Monday, December 3, 2007

Current credit crunch a blessing in disguise

The current credit crunch could turn out to be a blessing in disguise.

With the private equity boom earlier this year we saw cheap money being used to buy public companies at hugely over inflated values and it looked like it was going to escalate to the point of explosion and huge economic destruction looked certain.

This fallout was gazumped by the sub prime blowout where lunatic lending institutions lent money to private individuals for houses, cars and other goods and surprise surprise they couldn't pay their loans back.

The effect of the latter scenario though is the same outcome that would have happened had the private equity boys been allowed to continue to borrow money from the drunken sailors that were lending it to them- the credit market is very tight and bankers don't trust anyone all of a sudden.

Credit is tight right now, it has slowed down US M and A activity, the housing sector and investment in business expansion and will have further downstream effects as time wears on.

In New Zealand we have seen questions over our own finance companies going bust, 13 in the last 24 months or so and with more to come. They lent money to questionable property developments and car and chattel purchases and have cost a collective NZ$1.5 billion so far.

A major takeover of a large New Zealand company, Sky City Entertainment, is in peril because a couple of the interested private equity partners are having trouble raising cheap credit to purchase the casino and entertainment company.

What is the blessing?

Well, all this recklessness, which the financial world seems to like to go through with monotonous regularity, has put a brake on stupidity and seems to have focused the minds of lenders and borrowers.

Unfortunately the lenders have pulled back way too far and don't want to get their wallets out at all but the overreaction seems a mirror reaction to the gay abandon that they handed out dollars to anyone in a suit in the first instance.

These overreactions always happen and lenders will start to loosen again when trust is back in the market.

The focus from the beginning then, one would hope, that the reasons for lending money in the first case would pass the basic questions from the lender when one asks for credit.

Can he pay it back?

Is his credit history good?

In the case of a business, much the same but with the addition of whether the business makes money and are you paying too much for it.

Simple huh?

Then how come lenders got themselves and as a consequence, us, in this mess in the first place.

Until the next credit cycle of madness!

Disclosure: I own Sky City Shares

C Share Investor 2007

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