(Continued from last week.)

As we walked, recounting our day’s adventure, I began to wonder. When we were in the ditch and our pursuers were standing just across the fence considering their next move, did anyone (besides me) seriously consider making a solo run for it – bolting from the ditch and heading across the hay field? Doing so would divulge the location of the others, but even if they also ran at that point, they would be a few steps behind and were almost certain to get caught. And, that would occupy the pursuers, further assuring the success of my dash for freedom.

So, I asked. To a person, they all admitted to considering running. Most confessed that they almost did run. But, none did. They realized, even at that young age, that to do so would have cost them their “membership” in the group, and would have caused great pain and hardship for the others (and maybe even for themselves ultimately when the others turned him in). If we just stayed together and didn’t flinch, we would retain each other’s respect, and we would all have some chance, at least, of coming out unscathed.

And, that, as you know, was exactly what happened. The sheriff’s decision not to “lay down the law” extended our good fortune. We knew how lucky we had been, and we certainly learned a thing or two about life, and about ourselves.

We made it home safely, by the back roads and alleys. Once there, we suffered the expected parental wrath (muted somewhat by their recognition that “boys will be boys”) for nearly ruining our shoes “playing Army in the ditches.” We all promised never to do it again. And, we never did.

Why relate this story here? Because it has some striking similarities to what is going on in the investment markets. Some investors’ hunger for maximum returns (greed) got them into trouble. They had invested in high yielding subprime mortgage-backed investment pools, and with the housing market rolling over, the mortgages began to default – more and faster than they expected. The value of the investment pools declined. How much? No way to know. Until all the underlying mortgages are extinguished by normal retirement, refinancing, or sale of repossessed property, the amount of the decline can only be estimated. And, with this great uncertainty, no one has been willing to buy these mortgage pools at any price.

Initially, the financial pain could very possibly have been modest, and limited to these direct investors (and the strapped homeowners, of course). But, they had borrowed extensively to buy more and more such weak paper. They were up to their chins in leverage, and now mostly under water. So, as the problems grew, the concerns spread beyond the direct investors to their lenders and others, and they all wanted out.

But, they couldn’t all get out at once. And, they knew they shouldn’t even try. If nobody ran and they all waited patiently for the scenario to play out, the damage could be minimized. The investment fraternity could save itself a lot of money and avoid a lot of anguish if all its members could just stick together.

Nice thought. But, unlike our covey of pre-teen boys, the markets don’t work that way. In fact, they won’t work that way. For markets to function – to correctly (most of the time) price whatever is being traded – everyone in the markets must be trusted . . . to do whatever is in their own best interests. So, instead of sticking together, investors generally prefer sticking each other. It’s every man for himself (neutral gender intended). If running for the woods appears to be the best option, they’ll run for the woods.

And, then there are “the authorities.” Typically, well after the excesses have developed and the bubble is already leaking, they arrive to do what they should have done before the problems developed. By then, the “fix” exacerbates the problems, hastening and deepening the damage. Rating agencies, regulators, and the congress all seem to be particularly adept at this. Where is the wisdom of the county sheriff when you need it?

I do have to acknowledge that some of the players this time – besides the world’s central banks – have made valiant and partially successful attempts to limit the damage. The fraternity of big Canadian banks were the first to act by voluntarily extending due dates of loans to strapped borrowers. Some mortgage lenders are beginning to do the same. The prime motivation is not eleemosynary, however. They are willing to restructure the debt only because it improves the chances of getting their money back. If the problems are as extensive as they appear, though, this won’t prevent the inevitable; it will merely allow it to play out in slow motion.

So, when the Bear Stearns hedge funds were initially being kept afloat by another injection of capital and their lender’s good will (not immediately calling their loans and liquidating the fund), more and worse news was almost a certainty. Such attempts to make faltering investments look secure rarely work for long. Eventually, there is always someone unwilling to play along. They see the ruse and choose to save their own skin. In this instance, the authorities are doing their part, too, tightening lending standards just as thousands of struggling homeowners and hedge fund borrowers need to refinance their loans.

How bad will it get this time? How long will it last? The initial explosion of market volatility indicated that the ultimate outcome was very uncertain. The recent relative (and, I would say eerie) calm indicates a growing belief that market participants and regulators have been and will continue doing the right thing.

We’ll withhold our judgment. Just as boys will be boys, we expect that markets will be markets. Someone will bolt, or sneeze, or surrender. We’ll just have to await the next chapter to know who and how much pain and suffering their actions will trigger.