Thursday, July 31, 2008

Debt Rattle, July 31 2008: Oh Boy, Oh Boy!

Uncle D. stars in Der Fuehrer’s Face 1943

Ilargi: Oh boy. Oh boy!

Say what you will, the Lords of the Crumbling Manor are moving fast. Everyone was still letting the Fannie and Freddie free money and covered bonds-related issues sink in; Well, Move Over. The Lords have come up with an infinitely bigger and potentially more harmful plan:

Now the FDIC gets access to the Fed’s discount windows. Why do I think it’s getting just plain spooky when government institutions (and that’s what the FDIC is) start to engage in emergency lending from a country’s central bank?

Yes, I know the FDIC has very little in assets; I have warned about that for ages. But come on, this just makes everything worse. The FDIC takes over banks that are insolvent, not temporarily illiquid. And the discount windows provide liquidity, short-term and -supposedly- only in emergencies. Nothing about them says solvency, for good reason.

What is Sheila Bair going to do with TAF flows? Pay off those "guaranteed" deposits when banks fail? Let’s hope and pray she does not.

And what is the next step now? Are we going to fund Social Security through these windows too? Is General Petreaus going to finance his fighter jets through them? Someone please tell me where we can expect to end up, once we’re on our way down this road.

In the past few years, whenever I’ve softly and purely hypothetically suggested that perhaps the Lords of the Manor are not trying to save the economy and the country, as is generally and unquestioningly assumed, but that in reality they’re deliberately gutting and liquidating the financial structures, people have always laughed. That, they feel with unrelenting conviction, can not be true.

Well, maybe it’s getting to be time to revisit that option once more, purely hypothetically. Every single step the Lords have taken in the last 25 years has made matters worse for the citizens. That is either an amazing string of failures or an unparalled success rate.

Fed Loans to Failed Banks Made Easier by Fannie-Freddie Rescue
The Federal Reserve will be able to lend more easily to failed banks under government control because of a provision in legislation that bailed out Fannie Mae and Freddie Mac.

In the rescue signed into law by President George W. Bush yesterday, the Fed will no longer have to pay penalties on loans it makes to institutions taken over by the Federal Deposit Insurance Corp. The measure may mean more use of the central bank's balance sheet to prop up the U.S. financial system, after the Fed began lending to investment banks in March, analysts said.

The FDIC has taken over seven banks this year, with 90 on a watch-list of troubled firms as lenders are hit by the surge in credit losses. "We are pushing forward the line on what the government will backstop, and what the Federal Reserve will backstop," said Vincent Reinhart, former director of the Fed's Monetary Affairs Division who is now at the American Enterprise Institute in Washington.

Fed officials yesterday also extended their two lending programs to Wall Street through January, after judging that markets are still "fragile." The Federal Reserve Act's Rule 10B penalizes the Fed for loans to undercapitalized institutions exceeding specific time periods. The original provision was aimed at preventing the central bank from keeping failing banks open.

The exemption in the new law, which was requested by the FDIC without objection by the Fed's Board of Governors, was aimed at making clear that once banks are taken over by the FDIC, capital rules no longer apply because they are effectively owned, operated and in liquidation by the government.

"It is more of a clarification," said FDIC spokesman Andrew Gray in Washington. "It removes any ambiguity from the current statutory language." For some, the exemption opens up the Fed to more political pressure to lend to government agencies, instead of forcing Congress, the FDIC, or the Treasury to explain to taxpayers why they need more money.

"Once the Fed starts lending to a bridge bank, or indirectly to the FDIC, where is the incentive to ever stop?" said Walker Todd, a former Cleveland Fed attorney and visiting research fellow at the American Institute for Economic Research in Great Barrington, Vermont.

The FDIC had $52.8 billion in its deposit-insurance fund as of March 31. The FDIC could raise more money by tapping a $40 billion credit line it has with the U.S. Treasury, increasing assessments on its members, or turning to Congress.

"Like any open depository institution, there will be short-term borrowing needs by the bridge bank," which may need to "tap the discount window," Gray said, referring to the name for the Fed's direct loans to commercial banks. "Longer-term borrowing needs would typically be met by a loan from the FDIC."

The Fed enjoys wide discretion in discount-window lending, and demands collateral, sometimes in excess of the loan's value, to insure against the risk of default. A request by the FDIC could always be rejected by the central bank. Still, the removal of the penalties may open up the Fed to more political pressure, possibly encroaching on its independence, analysts said.

"Why should they be doing it?" said Robert Eisenbeis, former Atlanta Fed research director and now chief monetary economist at hedge fund Cumberland Advisors LLC. "The whole idea" of the rules in the Federal Reserve Act is "to make it costly and difficult to support an insolvent institution."

This month, the Fed board voted unanimously to allow direct lending to government-sponsored housing agencies Fannie Mae and Freddie Mac "should such lending prove necessary," at the request of U.S. Treasury Secretary Henry Paulson.
Yesterday the central bank extended until Jan. 30 the Primary Dealer Credit Facility for direct loans to securities firms and the Term Securities Lending Facility for loans of Treasuries, both begun in March.

The programs will be canceled when the Fed deems that markets "are no longer unusual and exigent," according to a statement from the central bank. The Fed will start auctions of options of as much as $50 billion in the TSLF on top of the $200 billion program, which loans Treasuries to securities firms in exchange for asset- backed securities and other collateral.

New York Fed officials plan to consult with the primary dealers of U.S. government bonds on the TSLF options program, the district bank said in a statement yesterday. The options plan is aimed at providing liquidity for two weeks or less surrounding key financing periods to be identified. Further details are planned on or before Aug. 8, the New York Fed said.

FASB Delays New Rules On Off-the-Book Vehicles
Accounting-rule makers will delay by a year proposed changes that could force banks and other financial firms to take onto their books certain off-balance-sheet vehicles that played a central role in the credit crunch.

The Financial Accounting Standards Board initially decided that the rule changes should take effect starting next year for new structures that companies may want to keep off their books, but not until 2010 for existing ones. Following calls from companies and legislators that companies needed more time, the board on Wednesday agreed to make the changes for both new and existing structures effective in 2010.

If adopted, the rule changes could have a significant impact. Citigroup Inc. alone has more than $700 billion in assets in vehicles that it may have to bring back onto its books under the changes. The proposals also have sparked concern that Fannie Mae and Freddie Mac could have to consolidate trillions of dollars in mortgage assets, but the firms already account for these securities.

FASB Chairman Robert Herz said he was reluctant to delay the changes because many companies had abused existing standards to improperly keep vehicles off their books. The board initially tried to tighten the rules for off-balance-sheet vehicles in the wake of the Enron Corp. collapse earlier in the decade, but banks and others found ways around the rules.

Many observers believe that off-balance-sheet vehicles used by banks and others helped fuel the excesses of the housing boom. But Mr. Herz said he agreed to the delay after consulting with investors who said they would prefer a single start date for any rules change.

A delay raises the prospect that banks and others will have more time to try to beat back the proposed changes. The changes will be significant because they will make it more difficult, and in some cases more expensive, for banks and other financial firms to use off-balance-sheet vehicles to sell off, or securitize, assets.FASB must still put out a draft of the proposed rules changes and, after a period of public comment, give final approval.

U.S. Recession May Have Started at End of 2007, Revisions Show
The U.S. economy may have tipped into a recession in the last three months of 2007 as consumer spending slowed more than previously estimated and the housing slump worsened, revised government figures showed.

The world's largest economy contracted at a 0.2 percent annual pace in the fourth quarter of last year compared with a previously reported 0.6 percent gain, the Commerce Department said today in Washington. Growth for the period from 2005 through 2007 was also trimmed.

The revisions now reinforce measures such as employment and production that already signaled the economy was shrinking. The government also said incomes grew less than previously thought, raising the risk that consumer spending will again stumble after getting a temporary boost from the tax rebates last quarter.

"It was a weak quarter before and it remains a weak quarter," Steven Landefeld, director of the Commerce Department's Bureau of Economic Analysis, said during a press conference this week, referring to the fourth quarter of 2007. He said the overall revisions "maintain the same general picture" of the economy.

The previous time the economy contracted was in the third quarter of 2001 during the last recession, when it shrank at a 1.4 percent pace. Growth from January through March was revised down to a 0.9 percent pace from 1 percent. The revisions are part of the government's annual adjustments to gross domestic product based on additional information from surveys and Internal Revenue Service data. The changes in this year's report go back to the first quarter of 2005.

For 2005, growth was cut to 2.9 percent from 3.1 percent, and the rate of expansion for 2006 was reduced to 2.8 percent from 2.9 percent. The economy grew 2 percent last year, down from a previously reported 2.2 percent. Nine of the 13 quarters under review were revised down, three increased and one was unchanged.

The largest downward revision was for the last three months of 2007, as the previously reported 2.3 percent gain in consumer spending was reduced by more than half, to 1 percent. Americans cut back on the use of electricity and gas as fuel bills soared.

The largest upward swing, from 3.8 percent to 4.8 percent, was for the second quarter of last year. The figures also showed the housing slide that began in 2006 was worse than previously thought. Residential investment fell 32 percent in the two years ended in December 2007, compared with a prior estimate of 29 percent.

The popular definition of a recession -- two consecutive quarters during which the economy shrinks -- isn't always fulfilled. The National Bureau of Economic Research, the Cambridge, Massachusetts-based arbiter of economic cycles, defines a recession as a "significant" decrease in activity over a sustained period of time. The declines would be visible in GDP, payrolls, production, sales and incomes.

"While everyone focuses on GDP, keep in mind that it is not the only barometer of economic activity," David Rosenberg, chief North American economist at Merrill Lynch & Co. in New York, said in a July 28 note to clients. Growth "is subject to huge historical revisions."

The four other factors that the NBER takes into account, Rosenberg said, peaked between October 2007 and February 2008. "We think the recession actually began in January," he said. The NBER usually declares a recession has started between six to 18 months after it's begun, according to its Web site.

U.S. Economy Grew Less Than Forecast Last Quarter
The U.S. economy expanded less than forecast in the second quarter as the drag from housing and rising unemployment blunted the impact of federal tax rebates.

The economy grew at a 1.9 percent annualized rate from April through June, after a 0.9 percent pace in the first quarter that was smaller than previously estimated, the Commerce Department said in Washington. The report also contained annual revisions that lowered the growth rate back to 2005 and showed gross domestic product contracted in the last three months of 2007.

