Friday, October 10, 2008

Debt Rattle, October 10 2008: Good Night America

National Photo Co. Stoneleigh Court 1925
Washington, D.C. , L Street N.W."

Ilargi: It's a beautiful fall day here, the sun reflects off the barn roofs and the remaining tree leaves, and there's a very sweet little black cat lying next to me in perfectly peaceful slumber. It makes me think of how grateful I am that I have been able to warn so many people ahead of time of what would happen, of what is unfolding right now.

There are tons of people around me who say I’m an idiot for spending all these thousands of unpaid hours in doing so, while I'm already too poor to light a single candle with, but given the choice, I would do it again, no questions asked.

I don’t mean to say that I want to stop doing this, but I must admit, I am starting to have doubts about the impact I can still have when it comes to my readers moving their money into safer havens. Things are moving at lightning speed.

There are so many events seeing daylight all at the same time, it looks, at times, impossible to choose where to start. Then again, once I gaze across the battlefield, it gets much easier. Swaps, my sweets, swaps.

The G7 finance ministers meet this weekend. Now, I don’t think for a second that they all know what is on their plates. They are not smart enough, simple as that.

Look, the main event today is the auction of Lehman derivatives. It will take $100’s of billions out of the markets, and make the next auction that much harder. That is the biggest story, never mind another 10% drop at the Dow. Italy’s PM Berlusconi had a slip of the tongue, he mentioned "freezing the markets". Don’t be surprised if that is what you will see Monday morning.

The very dipsticks who gave you this crisis now promise to solve it for you. I told you: this is not an economic crisis anymore, it’s a full-blown political emergency, and they’re all trying to hang on to "power". They can’t, so prepare for the sound of goose-stepping boots in your streets.

Lehman swap issuers and insurers will lose 90%+ on their swaps, and that will set the trend for subsequent auctions. The US has bought AIG, for what now amounts to $123 billion and rising, and that is by no means the end. I bet insurance companies all over the globe are at risk of simply not being around anymore Monday morning.

They would have already died if mark to market were applied, the only instrument to solve anything in this crisis. But no, the FASB accounting rules are to be changed, so US firms can hide their losses till the cows come home. Or can they? Methinks, once more, that the cows are home, fed, bathed, deeply drunk, and have long ago left the premises.

Trillions of dollars are being spent to delay the only thing that could solve this bleeding, and it boggles my humble mind. Promoting interbank lending in the face of promoting more interbank mistrust, call me crazy....

Banks won’t trust each other till they know what each has in their vaults. Yes, that will cause a lot of them to topple, but hey, that’ll happen regardless.

Speaking of which, Morgan Stanley lost 26% yesterday, and today stands at minus 35%. Will it live through Sunday? Wait, that would leave just one investment bank, wouldn’t it? Paulson’s Goldman Sachs! Oh, ye mother of coincidence, thou’st tickling me manly parts. Halt, I can take no more...

Sean Egan-Jones, the one reliable rating agent left, said yesterday that MS need $30 billion in added capital. This morning he raised it to $60 billion. Morgan Stanley, nice knowing ya. I’ll send flowers.

Ford and GM and all of Detroit are outtahere. As I predicted years ago, no president wants to have US carmakers fail on their watch. So there is a window from November 4 to January 20, where the old and new can blame each other. Geez, am I going to be right on that as well? What a surprise.....

The whole fantasy was based on the yen carry trade from the start. That is over, no matter what they throw at it. The world will be a wholly different place by Monday.

Good Night America. Nice knowing Ya.

Lehman CDS sellers face massive losses in auction
Banks, hedge funds and other sellers of protection on Lehman Brothers' debt are facing losses in the area of 90 percent the insurance sold when the value of the failed bank's credit default swaps are settled in an auction on Friday. If sellers of protection outweigh buyers in the auction, as some analysts expect, losses may be even higher.

Lehman's bankruptcy filing last month sent its bond values plunging as the majority of the investment banking assets that had supported the debt were purchased by Barclays Bank, leaving debt holders at the abandoned holding company with little to reclaim. The auction to settle credit default swaps protecting the debt will be one of the largest settlements of contracts in the $55 trillion market, with around $400 billion in contract volumes estimated on Lehman's debt.

