Wednesday, March 19, 2008

Debt Rattle, March 19 2008

Ilargi: In the past few days I’ve written a lot on the Great Debt Nationalization. Well, it has started. Last week, I said Monday looked like the day, except if last week's $200+ billion pump and dump would keep stocks high enough; that would push it to Wednesday. What day is today? Voila........

Fannie, Freddie cleared to pump $200 billion into market
The regulator of Fannie Mae and Freddie Mac on Wednesday eased capital requirements for the two biggest housing finance agencies, allowing them to pump up to $200 billion into the distressed U.S. mortgage market.

The regulator, the Office of Federal Housing Enterprise Oversight, said it was lowering to 20 percent from 30 percent the amount of extra capital the companies are required to hold. It will also consider further reductions. The 30 percent requirement had been imposed after the discovery of lax accounting and risk controls earlier this decade.

In addition, the companies will begin to raise "significant capital," OFHEO said in a joint statement with Fannie Mae and Freddie Mac. Last year, the companies sold nearly $14 billion in preferred stock.

The extra $200 billion would allow Fannie Mae and Freddie Mac to purchase both existing mortgage-backed securities and new home loans originated by banks. It could also enable them to increase their business of guaranteeing mortgages, a key to helping pull the U.S. housing market out of its funk.

"It's good news," said Chris Rupkey, chief financial economist at Bank of Tokyo/Mitsubishi in New York. "A lot of mortgage originators have left the business, so it's a good thing that mortgage money will be made more available."

The move is a shift for the Bush administration, which has long argued the combined $1.4 trillion portfolio of the companies represents more of a risk to the U.S. financial system than a help to homeowners. The new policy comes as falling home prices and increasingly jittery financial markets have pushed the U.S. economy to the verge of recession.

Fannie, Freddie shares jump on capital easing
Shares of Fannie Mae and Freddie Mac rallied on Wednesday after their regulator eased capital limits on the nation's major home finance companies to pump as much as $200 billion in immediate cash into the stressed mortgage markets.

Fannie Mae shares rose more than 14 percent to $32.25 on the New York Stock Exchange, while those of Freddie Mac leaped more than 16 percent to $30.25.

Gold Plummets by Record $59 on Fed's Interest-Rate Decision
Gold futures plunged $59 an ounce, the most ever, after the Federal Reserve reduced U.S. borrowing costs less than investors expected and signaled more cuts won't be as aggressive. Silver tumbled the most since August.

The Fed yesterday reduced the overnight-lending rate 0.75 percentage point to 2.25 percent. Interest-rate futures showed more bets on a reduction to 2 percent. Two days ago, gold reached a record $1,033.90 an ounce as cuts to the benchmark rate sent the dollar to an all-time low against the euro.

"It's a function of expectations," said Chip Hanlon, who helps manage $1.5 billion at Delta Global Advisors Inc. in Huntington Beach, California. "Market sentiment has changed to `maybe the Fed can bail us out.' Investors who want to own gold should be aware the correction could be sharp in price and prolonged in time."

Gold futures for April delivery fell 5.9 percent to $945.30 an ounce on the Comex division of the New York Mercantile Exchange. That marked the biggest percentage drop for a most- active contract since June 13, 2006. The metal climbed in the previous six sessions, gaining 3.3 percent.

In 1980, the price plunged $50 a day from Jan. 22 to Jan. 24. On Jan. 21 that year, the metal climbed to $873, a record that lasted for almost 28 years. Silver futures for May delivery fell $1.515, or 7.6 percent, to $18.445 an ounce, marking the biggest percentage decline since Aug. 16. The price is still up 24 percent this year.

Before today, gold climbed 20 percent in 2008 after gaining for seven straight years.
"There is some measurable support for gold in the low $900s," Hanlon said. "There isn't heavy support until $800. It may sound like a dramatic decline, but it's a correction in a bull market."

How Do You Cure a Credit Bubble?
I'm a bit puzzled by some of the underlying thought processses behind those proponents of a massive government bailout of some sort of the US housing industry. On one hand, they seem, for the most part, to be agreeing with the premise that the state of the US balance sheet, whether our private (consumers) or our public (the government) is at minimum unsound and in the long term creates extreme risk. On the other hand, they seem to be saying that the only way out of our current difficulties is to continue to expand credit. Huh?

Via Financial Times (a fine paper in many respects, but can't say I agree with this particular opinion):
Moreover, the US has structural vulnerabilities that Japan did not have: low household savings, untested derivative markets, and a large current account deficit.
But there may be a conflict between the private interest of the banks and the public interest in continued credit expansion.

So, were financially unsound and its in the public interest to become more financially unsound? Continued credit expansion, the so called "hair of the dog" approach is really what we need? When does it reach the point where it's time to enter a good detox center (managed credit contraction) instead?

So, levering the entire world's output and the entire worlds stock market capitalization at over 10x thru derivatives alone isn't enough (estimated size of derivatives market $516 trillion divided by $48 trillion world GDP or by $51 trillion world stock market capitalization)? Keep the frat party going as long as possible, keep misallocating far too many resources into financial engineering and real estate?

Then of course, there are those within the "We'll fix our balance sheet by borrowing and leveraging some more crowd" who want to "fix" our situation via some sort of upside down Nixonian price controls, i.e. price floors. So is the thought process something along the lines of "Just because temporary price controls were a disaster doesn't mean temporary price floors won't work out just wonderful"? This via the Senate banking committee chairman (Chris Dodd):
What we're trying to do here, in addition to providing assistance to the homeowner, is to create a floor...

So what is the right price to set it at, i.e. the floor? Is it better set by free markets or by government subsidies? Furthermore, what if Chris Dodd and the like were to actually to "succeed" in putting a floor on house prices (doubtful but lets just play "what if"). Is having housing prices artificially subsidized at levels far above long term trends actually in the long term best interest of our economy? Further, is it in the best interest of those looking to buy a house both now and in the future to not only have to pay some of their tax money subsidizing the cost of housing, but to overpay once more in buying an artificially overpriced house?

