For all practical purposes the markets are closed right now

While you've certainly heard of the big drop in the Dow Jones in the past two days, and probably heard that the housing market keeps on getting worse, the most ominous news are actually coming from a distinct part of the financial markets - leveraged debt. That particular market is undergoing a dramatic change in mood as bankers, which had been bending over backwards to lend ever more money at ever more favorable conditions have suddenly decided that this was not a good idea and are brutally turning off the taps. Deals such as the huge $12 billion financing for the purchase of Chrysler by Cerberus have been canceled.

That market matters, as it is the one that has been feeding the private equity boom, i.e. the increasingly aggressive purchases of companies by funds which were able to bid high prices precisely because they could find cheap and easy finance. That boom had fueled the increase in stock market prices (with the price of targeted companies after jumping on such deals, and many others going up on speculation that they could be purchased) and in the price of many other assets - simply because buyers had lots of money.

It's the same kind of market that lent money to subprime lenders for them to on-lend to clients borrowing to buy overpriced houses (in the hope of flipping them quickly). As long as money was plentiful, prices kept on going up and the bet on them going up was vindicated, further fueling the boom ...

- This trend needs to be watched out for. The chief economist of Goldman Sachs has also said something to similar effect. If what they say is happening is happening, then the growth rate of the M3 money supply might actually take a dip, as I have alluded to earlier.

I expect that this will bring the deflationists to the fore, as my next blog entry will show. In their view, the resulting liquidity crunch will wipe out asset values, possibly triggering a deflation depression like back in the 1930's.

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