Fannie Mae and Freddie Mac's credit default swap settlements on Monday were the largest to date. But unlike swaps on the agency debt, which recovered more than 90 percent of their value, Lehman's protection sellers face the possibility of being virtually wiped out. When a borrower defaults on their debt, sellers of protection pay buyers the full sum insured, and in return receive the defaulted debt or cash equivalents.

To determine the cash value of the default swaps, protection buyers choosing to settle the contracts in an auction will deliver the cheapest debt that qualifies in the contracts. The majority of Lehman's bonds are trading in the area of 12 to 13 cents on the dollar, according to MarketAxess, indicating the swaps will only recover in that area. But there is a risk they could recover even less.

If more protection sellers than buyers choose to use the auction to settle the contracts, there will be a net open interest to sell bonds, which can push down the recovery. "With so much uncertainty over currency, coupon and maturity, we feel most protection sellers will opt for cash settlement," said Tim Backshall, chief strategist at Credit Derivatives Research in Walnut Creek, California.

"We also feel that protection buyers are probably dominated by traditional managers who owned the bonds but bought some protection at the end to hedge," he said. And these investors are likely to choose to settle the contracts by physically delivering the bonds, instead of using the auction, he added. This could send recovery levels down even lower than currently expected.

"This will leave the auction with a net open interest of bond sellers putting some downward pressure on physical bonds, and potentially leading to a lower recovery rate," Backshall said.

Lehman Initial Swap Auction Indicates Larger Payout
Sellers of credit-default protection on bankrupt Lehman Brothers Holdings Inc. would be forced to pay holders 90.25 cents on the dollar under initial results of an auction, setting up the biggest-ever payout in the $55 trillion market.

Preliminary results of the auction to determine the size of the settlement on Lehman credit-default swaps set an initial value of 9.75 cents on the dollar for the debt, according to, a Web site run by auction administrators Creditex Group Inc. and Markit Group Ltd. A final price is scheduled to be announced at 2 p.m. New York time.

Based on the results, sellers of protection may need to make cash payments of about $270 billion, BNP Paribas SA strategist Andrea Cicione in London said. The potential payout is higher than investors anticipated, based on trading in Lehman debt, and caused the bonds to fall. The bonds fell to about 9.5 cents on the dollar today. They traded at an average 13 cents yesterday, indicating a payout of 87 cents was expected. "The bottom line is that the final recovery will be below current market prices," said Tim Brunne credit analyst UniCredit SpA in Munich. "Possibly far below."

No one knows exactly how much is at stake because there's no central exchange or system for reporting trades. It's that lack of transparency that has increased the reluctance of financial institutions to do business with each other, exacerbating the global credit crisis and prompting calls for regulation of the market. More than 350 banks and investors signed up to settle credit-default swaps tied to Lehman.

The list of participants includes Newport Beach, California-based Pacific Investment Management Co., manager of the world's largest bond fund, Chicago-based hedge fund manager Citadel Investment Group LLC and American International Group Inc., the New York-based insurer taken over by the government, according to the International Swaps and Derivatives Association in New York. Hedge funds, insurance companies and banks typically buy and sell credit protection, which is used either to insure a bond against default or as a bet against the company's ability to pay its debt. The required payments may force some funds to dump assets, BNP Paribas's Cicione said.

"Banks can go to the Federal Reserve, or use the commercial paper market where it is still functioning" to meet protection payments, said Cicione, who said a 5 cent recovery rate may lead to payments of about $285 billion. "But fund managers or hedge funds, once they've used their cash, have only one option: to sell assets."

The failures of Lehman, once the fourth-largest securities firm, and Seattle-based Washington Mutual Inc. as well as the government takeovers of Fannie Mae, Freddie Mac and Iceland's biggest banks have provided the 10-year-old credit-default swaps market with its biggest test to date. The use of credit derivatives has grown more than 100-fold in the past seven years as investors began using the swaps to bet on companies' creditworthiness.