It seems to me that trying reflate the bubble in some way shape or form is about the worst thing we can do. The only viable long term solution is to attempt to deleverage / contract the credit cycle to a market driven level of balance, but given the magnitude of the rise, to do it in some sort of managed fashion. As to the particulars of how best to manage it? There are plenty of arguments to be made on each step of the way, sure to provide plenty of fodder for discussion

Ilargi: Ambrose Evans-Pritchard is starting to show his true colors. And I for one don’t like them. He’s among the best informed writers out there, but refuses to draw the proper conclusions.

Sooner Fed bail-outs than the 1930s revisited
Put a clothes peg on your nose. The moral stench of bail-outs for the über-rich will be sickening. None of us wants to pay a farthing to rescue the bankers and assorted debt pimps who got us into this financial mess, and in doing so exposed our societies to such harm.

Yet we must forbear. It was such sentiments that turned the 1930 recession into a slump. "Liquidationists" prevailed: they insisted with Puritan zeal - or malice - that speculators should be driven to the wall amid a cathartic purge of the Roaring Twenties.

Among them were top bureaucrats at the US Federal Reserve and some of Europe's central banks. The consequence was the Brüning deflation in Germany, ushering in the Nazis. Democracies snapped across half of Europe. If it had not been for the towering figure of Franklin Roosevelt, America might have splintered into a bedlam of Prairie populists, Coughlan Fascists and Huey Long extremism.

We should be thankful that the man now heading the US Federal Reserve - Ben Bernanke - spent his early career immersed in the details of that catastrophe. He has written books showing how a credit crunch can set off a vicious downward spiral, and do so with lightning speed. You do not mess around in such circumstances.

The "liquidationists" accuse Mr Bernanke of taking a dangerous gamble with inflation by slashing rates from 5.25 per cent to 2.25 per cent in six months, culminating in a trenchant three-quarter point cut Tuesday. They accuse him of "moral hazard" for invoking a Depression-era clause permitting the Fed to take on $30 billion of direct credit risk left by the wreckage of the US broker Bear Stearns.

They are right, in a sense. This is probably the start of a massive taxpayers' rescue of the banking system. It stinks. But imagine if Mr Bernanke had listened to such advice as Bear Stearns faced collapse. It is America's fifth biggest investment bank. It has $13,400 billion of derivative positions, and has underwritten $491 billion in options contracts. Topple this domino at your peril. It risks a chain of cross-defaults through the entire "shadow banking system", that vast untested nexus of paper commitments.

Bear Stearns had a liquidity cushion of $17 billion early last week. It vanished in two days. This was a run on a bank by New York insiders. It would not have stopped there. If the Fed had not taken emergency action on Sunday night, wolf packs would have fallen on Lehman Brothers (even bigger) with equal ferocity this week. The crisis threatened to snowball out of control.

America is not facing "recession-as-usual". It is in the grip of a property crash. House prices have fallen by 10 per cent so far; Goldman Sachs fears they may fall by 30 per cent in the end. The sub-prime mortgage industry has already disintegrated. Some 241 lenders have gone bust, or shut their doors.

The crisis has since spread to prime mortgages. Fannie Mae and Freddie Mac - the fortress agencies that guarantee 60 per cent of America's $11 trillion mortgage market - began to crumble last week. Even bodies standing at the top of the credit system are no longer deemed safe. As Barclays Capital put it, this was a "tsunami event".

Or in the words of City veteran David Buik at Cantor Fitzgerald: "No one in living memory has ever seen a banking crisis like this. I am older than God, and the outlook has never looked as bleak." Any smug assumption that this will remain a local American affair may soon be confounded. The IMF has abruptly changed its tune. "Obviously the financial market crisis is now more serious and more global than a week ago," it said on Monday.

Property booms will soon be deflating across the Anglo-Saxon world and the eurozone's Club Med belt. Japan is already on the brink of recession. Debt levels are higher now in most rich countries than they were in 1929. The levels of financial leverage are greater. As the Bank for International Settlements wrote last year, we are more vulnerable to a 1930s dénouement than people realise - should the authorities botch the response.

Like some other free-market bears, I now find myself in an odd position. For years we castigated the central banks for inflating a reckless credit bubble by holding interest rates too low. Now we have flipped. We are on the other side, defending monetary stimulus, even defending the state takeover of Bear Stearns debt. No doubt we will have to defend yet more egregious intervention by the state before this is over. We will become temporary socialists.

Too bad. The world is in deep trouble. Purist ideology has become a danger. The "liquidationists" must be countered, and defeated.

Bill Gross: 'The overwhelming problem now is deflation, not inflation'

Ilargi: It’s good to see the world finally waking up to what we have pointed out too many times to count here: derivatives. The real danger.

The Financial Dominoes are Falling
Who are the biggest three financial firms that dominate the banking and investment industry?  JPMorgan, Citigroup, and Bank of America.  Each of these three owns derivatives books that are larger than all other U.S. banks, combined, $80 trillion, $30 trillion, and $30 trillion, respectively. 

For comparison, the GNP is $13 trillion, money in U.S. banks is $13.5 trillion, and the national debt is $9 trillion.  These three banks leverage their "assets" about 100 to 1 through interest rate derivatives contracts, and cannot afford to see catastrophic events happen, such as a major rise in interest rates, or a major rise in the gold price.

But interest rates must rise as high as the gold price is rising to prevent further gold price rises, which means that interest rates need to rise to about 30-50% which would devastate bond values, and so, they are in deep trouble of going under themselves.

This is why they are bailing out other banks; to prevent withdrawals in case people lose confidence in their entire fraudulent system. All three have market caps of over $100 billion. Looking at the charts, all three appear to be in serious trouble as they have lost almost 50% of their market cap in the last 6 months.  Collectively, that's about $300 billion in losses right there.  Citigroup appears the worst off, losing more than 50% of their stock price.

The funds that own these banks are also in big trouble, losing huge amounts of capital. Look who owns them:

It's quite incestral, and many of the same names, the following 7 names, all show up in the top 10 holders of each of the top 3 banks, Barclays Global Investors UK Holdings, Capital Research and Management, State Street Corp, The Vanguard Group, FMR, AXA, Bank of New York Mellon Corp.  Each fund has lost about $7-15 billion on all three of the major bank stocks in the last 6 months, collectively, about $70 billion in losses right there.

