PLATFORM:The subprime lending situation in the US just won't go away. Last month, Bear Stearns extended credit to two of its hedge funds which had borrowed heavily (or leveraged as they prefer to put it) to invest in collateralised debt obligations (CDOs) - securitised packages made up of subprime mortgages.

With the cycle of interest rate hikes in the US continuing to push some borrowers into default, the value of the CDOs dropped.

Investors in the hedge funds, seeing the value of their holdings diminish, began to exit the funds which, of course, had the knock-on effect of driving the values lower still.

This, in turn, caused the banks, which had extended credit to the fund managers so that they could leverage their position, to demand repayment.

On the basis that the fund managers couldn't repay, the banks would have liquidated the collateral which would have caused the funds to go into meltdown.

In order to avoid this possibility, Bear Stearns decided to bail out the funds by extending $3.2 billion to keep them going - a short-term measure at best.

The market has also been eyeing up the exposure of Canadian Imperial Bank of Commerce (CIBC) to the subprime market and the trade newspaper, Barron's, recently suggested the bank's exposure could be more than $2 billion.

CBIC has rubbished these reports and has stated that it doesn't expect "material losses" on its CDO positions. (Although it did qualify that by saying that their view was based on no further significant downturns in the value of US subprimes.)

The whole issue has become extremely murky and potentially cataclysmic.

In an era of easy credit and rising house prices, the banks were chasing profit by involving themselves in the subprime market. Everyone knew that there would be problems in a tighter credit market but the returns were so good in the meantime that nobody wanted to rock the boat.

And the truth was that they couldn't afford to. Bubbles happen because caution is rarely rewarded by shareholders.

Analysts estimate that about a trillion dollars of securities were issued over the past two years alone to fund borrowing in the subprime market and the losses involved could exceed $100 billion - enough to make investors very uneasy indeed.

The US isn't the only place where there are concerns about subprime lending. In the UK last week, the Financial Services Authority announced that it had found widespread weaknesses and failings in the selling of mortgages by firms it had investigated, and it expressed concern that mortgages were being extended to people who simply couldn't repay them.

The FSA is worried that the lenders under investigation hadn't checked the information given to them by borrowers and had not covered "responsible lending considerations". As a result, the FSA has begun action against a number of firms in the sector.

Investors are now worried that the UK may have a latent subprime problem to mirror that of the US. Making its own assessment of the sector, Barclays has decided to exit the subprime market altogether and has tightened lending criteria across the board.

It appears that, with first-quarter bankruptcy levels in Britain at their highest levels since records began in the 1960s, they've finally discovered their old credit criteria manuals!

Back in the US, legislators are introducing Bills to protect borrowers from "predatory lending" and stop lenders from writing mortgages for people who they know simply cannot repay them.

According to the Mortgage Bankers Association, nearly three-quarters of a million foreclosures were initiated in the first quarter of this year and defaults are at their highest level in five years.

The financial markets will continue to worry about the impact of subprime losses and the knock-on effect on the market as a whole.

But it is ironic that banks like Bear Stearns are currently bailing out their hedge funds and, by extension, their well-heeled investors. Hedge funds are the designer brand of financial investments and their investors are people who are used to the best.

In order to invest in a hedge fund at all, you need to show that you hold a significant amount of assets. It seems that the checks and balances for putting your money into hedge funds are higher than those for the people who took out subprime mortgages in the first place.

If a hedge fund goes belly-up, the star traders have to admit that their model wasn't so clever after all and people who can afford to lose money do lose money.

But for the people behind the collateralised loans the implosion of the subprime market has much deeper consequences. The banks don't bail them out. They just take their homes. And the hedge fund traders don't even notice.

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