Credit-default swap indexes around the world soared today on concern the deepening credit crisis will trigger company and bank failures. The Markit CDX North America Investment Grade index, linked to 125 companies in the U.S. and Canada, jumped 14 basis points to 212 basis points as of 11:09 a.m. in New York, according to Barclays Capital. Credit-default swaps are financial instruments that can be based on bonds and loans. They pay the buyer face value in exchange for the underlying securities or the cash equivalent should a borrower fail to adhere to its debt agreements.

Five-year credit-default swaps on Lehman rose as high as 790 basis points before the firm filed for bankruptcy, according to Phoenix Partners Group., a New York-based inter-dealer broker. A basis point on a credit-default swap contract protecting $10 million of debt from default for five years is equivalent to $1,000 a year. Dealers earlier this week set values for bonds of Washington-based Fannie Mae and Freddie Mac of McLean, Virginia. Sellers who signed up for the auction will pay 8.5 cents on the dollar at most because the government is backing the debt of the two largest mortgage-finance companies.

The Pimco Total Return Fund had written protection on $105.4 million face amount of Lehman debt as of June 30, according to regulatory filings. Pimco spokesman Mark Porterfield didn't immediately return a call seeking comment. A unit of Primus Guaranty Ltd., a Bermuda-based company that has sold more than $24 billion in credit-default swaps, said last month it guaranteed $80 million of Lehman debt. The firm sold protection on $215 million of Fannie and Freddie debt and $16.1 million on WaMu. Yesterday, it said it also had made bets of $68.2 million on Kaupthing Bank hf, which the Icelandic government seized.

Primus said last week it had $820 million in cash and liquid investments to meet claims on the contracts. The stock was halted from trading on the New York Stock Exchange yesterday after falling to 99 cents. The shares fell 10 cents, or 11 percent, to 80 cents at 11:41 a.m. Collateralized debt obligations that sold credit-default protection may lose money as defaults erode their ability to withstand losses, said Byron Douglass, a strategist at Credit Derivatives Research LLC in Walnut Creek, California. He follows the market for CDOs that sold protection on Lehman debt.

The CDOs pool the swaps and then sell off pieces with varying risk. Standard & Poor's has ratings on 1,889 CDOs that sold credit-default swap protection on Lehman, the New York-based ratings firm said last month. Pieces of 1,526 CDOs sold protection on Washington Mutual, S&P said. More than 1,200 made bets on both Fannie and Freddie. The Icelandic banks that failed this week were also often included in CDOs created during 2006 and 2007, according to Sivan Mahadevan, a New York-based Morgan Stanley strategist.

EU wants action on credit derivatives
European Union leaders are set to call next week for speedy action to inject transparency into credit derivatives, a multi-trillion dollar sector critics say is too opaque and can have a harmful effect on the wider market. A draft final statement of an Oct. 15-16 summit, obtained by Reuters, says the 27 leaders "call for quick decisions regarding the transparency and safety of operations on the credit derivatives markets".

The move is part of a broader reform of financial regulation by the EU to apply lessons learnt from the credit crunch that has forced many of the bloc's governments to use huge wads of taxpayers' money to shore up banks. The text is subject to change before or at the summit.

According to the International Swaps and Derivatives Association, the notional amount outstanding in credit derivatives in the first half of 2008 was $54.6 trillion. The global industry is already taking action as politicians and regulators in the United States have already demanded improved oversight of the over-the-counter market, widely blamed for some of the financial sector's recent problems.

The failure of Lehman Brothers investment bank, a key player in the sector, reinvigorated calls to move credit derivative trading onto exchanges. The New York Federal Reserve hosted a meeting on Tuesday with banks and institutional investors to discuss setting up a central counterparty for the global credit default swap market.

Central clearing of credit derivatives trades is seen as reducing risk in the sector. The draft final statement of the EU summit also backs calls by the bloc's finance ministers this week for new bank deposit guarantee rules and a decision by the end of October to ease the impact of mark-to-market accounting rules on banks.

The world is at severe risk of a global systemic financial meltdown and a severe global depression
The US and advanced economies’ financial system is now headed towards a near-term systemic financial meltdown as day after day stock markets are in free fall, money markets have shut down while their spreads are skyrocketing, and credit spreads are surging through the roof.

