Monday, September 29, 2008

Some questions just stay asked

The Economist on Bank failures –

"…The money markets are a bit like the sewers of the financial system: in normal times, nobody notices them but when they get blocked up, the stench is abominable. And they are severely congested at the moment. The good news is that, unlike last week, it is possible for banks to borrow overnight at a reasonable rate. The bad news is that borrowing at longer rates is either impossible or prohibitively expensive.

…It is, indeed, unfair that banks tend to be rescued when they go wrong whereas coal mines and shoe retailers do not. But banks play a key role in oiling the system; they provide the credit that lets the rest of us do business. They also have innate risk; because they lend more money than they have cash in hand. To put it another way, they borrow short and lend long. This has made them the subject of panics throughout history, and those panics have always led to economic turbulence. The authorities can let them go bust, but the risk is depression. Or they can hold their noses and bail them out.

…And there will be more crises in future. Now that investment banks are part of commercial banks, we have returned to the risks that characterized the system before the Glass-Steagall Act of 1933—specifically, that reckless investment banks can fritter away retail depositors’ money. And what will we have to do if that happens? Bail them out again."

In short, the article says banks should be bailed out because if you don’t it leads to depression. Not because they deserve it, Ha! The banks fail because of mismatch of maturities; they borrowed short to lend long. But how do tax payers care? These banks didn’t fetch them a penny when the going was good. Now when they go belly up, why should they care?

No answers. Some questions just stay asked.

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Saturday, September 27, 2008

Hank Paulson kneels; Condy Rice ducks

News. Condy Rice rushing to douse the fire in the old ally’s barn even as she has her own forest fire to deal with. Makes sense. Barn fires in the neighborhood can be put off with a good sprinkling of water. Forest fires die a slow death. Henry Paulson has already knelt down before Ms.Pelosi – No go?

Condy Rice is wise. She fled the scene of the flames to help the fraternity!

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Monday, September 22, 2008

Where will they find the $700 billion?

I don’t really know who else read my previous post. But seems folks at NY Times certainly have. Hardly a day had passed, here they throw up an elaborate Q&A

Read and figure !

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Saturday, September 20, 2008

Why just the FM twins, why not Lehman?

So the US government okays a $700 billion bailout package for its distressed financial institutions.

I began to think about the nature of the lifeline. What exactly does a bailout mean? Will the US treasury buyout bad assets and refinance the failed lenders so that they can resume business? Will it float a freshly funded SPV to absorb the bad assets, clean up the muck from the rogue lenders’ books and then eventually sell them? Or will the Fed just go and print fresh notes equal to $700 billion and honor the bonds as they come back to collect?

I look up federal bailout history. The handling of the great depression of 1930’s, the savings & loan scandal of 1989 and a few other. Nothing has been this big. Even more were allowed to go under. They were just not qualified for a bailout, bit like Lehman Brothers.

So where did Lehman goof up? Why only the FM twins (Fannie Mae & Freddie Mac), Bear Stearns and Merrill Lynch? What gives?

To be eligible for a bailout, firms must also demonstrate a particular genius for screwing up. Before it went bust, Bear Stearns had a monstrous $33 of debt for every dollar of capital, and hedge funds it owned destroyed hundreds of millions of dollars of clients' cash. It got a bailout.

Financial intermediaries like Bear Stearns and the FM twins function like the heart of the global financial system. If they go into cardiac arrest, the whole body is in danger. Since Bear Stearns was a counterparty to (and guarantor of) trades and financial arrangements with the world's major financial players, its failure would have triggered a cascade of losses. In the same vein, huge quantities of the $5.4 trillion in debt issued and insured by FM twins sit on the balance sheets of central banks and financial institutions around the globe. For the U.S. government simply to let this debt — which it had been implicitly backing for decades — go bad would have meant inflicting severe damage on America's most significant diplomatic and trading partners. Fannie Mae wasn't too big to fail, it was too Chinese to fail.

So now I get it. To be eligible for a bailout it’s not enough to be just too big. Screw it up real bad that it should threaten the global financial system. So much so that the ensuing stress on financial markets should mean massive job losses, devastated retirement accounts, further erosion of asset values and absent loans – not just in your country, across the world.... New world order, period.

