That was the general reaction from the press when US food giant Kraft launched its first bid for British confectioner Cadbury less than two months ago. Pundits spewed out potential target prices like bingo numbers – £8, no £10, no £12! – and analysts scribbled out scenarios involving white knights and rival bidders from across the globe.

Reality has been a little more disappointing. Despite attempts to talk up the deal, no rival bidders have come forth. And yesterday Kraft came back to the table with an offer that can only be described as – as Cadbury’s board put it – ‘derisory’.

It’s just another sign that there’s a vast gap between conditions in the financial world and those in the ‘real’ world…

Market hopes are stretched far beyond reality
The Cadbury / Kraft bid saga shows just how far market hopes are stretched beyond reality.

Right up to yesterday’s bid deadline, analysts and investors were clearly expecting Kraft to pull some rabbit out of the hat that would give them an excuse to drive the confectioner’s share price higher from its already optimistic level of around 760p.

Instead, Kraft came back with an offer that suggested that, frankly, they can take Cadbury or leave it. The bid terms were exactly the same, which – because Kraft’s share price has fallen since the original bid was made – meant that the actual per share value had fallen, from the equivalent of 745p to 717p.

Yet, the Cadbury share price is still hovering pretty much exactly where it was yesterday. You can read more about the background to the story, and what we reckon Cadbury shareholders should do now, in my colleague David Stevenson’s blog on the topic.

What’s perhaps more interesting about this bid battle is what it says about the bigger picture and the market’s psychology right now. When this deal was first announced, the excitement in the City pages was palpable. This was the return of big deals, a sign that the recovery was on track.

Click here to finish this article at Money Week UK.

We can’t say we’re surprised. While workers at Lehman (LEH) might feel somewhat aggrieved, it seems the Fed decided that AIG really was too big to fail. “A disorderly failure of AIG could add to already significant levels of financial market fragility.”

So what’s happened – and what does this mean for the wider economy?

The Fed’s decision to bail out AIG after apparently drawing a line under bail-outs with Lehman Brothers shows just how much more important it was to the financial system. The problem with letting AIG collapse is that the group’s tentacles reach everywhere.

An update on the problems with exchange-traded commodities

On that point, before we go any further, one place where AIG exposure has cropped up was in ETF Securities, where yesterday trading was halted in a large number of the company’s exchange traded commodities (ETCs). The ETFs backed by physical assets, including ETFS Physical Gold (LON:PHGP), and ETFS Silver (LON:SLVR) are fine, as are the oil securities backed by Shell. However, the securities based on futures contracts, including short securities such as the Short Oil (SOIL) ETF and agricultural securities are backed by AIG.

ETF Securities says that AIG has continued to fulfil all its obligations to the group. At the time of writing, trading in the affected ETFs is still suspended, though I spoke to the company earlier this morning and it did say that the AIG bail-out was “good news”. In a further update it has now said that it remains in talks with its “market makers and the Exchanges” to “ensure that trading can resume and/or continue in an orderly fashion as soon as possible.” We’ll be bringing you more on this as and when we get it. Some of my own portfolio is in the affected assets, so you can be sure I’ll be keeping a close eye on it.

What does the AIG bail-out mean for the wider economy?

It just goes to show how rapidly the threat to one company can spread in these interconnected markets. So does the Fed bail-out – which involved AIG giving up a near-80% stake to the government, and cost the jobs of many senior managers, including chief executive Robert Willumstad – draw a line under the credit crunch?

It doesn’t seem likely to me. The markets will certainly be relieved that the Fed has stepped in to save AIG.
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Source: The Economy Will Plunge, Despite the AIG Rescue

This from John:

It’s too early to say if it’ll be any more correct this time round. It certainly feels like the biggest disaster so far. And more to the point, it has the element of surprise which earlier events didn’t. Everyone knew Lehman Brothers was in trouble, but the assumption was that it would be bailed out, just as everyone assumed Frannie and Bear Stearns would be saved.

However, now we’ll get to see what a major investment bank failure looks like at firsthand. Sure, it’s Chapter 11 bankruptcy, which is very different to liquidation – half the US airline industry (or it seems like it at least) is in Chapter 11 at any given moment in time – but it’s still bankruptcy.

“We will be entering uncharted territory,” Ladenburg Thalmann & Co analyst Richard Bove told Bloomberg. “Forcing liquidation will set off problems in other companies and markets everywhere.” But then, as Gilbert Schwartz of Schwartz & Ballen puts it, “if every time a big institution went bust the markets expected the government to step in, no one would ever adapt.”

This is the thin silver lining on this particular blow-up. The market’s worst fears have been realized. The event that governments, regulators and finance bosses have been trying to avoid has finally happened, and the market is just going to have to deal with the fallout.

