Credit crunch overshadows news in 2007

Associated Press
Published December 27, 2007

Just last summer, analysts were predicting the subprime mortgage mess had been "contained," big bank CEOs were "dancing" over the liquidity flowing in credit markets and private-equity titans yearned in Sopranos-like fashion to "kill off" the competition.

Times have changed. The housing and mortgage crisis has escalated into a full-fledged credit crunch, which threatens to throw the economy into a recession. People and places far removed from this mess are finding themselves caught in the fallout.

That's why 2007 is ending on a sour note, making it hard to focus on much else that happened in the business world this year.

D.R. Horton Inc.'s CEO Donald Tomnitz was well ahead of the curve in March when he said what most others in the housing business wouldn't: 2007 "is going to suck, all 12 months of the calendar year."

It was a blunt assessment that contrasted with much of the spin that had been coming then from lenders, real estate agents and home builders. The consensus seemed to think that the worst would soon be over.

Federal Reserve chairman Ben Bernanke helped to stoke those views when he told Congress, also in March, that the increasing default rates among subprime borrowers with shaky credit were "likely to be contained."

That boosted Wall Street's confidence, and sent the major stock indexes soaring to new highs.

Every now and then, naysayers would try to spoil the fun. Bank of America CEO Ken Lewis said in May that the only way to wake up investors to the risks of highly leveraged buyouts would be by a deal going bad. But cheap debt made dealmaking too attractive to let the party stop.

The implosion in subprime mortgages forced a market-wide reassessment of risky debt. Once free-flowing liquidity dried up as lenders everywhere raised interest rates and investors demanded better protection against risk.

That put banks and other financial institutions on the spot. Not only were they unable to unload the debt to finance most buyouts, but their complex debt securities tied to subprime mortgage assets also plunged in value. Around $100-billion in subprime exposure has been written off at banks and brokers worldwide this year.

Such losses cost two big-name CEOs their jobs. Citigroup's Chunk Prince and Merrill Lynch's Stan O'Neal were blamed for letting their firms take on risk that clearly outweighed the reward.

Others have managed to stay - to the wonderment of many analysts and investors. Topping that list is Countrywide Financial Corp.'s Angelo Mozilo, who has become the poster-child for the housing bust. At other battered companies, too, including Morgan Stanley, Bear Stearns and Washington Mutual, executives' jobs are hanging by a thread.

The coming months will tell if they should go. The outlook for the economy isn't in their favor. A terrible situation looks to be getting worse, with many economists - including former Fed chairman Alan Greenspan - raising the likelihood of an upcoming recession.

Should that happen, it would hit as local governments and school districts in places like Florida and Montana are feeling the pinch from debt investments gone bad. That shows just how contagious the housing and mortgage mess turned out to be.