It seems as if there is a game afoot called avoiding bankruptcy.  It appears to me as if each fund is trying to raise capital by selling off their bank stocks at the same time to raise capital to offset other losses or to meet other financial obligations, and this is creating a positive feedback loop creating further losses. I think there is a major panic right now among the world's largest institutions and funds. It seems they don't know who to trust.

Why Bear was bailed out: $13 Trillion In Derivatives
Bear even as recently as 2005 to 2007 was listed as “most admired” securities firm according to Forbes magazine. If anything, it seemed like the mighty Bear could do no wrong. That is until the credit crunch hit.In June of 2007 Bear had to come up with over $3 billion to bail out one of its funds that was dabbling in collateralized debt obligations (CDOs). Incredibly these funds were seized at the time by Merril Lynch for $850 million who was only able to get $100 million for them on the auction block.

Talk about mark to market. This little hiccup turned out to be the tip of the iceberg as we entered August and the market pummeling credit crunch. The company had a fabled somewhat legendary status. With Alan “Ace” Greenburg, the mythic chairmen of the board for nearly two decades, the company was a destination for many Wall Street types. But as the market would have it, having way too much leverage in a time when credit is tight and investors are jittery, the investment bank saw a run and in a matter of a week, had lost over 90 percent of its initial market value. It is hard to say what exactly was the catalyst that caused the camel er, I mean the Bear to break its back but this may be a good reason:

“First, as of Nov 30, 2007 Bear Stearns was counterparty to 13 TRILLION in derivatives contracts, as shown in their most recent public 10K Filing with the SEC. (hat tip to jerrbear from PrudentBear for tracking down the reference page. Great catch!).
As of November 30, 2007 and 2006, the Company had notional/contract amounts of approximately $13.40 trillion and $8.74 trillion, respectively, of derivative financial instruments, of which $1.85 trillion and $1.25 trillion, respectively, were listed futures and option contracts…

The Company’s derivatives had a notional weighted average maturity of approximately 4.2 years at November 30, 2007 and 4.1 years at November 30, 2006. The maturities of notional/contract amounts outstanding for derivative financial instruments as of November 30, 2007 were as follows:”

click to enlarge

There is a lot of talk discussing how great of a deal JP Morgan got Bear Stearns for but again, take a look at the counterparty risk that is involved. There is a reason why the Fed has offered up $30 billion in non-recourse loans to JP Morgan to assume the mess that is on the books at Bear Stearns. The irony may be that Bear Stearns may be one of many that have their hands in the counterparty cookie jar. Just like Bear was early in June with its imploding hedge fund from the August crunch, it is quite possible that they are early here with the unwinding of the counterparty market which the Fed knows that it has one and only one shot to save. Once the unwinding and panic sets in this market, there is no putting the genie back into the market.

Will the US remain US? Or become a neo-USSR?
The world of finance today is controlled by derivatives. What is a derivative? ’Derivatives are financial Weapons of Mass Destruction [WMD]’, ‘now latent’ but ‘are potentially lethal’. This is not socialist Fidel Castro, but, capitalist Warren Buffet speaking recently (on March 10, 2008). Yet, the most among those who count in the world seem unaware of this WMD. ‘Politicians, senior executives, regulators, even portfolio managers have limited knowledge’ about it, says an expert Web on derivatives.

Derivative is a financial instrument whose value is not its own, but derived from something else, on some underlying asset or transaction, such as commodities, equities (stocks) bonds, interest rates, exchange rates, stock market indexes, why, even inflation indexes, index of weather! The CDOs (collateralised debt obligations), by which the underlying US local subprime loans were palmed off to other continents, was, till the fraud was not out, a reputable credit derivative.

So derivative is not only a WMD but also an ICBM, an Inter Continental Ballistic Missile, that hits across continents! Also, the virtual derivative economy is gradually decoupling itself from the actual in quality as well as size. Hundreds of exotic derivative products have been innovated and innovations by the best minds are continuing.

The population of these beastly financial products has grown to gigantic levels that is beyond the competence of any system, mind, or force to deal with. The sheer collective size of these modern financial beasts is terrifying. According to the Bank of International Settlements [BIS], the aggregate derivative positions of banks grew from $100 trillion in 2002 to — believe it — $516 trillions in 2007, that is over 500 per cent in five years!

Yet they do not appear in bank or corporate balance sheets. Some of the vital actuals seem pygmies in comparison to these virtuals. The total derivatives are more than ten times the global GDP [$50 trillion]; some seven times the world’s estimated real estate value [$75 trillions]; more than five times the world’s stock values [$100 trillions]; more than 33 times the US GDP [$15 trillions] or the US money supply [$15 trillion]; 172 times the US federal budget [$3 trillion] — it can go on. The size of the virtual economy is indeed petrifying. Worse, it unpredictably targets, yet accurately eliminates, the distant and the unwary as the CDOs did.

Credit Default Swaps: The Next Crisis?
As Bear Stearns careened toward its eventual fire sale to JPMorgan Chase last weekend, the cost of protecting its debt, through an instrument called a credit default swap, began to rise rapidly as investors feared that Bear would not be good for the money it promised on its bonds. Not familiar with credit default swaps? Well, we didn't know much about collateralized debt obligations (CDOs) either — until they began to undermine the economy. Credit default swaps, once an obscure financial instrument for banks and bondholders, could soon become the eye of the credit hurricane. Fun, huh?

The CDS market exploded over the past decade to more than $45 trillion in mid-2007, according to the International Swaps and Derivatives Association. This is roughly twice the size of the U.S. stock market (which is valued at about $22 trillion and falling) and far exceeds the $7.1 trillion mortgage market and $4.4 trillion U.S. treasuries market, notes Harvey Miller, senior partner at Weil, Gotshal & Manges. "It could be another — I hate to use the expression — nail in the coffin," said Miller, when referring to how this troubled CDS market could impact the country's credit crisis.