Stock-index futures dropped and Treasuries rallied after the figures raised the odds that the U.S. has entered a recession. Growth may weaken in the second half as unemployment increases, with government figures tomorrow forecast to show a seventh straight month of payroll declines.

"As the stimulus spending wears off, with the backdrop of a weak labor market, consumer spending will take a leg down," John Ryding, chief economist at RDQ Economics LLC in New York, said before the report. "That's when you might get a conventional GDP recession."

Yields on benchmark 10-year notes fell to 3.97 percent at 8:41 a.m. in New York, from 4.05 percent late yesterday. Futures on the Standard & Poor's 500 Stock Index declined 0.7 percent to 1,276.20.

The smallest trade deficit in seven years prevented the economy from shrinking again last quarter. The trade gap narrowed to a $395.2 billion annual pace, adding 2.4 percentage points to growth, the most since 1980. Excluding trade, the economy would have contracted at a 0.5 percent pace, the second decline in the last three quarters.

The annual benchmark revisions showed the U.S. may have slipped into a recession in the last three months of 2007 as consumer spending slowed more than previously estimated and the housing slump worsened. The economy shrank 0.2 percent in the fourth quarter last year, compared with a previously reported 0.6 percent gain.

First-quarter figures were also revised down to show a 0.9 pace of growth compared with a prior estimate of 1 percent, Commerce said. Economists had forecast a 2.3 percent gain in second-quarter growth, according to the median of 79 estimates in a Bloomberg News survey. Projections ranged from a 0.9 percent increase to a 4.2 percent gain.

The report is the first for the quarter and will be revised in August and September as more information becomes available. Declines in growth in the revisions are reinforcing the recession signals sent by the loss of jobs so far this year. Still, a downturn is unlikely to be officially declared for months to come.

U.S. Initial Jobless Claims Rise to Five-Year High
The number of Americans filing first-time claims for unemployment benefits unexpectedly rose last week, reaching the highest level in more than five years.

Initial jobless claims increased by 44,000 to 448,000 in the week ended July 26, from a revised 404,000 the prior week, the Labor Department said today in Washington. Economists in a Bloomberg survey had forecast a drop in claims. The total number of people on benefit rolls rose to the most since December 2003.

The figures add to concern that consumer spending will falter as employers slash positions to cope with increased fuel costs, the housing slump and tighter credit. Separate government report showed the U.S. economy shrank at the end of last year and grew less than forecast in the second quarter of 2008. A report tomorrow may show payrolls declined in July for the seventh consecutive month, a Bloomberg News survey showed.

"We're definitely looking for more contraction in the labor market," Jeffrey Roach, chief economist at Horizon Investments in Charlotte, North Carolina, said before the report. "The risk for dramatic cutbacks in employment will be focused in the financial services industry."

Initial claims were forecast to fall to 393,000 from the 406,000 initially reported for the prior week, according to the median projection of 40 economists in a Bloomberg News survey. Estimates ranged from 375,000 to 440,000. The total number of initial filings last week was the highest since April 2003.

A Labor spokesman said the weekly increase in claims was partly attributed to workers who had been in the program until their benefits expired or they found work. Some of those workers who have since lost their new jobs reapplied, and instead of getting extensions were eligible for regular unemployment insurance, the spokesman said.

Weekly filings may be higher for several weeks as more workers apply for extended unemployment claims and find that they're eligible for regular benefits, the spokesman said. The Labor Department's July payrolls report tomorrow may show the economy lost 75,000 jobs, and the unemployment rate rose to 5.6 percent, according to the Bloomberg survey median.

The four-week moving average of initial claims, a less volatile measure, gained to 393,000 from 382,000, the report showed. The number of people continuing to collect jobless benefits increased to 3.282 million in the week ended July 19, from 3.097 million the prior week. The weekly jump in continuing claims was the biggest since June 1998.

The unemployment rate among people eligible for benefits, which tends to track the jobless rate, rose to 2.5 percent, from 2.3 percent. These data are reported with a one-week lag.

Massachusetts Charges Merrill Over Auction-Rate Securities
The Massachusetts Secretary of the Commonwealth charged Merrill Lynch & Co. with fraud in pushing the sale of auction-rate securities while "misstating the stability of the auction market itself."

"This company was aggressively selling ARS to investors and its auction desk was censoring the research analysts to make sure they downplayed ARS market risks in research reports up to the day Merrill pulled the plug on its auctions," Secretary William Galvin said. "They knew the auction markets were in trouble, but the investors were the last to know."

The complaint also alleges Merrill co-opted its research department to help sell the securities and seeks to order the brokerage to "make good" on the sales of now-frozen securities and make restitution to investors who sold at less than par.

Earlier this week, units of UBS AG disclosed they will pay $4.4 million to settle allegations from the state's attorney general's office that the bank misled cities and government agencies into investing in the troubled investment products.

The payment will come in addition to the roughly $35 million that UBS agreed to pay in May to Massachusetts municipalities and agencies. The Swiss bank didn't admit or deny wrongdoing in the settlement, which it said "represents the final step in the resolution of this matter with the Massachusetts attorney general." New York has also filed charges against UBS.

Auction-rate securities -- issued by municipalities, student-loan companies, charitable organizations and others -- are long-term securities that Wall Street engineered to have short-term features. Their interest rates reset at weekly or monthly auctions run by Wall Street firms.

The firms promised individual investors and corporate clients that the frequent auctions made these securities as safe and liquid as cash because they would always be easy to sell quickly. Thursday's complaint versus Merrill alleges the company had known for several months that the auction markets faced significant danger of collapsing.

In a personal email last November, one executive allegedly wrote, "The market is collapsing. No more $2k dinners at CRU," referring to a Manhattan restaurant. Yet about three months later, a research analyst told financial advisers the auction business represented a "good, conservative and reasonable investment."

Only five days later, Merrill decided to stop supporting the auction-rate securities, and most of the auctions failed the next day. The complaint alleges Merrill Lynch made about $90 million from the auction market in 2006 and 2007.

Earlier this week, Merrill agreed to sell more than $30 billion in toxic mortgage-related assets at a steep loss, hoping to purge its balance sheet of problems that continue to plague the giant brokerage firm.

Freddie Mac to Double Incentives To Servicers to Avoid Foreclosures
Freddie Mac, which has been stung by surging delinquencies, will double the financial incentives it offers to mortgage servicers that help borrowers with Freddie-owned loans avoid foreclosure.

The mortgage giant has struggled in recent months as federal officials have sought to reassure investors about its financial health and pressure mounts to raise fresh capital to offset the tumbling values of home loans it holds. Freddie shares are off 75% year-to-date and recently traded down 12 cents at $8.61.

Beginning Friday, compensation for repayment plans will jump to $500 from $250, while loan modification compensation will also double to $800. For preforeclosure sales, under which Freddie Mac accepts less than the full amount owed on a borrower's loan, compensation will increase to $2,200, up $1,000.

Freddie Mac, one of the largest investors in residential mortgages in the U.S., will also extend the time for foreclosures, so servicers will have more time to negotiate workouts with delinquent borrowers in Washington, D.C., and 20 states with relatively fast foreclosure processes. Servicers will be given up to 10 months from the due date of the last payment to the foreclosure sale.

"Giving our servicers more time and greater compensation to help troubled borrowers is fundamental to preserving homeownership and maximizing our efforts to minimize foreclosures," Vice President of Servicing and Asset Management Ingrid Beckles said.

The slumping stock prices of Freddie and fellow mortgage giant Fannie Mae have set off a raging debate on Wall Street over whether the companies, which are crucial to the battered housing market, will need a big cash infusion and possibly government help. 

Central banks move to boost credit flow
Three of the world's most powerful central banks unveiled new measures to boost US dollar liquidity for European banks in an effort to help credit flow more freely.

The European Central Bank, the US Federal Reserve and the Swiss National Bank announced new measures to make dollars available for a longer period. In December the Fed, ECB and Swiss National Bank responded to the international financing crisis by agreeing to currency swaps that allowed the ECB and SNB to provide dollars directly to European banks.

Many banks had invested heavily in securities backed by US mortgages, and when that market dried up, the banks found it hard to obtain the dollar liquidity needed to keep their operations afloat. An initial 28-day period is being extended since it has become clear that banks need the cash for longer periods to calm the market's still troubled waters.

UniCredit Markets economist Harm Bandholz said the move showed that "the Fed acknowledges that circumstances in financial markets remain fragile". At the same time, the Fed said it would let Wall Street firms draw emergency loans into next year and give financial companies more options to help them overcome credit problems.

GMAC Reports $2.5 Billion Loss as Auto, Housing Slump
GMAC LLC, the auto and mortgage finance company majority owned by Cerberus Capital Management LP, reported a $2.5 billion loss as vehicle sales plummeted and the housing slump boosted foreclosures.

The second-quarter loss, GMAC's fourth straight, compares with profit of $293 million a year earlier, the Detroit-based company said today in a statement. Residential Capital LLC's loss jumped to $1.86 billion from $254 million a year earlier, and the home loan unit has suspended almost all production outside the U.S.

Since arranging a $60 billion debt refinancing package last month to keep ResCap out of bankruptcy, GMAC has faced a deteriorating auto market on top of the U.S. housing slump. General Motors Corp., which sold 51 percent of GMAC to Cerberus two years ago, said sales of new cars and light trucks dropped 18 percent in June.

"It's a disaster," said Gregory Habeeb, who manages $8.5 billion in fixed-income investment at Calvert Asset Management Co. in Bethesda, Maryland, including a "small position" in GMAC and ResCap bonds. "There's very little good news with General Motors. Then you consider all the mortgage-related problems." He was interviewed before results were released.

ResCap has recorded $7.2 billion of losses in seven quarters. The second-quarter deficit stemmed from losses on sales of pools of mortgages and increased reserves because of "continued deterioration in certain European markets," the company said. ResCap said today it halted all lending outside the U.S. with the exception of Canadian insured loans.

The global automotive finance unit, which specializes in making loans to consumers, reported a loss of $717 million in the second quarter compared with income of $395 million a year earlier, GMAC said. The insurance business earned $154 million, after a $143 million profit in the same period last year.

