Why It Is Time To Worry

Source : The Straits Times, Saturday, 11 Aug 2007

If sub-prime crisis worsens, there could be a knock-on effect on stock and property prices in S’pore

A GLOBAL shortage of liquidity in world financial markets might not excite or interest the average Singaporean, but there is plenty in the current turmoil that really should make him sit up and pay attention.

After all, international stock markets have tumbled in the past two days even as governments and central banks from Sydney to New York race to calm investor jitters.
Buzzwords like ’sub-prime defaults’ and ‘collaterised debt obligations’ are usually irrelevant to all but savvy bankers and professional investors, but they are taking on a new significance in the Singapore market.

For economists are saying that if the current situation unravels further, it could adversely affect local stock and property prices, stymie economic growth and raise funding costs for businesses.

So even as the Republic celebrates its 42nd birthday and sterling 8.6 per cent economic growth in the last quarter, the party could very well come to an end.

The tremors in the US sub-prime mortgage market, where loans are given to home-buyers with poor credit history, began last year. Defaults on these loans rose significantly as risky borrowers were caught out by hikes in loan rates, and this resulted in a number of sub-prime lenders going bankrupt earlier this year.

The problem soon emerged on the balance sheets of hedge funds, fund managers and other banks which had invested in these loans via complex financial instruments such as collaterised debt obligations. As they were effectively financing these high-risk mortgages, the defaults translated into huge potential losses for investors across the world.

Singapore’s three local banks have revealed that their exposure to the US sub-prime market is relatively small, so depositors here have nothing much to worry about.
But the real problem is that these developments are making investors and lenders worldwide increasingly cautious about parting with their cash. And this could mean higher borrowing costs for companies with genuine business propositions.

Meanwhile, investors needing cash may be forced to sell off other assets, such as stocks, pushing their prices down.

All these have a direct bearing on Singapore’s stock and property markets - which have of late been major beneficiaries of capital inflows by foreign investors.

Be it mopping up shares of Keppel Corp, the world’s biggest oil rig builder, or buying up the swankiest apartments in the city centre, these investors have played no small role in the recent boom of these asset markets.

Citigroup economist Chua Hak Bin says that the local bourse has been one of the most popular markets in Asia among global investors and enjoys some of the highest capital inflows after China.

Clearly, if these investors do retreat, share prices here can be expected to take a hit, though construction counters should prove resilient, given the long pipeline of projects, said HSBC economist Robert Prior-Wandesforde.

Investor pullback will also affect the current property boom, although Nanyang Technological University economist Tan Khee Giap reckons that the effect is likely to be contained within top-end homes in the $10 million range.

‘Also, the foreign buyers don’t come from just one country so unless the whole world goes into recession, the property bull run won’t be affected significantly,’ he said.

A second effect of the current crisis is that, with investors and lenders pulling back, the cost of borrowing can be expected to rise. That explains the concerted cash injections by the world’s central banks in the past two days, which served to help keep interest rates from rising.

The good news for local home-buyers is that loan rates here are unlikely to go up much. ‘The local banks are still flush with liquidity as they still have quite a bit of cash in deposit accounts,’ said CIMB-GK economist Song Seng Wun.

And although some of these deposits are undoubtedly held by foreigners, economists reckon there is still ‘excess liquidity’ in the local system, which explains the low interest rates here.

But companies that try to raise funds outside of Singapore may face a less benign situation, warned Dr Chua.

He noted that borrowing rates aside, bigger corporations that try to raise funds in international capital markets may have to offer higher returns to increasingly risk-averse investors.

A third potential problem posed by the liquidity crisis has to do with the health of a United States economy which is pivotal to global growth.

As the sub-prime debacle unfolds, lenders in the US may be forced to sell off houses seized from borrowers who cannot pay up. This will further depress the US housing market, which has been in the doldrums for quite some time.

All these mean reduced spending power for the American consumer - which will be bad news for Singapore’s exports.

With signs that the malaise is spreading beyond sub-prime borrowers, a slowdown in US economic growth is becoming increasingly certain.

And this would knock a few points off local economic growth, economists said.

The worst-case scenario, of course, is for the current credit crunch to morph into a full-blown global crisis that destabilises the world financial system.

While nobody is saying that this is the case, commentators are recalling recent crises such as the 1998 Russian financial crisis and the 2001 dot.com bust.

Credit markets froze after hedge fund Long-Term Capital Management buckled when Russia defaulted on its debts. Investors dumped mortgage investments and prices fell.

The dot.com debacle, meanwhile, brings to mind investors who were so blinded by exuberance that they sank money in ‘New Economy’ business ideas that were little more than puff.

Still, economists say the current situation is nowhere near a crisis and central banks are showing themselves to be reassuringly pro-active in addressing the problem.

‘People seem to forget also that risks are now more evenly spread,’ said Mr Prior-Wandesforde. ‘While more organisations will be affected, each individual exposure is smaller.’

Economists also point out that Singapore’s economy has become more diversified and more resilient to an export slowdown. Local companies also appear to have enough access to credit, armed with healthy balance sheets and cashflows.

Still, caution is the mood of the day. Said Mr Prior-Wandesforde: ‘There’s a lot of uncertainty. Nobody knows the extent of the problem of the sub-prime market. Nobody knows how it may spill over to the prime market.

‘Everyone is scared that more things may be uncovered.’

Property Millionaires from around the world have been snapping up top-end apartments here, helping to push property prices to ever new highs. Their retreat may put a cap on speculation at the high end of the market.

Manufacturing A slowdown in US economic growth will reduce Singapore’s exports to its biggest customer.

Stocks

Foreign investors have been big participants in the local share market bull run. If they pull out of the market, stock prices will slide.

PROPERTY BULL RUN TO CONTINUE

‘The foreign buyers don’t come from just one country so unless the whole world goes into recession, the property bull run won’t be affected significantly.’ DR TAN KHEE GIAP, NTU economist