Source: Lehman Collapse: It’s Bad and It’s Going to Get Worse

But it’s not the shareholders who were the problem – it was bond holders. Fannie and Freddie are still responsible for almost 70% of new mortgage loans in the States. They raised cheap money by issuing bonds, and were thus able to fund cheap mortgages for US home buyers.

Now Fannie and Freddie have always inhabited a kind of “nudge, nudge, wink, wink” financial hinterland. The US government didn’t exactly say it was responsible for the two mortgage providers. But everyone knew it was. So that meant that the two companies were able to borrow money at the same rate as the US government.

That’s ended recently as fears for Fannie and Freddie’s future grew. All those foreign governments buying up Fannie and Freddie debt suddenly started to worry – wait a minute, maybe these guys aren’t bluffing. Maybe they really won’t pay back any of the loans that we’ve got here. And that sent them rushing for the hills. That increased the cost of borrowing for Fannie and Freddie, which in turn made US mortgages more expensive.

So now the US government has been forced to turn around and explicitly back Fannie and Freddie. How much is this going to cost? Well, just like Northern Rock, the answer is that nobody really knows.

The US Government is crossing its fingers and hoping that things go well enough so that it might even turn a profit at a later date as it gradually runs the two behemoths down.

But as Hank Paulson admits, “the ultimate cost to the taxpayer will depend on the business results… going forward.”

The general consensus is that this will make things better.

Ruth Lea of Arbuthnot Banking Group tells The Telegraph: “this is good news for the global economy. The Fed has clearly taken a view that to allow these two to go under would have been horrendous.”

Source: The Fannie and Freddie bail-out: bad news for us all

Of course, Mr Darling does have to make the rather embarrassing admission that his earlier forecast for 2-2.5% economic growth this year, was so off-the-scale wrong as to be in the realms of surreal fantasy. So it’s best if he tries to look as if he knows what he’s talking about now.

And it’s hardly breaking news. House prices have already fallen faster and harder than at any time since records began. Anyone who’s still trying to compare this favourably to the 1990s recession is way behind the times.

But credit where credit’s due. Mr Darling may finally be facing up to reality. Shame his colleagues aren’t quite there yet…

Darling is finally facing up to the harsh reality

I’m no great fan of Alistair Darling, but I have to say he came across well in his “controversial” Guardian interview at the weekend. Granted, the paper was never going to give him a hard time. But to hear a member of the Cabinet dispense with the Orwellian New Labour-speak and just admit things were awful was refreshing.

That said, I’m not daft. I suspect Mr Darling’s attempts to tell it “straight” and play up the image of the hard-working but slightly naïve politician, who doesn’t quite understand the world of spin, is all part of some devious Gordon Brown election strategy. You know the kind of thing I mean. “Who do you want running the country? I, prudent Gordon Brown, with my straight-talking down-to-earth team, who tell it like it is? Or smarmy professional politicians like Miliband and Cameron?” Call me cynical, but you don’t survive in the Cabinet as long as Mr Darling has without knowing how to play the game.

But still, compare Mr Darling’s blunt appraisal of the British economy with the defensive gibberish spouted by Hazel Blears, the communities secretary. Ms Blears told The Times that “we know things are tough and understand that people are worried. But Britain’s economy is fundamentally strong.”

This is just patronising rubbish, and voters are rightly irritated by it. She may not realise it, but she’s effectively saying: “you’re all panicking over nothing. The economy’s basically fine and you’re just stupid people who are taken in by all these nasty newspaper headlines.”

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Source: Things Must be Bad, Politicians are Telling the Truth

It could be because the sector in question has had a miserable few years itself, while almost every other industry was partying. But now, at last, after a long stay in the doldrums, the biotech sector is finally coming back into the spotlight.

There has been a mass of deals in the US, while on this side of the Atlantic, a number of attractive little biotech stocks have been approached or agreed bids in the last couple of months.

And the good news is, it’s still not too late to join in the party…

Biotech sector is undergoing a merger boom

It’s been a great couple of months for biotech stocks. In the US, Swiss group Roche made a $43bn bid for biotech giant Genentech (NYSE:DNA) last month (since rejected), while Bristol-Myers (NYSE:BMY) offered $4.5bn for fellow biotech ImClone.

And over here, vaccine specialist Acambis (LON:ACM) has agreed a 190p-a-share offer from France’s Sanofi-Pasteur. Meanwhile both Protherics (LON:PTI) and Oxford Biomedica (LON:OXB), a couple of other small pharma stocks, have revealed bid approaches.