Credit default swaps are insurance-like contracts that promise to cover losses on certain securities in the event of a default. They typically apply to municipal bonds, corporate debt and mortgage securities and are sold by banks, hedge funds and others. The buyer of the credit default insurance pays premiums over a period of time in return for peace of mind, knowing that losses will be covered if a default happens. It's supposed to work similarly to someone taking out home insurance to protect against losses from fire and theft.

Except that it doesn't. Banks and insurance companies are regulated; the credit swaps market is not. As a result, contracts can be traded — or swapped — from investor to investor without anyone overseeing the trades to ensure the buyer has the resources to cover the losses if the security defaults. The instruments can be bought and sold from both ends — the insured and the insurer.

All of this makes it tough for banks to value the insurance contracts and the securities on their books. And it comes at a time when banks are already reeling from write-downs on mortgage-related securities. "These are the same institutions that themselves have either directly or through subsidiaries invested in the subprime market," said Andrea Pincus, partner at Reed Smith LLP. "They're suffering losses all over the place," and now they face potentially more losses from the CDS market.

Indeed, commercial banks are among the most active in this market, with the top 25 banks holding more than $13 trillion in credit default swaps — where they acted as either the insured or insurer — at the end of the third quarter of 2007, according to the Comptroller of the Currency, a federal banking regulator. JP Morgan Chase, Citibank, Bank of America and Wachovia were ranked among the top four most active, it said.

Merrill Sues XL Capital to Maintain CDO Insurance
Merrill Lynch & Co., having taken $24.5 billion in writedowns on mortgage-related debt, sued XL Capital Assurance Inc. to stop the bond insurer from canceling $3.1 billion of contracts on collateralized debt obligations. "We filed suit to make clear that XL Capital Assurance Inc. is required to meet its contractual obligations for credit default swaps it agreed to," Mark Herr, a spokesman for New York-based Merrill, said in a statement sent by e-mail today.

CDOs, used to repackage mortgage-backed debt into new securities, were the largest source of more than $195 billion of mortgage-related losses at the world's largest banks and securities firm since the beginning of last year. Merrill's writedowns top the list. Before the collapse, banks tried to limit losses by taking out insurance from companies such as XL, a unit of Security Capital Assurance Ltd. of Hamilton, Bermuda.

"Apparently in light of the current dramatic downturn and deterioration in the credit markets, defendants are having `sellers' remorse," according to the complaint filed today in Manhattan federal court.

SCA, stripped of its AAA ratings, said last week it was seeking to void the contracts, responsible for $427.4 million of the new reserves for losses the company set aside last quarter. SCA declined to name the counterparty, which Chief Executive Officer Paul Giordano said on a March 14 conference call failed to meet requirements "in a fundamental way." Merrill fell $3.97, or 8.5 percent, as of 2:30 p.m. in New York Stock Exchange composite trading. SCA rose 6 cents to 78 cents in over-the-counter trading.

Mission accomplished: FUBAR ‘R’ us
Which one of these headlines scares you the most? "Recession fears rise on more job cuts." "Fed takes new steps to boost cash for banks." "World markets slide as US economy groans." "Housing market spirals, no end in sight." "Consumer confidence at lowest since 2002." "Studies: Iraq costs US $12B per month." "Gas prices rise to new national record." "Consumers increased their borrowing by $6.9 billion in January." "Bush says no recession in sight."

Yeah, I know. It's not even close. Once again, our President emerges victorious.

Over the years, Bush has acquired many critics. Some think him as being arrogant, stubborn, ill informed, short-sighted, paranoid, clueless and out of touch. Others consider him an ideologue, an overgrown frat boy with a warped sense of entitlement, a dry drunk, a sociopath, a fascist, a belligerent blow-hard, a monarch wannabe with the inherent intelligence of a kadota fig and a total failure. To be fair to Bush, he is all that and more – an unprecedented Black Hole in the history of American governance.

Our president, who believes in the piss on 'em, I mean, er, trickle down theory of economics and who has made a practice out of robbing the poor to give to the rich, is now faced with his latest monstrous creation: an American economy that has gone bust. The only reason there aren't Hoovervilles popping up around the country is that nobody can afford the cardboard. The sheer madness of King George has been highlighted in the past week by dire financial headline after headline and Bush's reaction, or lack of it, to the consequences of his "let them eat caca" economic policies.

Last week, the Labor Department announced that 63,000 non-farm jobs were lost in February, following January's 22,000 goners. February's figures were the worst in five years. In addition, 450,000 folks bade adios to the labor force. They just stopped looking for jobs that weren't there. (As a result, our unemployment rate eased to 4.8% from 4.9%, a fact Bush actually bragged about.)

The real job loss for February is a tad higher than the official number. Construction lost 39,000 posts. Manufacturing took a 52,000 hit. Retailers cut 34,100 jobs. Financial companies slashed 12,000 positions. Even temp agencies reported 27,600 jobs cut. The total job loss number was offset by the creation of new jobs in such sectors as government, service, prostitution and television punditry. (Okay, I made some of that last stuff up.)

Consumer confidence sank to a new low of 33.1%. "We've gotten to a point where there's very little for the consumer to cheer about. Everywhere you look - homes, grocery stores, gasoline stations - there are things that are all weighing on consumer attitudes," said Richard Yamarone, economist at Argus Research. "You have soaring energy and food prices, rising home foreclosures and uncertainties about the jobs climate. When you mix it altogether it is a recipe for miserable consumer sentiment."

D'ya think?

Adding to the hilarity, the dollar slid to record international lows this past week. It's right down there with colored beads, trinkets and beaver pelts.

Oil soared to a new high, just about $110 a barrel. Gas prices hit an all-time record, with regular unleaded going for $3.2272 a gallon, a figure that doesn't accurately reflect what's happening at the pump. In California, for instance, a gallon of unleaded averages $3.50, with one station in the northern part of the state pumping it up to $5.19! In other words, gas is now almost as costly as a D.C. hooker. The amount of consumer credit owed to banks and credit cards rose to $6.9 billion this year because people are now using their credit cards to survive.