There is now the beginning of a generalized run on the banking system of these economies; a collapse of the shadow banking system, i.e. those non-banks (broker dealers, non-bank mortgage lenders, SIV and conduits, hedge funds, money market funds, private equity firms) that, like banks, borrow short and liquid, are highly leveraged and lend and invest long and illiquid and are thus at risk of a run on their short-term liabilities; and now a roll-off of the short term liabilities of the corporate sectors that may lead to widespread bankruptcies of solvent but illiquid financial and non-financial firms.

On the real economic side all the advanced economies representing 55% of global GDP (US, Eurozone, UK, other smaller European countries, Canada, Japan, Australia, New Zealand, Japan) entered a recession even before the massive financial shocks that started in the late summer made the liquidity and credit crunch even more virulent and will thus cause an even more severe recession than the one that started in the spring. So we have a severe recession, a severe financial crisis and a severe banking crisis in advanced economies.

There was no decoupling among advanced economies and there is no decoupling but rather recoupling of the emerging market economies with the severe crisis of the advanced economies. By the third quarter of this year global economic growth will be in negative territory signaling a global recession. The recoupling of emerging markets was initially limited to stock markets that fell even more than those of advanced economies as foreign investors pulled out of these markets; but then it spread to credit markets and money markets and currency markets bringing to the surface the vulnerabilities of many financial systems and corporate sectors that had experienced credit booms and that had borrowed short and in foreign currencies.

Countries with large current account deficit and/or large fiscal deficits and with large short term foreign currency liabilities and borrowings have been the most fragile. But even the better performing ones – like the BRICs club of Brazil, Russia, India and China – are now at risk of a hard landing. Trade and financial and currency and confidence channels are now leading to a massive slowdown of growth in emerging markets with many of them now at risk not only of a recession but also of a severe financial crisis.

The crisis was caused by the largest leveraged asset bubble and credit bubble in the history of humanity were excessive leveraging and bubbles were not limited to housing in the US but also to housing in many other countries and excessive borrowing by financial institutions and some segments of the corporate sector and of the public sector in many and different economies: an housing bubble, a mortgage bubble, an equity bubble, a bond bubble, a credit bubble, a commodity bubble, a private equity bubble, a hedge funds bubble are all now bursting at once in the biggest real sector and financial sector deleveraging since the Great Depression.

At this point the recession train has left the station; the financial and banking crisis train has left the station. The delusion that the US and advanced economies contraction would be short and shallow – a V-shaped six month recession – has been replaced by the certainty that this will be a long and protracted U-shaped recession that may last at least two years in the US and close to two years in most of the rest of the world. And given the rising risk of a global systemic financial meltdown the probability that the outcome could become a decade long L-shaped recession – like the one experienced by Japan after the bursting of its real estate and equity bubble – cannot be ruled out.

And in a world where there is a glut and excess capacity of goods while aggregate demand is falling soon enough we will start to worry about deflation, debt deflation, liquidity traps and what monetary policy makers should do to fight deflation when policy rates get dangerously close to zero.

At this point the risk of an imminent stock market crash – like the one-day collapse of 20% plus in US stock prices in 1987 – cannot be ruled out as the financial system is breaking down, panic and lack of confidence in any counterparty is sharply rising and the investors have totally lost faith in the ability of policy authorities to control this meltdown.

This disconnect between more and more aggressive policy actions and easings and greater and greater strains in financial market is scary. When Bear Stearns’ creditors were bailed out to the tune of $30 bn in March the rally in equity, money and credit markets lasted eight weeks; when in July the US Treasury announced legislation to bail out the mortgage giants Fannie and Freddie the rally lasted four weeks; when the actual $200 billion rescue of these firms was undertaken and their $6 trillion liabilities taken over by the US government the rally lasted one day and by the next day the panic has moved to Lehman’s collapse; when AIG was bailed out to the tune of $85 billion the market did not even rally for a day and instead fell 5%.

Next when the $700 billion US rescue package was passed by the US Senate and House markets fell another 7% in two days as there was no confidence in this flawed plan and the authorities. Next as authorities in the US and abroad took even more radical policy actions between October 6th and October 9th (payment of interest on reserves, doubling of the liquidity support of banks, extension of credit to the seized corporate sector, guarantees of bank deposits, plans to recapitalize banks, coordinated monetary policy easing, etc.) the stock markets and the credit markets and the money markets fell further and further and at an accelerated rates day after day all week including another 7% fall in U.S. equities today.