GMAC said this week it will stop subsidized auto leasing in Canada as the value of vehicles declines. The company said it's reducing new leases in the U.S. GMAC has an exclusive contract to provide loans and leasing incentives to GM car buyers until 2016.

High gas prices and rising unemployment are dragging down sales at Detroit-based GM, which has lost two-thirds of its stock market value in the past year. Auto finance units are losing money on existing leases as sport-utility vehicles and trucks plunge in value.

GMAC took a $716 million impairment charge because of the declining value of leased vehicles. The company said it has $30 billion in leases, including $12 billion in sport-utility vehicles and $6 billion in trucks, categories facing declining sales because of soaring gasoline prices.

Fannie Mae portfolio rose at fastest rate since '03
Fannie Mae, the largest provider of funding for U.S. residential mortgages, on Wednesday said it grew its investment portfolio in June at the fastest annualized rate in nearly five years. Fannie Mae's mortgage portfolio increased at a 22.8 percent annualized rate to $749.6 billion in June, from $736.9 billion in May, the Washington-based company said in a statement.

The government-sponsored enterprise (GSE) has been boosting growth in its investments since its regulator earlier this year began easing requirements on capital it must hold against the assets. Lawmakers consider such purchases by Fannie Mae and rival Freddie Mac as playing a key role in supporting the U.S. housing market that is going through a wrenching downturn.

U.S. President George W. Bush signed into law on Wednesday a housing bill that includes measures to ensure funding for the two companies, which have sustained billions of dollars in losses from rising loan defaults.
Serious delinquencies on loans guaranteed by Fannie Mae jumped to 1.3 percent in May from 1.22 percent in April.

Fannie Mae last registered a faster annual rate of portfolio growth in September 2003 as falling interest rates sparked a record boom in refinancing. Commitments by Fannie Mae to purchase mortgages in future months declined to $38.3 billion in June -- the third-highest rate this year -- from nearly $43 billion in May.

Treasury confident it will keep AAA rating
Two days after the White House revealed that the budget deficit for fiscal 2009 will set a record approaching $500 billion, the Treasury Department announced its strategy to finance all that extra borrowing.

Anthony Ryan, Treasury's acting undersecretary for domestic finance, announced Wednesday that the federal government will borrow $171 billion during the July-September quarter. That's the second-largest quarterly financing requirement in history - and fiscal 2009 doesn't even begin until Oct. 1.

Mr. Ryan expressed confidence that the federal government would continue to maintain its AAA credit rating even as budget deficits rise. "It's a huge advantage to have that AAA status, and we are committed to that," Mr. Ryan said. A top-notch credit rating allows a borrower to raise funds at lower interest rates.

Earlier this month, both Moody's and Standard & Poor's, two leading credit rating agencies, declared that the United States would not be in danger of losing its AAA rating, even if it had to rescue Fannie Mae and Freddie Mac, the government-sponsored enterprises that own or guarantee half of the nation's home mortgages.

James Horney, an economist with the Center on Budget and Policy Priorities, agreed. "In the short run, the deficit and debt, as a percentage of the economy, are within the range needed to maintain our AAA rating," he said. "Ten years from now, if debt is still rising and nothing has been done" to address the nation's long-term fiscal problems, "people would start to get nervous."

Earlier this year, Moody's said the United States could lose its AAA rating if it did not take radical action to slow its health care spending and curb its Social Security obligations. "If no policy changes are made, in 10 years from now we would have to look very seriously at whether the U.S. is still a AAA credit," Steven Hess, Moody's lead analyst for the United States, told the Financial Times in January.

On Monday the White House raised its estimate of the 2009 deficit to $482 billion, nearly three times the 2007 deficit. The 2009 deficit estimate is also $69 billion above the previous record of $413 billion set in 2004. However, the 2009 deficit will almost certainly exceed $500 billion because the White House's latest estimate includes only $70 billion to fund the global war on terror. For 2007 and 2008, Congress authorized spending an average of $184 billion per year on that goal.

When Congress passed its housing bill last week, it increased the statutory debt limit from $9.8 trillion to $10.6 trillion. According to the revised budget estimates issued Monday, the nation will probably bump up against the new limit sometime in fiscal 2010.

However, the increase in the national debt during fiscal 2009 will actually exceed $800 billion. The official figure is $817 billion, but the eventual total could easily go beyond $900 billion. The national debt has never increased by as much as $600 billion in a single year.

U.S. Auto Lease ABS Ratings Facing Stiff Headwinds
The recent announcements by the financing arms of Chrysler, GM and Ford regarding the discontinuation or overhaul of their auto lease programs underscores the impact of rapidly declining vehicle resale values, according to Fitch Ratings.

Earlier this week Chrysler Financial, GMAC and Ford Motor Credit announced significant changes to their auto lease businesses with Chrysler Financial suspending their U.S. auto lease program all together. GMAC announced it will stop subsidizing leases in Canada and will eliminate certain lower credit quality borrowers from consideration domestically.

Ford announced significant increases in lease rates for certain SUVs and trucks. All three companies indicated that their decision was influenced by the ongoing decay in the resale values of vehicles coming off lease. Coincident with these declines, Fitch is currently completing a review of its auto lease ratings with a focus on the 2007 and 2008 vintages.

Fitch currently has 20 public ratings outstanding from 10 transactions representing approximately $7.2 billion in principal outstanding from 2007 and 2008 U.S. captive finance company issuances. The initial review is expected to be completed over the next two to three weeks.

'As Fitch has noted, dramatic drops in the value of used cars is impacting the entire auto ABS sector, but those declines are having an amplified affect on the performance of auto lease transactions,' said Managing Director and U.S. ABS group head Kevin Duignan.

'Transactions from 2007 and 2008 may not have built enough credit enhancement to offset the potential increase in residual value losses while still maintaining coverage consistent with Fitch's original ratings.' U.S. captive finance companies, in particular, are experiencing higher than expected residual value losses due to the steep drop in the values of vehicles coming off lease especially for SUVs and trucks.

Fitch's base case residual value loss expectation for these companies' auto lease ABS transactions has increased by 20-30% since the second half of 2007 as value declines accelerated. However, current data suggests that actual declines are exceeding this range in certain transactions with further deterioration expected.

'While ratings in the auto lease sector have traditionally been remarkably stable, the rapid rate of decline in vehicle values over the past six months is unprecedented and will put those ratings to the test,' said ABS Senior Director Ravi Gupta.

Deutsche Bank Profit Declines 64% on $3.6 billion Debt Writedowns
Deutsche Bank AG, Germany's largest bank, said second-quarter profit fell 64 percent as 2.3 billion euros ($3.6 billion) in writedowns led to a second straight loss at its securities unit.

Net income declined to 649 million euros, or 1.27 euros a share, from 1.78 billion euros, or 3.60 euros, a year ago, the Frankfurt-based bank said on its Web site today. Earnings beat the 491 million-euro median estimate of 19 analysts surveyed by Bloomberg after a year-earlier tax charge wasn't repeated.

Chief Executive Officer Josef Ackermann said he "remains cautious" after the investment bank posted a 311 million-euro pretax loss on markdowns of mortgage securities, loans and debt backed by bond insurers. Deutsche Bank sidestepped the worst of the subprime contagion, which led to record losses and capital raisings at UBS AG and Merrill Lynch & Co.

"Compared to the U.S. banks and UBS, there's a world of difference," said Juergen Meyer, a fund manager at SEB Asset Management with the equivalent of $2.2 billion under management, including Deutsche Bank shares. "In the current market, it isn't a given that a bank remains profitable."

Deutsche Bank was unchanged at 58.83 euros by 9:19 a.m. in Frankfurt trading, leaving declines this year at 34 percent and valuing the company at 31.2 billion euros. The 71-company Bloomberg Europe Banks and Financial Services Index has fallen 31 percent in 2008.

The company reduced the value of residential mortgage-backed securities, mostly so-called Alt-A mortgages, by 1 billion euros. It reported markdowns of 530 million euros on assets secured by bond insurers and 309 million euros on commercial real estate loans. Loans for leveraged buyouts were written down by 200 million euros, and other investments by 203 million euros.

Deutsche Bank's second-quarter markdowns bring its total to about 7.3 billion euros. The collapse of the U.S. subprime mortgage market has led to $476 billion of credit losses and writedowns at financial institutions globally, data compiled by Bloomberg show.

Merrill Lynch, the third-biggest U.S. securities firm, said on July 28 it will sell $8.55 billion of stock and liquidate $30.6 billion of bonds at a fifth of their face value to shore up credit ratings imperiled by $52 billion in mortgage losses. Zurich-based UBS, the largest Swiss bank, has recorded about $38 billion of markdowns.

"We remain cautious for the remainder of 2008," Ackermann, 60, said in a statement. "We will continue to strictly manage cost, risk and capital, and to reduce our exposures in key areas." The investment bank's loss compares with a profit of 1.75 billion euros a year earlier and exceeds the 154 million-euro loss estimated by analysts.

The division, led by Anshu Jain and Michael Cohrs, posted a 79 percent decline in fixed-income sales and trading revenue to 602 million euros. Equities sales and trading revenue fell 41 percent to 830 million euros. Pretax profit from consumer banking, asset management and global transaction banking rose 2.2 percent to 854 million euros from 836 million euros a year earlier.

The so-called stable businesses generated about a third of the bank's pretax profit last year. The consumer business, boosted by the acquisitions of Germany's Norisbank and Berliner Bank in 2006, reported record quarterly pretax profit of 328 million euros.

Deutsche Bank's earnings in the second quarter were helped by a tax surplus of 3 million euros, compared with a tax expense of 922 million euros a year earlier. Profit was also boosted by 241 million euros from asset sales, including shares in Daimler AG, the world's second-biggest luxury carmaker, and Allianz SE.

Credit market far from tossing away its crutches
New Federal Reserve liquidity measures announced on Wednesday continue the process of healing for severely injured global credit markets, but a happier day will be when the market can toss away its crutches for good.

The positive reception to moves by the Fed, ECB and Swiss National Bank in currency, equities, and credit markets was short-lived in Wednesday trading, underlining how brittle the financial system remains. "This latest I.V. keeps the patient in stable but not critical condition, but not ready for discharge," said Doug Roberts, chief investment strategist at Channel Capital Research
By various measures the credit crisis of the past year is still raging, or in the Fed's words, conditions remain unusual, exigent and fragile. The U.S. central bank said it would continue to lend directly to investment banks by extending the Primary Dealer Credit Facility (PDCF) and the Term Securities Lending Facility (TSLF) from the originally-planned August sunset.