I hold both Protherics and Acambis in my own portfolio, and they’re stocks I’ve tipped in the past. However, just to demonstrate what a volatile sector biotech can be, when I last tipped Protherics in MoneyWeek in February, the shares were trading at around 50p. By the time the bid news had came around, they had slipped – for no particular reason – to as low as 27p at one point. They’re now at around 56p – but that’s a lot of volatility to endure for a 10% gain or so.

What does this show (apart from that share tipping is a mug’s game)? Well, while anyone who bought Protherics at the low has now doubled their money, the chances of most of us getting that lucky are low. And even if you do it once, chances are the next biotech you stick your money into will turn out to be a complete dud. As Andy Smith, manager of the Axa Framlington Biotech fund, told me last week: “I see 400 companies a year. Every one of their chief executives reckons they’ve got a $1bn product.” That’s what’s known as a blockbuster in the pharma trade. But “the truth is that most drugs fail.”
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Source: The Best Way to Buy Into the Biotech Boom

Manny Fontenla-Novoa, chief executive of travel operator Thomas Cook, reckons he’s seen no evidence of consumers cutting back or trading down on their annual holidays. In fact, he’s even planning to stick prices up by 8% next year.

In this morning’s Telegraph, Richard Fletcher muses that while consumers are willing to put off replacing their sofa or their car, “the holiday… is sacrosanct, or so it seems. Even in a downturn, there are winners and losers.”

There sure are. But holiday companies won’t be among them. Here’s why…

The boom’s over. Most people probably accepted that around about the end of last year, as it became obvious that house prices weren’t rising anymore. And as the year has worn on, they’ve also accepted that the wider economy is in trouble. House prices are tanking. Credit is getting harder to come by. Energy bills are shooting up – and it looks like their monthly payments may well jump too when they have to remortgage.

All of that is enough to make people feel that bit poorer. And what’s the first thing you cut back on when you feel poorer? Impulse buying. Think about it. If you take a stroll down the High Street on a Saturday morning, with money in your wallet, safe in the knowledge that your house price rose by another £1,000 last month, then you’re very open to temptation. New pair of jeans? It’s only £40. New flat-screen telly? Stick it on the house.

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Source: Why You should Sell Travel Stocks Now

Cheap money gave us many things, including a global property bubble, and a £1.4 trillion debt mountain for UK consumers. Another noticeable trend was a taste for exotic new investment classes, from Iraqi government bonds to obscure derivatives.

All of these trends were the result of falling risk aversion. Investors believed that central bankers, lead by Alan Greenspan, now had complete control of the global economy. Globalisation would ensure economic growth went on forever. And if it didn’t, a soft landing could be engineered by judicious use of the emergency interest-rate cut button on Greenspan’s miraculous economic control panel.

As investors became bolder, and focused entirely on returns, rather than risks, one brave new investment class, invented entirely by a man working at Goldman Sachs (NYSE:GS), benefited more than most.

It was called the Brics…

The Brics were a great investment, when risk didn’t matter

The Brics – as you probably know by now – was a catchy acronym for Brazil, Russia, India and China. Jim O’Neill at Goldman Sachs coined the term in 2003, and predicted great things for these four countries.

And he was right. They’ve all benefited from booming commodity prices (in the case of Brazil and Russia), or booming US consumption (China), or the outsourcing boom (India). But another point has also worked in their favour.

Low interest rates pushed returns down too. As more and more money chased each new investment opportunity, yields fell on all major asset classes. That drove investors, particularly adventurous new players like hedge funds, into ever-more outlandish investment areas.

Risk took a back seat – political risk in particular. No one batted an eyelid at putting money into once-frontier markets. “China? Sure, it’s a totalitarian regime. And yes, communists have never quite got to grips with the idea of privately-owned property. But this is a globalised economy now. The government won’t want to upset investors. Especially not ahead of the Olympics.”

Why China and Russia have now become very risky for investors

But free and easy money has vanished now. Now some of the best returns you can get are in good old-fashioned hard cash. And when your best returns come from risk-free assets, suddenly things like political risk matter again.

That’s bad news for most emerging markets. And it’s a worry for the Brics too, all of which have seen their stock markets take a hit this year.

But it’s worse for China and Russia. Brazil and India have their problems, and plenty of them. India in particular has a fractious democracy, terrible infrastructure and chronic corruption. But at their core, they believe in democracy as a model for society, so the chances of dangerous social upheaval are comparatively low.

In China, the chances of a civil breakdown are higher. Economic problems tend to lead to unrest. The uprising in Tiananmen Square occurred at a time of high inflation, for example. We’ve more on China and the troubles it faces in the current issue of MoneyWeek. If you’re not already a subscriber, you can get your first three issues free.