Probably not coincidentally, a survey measuring an individual's outlook about their personal financial standing as well as that of the country's came up with a resounding NEGATIVE 41.6% Think of it this way: all those folks who wanted to have a beer with Bush can no longer afford the beer. (Nor can they afford his policies.) Bush's King Midas in reverse financial touch is spreading across the land.

Ilargi: Don’t be fooled by the music and the balloons. Visa’s IPO is nothing but a fire sale of Wall Street's few remaining good assets, needed to pay off debt on bad assets.

Big Payday for Wall St. in Visa’s Public Offering
In a boon for big banks and Wall Street, Visa, the credit card giant, went public Tuesday in the largest initial public offering in American history. The company’s shares, priced at $44 each, will begin trading on Wednesday on the New York Stock Exchange under the ticker symbol V. The $18 billion public offering was greeted with fanfare in the financial industry but was unlikely to unleash a new wave of initial stock sales given the turbulence in the markets.

Even so, the offering will generate a windfall for Visa’s thousands of member banks, which own the company. JPMorgan Chase is expected to reap about $1.25 billion, while Bank of America, National City, Citigroup, U.S. Bancorp and Wells Fargo are likely to receive several hundred million dollars each.

Wall Street firms, in the meantime, stand to collect upward of $500 million in underwriting fees from the sale. “That is a good infusion of capital,” said John E. Fitzgibbon Jr., the founder of, a Web site that tracks the industry. “And it’s no secret that Wall Street is capital starved right now.”

Shares of Visa were priced above the expected range of $37 to $42. More than 406 million shares are being offered, with an option to add 40.6 million if there is demand. That means the size of sale could reach as much as $19.7 billion. In going public, Visa is following in the footsteps of its smaller rival MasterCard, whose shares have risen more than 439 percent since its public offering in May 2006. Many other companies, however, are struggling to sell stock given turmoil in the markets.

“There are just not the buyers out there in this environment,” said Scott Sweet, a partner at IPOBoutique, an industry research firm. “They are scared by the market volatility.” Just 10 companies went public during the first two months of 2008, according to Dealogic, a financial services research firm. That compares with 50 public offerings in the first three months of 2007.

Analysts say that the market has essentially been closed to companies outside the energy, natural resources and health care industries. Excluding Visa, roughly 190 deals, valued at a combined $37.7 billion, are still in the pipeline, according to IPO data.

Several high-profile initial public offerings have been scrapped or delayed in the last few months, including one for Kohlberg Kravis Roberts & Company, the big buyout firm. In all, about 77 percent of all public offerings have been withdrawn or postponed, according to bankers, including one this week by Pogo Jet, a jet charter service. Many companies that have moved forward with sales have scaled back their offerings. CardioNet, a health care technology start-up, which Citigroup took public late Tuesday, cut the number of shares it allocated in half and lowered the price after several big shareholders backed out of the offering.

Sub-prime collapse 'beyond the US Federal Reserve'
Fears are growing that the US Federal Reserve may soon find itself short of the funds needed to continue propping up the nation's financial system. The central bank yesterday used its financial muscle to back the bail-out of the stricken Wall Street investment banking giant Bear Stearns, which will be taken over by rival JPMorgan Chase at a fraction of its worth last week.

But analysts believe the threat to the financial system, which continues to flow from the collapse of the sub-prime mortage market last year, is getting too big for the Federal Reserve. "This is now beyond the Fed," ANZ international economist Amy Auster said. "It is not going to be able to deal with this situation on its own."

She said the US central bank had already extended support of about $US400 billion ($426 billion) to the US financial system, compared with its assets of $US800 billion. She said financial system losses yet to be reported could easily exceed another $US400 billion. "What is missing at the moment is the US Treasury," she said.

But Treasury Secretary Hank Paulson has already declared his hostility to federal measures to help the sinking financial sector. "Let me be clear: I oppose any bail-out," he said in a speech 10 days ago. "Most of the proposals I've seen would do more harm than good - bailing out investors, lenders or speculators who, instead of getting a free pass, should be accountable for the risks they took," he said. "I believe our efforts are best focused on helping homeowners who want to stay in their homes." 

There remains a vast quantity of financial assets of doubtful value that will expose banks and other financial institutions to the kind of panic that brought investment bank Bear Stearns to the brink of disaster on the weekend. "When the fifth-largest investment bank is in trouble, you have to become concerned about the solvency of the system and the banks in the system," Ms Auster said.

In 2006 alone,  there were $US550 billion of "collateralised debt obligations" issued, she said. These are the bundles of mortgages and other securities that have been at the heart of the sub-prime crisis. Ms Auster said the market for these securities depended upon the ratings agencies, bond insurance and collateral. "All three elements of this infrastructure - the three bands of the bridge  have collapsed," she said.

When the Federal Reserve announced its extraordinary Sunday afternoon bail-out of Bear Stearns, it also extended a lifeline to all the other major investment banks, offering them access to emergency funding for the first time since the 1930s. As in Australia, the central bank is assumed to be the lender of last resort for the commercial banks, which take deposits from the public, but not for investment banks and stockbroking firms.

But the tangled web of counter-party arrangements that has developed between financial institutions over the past decade means that allowing Bear Stearns to go broke would have jeopardised major banks. "If Bear Stearns defaulted on their paper, it would pull at least another bank down," senior economist with finance broker ICAP, Matthew Johnson, said. 

Bleak Forecasts for Ford and GM
Just in time for the New York Auto Show this week, and a major investors' conference, General Motors and Ford shares are trading at 52-week lows with further declines in sight.

GM shares on Mar. 17 fell 7.2% to $17.83, which is lower even than the drop in 2006 when whispers of bankruptcy were swirling around the world's biggest automaker. Ford shares closed at $5.11. On Mar. 18, shares of both automakers were nosing upward, along with the broader market, after the Federal Reserve moved to bail out investment bank Bear Stearns and its announcement of a 75-basis-point cut in the federal funds rate.

The share prices of the two publicly traded U.S. automakers, though, reflect terrible fundamentals and a bleaker outlook for consumer confidence and auto sales for the rest of the year. February auto sales reflected what automakers and research firms forecast as a 15.2 million rate of sales for the first half of the year. The same rate is projected for the second half, but some analysts say sales could slip further for the year even after tax rebates from the U.S. government stimulus package and regular tax refunds end up in mailboxes in May and June.