The Fed also announced a new program, auctions on TSLF options, for times of "elevated stress" such as the end of a quarter. "These actions should help to somewhat alleviate market stresses, but are incremental rather than transformational," said economists at Goldman Sachs.

The PDCF gives investment banks access to the Fed's discount window for lender-of-last-resort cash. The TSLF is a series of weekly auctions of 28-day loans of Treasury securities to primary dealers. An extension of the facilities was hinted at recently by Fed Chairman Ben Bernanke and other Fed policy-makers.

Still, it was seen as well timed ahead of major economic reports due later this week and the Federal Open Market Committee's policy meeting next Tuesday. "It should be a plus for depository institutions and financial institutions in general," said Michael Moran, chief economist at Daiwa Securities American in New York.

The lending facilities could be around until at least the end of January, or withdrawn if circumstances change.
"The Fed was clear that these facilities (PDCF and TSLF) are temporary and will end when it judges the emergency has passed," said Marc Chandler, currency strategist at Brown Brothers Harriman in New York.

Measures such as the TED spread, the difference between Treasury bill yields and Eurodollar deposit yields, still imply high risk in the banking system. "Some reduction of uncertainty in the banking sector is a prerequisite, but right now it seems another shoe is falling every other day," said Channel Capital's Roberts. The sector could take years to fully right itself, he added.

The TED spread, which was trading near 25 basis points before the credit crisis erupted in August 2007, peaked in March near 200 bps, but is still near 100 bps. "Conditions in financial markets remain very fragile, with key gauges of the health of the financial sector only looking moderately better than the most recent peak in the spring," said Rudy Narvas, analyst at 4CAST Ltd in New York.

A "show me" attitude prevailed in the credit default swap market, which measures the cost of protecting corporate debt. The main index of investment-grade credit default swaps traded down to about 130.5 basis points early but ended at about 132 bps against 131.6 bps at Tuesday's close, according to Markit Intraday data.

"There's still a lot of serious issues out there that need to be resolved and more bonds that need to be marked down across the financial spectrum," said Mirko Mikelic, a corporate bond portfolio manager for Fifth Third Asset Management in Grand Rapids, Michigan.

Analysts said the Fed's provisions can't address the issues behind the credit crisis, now nearing a dubious first birthday, namely the billions of dollars in bad mortgages that have sunk the U.S. housing market and caused more than $400 billion of writedowns at financial institutions around the world.

Figures on Wednesday showed that serious delinquencies on loans guaranteed by Fannie Mae, the largest provider of funding for U.S. residential mortgages, rose to 1.3 percent in May from 1.22 percent in April.
With U.S. house prices still plummeting, according to the latest Standard & Poors/Case Shiller home price index, mortgage delinquencies most likely have not peaked.

In a report this week, economists at Deutsche Bank forecast that the shock from the credit crunch and the related reduction in leverage ratios at financial institutions would linger.

"We estimate that this deleveraging will depress credit supply to the non-bank sector by roughly 15 percent in the United States and 12 percent in Euroland by 2010," the report said. "The current credit tightening has the potential to be a significant drag on growth for some time to come."

In that vein, GMAC and Ford Motor Credit on Tuesday announced steps to cut back on auto leases, a move that threatened to hurt auto sales already at decade lows.

"Creditors in the United States are wary of making mortgage loans, consumer loans, and student loans, all of which are rising in price and have become less available," said Timothy Canova, professor of international economic law at Chapman University School of Law in Orange, California.

"There is no forcing banks to take on increased risk at a time when their losses are mounting," he said

Fed Signals Market Strife Will Continue Into '09
When will the financial markets will return to normal? Not until next year, at least. So it seems, says the Federal Reserve.

On Wednesday, the central bank gave Wall Street's biggest investment houses, the so-called primary dealers, another four months of access to its emergency borrowing window. It wasn't entirely unexpected, and it gives firms like Merrill Lynch and Lehman Brothers extra breathing room to work toxic assets off their balance sheets and raise capital.

Combined with the Securities and Exchange Commission's emergency order to restrict short-selling in stocks of those same 19 companies, an order that the agency extended for another 10 days, it seems regulators still have heightened concerns about the financial sector.

The Fed said it was leaving the window open to the dealers "in light of continued fragile circumstances in financial markets." How fragile? Economists point to the TED spread, which measures the difference between the three-month U.S. Treasury bill and the three-month Eurodollar future (aka the inter-bank lending rate).

The difference is an indicator of credit risk, since U.S. T-bills are considered risk-free, while the inter-bank rate reflects banks' willingness to lend to each other and corporations in general. In normal times, the TED spread is around 25 to 40 points. During the year-long credit crisis, it soared to a spread of as much as 200 points. On Wednesday, the spread was 111.

The Fed's move, along with tweaks to other programs introduced this year to kick-start the credit markets after months of crisis, comes just two days after Merrill Lynch sold a $30 billion portfolio of toxic collateralized debt obligations (CDOs) for just 22 cents on the dollar and announced another $5.7 billion in write-downs for the third quarter.

Oddly, financial stocks are soaring this week despite evidence the write-downs and losses will continue--and signals from Washington that the concerns are still high. Citigroup, which has Merrill-like exposures to CDOs, is seen taking $8 billion of write-downs in the third quarter, along with billions more in credit loss reserves. Citi shares are up 26% since mid-July, when it reported a loss of $2.5 billion, which was actually better than expected.

Primary dealers, an elite group of banks that trade U.S. government securities directly with the Fed, have had access to its emergency discount window since Bear Stearns suffered a run of liquidity and was forced into a sale to JPMorgan Chase. That was mid-March.

Before that, the dealers raised cash for daily operations in the short-term secured credit markets, through swaps and repos. Fears that another liquidity crisis could topple Lehman or another major investment bank led the Fed to open the lending window, putting the primary dealers on the same standing as commercial banks.

Since March, Wall Street firms have borrowed a total of $275 billion in overnight loans from the window, but the borrowing was heaviest in the spring and has dwindled to almost nothing. The fact that it's still available, however, is what is keeping another major financial institution from going bust.

"Today's decision by the Fed is the right one for the American economy," said Tim Ryan, chief executive the Securities Industry and Financial Markets Association, Wall Street's trade group. "Continued access to the window will help calm the waters at a tumultuous time. The availability of this potential liquidity reassures the market and provides a backstop that, because of its mere presence, makes it less likely to be utilized."

Moody's Lies In The Bed It Made
Moody's second-quarter earnings were anything but sterling. The ratings service's profit tumbled on plummeting demand for mortgage bonds and collateralized debt obligations. Yet Moody's, the parent of Moody's Investors Service, managed to perform better than expected, sending shares higher in morning trading.

Its early gains were reversed, however, when Connecticut Attorney General Richard Blumenthal announced at a press conference he was suing Moody's, McGraw-Hill, the parent company of Standard & Poor's, and Fitch Ratings for giving artificially low credit ratings to cities and towns that cost taxpayers millions of dollars in unnecessary insurance and higher interest payments.

Blumenthal is not the only one to criticize the ratings agencies. Investors, politicians, regulators and others have pointed fingers at the three ratings agencies for failing to warn of widespread defaults on U.S. subprime mortgages and the ensuing credit market crisis. In turn, the credit market has tightened demand for mortgages and CDOs have plunged as buyers have had a harder time getting credit.

The U.S. Securities and Exchange Commission has launched an investigation into credit ratings agencies' failure to identify much of the risk involved in subprime investments. In May, the Financial Times reported that Moody's had wrongly assigned triple-A ratings to complex European debt products called constant proportion debt obligations, or CPDOs.

On Wednesday, Moody's announced its net income tumbled 48.0% to $135.2 million, or 54 cents per share, from $261.9 million, or 95 cents a share, in the prior year. The company said its operating profit fell 36.0% from a year earlier to $233.7 million. Profit excluding items was 51 cents per share, beating analysts' estimates of 47 cents a share. Revenue fell 25.0% to $487.6 million, beating the analyst forecast of $467.6 million.

Moody’s reported a 56.0% plunge in revenue from CDOs and other structured finance products, including such asset classes as residential mortgage-backed securities, commercial real estate finance and credit derivatives. In the United States alone, structured-finance revenue fell 67.0%. Expenses declined 10% percent as Moody's cut jobs and reduced incentives and stock-based compensation.

Raymond McDaniel, the company's chairman and CEO, said Moody’s results in the second quarter were better than the first quarter, although they were below the prior year. McDaniel said he is “cautious about recovery in the credit markets for the remainder of 2008.”

The company reaffirmed its previous full-year earnings per share guidance of $1.90 to $2.00, which was given on April 23, because of strength in its ratings business, growth from Moody's Analytics and cost-cutting initiatives. Analysts forecast full-year earnings per share of $1.92. Moody's largest shareholder is Warren Buffett's Berkshire Hathaway, with a 19.6% stake as of March 31.

Connecticut Sues Moody's, S&P and Fitch Over Ratings
Connecticut Attorney General Richard Blumenthal sued Moody's Corp., Fitch Inc. and Standard & Poor's parent The McGraw Hill Cos. claiming they unfairly gave municipal bonds lower ratings than comparable corporate or structured debt.

"We are holding the credit-rating agencies accountable for a secret Wall Street tax on Main Street," Blumenthal said in a statement. The complaints, filed today in Connecticut Superior Court in Hartford, seek redress for what Blumenthal called the companies' "deceptive and illegal" business practices.

Blumenthal said the dual rating system costs "taxpayers literally $2.3 billion for insurance." He has been conducting an antitrust probe of the three companies since last summer. In June, he said firms that rate U.S. municipal bonds "knowingly and systematically" gave the securities lower grades, raising costs for state and local governments.

Blumenthal, Connecticut's top law enforcement official, said the investigation is continuing. Moody's, under pressure from regulators and state finance officials, said last month it would change the way it rates municipal bonds and rank them on the same scale it uses for corporate and sovereign debt. Blumenthal said the dual standard benefited bond insurers, investors and the agencies themselves.

"This rating charade created a Wall Street shell game constructed by the ratings agencies for the benefit of the bond insurers," he said, adding that bond insurers profited from unnecessary premiums and interest paid by taxpayers.