When in markets that are clearly way oversold even the most radical policy actions don’t provide rallies or relief to market participants you know that you are one step away from a market crack and a systemic financial sector and corporate sector collapse. A vicious circle of deleveraging, asset collapses, margin calls, cascading falls in asset prices well below falling fundamentals and panic is now underway.

At this point severe damage is done and one cannot rule out a systemic collapse and a global depression. It will take a significant change in leadership of economic policy and very radical, coordinated policy actions among all advanced and emerging market economies to avoid this economic and financial disaster. Urgent and immediate necessary actions that need to be done globally (with some variants across countries depending on the severity of the problem and the overall resources available to the sovereigns) include:
  • another rapid round of policy rate cuts of the order of at least 150 basis points on average globally;
  • a temporary blanket guarantee of all deposits while a triage between insolvent financial institutions that need to be shut down and distressed but solvent institutions that need to be partially nationalized with injections of public capital is made;
  • a rapid reduction of the debt burden of insolvent households preceded by a temporary freeze on all foreclosures;
  • massive and unlimited provision of liquidity to solvent financial institutions;
  • public provision of credit to the solvent parts of the corporate sector to avoid a short-term debt refinancing crisis for solvent but illiquid corporations and small businesses;
  • a massive direct government fiscal stimulus packages that includes public works, infrastructure spending, unemployment benefits, tax rebates to lower income households and provision of grants to strapped and crunched state and local government;
  • a rapid resolution of the banking problems via triage, public recapitalization of financial institutions and reduction of the debt burden of distressed households and borrowers;
  • an agreement between lender and creditor countries running current account surpluses and borrowing and debtor countries running current account deficits to maintain an orderly financing of deficits and a recycling of the surpluses of creditors to avoid a disorderly adjustment of such imbalances.

At this point anything short of these radical and coordinated actions may lead to a market crash, a global systemic financial meltdown and to a global depression. At this stage central banks that are usually supposed to be the "lenders of last resort" need to become the "lenders of first and only resort" as, under conditions of panic and total loss of confidence, no one in the private sector is lending to anyone else since counterparty risk is extreme. And fiscal authorities that usually are spenders and insurers of last resort need to temporarily become the spenders and insurers of first resort.

The fiscal costs of these actions will be large but the economic and fiscal costs of inaction would be of a much larger and severe magnitude. Thus, the time to act is now as all the policy officials of the world are meeting this weekend in Washington at the IMF and World Bank annual meetings.

Thursday midnite update: A few hours after I had written this note the market crash that I warned about is underway in Asia: the Nikkei index in Japan is down 11% and all other Asian markets are sharply down. This reinforces the urgency of credible and rapid policy actions by the G7 financial officials who are meeting in a few hours in Washington and the need to also involve in such global policy coordination the systemically important emergent market economies.

G-7 'Against the Wall,' Weighs Loan-Guarantee Plan
Finance ministers and central bankers from the Group of Seven nations meet today facing a breakdown in investor confidence in their ability to end the credit freeze endangering the global economy. Threatened by the worst economic outlook in a quarter century, officials arrived in Washington still without the broad-based strategy that investors were seeking, raising the risk of further turmoil if their remedies disappoint. Among the options: a proposal by U.K. Chancellor Alistair Darling for nations to guarantee lending between banks, a suggestion that U.S. Treasury Secretary Henry Paulson hasn't ruled out.

Unprecedented interest-rate cuts and bank bailouts failed to quell panic in markets, putting the officials under pressure to pull even more policy levers. The MSCI World Index of stocks is recording its worst week in more than three decades and credit markets remained frozen. "Global policy makers have their backs against the wall -- they have nowhere to run, nowhere to hide," said Marco Annunziata, chief economist at Unicredit MIB in London. "Do not underestimate how hard they are going to fight back now."

The officials from the U.S., Japan, Germany, U.K., France, Canada and Italy are gathering for the first time since the financial crisis intensified last month and spread more virulently beyond U.S. borders. The International Monetary Fund, which activated an emergency-financing mechanism to aid countries that run into trouble, and the Financial Stability Forum held emergency talks yesterday with officials from 27 nations to discuss responses to the turbulence. Paulson helped lead the meeting.