On Tuesday, J.D. Power & Associates forecast 2008 auto sales to fall to 14.95 million, the lowest level of sales since 1994. "While the automotive industry's slow performance in January and February certainly contributes to the anticipated drop in new-vehicle sales, declining consumer confidence and spending, as well as turbulent financial and economic market conditions, are primarily driving the decline," said Jeff Schuster, executive director of automotive forecasting for J.D. Power & Associates.

"The downturn in retail sales—coupled with declines across the fleet market—also contributes to the overall reassessment of new-vehicle sales for 2008," said Bob Schnorbus, chief economist at J.D. Power & Associates. "Unfortunately, the current economic environment is fraught with uncertainty and risk—with the financial crisis, worsening oil prices, and weak housing and stock markets steadily impacting other sectors of the economy. As such, our revised forecast is better positioned to reflect the challenges automakers will face in the months ahead."

Bear Stearns rally won't last
The spiking share price of cash-strapped investment bank Bear Stearns suggests savvy traders are wagering that JPMorgan Chase is going to have to increase its lowly $2-a-share bid. Note to Bear Stearns shareholders: Don't hold your breath. A higher bid isn't likely to happen.

Tuesday's jump in Bear Stearns shares, which closed up more than 22% to $5.91, appears to be largely a function of bond traders buying blocks of stock to guarantee the JPMorgan takeover goes through. They are doing so because the deal, which saves Bear Stearns from a near-certain bankruptcy filing, is subject to the approval of Bear Stearns shareholders.

The logic behind the stock buys is simple: Friday's collapse of Bear Stearns represented a fantastic opportunity for distressed debt players and risk arbitragers at hedge funds and brokers to buy the firm's debt and credit default swaps at fire sale prices, on the belief that a merger or bailout would be engineered.

The speculators were right - and lucky too. JPMorgan, rated AA-minus, is assuming the debt and guarantees of Bear Stearns, which on Friday was sporting a triple-BBB credit rating. Bear Stearns credit default swaps, which are insurance for bondholders in case a company defaults on its debt, were being written for 1,000 basis points - costing the buyer $1 million to purchase insurance on $10 million worth of Bear Stearns debt. But they have since pulled into the 335-point range. By way of comparison, J.P. Morgan swaps cost 130 points at the market close Tuesday.

Trading in Bear Stearns debts tells a similar story. The 7.25% bonds due in 2018, which traded down to $79 - or $790 per $1,000 bond - on Friday, were being peddled Tuesday afternoon by Credit Suisse at $93.75. As such, the Bear Stearns stock purchases serve as a necessary counterweight to the large blocks of stock held by insiders and several high-profile investors, like non-executive chairman James Cayne, Tavistock's Joseph Lewis and Private Capital Management's Bruce Sherman. These people could potentially vote against the deal on the thinking that their options can't get much worse than accepting a buyout at $2 a share.

But Bear Stearns shareholders who don't like the deal don't have a lot of options. The merger agreement, or at least the parts of it that have been disclosed, appears ironclad in the advantages it gives JPMorgan. For example, the bank has the right to purchase up to 20% of Bear Stearns' equity at $2 per share, giving it an effective blocking position against another suitor. If another buyer does emerge, JPMorgan has the right to buy Bear's headquarters building at $1.1 billion.

Credit Suisse spent $1.8M lobbying
Credit Suisse Securities, a unit of Swiss financial services company Credit Suisse Group, spent $1.8 million last year to lobby on financial market regulation and other issues.

The company lobbied on issues related to hedge fund supervision, securities regulation, reform of Fannie Mae and Freddie Mac, executive compensation and rules for reviewing foreign investment in the United States, according to a disclosure form posted online Feb. 13 by the Senate's public records office.

Credit Suisse and many other large banks have lobbied to increase the size of the mortgages that can be purchased by the Fannie and Freddie, the two U.S. mortgage finance agencies, from $417,000 to $729,750. That cap was temporarily raised for mortgages in high-cost areas in the economic stimulus package signed by President Bush last month.

The company spent $880,000 in the second half of last year to lobby on the same issues. Lobbyists are required to disclose activities that could influence members of the executive and legislative branches, under a federal law enacted in 1995.

Subprime Mortgage Meltdown Renews Urban Blight
There is no shortage of regret over the failure of regulators and the Bush administration to heed the warning signs about the extent of the subprime housing crisis. A new regret is on the horizon: The failure to take action to prevent the descent into disrepair, economic distress and crime of revitalized urban neighborhoods across the nation.

Consider Lawrence, Massachusetts, a majority-Latino city that by 2005 had at last recovered from the 1990s real-estate bubble, ridding itself of the stigma of being known as New England's "arson capital."

Andrea Ryan of Lawrence's Community Development department told the Boston Globe, "It was so exciting for the city to see people buying homes and investing, and neighborhoods becoming economically stable." But by this October, the Globe told of a dozen vacant properties being robbed and stripped under the headline, "As foreclosures widen, a neighborhood erodes."

The Associated Press reported that in one of Atlanta's historic neighborhoods, Westview, 22 of 85 bungalows in one section of the area are now vacant because of foreclosures. "They've seen a lot of prostitution in the area, vagrants wandering in and out of the empty houses, and drug activity," Atlanta police officer Dakarta Richardson told the AP. "Some people that I talked to are afraid to walk out of their homes at night."

Sarah Gerecke of Neighborhood Housing Services of New York told a House committee that several neighborhoods in New York that had come back from the blackout of 1977 were now at risk of spiraling down due to foreclosures.

She pointed to such neighborhoods as Bushwick in Brooklyn and Williamsbridge, an African-American section of the Bronx, where the Village Voice newspaper reported that 155 notices of foreclosure were filed between December and February. Interviewed by the New York Times, hardware store owner Khemraj Ramprasad said "Everybody's scared."

