Friday, October 24, 2008

Russia to default next?

With futures locked limit down, everyone is still looking for the next hedge fund scapegoat who is selling. Just look to Russia. Their stock market has been closed, and oil prices are heading downward, despite OPEC announcing production cuts. When money is this scarce, it just means there will be more cheating on production. And that means oil, will be sold under spot prices in their desperate moves.

Japan's stock market is now under 1982 levels. Asia is cracking everywhere. But today, it is Russia.

Russia's financial crisis is escalating with lightning speed as foreigners pull funds from the country and the debt markets start to price a serious risk of sovereign default.

The cost of insuring Russian bonds against bankruptcy rocketed to extreme levels yesterday. Spreads on credit default swaps (CDS) reached 1,123, higher than Iceland's debt before it sought a rescue from the International Monetary Fund.

Moves by Hungary, Ukraine and Belarus to seek emergency loans from the IMF have now set off a dangerous chain reaction across Eastern Europe.

Romania had to raise overnight interest rates to 900pc on Wednesday to stem capital flight, recalling the wild episodes of Europe's ERM crisis in 1992. The CDS spreads on Ukraine's debt have topped 2,800, signalling total revulsion by investors.

Rating agency Standard & Poor's issued a downgrade alert on Russian bonds yesterday, warning that a series of state rescue packages worth $200bn (£124bn) could start to erode the credit-worthiness of the state.

S&P said Russia's budget was likely to slip into deficit in 2009 as result of the dramatic slide in oil and metal prices this autumn, and cautioned that "the ongoing concentration of the financial system in state hands" had become a political risk.

Russian companies must roll over $47bn of foreign loans over the next two months, and a further $150bn or so next year, a task that has become close to impossible as investors flee Eastern Europe.

The default of Russia, will be systemic. But it won't be in just Russia's neighboring countries. It will be felt in Latin America. We see that already with the strength of the dollar. There is a massive flight out of any currency not denominated in dollars. Money will be pulled with lightning speed from the South American countries, as they depend on their wealth from natural resources. With pricing for all commodities in the toilet, and getting ready to be flushed lower, this move will be especially acute. And that's when we will start to see the rest of these derivative bets blow up; those that Greenspan said was just a "fault' in the model he used to assess the system.

So let's call this next systemic rupture the "Denali" fault, since those in denial of the repercussions of derivatives, will now find that their cute explanations are tragically wanting. That earthquake, caused the planet to vibrate for two weeks after it happened.

And now we are just starting to feel the tremors of the systemic meltdown in derivatives. But this time it's starting, not with obscure off balance sheet arrangements or in alphabet soup products, but with countries.

And that's what people worldwide can understand.

Which is why we are locked limit down.

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