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Oil – bitten by junk bonds …

8th Dec 2014
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Will falling oil prices have a knock on effect on the rest of the market – if so, the question is - could this result in a possible fall in worldwide stock markets?

Inevitably this will be influenced by Government(s) forced low interest rates and a resulting resurgence of the ‘junk bond’ market (quantify the loss to savers because of low rates since 2007 - billions! - although not really addressed or talked about)

A couple of problems with forced low interest rates are:

  • Squeezes savers who in are turn take greater risks seeking income - enter ‘high yield’ bonds
  • Encourages companies to raise cheap money by ‘cashing in’ on this shortfall issuing higher coupon bonds (‘High Yield’ distressed junk) – witnessed by a rise from 4% to 16% of the market in these bonds since 2005

However, the whole process comes to head when the oil price drops below break-even (say $60 barrel) and all these oil bonds (cheap borrowing) turn to ‘junk’ – you may have a high coupon but this is worthless if the capital value goes down the pan because the market is dumping them for what they can get

This is the point at which the oil sector starts to affect the rest of the global markets

At the moment the FTSE, Dow & S&P have all recovered from their 2007 bloodbath (Sep 2014 high - Nov 2013 low) and are trying and attain new highs - although since then best the FTSE seemed to achieve is around 6,780

Is the mood of optimism, coupled with historic traditional advances in stock market prices in the 4th quarter has hitherto driven the market a valid stance – despite the fact that many question the fundamentals and underlying value behind these rises and whether they can weather a ‘volatility shock’?

So when will all this come together as the ‘perfect storm’ – acknowledged wisdom takes the view that it is not so much a matter of will it happen but when - a timing issue! – And will it be a serious crash or just a correction?

After all it often only takes something appearing out of the long grass to trigger a reaction – we shall see, but if it does occur it could be sharp & painful!

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