The Slavic Village neighborhood of Cleveland had come back from its long postwar decline through a revitalization effort in the 1970s. But in the first half of 2007, Slavic Village had the most foreclosures of any U.S. zip code. CNNMoney reported that "Many of the owners left behind live near abandoned houses that shelter squatters and worse." Crime has soared and owners would leave, if they could. Doris Koo of Enterprise Community Partners told the Wall Street Journal that in Cleveland "we've produced some stable communities, but because they are so fragile, any large-scale abandonment can bring them down."

ABCP legal tab likely to rival Stelco's $150-million bill
After glancing around the courtroom full of 70 or so lawyers, Justice Colin Campbell astutely noted: "the hourly rate is very expensive." So began Canada's biggest and most complex restructuring ever, and one that has the attention of the world's credit markets.

Based on an average hourly fee of $500 -- senior insolvency lawyers ring in at $700 to $800 per hour, while juniors likely bill out at $250 or more, depending on skills.-- the 2.5-hour hearing the legal tab for the day was somewhere in the neighbourhood of $80,000 to $90,000 for those in the room. That doesn't include the dozens of lawyers who weren't given notice about the hearing, but whose clients have an interest in the outcome.

That's the chump change, however, compared with the $32-billion at stake, or as the affidavit from Purdy Crawford, the guy at the centre of the ABCP storm, suggests the costs are "not material in the context of the restructuring." Nonetheless, don't be surprised to see that the fees earned by lawyers, at the end of the day rival the more than $150-million Stelco paid to get itself out of Companies' Creditors Arrangement Act protection, where ABCP has finally landed. Still, that's less than 1% of the amount at risk.

To date, the organizations comprising the investors' committee have been footing the legal bill on a pro rata basis according to their holdings in the ABCP. Eventually they will be reimbursed and the fees will be "fairly allocated" among the conduits holding the paper, which means all investors' monies at the end of the day. The restructuring plan proposes to pay for the legal expenses occurred by the main parties needed to put together this plan.

That's likely a hefty bill. Over the past seven months, lawyers at firms throughout the city have been burning the midnight oil locked in tough, complex negotiations and conducting extensive due diligence. Goodmans alone has more than 20 lawyers working on the file. Then there are JPMorgan's fees, which one legal wag suggested are "astronomical."

However, much of the heavy legal lifting is already done, since the parties presented a pre-packaged workout plan to the court. And with no objectors on the horizon, at least not yet, it should sail relatively smoothly through the CCAA process and be wrapped in less than a couple of months.

As for who gets paid during the actual CCAA hearings, Justice Campbell ordered that the monitor, Ernst & Young, its law firm, Borden Ladner Gervais, counsel to the named CCAA parties, Fasken Martineau DuMoulin and Davies Ward Phillips & Vineberg, Goodmans, which is acting for the Pan Canadian Investors Committee overseeing the restructuring, and Miller Thomson, which represents an ad-hoc group of institutions holding the notes, and its financial advisor PricewaterhouseCoopers Inc. will be entitled to their "reasonable fees and disbursements." A $10-million retainer has been ordered to be paid to the monitor.

However, based on the 15-page order, and the unusual legal mechanisms used to get to this stage, the lawyers seemed to have earned their fees. The ABCP is still essentially intact, though the true value remains a mystery that will be disclosed to investors now as part of the CCAA process.

And, as was constantly pointed out by parties at the hearing, including Justice Campbell, the work to date has been extraordinary in scope and an apparent "fire sale" of assets seems to have been averted. "It's been an incredibly difficult process," said Mr. Crawford, head of the investors' committee.

It's a combination of the dollar value and legal and negotiating intricacies that makes the ABCP file so interesting and one that comes along only once in a legal career. It's the kind of workout that presents lawyers an opportunity to be creative and earn their fees.

The Monday move by the Pan Canadian Investors Committee to push the restructuring process into CCAA protection has been four months in the making. Since the market froze in August leading to the Mont-real Accord and a seven-month standstill agreement, lawyers close to the workout have always said it would need some kind of judicial sign off to make it happen.

The filing was notable for a number of reasons. First, it was actually the creditors --Crawford's committee-- that brought the applications as opposed to the debtors, as is the normal case in a CCAA protection move. Second was the question of how to get it before a judge, since the trusts, which were at the heart of the entities minding the paper, are excluded from turning to the CCAA.

They could have used the Trustee Act, but one lawyer suggested that was a high-risk strategy. Instead, lawyers opted to replace the two issuer trustees with six corporations, which were immediately insolvent and served the purpose of getting it under the much broader and more flexible CCAA process.

Third is the global release mechanisms that are part of the restructuring plan, which will essentially freeze out dissenters and prevent lawsuits allowing a clean end to this process. What remains to be seen is the vote. The order creates one class of voters, which is unsual in a restructuring of this magnitude. It will require 50% plus one of the number of voters and two-thirds of the dollar value of the holdings.


Anonymous said...

Hello Ilargi,

Daniel Cohen indeed spoke of the sovereign funds saving the day and of stagflation. I wrote to him noting the current destruction of credit and questioning how inflation/stagflation could be possible under those conditions. I also questioned how the sovereign funds could possibly cover the unwinding of the derivatives markets. He has not responded.

In short, I think we fully agree on the flaws of his conclusions, BUT I was nonetheless happy to see someone somewhere in the French press make a clear and informative presentation of the situation (his conclusions notwithstanding).

About Europe, I am aware of each point you make (I have been reading you guys for months) and I agree.

I also agree with your conclusion that Europe is not responsible for the folly of the U.S. But in spite of everything, Bush, Iraq, the demeaning, insulting and punitive behaviour of the U.S. toward my country for years following early 2003, I still feel for the many decent people in the U.S. Is there not some potential benefit to joining forces?


Anonymous said...

Hello Ilargi and Stoneleigh

Been reading since the TODC days. Anyway, thanks for the Wenzel piece. I was reading the LA Times coverage this AM on the Fed moves. The paper pointed out that lowering fed rates is largely an attempt to entice investors out of low interest safety and into higher risk investments. I was think, ya, reflate ... that'll do it.

But as is clear by reading the daily summaries you offer, credit expansion is coughing up blood as we speak. There no reflation of the last credit expansion. Yet, every single financial and elected official is promising just that. They are desperate to get people to make even more foolish financial decisions that those made over the last decade.