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Thursday, September 18, 2008

"Game over, guys"

Humor is a great pain killer. Global investment banks fold up overnight, putting the light out of so many lives, destroying ever so many dreams – how long can one sulk?

When the going gets tough, the tough start laughing. So I mangle Winston Churchill a bit : “Never in the field of global finance was so much damage done to so many by so few.”

At a Lehman counseling center - “Ok guys, buckle up. Game over. But life still remains. There are so many opportunities on your way down as there are in the way up. Ideas?” After a brief pause, pat came a lark “Action replay?”

Can’t let go off memories of life at Lehman, huh…

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Thursday, September 11, 2008

Out of the woods? Not yet!

David Rosenberg, an economist at Merrill Lynch who called a U.S. recession early now says low crude prices need not trend towards accelerated growth or profitability across the board. It could just mean the reverse.

In support, Rosenberg brings out an intriguing “four horsemen” theory. To quote The Economist-
“He says the recent decline in energy prices is a “symptom of demand destruction” that has dire implications for overall profitability. Mr. Rosenberg has just written a gloomy report identifying “four horsemen” that will do their worst to American corporate profits: thinner profit margins; paying down debt as tighter financial conditions take their toll; lower energy prices; and a combination of slowing growth outside America and a stronger dollar. He predicts 7% falls in profits for firms in the S&P 500 both this year and next.

The list of troubled firms has now extended far beyond the housebuilders and building-supplies firms that were the first casualties of the subprime-mortgage crisis to include retailers, casinos, publishers and cable-TV companies, points out Martin Fridson, a veteran observer of corporate bonds. Companies with distressed debt now include such household names as Delta Air Lines, Clear Channel, Toys “R” Us and Reader’s Digest. There would already have been more high-profile bankruptcies, points out Mr Fridson, except that at the peak of the credit bubble some of today’s more troubled firms managed to borrow “covenant lite” debt that makes it harder for creditors to demand their money back. But that seems likely to delay only briefly the arrival of the Grim Reaper.

All right guys… So are we in Sir John Templeton’s “moment of maximum pessimism”? Are we finally out of the woods yet? Nobody seem to have an answer, at least not for now !

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Tuesday, September 09, 2008

What's left in Wall Street?

Bear Stearns, Merril Lynch, Citicorp, UBS, Washington Mutual, Fannie May, Freddie Mac and now Lehman Bros. What’s left in Wall Street?

Waves of selling wiped out nearly half of Lehman’s value in the stock market on Tuesday, leaving the firm, one of the nation’s oldest and largest investment banks, in an all-out fight for survival.

“He [Richard S Fuld, Jr., CEO of Lehman Bros] is dealing as if he has a whole deck of cards, when as he has none” – NYT reporters quoting a banker who has had recent dealings with Lehman, representing a potential foreign buyer.

How long can they live in denial?

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Monday, September 08, 2008

After bailout, comes the default

If it was the massive bailout last Sunday, it seems all that prayers in the Church may not have worked. Now here is what it triggered – a massive CDS default

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Sunday, September 07, 2008

Fannie-Freddie Mae-Mac

This is the third time this year that the US authorities have made a big policy announcement – seizing control of battered mortgage behemoths Freddie Mac and Fannie Mae - on a Sunday. The first, on March 16, provided emergency support by the Federal Reserve to investment banks. It generated a rally in global markets that lasted only two months before grim reality set in again.
The second, on July 13, signalled that the government’s wallet stood behind Freddie and Fannie. This yielded market relief for just a month. In both cases, the affected segments of the US economy did not have enough time to clean up the debris and start the rehabilitation and reform process.

It just means de facto government control, though the Bush administration had been careful in not using the word Nationalization – in the US they call it `bailout’. Fannie and Freddie have $5,400bn in outstanding liabilities and guarantee three-quarters of all new US mortgages.

The objective - to bring down mortgage rates and ease financial market stress by making it clear that debt securities issued by these firms are safe since the US government will not allow either of them to fail. Outright government buying of new Fannie and Freddie mortgage-backed securities, plus increased government financial support for the companies should bring down spreads on the securities they issue, reducing the cost of mortgages.

These are days like never before. Let’s see if the levees hold!!!

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