Blumenthal is seeking a ruling declaring the companies engaged in unfair and deceptive acts, an order to determine the amount of improper fees and revenue they gained, penalties for each violation of the state's unfair trade practices act, restitution and disgorgement.

Moody's Chief Executive Officer Raymond McDaniel called the lawsuit "meritless." "The suit implies that the measuring system is wrong," McDaniel said today during a conference call with analysts. "That's like saying it's wrong to measure distance in centimeters and right to measure it in inches."

In an interview with Bloomberg Television, Blumenthal disagreed with McDaniel's analogy. "It's like having two strike zones in baseball," he said. "It's like the umpires having a small strike zone for the good pitchers and a regular strike zone for all of the rest."

Blumenthal's allegations are "an unfortunate development" and without merit, Fitch Managing Director David Weinfurter said in an e-mailed statement, adding the firm would fight the suit. "Fitch rates Connecticut and all states based on our forward-looking opinion as to their financial capacity to pay their debts as they come due -- not based solely on historical rates of default," Weinfurter said in the statement.

He said Fitch performed "a comprehensive review" of its municipal finance ratings and will disclose the results tomorrow.
McGraw-Hill echoed Weinfurter's comments in a separate statement, saying it too would fight the litigation. Connecticut is attempting to "use litigation to dictate what bond rating it receives," McGraw-Hill said.

State officials and regulators have criticized New York- based firms Moody's and Standard and Poor's, as well as Fitch, a unit of Paris-based Fimalac, for using a scale that raised borrowing costs by holding municipal bonds, whose 10-year default rate was 0.1 percent between 1970 and 2006, to a higher standard than corporate and sovereign debt.

Many issuers bought bond insurance to improve their rating, a strategy that backfired this year when some guarantors lost their AAA ratings amid subprime mortgage-related losses. The Connecticut probe has included whether the firms rank debt against issuers' wishes, then demand payment, or threaten to downgrade debt unless they're awarded business to rate all of an issuer's securities, Blumenthal has said.

He has also been scrutinizing links between Moody's and its largest shareholder, Warren Buffett's Berkshire Hathaway Inc.
California State Treasurer Bill Lockyer has led efforts to end the separate rating scales, saying they burden taxpayers with unnecessary, added interest expense.

Lockyer said that if California, the most-populous U.S. state, had top credit ratings, it might save more than $5 billion over the 30-year life of $61 billion in yet-to-be-sold, voter- approved debts. California has spent $102 million on municipal bond insurance in the last four years, he said.

Los Angeles City Attorney Rocky Delgadillo on July 24 sued MBIA Inc., Ambac Financial Group Inc. and four other bond insurers for allegedly conspiring to maintain a credit-rating system that led local governments to buy "unnecessary" policies on their bonds.

Borrowers in the $2.66 trillion U.S. municipal market have for decades paid insurers to guarantee their bonds, seeking to lower borrowing costs by paying AAA rated companies to stand behind the securities. That practice has drawn fire this year from public officials who said it exaggerates the risk that municipal bonds will default, forcing states, cities and schools to buy backing they don't need.

Bear Stearns Demise Proves Premature as 'Ace' Sells New Shares
When Michael Nolan walked into his office on the 26th floor of the former Bear Stearns Cos. building on June 2, after the JPMorgan Chase & Co. takeover was completed, he found a packet on his desk. Inside: a JPMorgan security badge, a list of contacts and business cards that read, "Bear Stearns: a JPMorgan Company."

Nolan, 52, and 325 other Bear Stearns retail brokers will carry on the name after a crisis of confidence among customers and lenders forced the investment bank to sell itself to JPMorgan in March. Alan "Ace" Greenberg, Bear Stearns's best- known trader and its former chairman, will continue selling stocks to clients, 59 years after joining the New York-based company as a clerk.

"I'm thrilled the name lives on," said Nolan, who joined Bear Stearns in 1991. "I believe in branding, and I don't see a reason to kill it after 85 years of building it." Keeping alive a vestige of the securities firm founded in 1923 by Joseph Bear and Robert Stearns is more than just nostalgia, said Charles Geisst, the author of "100 Years on Wall Street," who teaches finance at Manhattan College in New York.

Just as Citigroup Inc. hung onto Salomon Brothers for five years, and UBS AG retained PaineWebber for almost three, the brand may help keep clients. "JPMorgan is not known for brokerage," Geisst said. "As a result, you want to keep the name that signifies brokerage, and that, of course, is Bear Stearns."

Bear Stearns, previously the fifth-largest U.S. securities firm, had more than 500 retail brokers. The wealth management division booked $830 million of revenue in 2007, 14 percent of the firm's total. JPMorgan didn't have a retail brokerage prior to the purchase, and Jes Staley, 51, who runs the bank's asset management unit, said in December that he wasn't interested in running such a business.

Some of the Bear Stearns brokers who joined JPMorgan shunned offers of as much as $2 million from competitors including UBS, Merrill Lynch & Co. and Morgan Stanley, executive recruiter Mindy Diamond said in March. They chose instead to join the third-largest U.S. bank by assets, which has managed this year's market turmoil better than rivals.

Led by Chief Executive Officer Jamie Dimon, JPMorgan recorded $12.8 billion of net losses since the beginning of last year. Bank of America Corp., the second-largest lender, posted $21.2 billion of losses in the same period. Brokers were also lured by the opportunity to sell JPMorgan's bigger range of investment products, such as private- equity and hedge funds, said Barry Sommers, 39, who oversees the Bear Stearns unit.

Sommers, along with Staley and Mary Erdoes, 40, chairwoman of wealth management, visited Bear Stearns's six brokerage offices outside New York -- in Boston, Atlanta, Chicago, San Francisco, Dallas and Los Angeles -- after the deal was announced. They assured workers that the Bear Stearns "entrepreneurial" culture would persist, Sommers said.

"The strategy is to keep the culture intact, but tap into the products at JPMorgan," Sommers said in an interview. The Bear Stearns brokers remain a separate division from JPMorgan's private bank, whose clients are typically worth more than $25 million. They'll be kept on a commission-based model, not the salary and bonus pay structure of private banking, Staley said in an interview.

JPMorgan plans to keep the business small, growing to a maximum of 1,000 brokers, Staley said. Merrill Lynch, the world's biggest brokerage, has a team of 16,690. "My philosophy is, seek to be the best and don't confuse being the best with being the biggest," he said. "What we want to do is improve on the quality of our brokers, maintain their business model, but give them access to the products of JPMorgan."

The Bear Stearns unit collected revenue of $38 million in the second quarter, its first as a division of JPMorgan. That was less than 2 percent of the entire asset management unit's intake of $2.1 billion. Assets under management were $8 billion.

It's dwarfed by Citigroup's Smith Barney unit, one of the few Wall Street names that wasn't retired after a takeover. Smith Barney's 15,000 brokers had $2.7 billion in revenue for the second quarter. At Morgan Stanley, net revenue including private banking was $2.4 billion in the quarter ended May 31.

Ilargi: The Governor and his finance folk are confused on terms like recession and stagflation, but they do feel the hammer swooshing down. Does anyone still question that what happens in New York now will soon spread nation wide? Unions can complain all they want, but the money’s really not there for much longer. They’d be much better off negotiating new contracts with that in mind.

New York economy officially in recession, state budget director says
Gov. David Paterson and his budget director said today the state faces "the specter of stagflation" as it tries to cut more than $1 billion in spending. Budget Director Laura Anglin has concluded the state's economy is officially in a recession.

Paterson has called state legislators back for an "emergency economic session" on Aug. 19. He wants them to cut about $600 million in state spending in the current budget, on top of measures he announced today. That includes a hiring freeze and a 7 percent reduction in spending at state agencies. That will generate most of the $650 million Paterson said he can save with such unilateral actions.

"These are essential areas we're looking at cutting. That's how bad our economic situation is," Paterson said at a press conference in Manhattan. "We've been running a deficit, but we've been bailed out by Wall Street many times," Paterson said. Those times have ended, he said.

Another way Paterson wants to raise or save money is by developing public-private partnerships for state assets, including lease-back programs. In such a case, the state would sell an asset--a bridge or tunnel, for instance--to a private investor, who would then immediately lease the asset back to the state.

Unlike his predecessor, Eliot Spitzer, Paterson said he is not going to sell any state assets. Spitzer wanted to privatize the state lottery to start an endowment for the state's public universities. "I don't want to sell the Thruway," Paterson said. "But we need to look and think creatively about how to create long-term revenue streams and provide opportunities for the state to grow." He declined to elaborate.

Anglin, the budget director, outlined several negative trends in the state's economy, including $225 billion in subprime mortgage loans that banks have written off, enabling them to take that money off their bottom lines. "It's a fairly dramatic shift," Anglin said. "We don't think it's done."

Several unions criticized Paterson's call for spending cuts and a hiring freeze. CSEA, the state's largest public employee union, said reducing the state's 200,000-member work force would be a "sham."

"When the governor talks about families who can't afford to heat their homes, can't afford to put gas in their cars and can't afford groceries, he is describing his own workers and their families who will only be hurting more after he takes away their jobs," said president Danny Donohue.

AIG Results Deteriorate on Private Equity Returns
Just when American International Group Inc. shareholders figured things couldn't get worse at the world's largest insurer, profit from the company's private equity and hedge fund investments is evaporating.

Earnings from so-called alternative holdings were probably close to zero in the second quarter, after soaring 77 percent to $1.02 billion a year earlier, said Citigroup Inc. analyst Joshua Shanker. The drop follows the worst first half for hedge funds in almost two decades and a 73 percent decline in the value of announced leveraged buyouts, according to data compiled by Chicago-based Hedge Fund Research Inc. and Bloomberg.

Private equity and hedge funds were seen as "something that provided more consistency and stability to AIG's earnings growth," said Henry Smith, who manages $6.5 billion as chief investment officer at Haverford Trust Co. and holds about 2.3 million AIG shares. "That's not the case right now."

The diminishing returns make Chief Executive Officer Robert Willumstad's task of reversing AIG's 55 percent stock slide this year and its record $7.81 billion first-quarter loss more difficult. Second-quarter adjusted net income probably fell 78 percent to $1.04 billion, analysts estimate. Willumstad, 62, the CEO since last month, will announce results Aug. 6.

In what may be a precursor for New York-based AIG, Allstate Corp., the largest publicly traded U.S. home and auto insurer, said July 23 that earnings from private equity, hedge funds and real estate funds dropped 65 percent from a year earlier to $30 million. The slide contributed to Allstate's 98 percent decline in net income. Hartford Financial Services Group Inc. this week said income from alternatives fell 77 percent to $25 million.

"This year, with hedge funds, we saw some meaningful reductions in income," said Hartford CEO Ramani Ayer in an interview yesterday. "We had a very good year last year, and we had a not-so-pretty year this year." CNA Financial Corp. posted a 35 percent decline. Lincoln National Corp. reported an 81 percent drop to $13 million.

"Every company thinks they're special, that somehow they're more able than others to invest and deliver these returns without the volatility and losses," said Paul Newsome, a Chicago-based analyst at Sandler O'Neill & Partners. "It's not historically been a good plan."

Insurers reaching for higher returns than from bonds and stocks increased private equity and hedge fund assets by 48 percent last year to $49.8 billion, according to the National Association of Insurance Commissioners in Kansas City, Missouri, which compiles data from companies' U.S. units. In 2006, the holdings rose 34 percent.

"There were a number of years where alternatives were booking 20 percent-type returns," Newsome said. "That looked awfully attractive versus a 5 percent bond." The companies "will be happy" these days if alternative investments don't lose value, he said.

AIG's first-quarter returns from alternatives fell 84 percent from a year earlier to $197 million, an annualized gain of 2.7 percent. AIG expects 10 percent to 15 percent over the long term on the investments, Chief Investment Officer Win Neuger told analysts in June, including start-up hedge funds and private equity stakes in power plants, waste-treatment facilities and shipping termin

Exxon Profit Rises Less Than Estimated; Output Drops Most in Over a Decade
Exxon Mobil Corp., the world's biggest oil company, posted a smaller increase in second-quarter profit than analysts estimated after production dropped the most in at least a decade.

Net income rose 14 percent to $11.7 billion, or $2.22 a share, from $10.3 billion, or $1.83, a year earlier, the Irving, Texas-based company said today in a statement. Per-share profit excluding costs related to a ruling in the Valdez oil-spill case was 26 cents lower than the average of 12 analyst estimates compiled by Bloomberg.

Production tumbled 7.8 percent after assets were seized in Venezuela, Nigerian workers went on strike and record prices triggered contract clauses that give oil-rich governments a bigger share of output. U.S. crude futures rose above $140 a barrel for the first time, allowing Exxon Mobil to achieve the highest profit ever for a U.S. company without one-time gains.

"If oil prices are going up $20 and $30 a barrel a quarter like they have been, it hides a lot of flaws," said Brian Gibbons, an analyst at New York-based CreditSights Inc. "The question on everyone's mind is, how do these guys expect to grow production given the restrictions on access to reserves?"

Chief Executive Officer Rex Tillerson is spending $52 million a day to search for new fields after reserves fell in 2007 by the most in at least a decade. Exxon Mobil plans to start 12 projects this year that will pump the equivalent of 411,000 barrels of crude a day, more than the daily output of Prudhoe Bay, the largest U.S. oil field.

U.K. House Prices, Confidence Fell Most in Two Decades
U.K. house prices declined the most in almost two decades in July and consumer confidence fell to a record low as the economy edged closer to a recession.

The average value of a home dropped 8.1 percent from a year earlier, the biggest decline since at least 1991, Nationwide Building Society, Britain's fourth-biggest mortgage lender, said today. An index of confidence based on a survey of 2,001 people fell 5 points to minus 39, the lowest since the data began in 1974, GfK NOP Ltd. said.

Britain's economic outlook has deteriorated in the past month after "bad news" on retail sales and other data, Bank of England policy maker David Blanchflower said yesterday. Support for Prime Minister Gordon Brown's ruling Labour Party dropped to the lowest since the early 1980s in a Populus Ltd. poll published this week, as the economy weakened.

"These data reinforce our view that the U.K. economy is going into recession," Michael Saunders, chief western European economist at Citigroup Inc., said in a research note. "With monetary and fiscal policy both hamstrung, most of the economic pain still lies ahead."

On the month, house prices dropped 1.7 percent from June, the ninth consecutive decline, bringing the average value of a home to 169,316 pounds ($335,400), Nationwide said. The pound snapped two days of gains against the euro after today's reports, falling to 78.82 pence as of 12:07 p.m. from 78.62 pence yesterday.

Mortgage lenders stung by the credit-market rout have exacerbated the property downturn by raising borrowing costs. The rate on a home loan fixed for two years rose to 6.63 percent in June, the highest since February 2000, Bank of England data on July 9 showed.

About 1.7 million U.K. homeowners are likely to see the value of their houses fall below the amount they owe on their mortgage, Standard & Poor's said yesterday. Luxury-home prices in central London, the world's most expensive location for prime real estate, fell for a third month in July as the number of properties sold declined by about 50 percent, Knight Frank LLP said today.

"The weakening economy and poor housing market sentiment do not suggest that the market will recover quickly," said Fionnuala Earley, chief economist at Nationwide. "The risk of an economic recession in the U.K. is now clearly rising." GfK's main measure of consumer confidence is now 4 points below the result for March 1990. Gauges of the general economic situation and the climate for major purchases dropped to the lowest on record, the report showed.

The index of consumers' personal financial situation over the next 12 months fell nine points to minus 18, the lowest in 14 years. The Confederation of British Industry's retail sales index dropped to the lowest in 25 years in July, and banks granted the fewest mortgages since at least 1999 last month, reports this week showed.

Housing Slump Hits Northern Ireland Economy Harder Than Bombs
Jim Kingham says the credit crunch is hurting his Belfast-area moving company more than the violence that ravaged Northern Ireland for 35 years.

Kingham has fired nine of his 12 workers at A1 Shortnotice, based in Newtownards, as house prices plunge and sales dry up.
"You can take me back to the days of the bombings," says Kingham, who has run A1 for 40 years. "Business was better then. Five of my six lorries haven't left the yard for months."

The credit-market rout is undermining the peace dividend for one of the U.K.'s poorest regions. Northern Ireland's economy is stalling as house prices, which surged as violence came to an end, fall at the fastest rate in the U.K. and building reaches a 12-year low.

"First-time buyers are now frozen out; the investors have packed up," says Alastair Adair, a professor at the University of Ulster in County Antrim who helps compile the province's main house-price index. "It's a real problem for the economy."
Northern Ireland's economy will grow 1 percent this year and next, less than half the rate in 2007, according to a forecast by Ulster Bank, a unit of Royal Bank of Scotland Group Plc.

The province had expected an economic revival following the restoration of a power-sharing government between Catholics and Protestants last year. The accord settled a conflict that claimed 3,500 lives during a period known as the Troubles.

Leading up to the deal, house prices rose at the fastest pace in Europe, data from the Royal Institute of Chartered Surveyors show. They climbed 79 percent in the two years ending in the second quarter of 2007, according to Nationwide Building Society, the U.K.'s biggest customer-owned lender.

"Properties would go on the market and the same day there was maybe 10 or 20 bids in," says Desmond Turley, managing director of Ulster Property Sales in Belfast. "It was frenzied. Now it's different. The level of interest just isn't there." On average, U.K. house prices fell 4 percent in the second quarter from a year earlier, according to Nationwide. In Northern Ireland, prices plunged 19 percent.

The credit crunch has deterred local buyers and investors from south of the border, real estate agents say. "The investors aren't around any more," says Stephen McCarron, who runs a real estate agency in Derry, in the northwest of the province. "During the boom nothing surprised me, and 40 percent of property deals in the city were made by southern investors."

McCarron says he sold 10 houses to a buyer from the Republic of Ireland in May 2007, after the man walked into his office with 1 million pounds ($2 million) to spend. At the peak of the boom, a five-bedroom house on Alliance Avenue in Belfast sold for 800,000 pounds. The North Belfast thoroughfare had been dubbed "Murder Mile" because 40 people were killed on or near the road during the conflict.

Four years ago in Dunmore, in north Belfast, homebuyers lined up overnight to buy property just yards from a park split by a 25-foot-high corrugated iron wall erected to keep Protestants and Catholics apart, Turley says. Prices in the area fell 25 percent in the past 12 months.

In April, Belfast-based Northern Bank, owned by Danske Bank A/S, withdrew the 100 percent mortgages it had offered to borrowers in the province, following the lead of other banks. Others raised lending rates, choking off demand for mortgages. While home loans fell 40 percent across the U.K. in the first five months of the year, they slid 60 percent in Northern Ireland, according to the London-based Council for Mortgage Lenders. That's helped send prices tumbling.

Maeve Egan bought a two-bedroom apartment in west Belfast for 130,000 pounds in 2006. Now it's worth 30 percent less, and she can't afford the 800-pound monthly mortgage payment after failing to find a roommate. "I'm living in my mum's house and renting the flat out just to pay the mortgage," says Egan, adding that she's cut her spending on clothes and holidays. "I can hardly afford to go out through the door because of it."

Tom Gray, owner of Budget Travel in Belfast, says sales are down 12 percent this year. Car sales in the province have fallen 9 percent from last year, the biggest drop in the U.K., according to the Society of Motor Manufacturers and Traders Ltd.
"There is a risk that the property prices will slip a bit more," says Alan Bridle, economist at Bank of Ireland Plc. "The associated business-service side has caught the chill as well."

Back at A1, Jim Kingham is mulling packing up one last time. "I don't think we'll continue that much longer," he says. "Even during the Troubles it wasn't as hard as it is now."

HBOS's outlook for the UK housing market is not pretty
The drip-drip approach to bad news continues at HBOS and that's aside from the 72pc collapse in half year pre-tax profits to £848m reported this morning.
For the first time, chief executive Andy Hornby has given the market an indication on how far he expects house prices to fall this year and next. It's not pretty. "Consensus forecasts, for the decline in house prices, is now in the range of 15pc-20pc over 2008 and 2009 combined."

He couches it as someone else's opinion, but Hornby mandates the numbers by not questioning them.
Previously, he had forecast falls for 2008 alone of "mid single digits" before revising that to 9pc. Until now, 2009 was unknown territory. The economy, too, gets the same bleak treatment. Just six months ago, at the full-year results in February, HBOS was predicting economic growth this year of 2pc-2.25pc.

The best Hornby can manage now is: "We expect UK GDP growth to remain positive in 2008 but with a risk to the downside in 2009." For HBOS, owner of Britain's biggest mortgage lender in the Halifax, a house price crash and severe economic slowdown is a frightening prospect.

The numbers in today's half-year results paint those fears only too well. Mortgage bad debts are already escalating. In just six months, the value of impaired loans has increased £900m to £5.14bn, or 2.16pc of the £237bn mortgage book.

The bank has had to take an extra £225m of provisions, equivalent to more than a quarter of the half's pre-tax profits, compared with last year. Specialist lending - self-certification and buy-to-let that accounts for a third of the book - has performed particularly poorly with impairments jumping from 1.97pc to 2.49pc.

The book of corporate loans fares not better. Provisions doubled to £469m as company debt started to go bad. As analysts have pointed out, we are still very early in the cycle and insolvencies have yet to kick in. Hornby warns that bad debt losses will only get worse, having seen them jump already by 36pc for half to £1.31bn at group level.

"In light of the deteriorating economic environment, we expect to see upward pressure on impairment losses," he says. So what is HBOS doing about it? In a nutshell, it's lending less. Net mortgage lending in the half was just £2bn, a market share of just 7pc compared with its total 20pc share of stock.

This time last year, when its net lending halved to £4.3bn and its market share collapsed to 8pc, HBOS was so ashamed of the performance it got rid of the head of retail banking, Benny Higgins. This performance is worse in, arguably, a more attractive market. Profit margins have shot up, which explains why Abbey and Lloyds chose to write half of all new mortgages between them in the six months to June.

Hornby himself said that HBOS will pursue mortgage margin. His failure to do so when margins are at their widest for years speaks volumes about the difficulties the bank faces. Even after its £4bn capital raising, HBOS is having to rein in lending to reinforce its balance sheet further. Shareholders are taking the pain in droves.

After being tapped for £4bn, they are seeing their interim dividend slashed from 16.6p last year to 6.1p this year. Moreover, it is being paid in shares, though Hornby pledges to pay the final dividend in cash. And the good news? Credit market writedowns have risen just £200m to £3bn since the update earlier this year, and the numbers were not as bad as any analyst had feared, which explains the 7pc jump in share price today.

But, even after stripping out all the exceptionals, as Lloyds TSB did yesterday, there's nothing cheery to report. Underlying profit before tax, excluding credit market adjustments, fell 14pc to £2.55bn. Lloyds at least managed a profit increase on the most flattering measure.

At least HBOS has its £4bn and a strong capital base with core tier one of 6.5pc from which to withstand the economic buffeting in prospect. But that's about it. The best the normally upbeat Hornby can muster is: "Post the rights issue, and with stable and potentially improving margins underpinning pre-provisioning profitability, we are well placed to compete in tougher markets.

Spain's Inflated Home Valuations Infect $498 Billion of Mortgage Bonds
Jose Maria Gonzalez is struggling to unload a four-bedroom apartment in Madrid so he can pay for the 480,000-euro ($750,000) house he now lives in. His problem may wind up hurting investors in Rome and Hong Kong he's never met.

That's because mortgage-backed bonds issued by Gonzalez's lender are held by funds run by Pacific Investment
Management Company LLC and Pioneer Investments. Property appraisal firms, working in the interests of the banks who controlled them, regularly inflated home values, says Josep Prats, a fund manager at Ahorro Corporacion in Madrid. Such assets are behind as much as 320 billion euros of that paper sold to savers worldwide.

Those estimates helped Spanish banks boost lending by supporting the sale of mortgage-backed bonds that fueled Europe's biggest homebuilding boom. The strategy turned sour after the U.S. subprime crisis triggered more than $470 billion in losses and writedowns worldwide. As Spanish assets are reassessed, the country may become a fresh source of losses.

"Valuations aren't realistic," says Prats, who heads a team managing about 11 billion euros. "Valuation companies issue reports for whatever amount the bank managers are prepared to lend." Gonzalez's lender, Caja de Ahorros de Gipuzkoa y San Sebastian SA, a savings bank in northern Spain known as La Kutxa, has sold 2.5 billion euros of mortgage-backed bonds since the end of 2005.

Pimco, based in Newport Beach, California, and Pioneer Investments bought Kutxa bonds for funds sold to investors around the world. Pimco's Euro Bond Fund, sold to savers in Hong Kong, is the biggest investor in Kutxa's 2007 issue with a 20.6 million-euro holding, according to a March 31 regulatory filing. Pioneer Investments' CIM Euro Fixed Income Fund, which is sold to Italian savers, holds 11 million euros of the bonds.

Pimco, majority-owned by Munich-based Allianz SE, runs the world's largest bond fund and has $829.5 billion under management on behalf of corporate pension plans, public retirement funds and foundations. Pioneer Investments is the fund-management arm of Italy's largest bank, Milan-based UniCredit SpA, which oversees 190.5 billion euros for 40 million customers in 23 countries.

Krishna Prasad, senior fund manager for asset-backed securities at Pimco in London, declined to comment on the fund's holdings. Spokeswoman Mary Zerner said Pimco had no comment for this story. Raffaele Bertoni, the Dublin-based head of fixed income for Pioneer Investments, says the Kutxa bond is backed by solid collateral: homes in the wealthiest areas of Madrid, Barcelona and the Basque Country.

The mortgages account for an average of 78 percent of the properties' value, and the large number of borrowers also spreads the risk of default, he says. "The Spanish market is not the U.S. property market," Bertoni says. "We don't have the famous subprime. Generally speaking, the collateral for each loan is always quite high."

That hasn't prevented Kutxa's bond from losing 8 percent since it was issued in February last year. That contributed to the Pioneer fund underperforming the JPMorgan EMU Bond Index by 2.7 percentage points over the past 12 months. One concern is that the real worth of many Spanish homes is far below official values, meaning the so-called loan-to-value ratio, which underpins Bertoni's view of the investment, understates the risk, according to Prats of Ahorro Corporacion.

A Kutxa spokesman said no one ever raised the issue of home estimates with the bank. Kutxa's mortgage-backed bonds have been successful because of the quality of their loans, said the spokesman, who can't be identified because of company policy.

This month's collapse of Martinsa-Fadesa SA, a developer with more than 5 billion euros in bank debts, suggests investors are beginning to share Prats's concerns about Spanish house values. The company sought protection from creditors after failing to raise 150 million euros even though its property and land holdings were valued at 10.8 billion euros.

Spanish house prices fell for the first time in a decade in the second quarter, and the volume of transactions dropped by a third in May from a year earlier. Yet Bertoni's view is echoed by the Spanish government and the central bank: Spain has no subprime.

"Subprime lending, meaning poorly documented, very long- term, increasing-interest mortgage loans where repayment by the debtor depends sometimes critically on the ability to refinance, simply does not exist in Spain," Deputy Finance Minister David Vegara said in an Oct. 24 conference speech.

Still, in 2006 and 2007 many banks allowed three or four people to sign for mortgages when the buyers didn't qualify on their own, said a spokesman for Banco Bilbao Vizcaya Argentaria SA, Spain's second-biggest bank. Banks also granted variable-rate loans to families at the financial limit when interest rates were close to the lowest in a generation. Kutxa even offered a 50-year mortgage in 2007.

Spanish banks vulnerable to plummeting real estate market - S&P
Standard & Poor's Ratings Services said the correction in Spain's real estate market took a downward step after real estate firm Martinsa Fadesa's recent voluntary declaration of insolvency.

S&P said Martinsa Fadesa is the largest corporate insolvency in Spanish history, involving more than 80 financial institutions as creditors. The ratings agency said the Spanish bank system's lending to residential real estate developers accounted for 17 percent of the system's credit at the end of last year.

S&P said the system's large exposure to the real estate sector is a main risk factor that it incorporates in its ratings. 'Accentuating the housing market's fall are prolonged liquidity constraints in the global financial markets, increasingly restrictive credit conditions, and ebbing buyer confidence,' said Standard & Poor's credit analyst Jesus Martinez.

S&P said non-performing loans (NPLs) to real estate developers represented only 0.91 percent of financial institutions' loans to the sector at the end of March but it expects this proportion to climb rapidly. S&P said it believes most Spanish banks face the weakening in the real estate market from a position of strength, with high loan loss reserves and strong efficiency.

However, S&P said increasing NPLs will erode these banks' cushions and this shrinkage could accelerate if the economic downswing deepens.

S&P recently revised its outlooks on several Spanish banks to negative from stable, reflecting concerns about the impact of the real estate downturn on banks' financial profiles and 'Martinsa Fadesa's declaration of insolvency vindicates our concerns', the ratings agency said.

Ilargi: I’m thinking of including a comedy segment in the Debt Rattles; article sthat are so obviously stupidly upbeat that you can’t help but laugh. Spain is about to hit a wall, period. The government has acknowledged a recession, one of the first among peers to do so. But that same government now insists housing is fine,. becaue Spain never had "subprime". And those "strong" domestic banks have lent out all the credit that has shot up real estate prices through the Meditteranean skies. How are they OK? HOW?

Whatever, Business Week, I read the two articles above; nuff said.

Spanish Banks Stay Strong amid Downturn
Compared with its U.S. and European rivals, Spain's Santander—the largest bank in the euro zone by market value—and its smaller rival, Banco Bilbao Vizcaya Argentaria, have a lot to smile about.

Lacking exposure to U.S. subprime assets, the Spanish financial giants have successfully navigated the choppy economic waters, while other banks, such as Merrill Lynch and Citigroup, have been forced to call for life preservers. Key to the banks' success has been geographic diversification.

Like the conquistadors before them, these Spanish financial buccaneers have flourished by expanding into the New World. That has helped shield them from an economic downturn that's threatening their home market. Both Santander and BBVA now generate roughly one-third of their net profits from Latin America—a region relatively unscathed by the credit crunch.

The benefit from overseas expansion was evident on July 29, when Santander posted an annual 6.1% increase in first-half net profit, to $7.4 billion, on the back of a 13.8% jump in revenues, to $21 billion. A day earlier, BBVA—Spain's second-largest bank by market cap—announced an 11.6% increase in first-half net (excluding one-off charges), to $4.5 billion, on revenues of $15.1 billion, up 15.2%. That's markedly better than some other banks' multibillion-dollar losses.

"Both banks have been performing well against their peer group," says Antonio Ramirez, a banking analyst at stockbroker Keefe, Bruyette, & Woods in London. "Diversifying into other markets should help protect them against the economic slowdown in Spain."

This theory will soon be tested, as the Spanish economy is expected to grow a mere 1.6% in 2008, compared with 3.8% last year. The country's unemployment rate now tops 10.4%. And after a 10-year housing boom, the domestic real estate market has imploded, leaving banks holding millions of dollars of bad loans. Raj Badiani, an economist at researcher Global Insight, reckons there's a 60% chance the Spanish economy will fall into recession.

How will this domestic downturn affect Spain's financial highfliers? Analysts at brokerage Dresdner Kleinwort expect BBVA to continue outperforming rivals, due to its large capital reserves and strong presence in emerging markets. The bank saw a 7.6% increase in first-half net profit from its Mexico unit, to $1.5 billion, and a 7.5% rise in South America, to $548 million. It has roughly $78 billion in reserves to underpin its operations—a larger cushion than at most other banks.

For Santander, Latin America also will grow in importance once the bank finalizes its takeover of Brazil's Banco Real. Santander paid $17.2 billion for the Brazilian business as part of the breakup of Dutch financial giant ABN Amro . According to Santander Chief Executive Alfredo Sáenz, the bank's increased presence in Brazil will eventually produce a 30% overall net profit, compared with 9.5% currently. First-half profit from Latin America rose 1.6%, to $1.1 billion.

Not that the Spanish banks are completely immune from the problems affecting other financial players. As in the U.S., declining real estate sales in Spain—still the main market for BBVA and Santander—are hitting their balance sheets. Defaults as a proportion of Santander's total loans topped 1.3% in the first half of 2008, compared with 0.8% over the same period last year.

For BBVA, the figure rose to 1.2% this year, vs. 0.8% in 2007. "There's no doubt both banks will suffer somewhat from the indigestion caused by the Spanish housing market," says Keefe, Bruyette, & Woods' Ramirez. Yet despite domestic economic turbulence, both Spanish banks are better prepared than others to take advantage of current financial instability.

Santander agreed on July 14 to buy troubled British mortgage lender Alliance & Leicester for $2.6 billion. Rumors abound that other deals will follow as the banks look to snap up distressed assets across Europe. That spells good news for Spain's leading financial players. With limited exposure to U.S. subprime assets and buoyed by strong lending portfolios in the Americas, BBVA and Santander are standing tall.

Australian RMBS market on brink of collapse
The RMBS market is in danger of collapsing and - without government intervention - consumers may be left at the mercy of the big banks as the only remaining mortgage lenders.

“The RMBS market is dying on the vine," said Greg Medcraft, chief executive of the Australian Securitisation Forum (ASF).
Medcraft said confidence among institutional lenders, being the groups that buy the RMBS bonds that fund the mortgages that hundreds of thousands of Australians use to buy their homes, is so low that only $2 billion in RMBS bonds were bought in the first six months of this year compared with $47 billion during the same period last year.

This low volume of housing bonds issuance is transforming the mortgage market as non-bank lenders get crowded out by the big banks and evaporating competition. Medcraft said the five largest banks have increased their home mortgage market share dramatically in recent months.

After steadily falling from 65 to 58 per cent between 2004 and 2007, the RMBS drought has seen banks reclaim 10 per cent of the market returning them to the glory days when they dominated the market. Non-bank lenders entering the home mortgage market saw spreads, the gap between actual mortgage rates and the official Reserve Bank rate, drop two-thirds from nearly 5 per cent to now less than 2 per cent.

Fears are growing a reduction in competition from non-bank lenders may see these competition effects reverse.To resuscitate the market, the ASF is proposing that the government, through the Australian Office of Financial Management, intervene in the corporate bond market to provide liquidity in the same way the RBA intervenes to support banks.

The proposal is similar to how the home mortgage market is funded in Canada, but starkly different to the flawed Fannie Mae and Freddie Mac schemes used in the US, said Medcraft. “The difference between securitisers and banks is they can raise short term funding through the RBA. Non-banks need to be in a position to access the same liquidity."

Kim Cannon, managing director of FirstMac, said, “We hear the Treasurer talk about competition, but we're it." The ASF, however, is not waiting for the government as they are already working with investors to create bonds that are more investor-focused, such as designing them to be compatible with benchmarks regarding maturation timetables and collateral structure.

They are even investigating the creation of customised benchmarks to create a whole new asset sub-class, modelled on a bank bill-like framework.

Australia Facing 'Once-in-100-Year' Housing Slump
Australia may be headed for a housing recession similar to those roiling the U.S. and U.K. The cause is a combination of rising default rates, the biggest drop in home prices in five years, the highest borrowing costs in a decade and slowing economic growth.

Prices in the property market -- described by the International Monetary Fund in April as one of the world's most "overvalued" -- will fall 30 percent by 2010, according to Gerard Minack, senior economist at Morgan Stanley in Sydney. Prices dropped in all of Australia's major cities last month for the first time since just before the Great Depression.

"I panicked" when the figures came in, said John Edwards, chief executive officer of Residex Ltd., a Sydney company that tracks property prices. "We've been doing this for 20 years and have data that goes as far back as 1865, and it's really abnormal."

Prices fell in Sydney, Melbourne, Brisbane, Perth, Adelaide, Darwin, Hobart and Canberra by between 0.6 percent and 2.2 percent, according to Residex. The national median house price fell almost 3 percent to A$458,000 ($435,000). "Australia is headed for a once-in-100-year real-estate slump," Edwards said.

"I have never seen the convergence of so many negatives." Rising property prices drove a decade-long consumer spending boom that saw Australia's $1 trillion economy weather fallout from the 1997 Asian financial crisis and the collapse of Internet stocks in 2000.

Household debt has almost doubled since 1999 to around 160 percent of incomes, a higher ratio than in the U.S. and U.K., according to AMP Capital Investors. The median national house price soared about 140 percent in the same period. "By every metric I can think of, Australian houses are too expensive," Minack said, costing an average of six years' earnings, double what Americans paid before their property market started falling in 2006.

The Washington-based IMF says Australian house prices were overvalued by almost 25 percent in the decade through 2007 when compared with household income and ability to pay debt. Only Ireland, the Netherlands and the U.K. were higher. A crash would "result in a significant negative wealth shock" for Australians, whose spending accounts for about 60 percent of the economy, Minack said.

While growth is expected to continue for a 17th straight year in 2008, the Reserve Bank of Australia forecasts it will slow to 2.25 percent from 3.9 percent in 2007. A government report today showed retail sales fell 1 percent in June, the biggest drop in six years.

A housing recession may also trigger losses at lenders including Commonwealth Bank of Australia and Westpac Banking Corp., whose stock has fallen more than 20 percent this year. The nation's five largest lenders have added an average 105 basis points to mortgage rates so far in 2008 as the global credit squeeze drove up funding costs.

They were also reacting to moves by central bank Governor Glenn Stevens, who raised the benchmark lending rate twice this year by a total of 50 basis points to a 12-year high of 7.25 percent to curb inflation. Prices gained 4.5 percent in the second quarter from a year earlier, the fastest pace since 2001.

The increases have added A$250 to monthly payments on an average A$250,000 home loan, according to the Real Estate Institute. Households spent 38 percent of their incomes on mortgage payments in the March quarter, the most in the 22 years the institute has measured affordability.

Sydney research company Fujitsu Consulting says 923,000 households will face "mortgage stress" by September, up from 171,000 a year earlier who said they were having trouble repaying loans. Australia's population is 21 million, and 6.9 million households have mortgages.

Brazil to harden line on U.S. farm aid post Doha
Brazil will likely take a hard line against U.S. agricultural subsidies at the World Trade Organization now that the Doha talks have collapsed, trade specialists said on Wednesday.

The WTO's so-called Doha Round of talks to cut trade barriers and farm subsidies collapsed on Tuesday in Geneva, frustrating hopes in Latin America's largest economy for a global deal. As one of the world's farming giants, Brazil had hoped that a successful conclusion to the talks would have resolved many of its outstanding objections to U.S. agricultural subsidies and tariffs, most notably in the areas of cotton and ethanol.

"With U.S. cotton subsidies, there does not appear to be any way out -- retaliation is the only option for the government now," said Pedro Camargo Neto, who was instrumental in forming Brazil's WTO challenge against U.S. cotton aid. Earlier this year, the WTO upheld its original ruling against U.S. cotton subsidies in favor of Brazil in the final appeal process lodged by the United States.

"There was some kind of agreement that Brazil would not retaliate because Doha was supposed to solve the cotton problem. But now there is no hope of such a solution," Camargo said. "The government won't like it but the rule is, if you win the appeal, trade sanctions are the only option." Camargo said he did not see U.S. farm policy changing without Brazil imposing trade sanctions against U.S. products, including intellectual property rights.

With the collapse of the Doha Round, litigation against the United States's ethanol import tariff at the WTO also seems more likely. Brazil's Sugar Cane Industry Association (Unica) had hired lawyers to study the compatibility between the U.S. tariff and WTO rules but decided to give the Doha talks a chance before deciding whether to press the government to back a challenge.
Producers see the 54-cent-a-gallon import tariff as an obstacle to cane-based ethanol exports to the U.S. market.

The Brazilian government has already said it was finishing studies on the issue and that a challenge at the WTO was on the table. "Going to the WTO and asking the dispute settlement body to analyze the legal basis of the U.S. tariff is now possible," Unica President Marcos Jank said. "Of course, we would prefer a negotiated solution. Litigation could be complicated -- look what happened with cotton."

Unica's president said other options under consideration are working with groups in the United States that also defend the tariff reduction and searching for bilateral talks. "Bilateral talks are always a possibility but there is little mood now," Jank said, adding that the presidential elections in the United States would make things even more difficult. "I doubt we'll see any results in the short term." Brazil is the world's largest ethanol exporter.

Jank said that the ethanol import quota the European Union offered Brazil last week was part of the Doha talks. Therefore, with its failure, the offer was no longer on the table. Camargo added that U.S. farm subsidies will also likely face a renewed challenge at the WTO from a joint action opened some months ago by Brazil and Canada, which questions whether the recent U.S. Farm Law exceeds WTO subsidy limits.