Fed Governor Kroszner Says Credit Crisis May Not Be Over

Federal Reserve Governor Randall Kroszner said today that, for credit markets,

the recovery may be a relatively gradual process, and these markets may not look the same when they re-emerge. (Source: Institute of International Bankers Annual Breakfast Dialogue, October 22, 2007

Kroszner based this on his observation that investors who bought sophisticated credit products like CDO's (Collateralized Debt Obligations) were only too happy to pay whatever the seller asked, based on their sterling reputation. In fact, he said, CDO's such as Asset-backed Commercial Paper and Mortgage-backed Securities are so complex that it is difficult for investors to determine what the real value and price should be.

When the Subprime Mortgage Crisis hit, investors began to doubt the sellers, trust declined, and panic ensued. This was one of the causes of the 2007 Banking Liquidity Crisis. Kroszner forecast that the CDO markets may not return to their previous ebullient state, as investors sought to determine how to accurately price these complicated financial products.

What It Means to You

It is a little alarming to everyone that these complicated derivatives, which are barely understood by even the experts, can have such an important impact on your personal finances. However, don't let their complexity scare you into putting your head into the sand when it comes to your own financial planning. The best defense against the increased risk in the financial markets is knowledge.

Basics of Financial Planning

• How to Invest in the Stock Market
• Should You Invest in Mutual Funds or Stocks?
• 10 Steps to Building a Complete Financial Portfolio