Fighting the tape

1 May 2008 By Edward Hadas Follow @edwardhadas

The latest Financial Stability Report argues market prices of credit are too gloomy. That was almost certainly true in March, but credit spreads have been cut in half since then. The BoE is optimistic. but the leverage megabubble is likely to yield to an extracostly mopup.

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The Bank of England's Financial Stability Report released on May 1 states that using a marktomarket approach to valuing illiquid securities can significantly exaggerate subprimerelated losses.

The report comments that estimates of the cost of the global credit crisis, such as the IMF's $945bn potential losses figure, are confusing true credit losses and loss implied by market prices. The market price may not reflect true credit losses because market prices have fallen for reasons other than expectations increased credit losses e.g. uncertainty over eventual credit losses, greater investor aversion to uncertainly or bigger discounts offered to investors investing in illiquid markets.

The BoE also argues that most estimates so far do not take into account offsetting effects and are focused on financial sector losses rather than the real effect on the entire economy losses.

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