Over afternoon snacks today, my father asked me about the bankruptcies of major US banks such as Lehman Brothers, Merrill Lynch, and Bear Sterns, and how that might affect us who lived in Asia. In this modern age of speculative finance, nearly everything you can think of from the food on your table to the prices of gas in your car, to the interest rates on your savings account are all interrelated.
I co-moderate a stock market and finance forum Finance Manila and I recently did a poll of respondents to check how sensitive or indifferent they were to the performance of the US markets the previous night. My poll showed that as much as 2 out of every 3 respondents (and these were mostly Philippine investors and traders) showed some affection for the DOW’s result.
You can check out the details of this poll here.
This level of sensitivity is not surprising, considering that the Philippine stock market has a positive correlation to the performance of the DOW the previous night. In another study I conducted, I found that the general correlation of the PSE Index to the DOW is .30 positive for the last 10 years, and increased to .56 positive in more recent months (since 2007):
You can check out more of the analysis here.
This almost identical movement in both equity markets is simply reflective of the close knit relationships amongst all financial and speculative markets nowdays. The simple reason: the same people investing in stocks here and in the US, are the same people investing in commodities, bonds, and every other securitized asset across the world.
For example, if we track the performance of Oil vs. the US Dollar in the last decade, we see an inverse relationship:
So the movements in various other financial markets is simply the movement of capital from one asset to another. Check out the other relationships here. In a latest CFTC report on Crude Oil, it showed that the level of participation in commodity markets, was heavily biased towards speculators rather than actual producers and manufacturers. This is the reason why, despite many compelling economic arguments for or against the rise in oil, the movement in price has behaved more according to the whim of speculators:
And how do speculators move? Well, that can be based on many factors, but primarily speculative funds move based on two things:
- Where they can get more profits
- Where they can avoid losses
And with the recent tumble of equity markes due to the bankruptcies of banks and investment banks, speculators initially sought refuge in commodities, which drove up prices of Gold, Oil, Wheat, and others in order to insulate them from initial losses in subprime mortgages and bank shares. But as the losses increased, speculators were also forced to sell their commodity holdings to help raise cash to pay for their margin calls in other investments.
This means, that even if there is no economic argument of why a bank’s loss can affect the price of fuel–that’s exactly what is happening now.
So going back to my father’s question: does the bankruptcy of Lehman Brothers, Merrill Lynch, and Bear Stearns have anything to do with us, all I can muster is an understatement: