Friday, August 24, 2007

The Subprime Debacle and the Singapore Fallout

As the above chart reveals, the STI has been extremely volatile over the last couple of months. The index has rocked back and forth as events surrounding the US subprime squeeze unfolded. The US indexes fell and so did markets around the region, including Singapore.

What are the implications of this recent volatility?

A. Some think that the market is entering an extremely volatile phase. The prices of some stocks are violently fluctuating up and down, sometimes losing 50% in a day and gaining a similar amount back in another day. So because of this extreme volatility, one school of thought argues that it is better to stay on the sideline in cash or in a conservative position, until the market regains its composure and there is a better risk/reward situation available.

Because there is uncertainty surrounding whether the subprime fallout will have further implications on other sectors of the US economy, there is still a chance that the volatility in markets will continue as events continue to unfold. For such investors who would rather refrain from taking the risk, it is better to stay out of the market.

B. Another group of investors has simply been stopped out by the recent steep fall in stock prices. Margin calls have forced these investors to liquidate their positions at prices much lower than a couple of months ago.

C. A group of investors have found buying opportunities. They think that the damage has been confined to the subprime sector of the credit market and that the Federal Reserve has taken adequate actions to prevent the ripples from spreading throughout the economy. For these investors, the overall US economy is strong, and Asian economies are still in a position to deliver significant growth in the future.

For these investors, the sharp drop in prices in some stocks has presented a buying opportunity as they believe that the dip is only temporary and that prices will resume once the subprime issue passes and strong corporate earnings push stock prices to their previous highs and beyond.

I personally fall into category C, which category do you fall into?

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