Its really important to understand that much of the 2002 to 2007 bull market was built on excessively high levels of borrowing by banks, private equity firms, corporations and hedge funds. These companies then went on a buying spree, grabbing natural resources, stock, even entire corporations. Unfortunately, the borrowed money came from countries with weak currencies and low interest rates, and was leveraged up even more with complicated credit derivatives.



Which brings us to todays investing environment. The situation has not only completely disappeared, it has gone in a completely opposite direction. Rather than borrowing money, these groups now find themselves struggling to pay their debts. The result: no more leveraged buyouts or major share buy-backs. Suddenly, a vital leg (liquid capital) has vanished from the market.

The bubble has burst. Some might say again, but well leave that for another day. Leverage is a powerful tool when its working in your favor, but when the deck suddenly goes against you, leverage can be absolutely lethal.

The problem is, as soon as a credit bubble bursts, theres no going back, no magic way for it to be re-inflated. And while the average investor might not see that as particularly important, the implications stretch far beyond the banks and brokerages. After all, most companies depend on credit to expand.

An absence of credit remove all the potential life out of real businesses and investments.

Essentially, the collapse of the credit market has impacts far beyond the banks and hedge funds. In fact, it doesnt stop at the credit market, or at the stock market. The absense of available of credit is an unqualified catastrophe. And whats worse, the situation cannot easily be remedied by central banks efforts to dump cash into the monetary system. A robust credit system doesnt just rely on liquidity after all, its also about confidence. Central bankers can create money, but that doesnt mean the banks have to lend that money out.

Ultimately, this affect every single investor. As equity investors, we are looking for companies to grow, to expand, to improve. Without access to credit, that process becomes a whole lot more difficult. Which makes it even harder for us to really excel in the stock market.