10/30/2007 7:32 AM EDT
I've been discussing lately the recent dichotomy between the performance of equities and of mortgage credit. That is, stocks have continued their ascent, while various subprime mortgage-based ABX indices have dropped precipitously.
Specifically, the AAA-rated ABX Index (for home loans made in the second half of last year) dropped under 80.0, down almost 3.50 from Friday's close of 83.4. The lesser-rated AA-rated ABX Index traded under 48.0 after closing at over 52.0 on Friday.The divergence between the equity and mortgage credit markets remains counterintuitive; what troubles me the most is that the mortgage credit issues will not likely be resolved anytime soon. A cut in interest rates won't turn the mortgage debt market around, and based on the maturing economic cycle (among other factors), the worst is probably yet to come -- and with it will be a broader contagion into other areas of the economy. Should these trends continue -- and I believe they will -- fourth-quarter writedowns in many financial institutions, including American International Group (AIG - Get Report), Citigroup (C - Get Report), Merrill Lynch (MER) and so on will be much greater than anticipated.