Chinese investment is a sign of economic power
NEW YORK » There's a good reason schools across the country are scrambling to find people who can teach Chinese: It's quickly becoming business' second language as Wall Street seeks to tap China's $1.3 trillion in foreign reserves.
China has been making increasingly aggressive investments in some of the world's most prestigious financial companies in recent months -- most of them American. Morgan Stanley, Bear Stearns, Blackstone Group, and Britain's Barclays have all negotiated major stakes by Chinese government-controlled investment funds.
Investment banks ailing from the subprime mortgage mess are looking for money to shore up their balance sheets. And China is leading a surge of strategic investments from Asia and the Middle East that so far have sunk about $25 billion into Wall Street banks.
That's just the start of what some believe is a dramatic reversal of financial power in the shadow of Wall Street's credit turmoil.
"Both Chinese private and government interests are controlling more and more of the U.S. economy, and this is a result of the big trade and budget deficits we have," said Alan Donziger, professor of economics at Villanova School of Business. "These investments will make the U.S. somewhat less independent, but this is inevitable when we live in a global economy."
To be sure, Wall Street's current predicament is "our own doing," he said. Turmoil in the credit markets have been fueled by defaults on subprime mortgages, and that's caused the Federal Reserve to attempt a bailout of the industry through interest rate cuts.
Lower interest rates have caused the dollar to slide in value against other major currencies. And, for foreign governments, the devalued dollar makes investments in these financial institutions cheap.
In the 1980s, Japanese investors snapped up real estate and invested in businesses across a number of sectors. This new wave of foreign investment is different because Asian and Middle Eastern governments are taking stakes in financial institutions -- a cornerstone of the U.S. economy.
China agreed to pay $5 billion for a 9.9 percent stake in Morgan Stanley, and those securities pay 9 percent a year until they convert to shares in 2010. That translates to a gain of about $450 million of cash next year.
But, for Morgan Stanley investors, the infusion of new stock two years from now will dilute their shares -- and potentially make owning Morgan Stanley's securities less valuable. The same can be said about other banks that receive foreign investments.
Latest ratings downgrade illustrates spiral of debt
NEW YORK » Deterioration in the credit cycle has taken a new twist, as Fitch Ratings warned Friday a number of bonds might be downgraded -- because the bonds' insurer is facing a downgrade from Fitch.
Standard & Poor's made the same move earlier this week, downgrading hundreds of municipal bonds after it had downgraded the insurer of those bonds, ACA Capital.
It is a cycle that could continue as rating agencies warn bond insurers, such as MBIA Inc. and Ambac Financial Group Inc., might not have enough capital to cover claims.
Earlier in the week, Fitch warned MBIA will need to raise an additional $1 billion on top of the $1 billion capital investment private equity firm Warburg Pincus pledged earlier in the month. The money is needed as a safety net in case insurance claims rapidly rise in 2008.
Unless insurers -- considered the last line of defense protecting investors from defaulting bonds -- can meet rating agencies' standards to stabilize capital and guarantee they have enough money to pay out potential future claims, the number of bond downgrades may climb.
As that continues, investors may avoid buying new debt because it is too risky without the added insurance, leaving the credit markets locked up.
The tightening of the credit markets began over the summer with an avalanche of downgrades of asset-backed securities, collateralized debt obligations and other debt tied to rising mortgage defaults.
Asset-backed securities are groups of consumer loans and mortgages packaged together and sold in pieces to investors. Collateralized debt obligations, or CDOs, are complex financial instruments that combine slices of debt, many of which are in part backed by mortgages.
Until recently, a majority of asset-backed securitizations were backed by subprime mortgages and home equity loans and lines of credit. Those types of home loans have increasingly gone delinquent and into default in recent months.
Because of those rising delinquencies, investors and credit rating agencies have worried the securities and CDOs backed by the troubled loans will default as well. That spurred rating agencies to start mass downgrades of the debt.
Fitch, S&P and Moody's Investors Service have all downgraded billions of dollars worth of debt over the past six months. S&P was the latest to announce a mass downgrade, lowering ratings on Thursday of 793 classes of securities underpinned by nearly $23 billion in home loans.