rate cut as an option because the price of oil has declined. For homeowners, now may even be the time to start considering whether to refinance a mortgage, he says.

“If the two instances [Lehman’s bankruptcy and Merrill Lynch’s sale] had been spread out over two weeks, it’d be a nonstory.”

Prof. V.V. Chari
Prof. V.V. Chari

V.V. Chari,

Professor of economics,
University of Minnesota

“My guess is that this is going to have some effect on the broader economy, but that effect is going to be fairly modest.” Chari, who is also an adviser to the Minneapolis Federal Reserve, says, “The effect can be modest and can be contained if [policymakers] pursue relatively sensible policies.”

The stock market may continue wavering until investors better understand how the Federal Reserve will respond to future scenarios like this one, he says.

“I think the developments of the last couple of days were encouraging.”

Chari says that policymakers appear to recognize the problem, and allowing Lehman Brothers to go into bankruptcy might be viewed as biting the bullet so that the market can recover. “I think every move in the direction of increased transparency and accountability, you’re going to see more and more light at the end of the tunnel.”

There was a time around the middle of this decade when “banks did not even check to see if you were breathing before giving you a loan,” Chari says. Those days are gone, but people with good credit shouldn’t have problems obtaining loans as a result of this week’s Wall Street situation.

“I just don’t see what happened over the weekend having a dramatic effect on the economy.”  The exception, he says, would be if we saw “gross incompetence” by policymakers in the weeks and months ahead.

Pat Hagan,

Senior financial adviser,
Ameriprise

The phone’s been ringing at Hagan’s office: “Most people just want a little assurance that things aren’t that bad.”

The common question: “We’re not in a lot of those real estate things, are we?” His message: Evaluate what you have, but now’s not the time to abandon your strategy.

It’s times like these when it really pays to be diversified, he says. In his view, most investors can afford to go through another market cycle.

Hagan jokes with some clients that they might want to not look at their statements for a while. “The thing is you don’t need to panic,” Hagan says. “It’s natural to be nervous about what’s going on.”

“What I’m saying now, which I probably wasn’t saying a week ago, is: If you’re nervous, now is not the time to get out.”
Mutual funds, in general, are diversified enough where any one individual’s exposure to the Lehman problems is likely to be small, he says. Investors who put money into sector-specific funds might be in more trouble.

“You want to make sure they don’t overreact.I think we really earn our living during bad markets.”

Dan Haugen is a Minneapolis-based reporter who writes about business and other topics for MinnPost. He can be reached at dhaugen [at] minnpost [dot] com.

Comments (7)

  1. Submitted by Beryl John-Knudson on 09/17/2008 - 07:21 am.

    “Double, double, toil and trouble
    Fire burn and cauldron bubble…”

    The world of finance is a Macbethian nightmare…and we get reassurance by three fairy godmothers, in drag?

    “Cool it with a baboon’s blood,
    Then the charm is firm and good…”

  2. Submitted by John Olson on 09/17/2008 - 12:29 pm.

    Someone also should pass on the fact that the SEC published new rules on “naked short selling” today. They take effect tomorrow.

    The horses have already left the barn, folks.

  3. Submitted by Brian Simon on 09/17/2008 - 11:08 am.

    Of the three, Professor Vang seems the most bound up by theory. “The markets, he explains, are forward-looking.” Yet the record shows that on Friday, they weren’t forward-looking at all. I think it was Chris Farrel on MPR this week who mentioned that the myth of the ‘perfect information in markets’ has been thoroughly busted. Someone should pass that insight on to Prof Vang.

  4. Submitted by donald maxwell on 09/17/2008 - 02:42 pm.

    It might be impolite to ask the good professors whether they had predicted the fall of Bear Stearns or any of the subsequent massive failures.

  5. Submitted by Rod Loper on 09/17/2008 - 08:28 am.

    Oh Gee. Let me check on my 201K……

  6. Submitted by Paul Udstrand on 09/16/2008 - 08:16 pm.

    This is the exact same thing these guys always say. Next time ask them what would have to be happening for them to say that this will spread to the general economy. Under what circumstances would they tell people to sell and change their strategy? When was the last time they said the worst was yet to come? We’ve been hearing this for two years, and it’s been wrong every time. These are the people who call Martha Stewert at the beach and tell her to sell, while telling everyone else not to panic, and stick it out. There economists out there who will actually tell us something.

  7. Submitted by True Lee on 09/20/2008 - 06:03 am.

    I used to work for one of the larger investment firms in Minneapolis 7 years ago. The finanical markets knew long ago the finance industry was taking on too much risk. When Enron collapsed, there was a lot of worries that it would cause the other investment firms (Merrill, Bears Stearns, Morgan Stanley, etc.) to follow.

    Every average person must know that these firms know full well what they were getting themselves into. NEVER accept the excuse that they didn’t know. They have a lot of money to hire some of the best and brightest number crunchers in the market. Numbers, especially financial numbers, don’t lie. The people who have power (in the finance companies, SEC and Congress) to keep greed in check did not do their jobs. They sold us snake oil and we bought it. Now that the economy is sick, we’re left to pay for the cost to nurse it back to health.

    What I’d like to ask the experts in this article is: Did the free market theory using privatization and less government interferrence strategies work?

    I find it laughable that the neocons and economists today are trying to make themselves feel better by telling themselves that the government interventions thsi week is a “pragmatic” temporary solution to fixing the free market economy they’ve been taught is the solution to all social ills. There is a place for government in a capitalist economy.

    A question I wish the media would ask everyone, especially our political and coporate leaders, is why are they leaving so much financial debt to their children? It’s a question that must be asked if our civilization, and the experiment of our founding fathers, is going to survive. More importantly, this moral question must be asked for our children who will need it to literally survive.

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