But Russia’s probably the most risky for investors. The country is a basket-case in many ways. It has appalling social problems including high levels of alcoholism, HIV infection and suicide. And while surveys suggest that the Chinese population seems largely comfortable with the idea of capitalism, ordinary Russians seem to pine for the good old days.

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Source: How the Cheap Money Era Led to the War in Georgia

The rebound was driven by a slump in crude oil prices (partly down to a leap in the dollar), which has pundits on both sides of the Atlantic getting excited. Lower oil prices, means lower inflation, which means lower interest rates, they argue. And it also reduces one of the pressures on consumer spending.

So can the collapse in oil prices save the economy from recession? Sadly not. The rising oil price was a symptom, not a cause, of the unchecked global boom that lead us here. And the fact that it’s falling now is merely a sign that we’re already in the grip of a huge downturn…

Why falling oil prices won’t save the economy from recession

The main reason why falling oil prices won’t save the global economy is that high oil prices were never the problem in the first place.

Oil prices rose for many reasons. Pure demand was one reason, as more and more people used less and less energy-efficient cars, more people took flights, more industries were set up, more goods were made, etc.

Supply was another, as low oil prices meant that oil companies didn’t invest in finding more. That means it takes a while to catch up by the time prices have shot up far enough to encourage new investment.

And speculation has definitely played a role. The jury is out on the precise mechanism by which pure investment money has had an impact on oil prices, but it seems madness to suggest that you can pump all those extra billions into a market without having some effect on it.

At least two of these factors – demand, and speculation – have been driven to a greater or lesser extent by the availability of cheap money. Commodities have been turned into consumer goods in the East, which were then bought with borrowed money by the West. The East then used this money to build more factories to make more consumer goods, which the West then bought with more borrowed money, much of which also came from the East.

But the days of cheap money are gone. And so it seems, are the days of rocketing oil prices. A barrel of crude is trading below $120 now, after peaking at just above $147 earlier in the year.

None of the central banks is serious about fighting inflation

Now what’s the good news? Well, a fall in the oil price might help to prevent the inflation problem from growing any worse, certainly. That’ll allow central banks to cut interest rates, say the pundits, and we can then set the whole ball rolling again.

But the idea that central banks even care about inflation is a farce. The European Central Bank puts up the best front of all the major central banks, but none of them is serious about fighting inflation.

For example, by holding the base interest rate at 5%, while inflation keeps rising, the Bank of England has been allowing real interest rates to fall for months now. If Consumer Price Index inflation hits 5% as many analysts believe it will by the end of the year, we’ll have our very own zero interest rate policy here in the UK.

Meanwhile, in the States, the Federal Reserve has already slashed nominal interest rates to 2%, which means that real interest rates have been negative for some time (headline annual CPI inflation in the US is standing at 5%). So central banks have been doing as much as they can to loosen monetary policy – yet it hasn’t helped matters.

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Source: The Slump in Oil Prices is a Bad Sign

Hedge fund manager Crispin Odey has paid himself £28m after his hedge fund made £55m from betting against the sector. And well done to him. After all, plenty of banking executives got hefty bonuses last year for losing money, so people can hardly complain when someone gets a bonus for actually doing his job competently.

Now Mr Odey was apparently a bit early in his call. “We had a very average 2006 because he was positioned and it wasn’t working yet,” Odey Asset Management chief executive David Stewart told The Telegraph.

But it shows that it’s not true that no one saw the credit crunch coming. Sure, we may not have known exactly how the blow-up would manifest itself. But it was obvious to many people in the City and on Wall Street that something had to give.

The bad news for the banks is that it seems Mr Odey reckons there’s still a lot of money to be made from betting against them

There is more weakness ahead for the banks

Sources “close to” Odey Asset Management tell The Telegraph that “we can see why there might be a rally [in banking stocks] in the short term, but in the longer term we see more weakness ahead. Banks will need a lot more capital.”

It is certainly going to be tough out there. HSBC (LON:HSBA), one of the most resilient banks of the past year, reported more write downs yesterday (see: Why there’s more bad news to come from the banks for more). But perhaps the most worrying aspect of its results statement was its warning on the outlook for Asia.

Banks with emerging market exposure have been seen as sheltered from much of the carnage. But as HSBC chairman Stephen Green put it: “I don’t believe the emerging markets have completely decoupled. There is no way a serious downturn in the US will leave Asia immune.”

The group still expects the region to grow, but “with less momentum than in the recent past.” Profits at its Hong Kong unit fell 8% to $3.1bn, where “it is apparent that corporate activity in some sectors is slowing.”

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Source: There’s Still Money to Be Made from Banks