Financial Discussions

General Motors’ Appeal to Bond Holders Failed

General Motors, failed to save itself from bankruptcy after the deal to swap bonds for stocks fell through. The deal that was offered to bond holders on Wednesday would give out 10% of the company’s stocks in exchange for 27 billion dollars of bond debt. However, not enough bond holders came forward, instead choosing to leave GM to its apportioned fate. GM has until June 1, 2009 to complete a chapter eleven restructuring as ordered by the Us government ; however, that scenario seems very unlikely now. Although the number of bondholders who accepted is unreleased, the acceptance quota that had to be met in order to qualify for a US loan was 90%. GM shares tumbled lower as news of the failed deal hit the markets. GM stocks are trading at 1.21 at the time of this post.

I think the reason most bond holders did not accept the deal is because they either have bond insurance or feel that the amount of stock being offered is inadequate given the risks associated with the company. GM’s bankruptcy would make it one of many companies to go down from this recession.

UNG Abandoned Baby Candlestick Pattern Failed

The pattern I posted about on Sunday did not form. The market opened, and UNG opened down. That was the end of the abandoned baby candlestick pattern.

Although it did manage to get back up to 13.75 despite the downward gap. It is also at all time lows. Sorry for the late update, I lost my cable internet due to thunderstorms in my area.

Why Interest Rates are Important

Most people think that they understand interest rates, when in reality they do not. The interest rates you receive at a bank is more than just a number. They are extremely important, and without interest rates our economy would be more of a roller coaster than it already is. In economic terms, the interest rate is the cost of holding money.

Now your probably thinking…”It doesn’t cost me anything to hold my money! Look its here in my wallet safe and sound!”

WRONG!

Because the money is in your wallet, it is not in your bank account. That means it is not earning interest. You are willingly sacrificing that interest to hold the money in your wallet. Now, this isn’t a big deal when interest rates are 1%, but if interest rates are higher, people will think twice about making big investments or loans.

Putting it All Together

Interest rates pay an important role in controlling the economy. The Fed can turn interest rates up or down in order to control the amount of money invested. By turning interest rates up, they slow investment because the opportunity cost of not investing shrinks. Confused? Let me try an example.

Suppose you are an investor who has 100000 dollars and a yearly return on investment of 15%. These investments are relatively safe but there is a chance of failure. Also suppose that banks are paying 3% interest on a high yield savings account. This means that in one year, you would make 15000 dollars investing or 3000 dollars from the savings account.

That difference of 12000 dollars is enough to make most people risk their money investing.

However, what if the Fed wanted to slow down investing and raised interest rates to 8%? Then the savings account would net you 8000 dollars, while your investments still only net you 15000. Now the difference between the two is only 7000 dollars. Less people would be willing to invest at this new, higher interest rate. The opposite is said to be true when the Fed decreases interest rates.

Why Would the Fed Want to Slow the Economy Down?

The most basic answer is to control inflation and market cycles. When an economy is left alone during good times, money can move around so fast that inflation becomes an issue. In this case, raising interest rates can help keep money in bank accounts instead of being spent.

Why isn’t Obama’s Spending Spree Causing Inflation?

Normally, such an influx of money would cause severe inflation. However, in this case although money is being pumped into the economy it isn’t moving around. Most people are using the extra money to pay off thier loans and bills instead of spending it on goods. This means that the money from the stimulus package went straight back to the banks. The inflation is still there but it is on hold. This concept is what economists call the velocity of money. Don’t worry inflationists your time will come.