Here's the kicker ... price adjusted incomes are flat, and perhaps declining in the face of price increases.

There's no gas left in the household income tank. At some point *somebody* has got to realize this.

Anonymous said...

From Bloomberg This:

One hundred basis points was priced into the market and so gold is correcting for that,'' said Joel Crane, a metals strategist at Deutsche Bank AG in New York. ``There's a lot of positions that need to be unwound. Gold performs better in a lower interest-rate environment.''

I thought that one hundred basis points was priced in before the 400 point market jump so what am I missing here? It is not like the 75 points instead of the 100 resulted in a drop in the market. So why a drop in gold resulting from, in my mind, a non-happening? Am I confused , or what?

Anonymous said...

“Jim Sinclair has revealed the identity of a major gold investor working in cahoots with the gold cartel itself. When the gold cartel takes a huge position to short gold in the futures market, all intended to suppress the upward flight in the gold price, some entity takes the counter-party position. At the March PDAC gold conference in Toronto Ontario in Canada, the irrepressible Sinclair claimed the party taking other side of gold forward selling contracts is the Carlyle Group. Many huge short positions have been placed by JPMorgan, Barrick, and AngloGold Ashanti. In doing so, the shadowy powerhouse Carlyle has been secretly accumulating future gold production. He implied his role in the exposure was that things are far enough along that risk has diminished. The Carlyle Group was mentioned in the March Macro Economic report as being stuffed with former foreign heads of state, ambassadors, military brass, defense contractors, bank titans, and more. Earlier in his speech, Sinclair mentioned something about an agency residing in the Cayman Islands that was accumulating vast amounts of gold shares, without offering any further information. Any connection to the Carlyle Group is unknown. Sinclair had made a clear point in recent weeks on his public website (click here) that there is only ONE dog at the top of any political heap. One can conclude that the top gold dog lives in the Caymans and controls much of Carlyle. He stressed that an important objective in the gold suppression game, and in being an architect in the next chapter of the financial structure for the Western world, is to own & control gold production over the long term. It is not as important to just own gold, but to own much of the future production of gold over the long term. The aim of this unseen group is not to just control gold production but perhaps to gain control over most or all major commodity production, like base metals and energy.”
Hat Trick Letter #48, Jim Willie

Anonymous said...

Hello Ilargi,

I read your comment above the article by Ambrose Evans-Pritchard and wondered how we were to interpret it. Are you saying (and this would also be a response to my first comment tonight) that the situation for the U.S. is hopeless and that any efforts to limit the damage will only increase the damage?

If that is the case, what are you advocating?


Ilargi said...


The present financial system is way too far in debt to be saved by bail-outs. Just look at the derivatives holdings at the top three banks. They are leveraged 100 times.

The last thing Joe Ultra Light Six Pack needs these days is more debt on his head. Still, that's what goes on: a banking system that is comatose and braindead is kept alive at the expense of people who will very soon desperately need every penny their labor can provide them with, in order to simply stay alive.

But their pennies, and those of their children, are being picked out of their pockets by the people they elected to represent their interests, and thrown into a bottomless black pit..

Unless that stops, and in the very near future, I'm afraid the political system will be buried in the same grave as the finance system.

Anonymous said...

Counterparty problems in Credit Defaul Swap Land: Merrill Sues XL Capital to Maintain CDO Insurance.

Bigelow said...

“Unless that stops, and in the very near future, I'm afraid the political system will be buried in the same grave as the finance system.”

Ilargi, I am in absolute awe of your economic acumen. I think what faith you have in the political system is misplaced however. U.S. local politics might still be representative of the people. But any tiny moves to more democratic norms made because of the cathartic 1930’s depression have long since been eliminated on the national and state levels. The free press is owned by a handful of corporations and one dollar=one vote enforced.

Anonymous said...

Friends and family are so utterly unaware of the underlying nature of the current financial meltdown, I feel like I'm in the movie, "Invasion of the Body Snatchers"

The level of denial in the US has reached hallucinogenic proportions.

This is going to make the eventual reckoning so much worse, it will be like throwing a bucket of water on a red hot grease fire. Volatile beyond description.

Anonymous said...

Regarding Evans-Pritchard, seems like we need more info....How about a what if...What if the bankers succeed in transferring private debt to the public sector? Than what? I would love to hear the possible scenarios discussed...

Anonymous said...

Anon says:

'I feel like I'm in the movie, "Invasion of the Body Snatchers"'

I've felt this way for decades--most people's intense, numb, ambitious self-involvement is kind of spooky (or funny). But, lately, it seems I've got the Invader wrong--It's not people hypnotised by dreams and careers--the Invaders are the people hiding behind the institutional holders of our largest banks. Jason Hommel's article is amazing.

I can't believe I've been so blithely ignorant of how unethically business is done and money manipulated. I can't believe academia (myself included) has allowed it to go on. I can't believe our educated professionals allow it to go on.

Over at LATOC there was a discussion recently that argued our "best and brightest" in the 60's and 70's saw the extent of the corruption, saw they could not fight it, and dropped out. Those that remained in the system are second-rate. I believe it.

Ilargi said...


I don't know what faith you see me have in the present political system, based on my words.

I fear what I think is most likely to replace it, were it to fail.

Anonymous said...

I recall an article that was posted here about a month ago or more that predicted the Merrill/XL Capital conflict where these various counter parties haven't even read the fine print on what they've signed, let alone are they going to agree on it's interpretation when push comes to shove. Well Merrill's pushing now.

scandia said...

A propos to derivatives is this quote-" oh the tangled web we weave when our intent is to deceive...
"Thomas Homer-Dixon, in to-day's Globe,wrote of risk and uncertainty. Risk can be managed, uncertainty cannot

Greyzone said...

As of about 1:20pm EDT on March 20th, the Chinese stock market is at 21,085.51, down 781.43 (3.57%).

Somebody overseas doesn't believe the current fantasies being spun by Storyteller Ben.

Anonymous said...

Commodities prices fell, but only to prices reached in Jan or Feb. The run-up in price could have easily been helped along with enough cash, just sayin...