Northern Rock Bank Seeks Emergency Cash From The Bank of England

By: Nadeem_Walayat

Northern Rock, one of Britian's largest mortgage banks is expected to receive emergency funding from the Bank of England today for possibly more than £4 billion ($8 billions), as the mortgage bank runs out of cash and is unable to obtain credit on the interbank money market due to the ongoing liquidity squeeze and the banks own sizeable subprime mortgage book risks. As with the earlier emergency funding of barclays, the rate charged by the Bank of England is expected to be significantly higher than the 5.75% base rate, possibly around 6.75%.

The share price is down by 50% from highs set barely 6 months ago, the current PE of 6.75 is expected to rise on profit warnings and bad debt provisions to above the recent range of 14 to 17. Technically, the chart looks oversold, but there may be blood on the street as some panic grips stock holders which may send the stock to a new multi-year low on today's open as there is a risk of a run on the bank as savers make panic withdrawals.

The Market Oracle specifically warned investors and savers of the growing problems facing Northern Rock due to the size of its subprime mortgage book and the US subprime induced credit crunch on the 22nd of August 07 UK Housing Market Crash of 2007 - 2008 and Steps to Protect Your Wealth.

Investors : " Trading on a PE of just 7.5 and a yield of 4% may now make the stock seem enticing, but the mark down is in anticipation of the much higher risk of mortgage defaults and repossessions in the UK as the housing market starts to nose dive. These repossessions (foreclosures) are already hitting the likes of northern rock with expectations of a tripling in the rate over the next 6 months as compared with the same period last year. This surge in repossessions will impact the earnings of the UK Mortgage banks as they make every larger bad debt provisions and issue profit warnings.

This is in addition to any toxic US Sub prime related exposure. Therefore in Northern Rock's case a PE of 7.5 could jump many fold in a worse case scenario. " - Nadeem Walayat, 22nd August 07

Savers : " Invest in Fixed Interest Bonds issued by large strong banks , avoid issues from mortgage banks such as Northern Rock. Keep in mind that In the UK savers have protection at 90% of holdings of the first 35k of investments in fixed bonds and savings accounts so bare that limit in mind." - Nadeem Walayat, 22nd August 07

Are my Savings Safe ?

Absolutely, 100% Safe!, well okay only the first £2000 is 100% safe under the UK Financial Services Compensation Scheme (FSCS), then the next £33,000 is protected at 90%. Therefore, the maximum safety net is for £31,700 covering total deposits of £35,000, thus you could say it is highly prudent to ensure that you do not have savings of more than £35,000 with the Northern Rock or any other UK financial institution. Off course avoiding the mortgage banks with large UK subprime exposure altogether would be an even more prudent move. But for the average savings punter, there is little need to start panicking and seeking to transfer out your £3k Cash ISA accounts, other than for a higher interest rate elsewhere.

Unfortunately this is just the tip of the UK Subprime housing bust cycle Iceberg, as the credit crunch has barely begun to bite ! These are but mere credit crunch nibbles for the market participants to snack upon.

The real bites will come as the financial institutions post their quarterly earnings reports, that's starting in October 2007. The expectations are for at least 3 quarters of deteriorating market conditions. The UK property market as anticipated has now peaked, and the credit crunch liquidity squeeze literally ensures a downward spiral well into Mid 2008.

Can the Bank of England do Anything to Avoid the Inevitable ?

It appears that the central banks have learned some lessons from the last liquidity boom. I say it appears that they have, but appearances can be deceptive! What is likely to happen is that the central banks will tow a tough line for some months, i.e. release liquidity at high rates of interest to ensure banks don't default. But as the economies start to tank under the mounting bad debts crisis, the central banks such as the BOE will bend to the politicians, especially in the lead up to elections by making money much cheaper. This will result in higher inflation, higher commodity prices, and maybe a year or so from now the word stagflation will be hitting the headlines with regular frequency.

What else should I do now ?

I am not going to start pointing the finger at all of the likely candidates for banks that could go bust during the downward spiral. But the strategy of what to do to protect yourselves is clear and and listed in the previous article UK Housing Market Crash of 2007 - 2008 and Steps to Protect Your Wealth .

However, I could add additional pointers such as paying down your debt, cutting household expenditure and diversifying your sources of income, which is easier said then done. But this financial 'problem' is not going to go away anytime soon, and decisions by individuals exposed to the housing market need to be made now rather than be forced upon through circumstance.

By Nadeem Walayat
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