G-7 officials are scheduled to release a joint statement at about 6 p.m. in Washington. "This is an opportunity to make sure that they're all on the same track," said former Federal Reserve Chairman Paul Volcker. He urged that "all of them now admit or all of them own up to the fact their own banks are going to need support," in an interview with PBS Television's Charlie Rose show. Reflecting the seriousness of the crisis, President George W. Bush will meet with the G-7 in an echo of predecessor Bill Clinton's gathering with the group during a 1998 financial crisis. Officials from the broader Group of 20 will convene for a special meeting tomorrow.

The G-7's dilemma is that even after a battery of policy actions, money markets remain gridlocked as banks shun lending to each other for fear they will lose the money or because they need it themselves. The cost of borrowing dollars for three months in London today rose to its highest this year and the rate in Tokyo jumped to the most since 1998. "Mistrust is set to persist," said Nick Stamenkovic, a fixed-income strategist in Edinburgh at RIA Capital Markets. "While measures are moving in the right direction, reaction has been lukewarm at best."

Policy makers are lining up more initiatives, yet run the risk that their new proposals appear piecemeal or lacking in ambition rather than providing the comprehensive and coordinated solution that investors want. Even as he sought an international approach in a news conference two days ago, Paulson said it might "not make sense to have identical policies" because each nation's circumstances differ. "Governments must act now and decisively to restore confidence otherwise we are in for serious trouble and a long- run recession," said Moorad Choudhry, head of treasury at Europe Arab Bank Plc in London.

Darling wants countries to guarantee lending between banks, either by turning central banks into clearing houses for the loans or having governments back them. That would "be an effective way of easing the crisis," said Marc Chandler, head of currency strategy at Brown Brothers Harriman & Co. in New York. U.S. officials have played down the idea without dismissing it outright, expressing concern that the step would be biased against financial institutions outside the banking sector. "We received the U.K. proposal and we're reviewing it," White House spokesman Tony Fratto said. For its part, France questions the need to adopt Darling's plan, according to a French official.

The U.S. already plans to follow Darling in another way by purchasing stakes in a wide range of banks within weeks, tapping authority included in the $700 billion rescue package passed by Congress last week. Paulson and advisers were yesterday considering options on how the purchases would work, including having the government acquire preferred stock, two officials informed of the matter said.

Separately, the Federal Deposit Insurance Corp. said today it has "significant latitude" to take further steps to support banks and their depositors using emergency powers. The U.S. is weighing a proposal to insure all U.S. bank deposits, the Wall Street Journal reported today.

While the Treasury still aims to buy troubled mortgage- backed securities from financial institutions, a direct capital injection would offer more immediate relief by giving banks quick access to funds they could then lend out. The U.K. is already engineering a 50 billion pound ($87 billion) strategy to partly nationalize at least eight British banks. Japanese lawmakers are also considering reviving a law that expired in March that would allow them to inject public money into regional financial companies.

"The financial system doesn't need more liquidity, it needs more capital," said Jim Bianco, president of Bianco Research LLC in Chicago. Other G-7 nations are wary of taking either step, with German Finance Minister Peer Steinbrueck arguing Germany's banks are sound. He has proposed the G-7 focus on overhauling regulations on executive pay, liquidity buffers at banks and complex financial instruments. Japan's Finance Minister Shoichi Nakagawa said he will tell his counterparts that his country is ready to help the IMF enhance its lending program during the crisis.

Still, central banks may have more work to do having already executed emergency rate cuts this week. New York University professor Nouriel Roubini recommended they pare interest rates by at least 1.5 percentage points to avert a depression. Jacques Cailloux, an economist at Royal Bank of Scotland Group Plc in London, said today the European Central Bank will cut again before its governing council is next scheduled to meet Nov. 6.

"While a coordinated government response in the coming days through the G-7 is possible, it might not be sufficient to boost confidence in the system sufficiently quickly," said Cailloux. In a report published yesterday, University of California Berkeley economist Barry Eichengreen warned against a disjointed approach. "The policy response needs to be decisive," he said. "It needs to be global. The stakes could not be higher."

