Since August we have been overwhelmed with nothing but bad news from the sub-prime mortgage front and from the global liquidity arena. The news and events since August have been almost enough to make people admit defeat. And that is precisely the discussion I had with a gentleman from Wachovia Securities whilst in Cancun recently at the FAMMS Conference.

The terminology we bantered about was the phrase “liquidity trap”. A liquidity trap tends to occur in an economy when financial intermediaries are not willing to lend to each other. Consumers scale back their spending even though interest rates remain favorable. Financial markets tend to then suffer (just ask the Japanese who endured a decade long liquidity trap). And a liquidity trap is precisley what we may be facing now.

Banks are sitting with off-balance sheet assets (the true extent of the SIV's still is unclear) and the economy is waiting for the “other shoe to drop” as it were. Consumers are starting to scale back in the face of a weakening housing market and the financial markets are up one day and down the next as uncertainty prevails. A recent report on BBC even suggested that 34% of sub-prime mortgages are going into default in the USA.