Lehman to Spark Record Payout for Credit Swap Sellers
The collapse of Lehman Brothers Holdings Inc. may force Pacific Investment Management Co. and other sellers of credit-default swaps to make the biggest-ever payout in the $55 trillion market.

An auction to be held today will determine the size of the payments buyers of default protection can claim after New York- based Lehman filed for the largest bankruptcy with $618 billion in debt. Lehman's $128 billion of bonds were trading yesterday at an average of 13 cents on the dollar, indicating credit swap sellers may have to pay 87 cents.

"That's a big hit," said Byron Douglass, a strategist at Credit Derivatives Research LLC in Walnut Creek, California. He follows the market for collateralized debt obligations that sold protection on Lehman debt. The payment compares with a typical bond recovery of about 40 cents on the dollar and a payout closer to 60 cents, Douglass said.

More than 350 banks and investors signed up to settle credit-default swaps tied to Lehman. No one knows exactly how much is at stake because there's no central exchange or system for reporting trades. It's that lack of transparency that has increased the reluctance of financial institutions to do business with each other, exacerbating the global credit crisis and prompting calls for regulation of the market.

The list of participants includes Newport Beach, California- based Pimco, manager of the world's largest bond fund, Chicago- based hedge fund manager Citadel Investment Group LLC, and American International Group Inc., the New York-based insurer taken over by the government, according to the International Swaps and Derivatives Association in New York.

Hedge funds, insurance companies and banks typically buy and sell credit protection, which is used either to insure a bond against default or as a bet against the company's ability to pay its debt. Settlement of Lehman contracts may lead to protection sellers paying out as much as $220 billion, assuming a 20 percent recovery on the U.S. bank's senior debt, according to Andrea Cicione, a London-based credit strategist at BNP Paribas SA.

"Banks can go to the Federal Reserve, or use the commercial paper market where it is still functioning" to meet protection payments, said Cicione. "But fund managers or hedge funds, once they've used their cash, have only one option, to sell assets."

The failures of Lehman, once the fourth-largest securities firm, and Seattle-based Washington Mutual Inc. as well as the government takeovers of Fannie Mae, Freddie Mac and Iceland's biggest banks have provided the 10-year-old credit-default swaps market with its biggest test to date. The use of credit derivatives has grown more than 100-fold in the past seven years as investors began using the swaps to bet on companies' creditworthiness.

Credit-default swap indexes around the world soared today on concern the deepening credit crisis will trigger company and bank failures. Contracts on the Markit CDX North America Investment Grade index rose 4 basis points to 202, according to Barclays Capital. Europe's benchmark Markit iTraxx Crossover index climbed 67 basis points to a record 740, and has risen 169 basis points this month, JPMorgan Chase & Co. prices show. Credit indexes in Australia and Japan also rose.

Credit-default swaps are financial instruments that can be based on bonds and loans. They pay the buyer face value in exchange for the underlying securities or the cash equivalent should a borrower fail to adhere to its debt agreements. Five-year credit-default swaps on Lehman rose as high as 790 basis points before the firm filed for bankruptcy, according to Phoenix Partners Group., a New York-based inter-dealer broker. A basis point on a credit-default swap contract protecting $10 million of debt from default for five years is equivalent to $1,000 a year.

Dealers earlier this week set values for bonds of Washington-based Fannie Mae and Freddie Mac of McLean, Virginia. Sellers who signed up for the auction will pay 8.5 cents on the dollar at most because the government is backing the debt of the two largest mortgage-finance companies. The Pimco Total Return Fund had written protection on $105.4 million face amount of Lehman debt as of June 30, according to regulatory filings. Pimco spokesman Mark Porterfield didn't immediately return a call seeking comment.

A unit of Primus Guaranty Ltd., a Bermuda-based company that has sold more than $24 billion in credit-default swaps, said last month it guaranteed $80 million of Lehman debt. The firm sold protection on $215 million of Fannie and Freddie debt and $16.1 million on WaMu. Yesterday, it said it also had made bets of $68.2 million on Kaupthing Bank hf, which the Icelandic government seized. Primus said last week it had $820 million in cash and liquid investments to meet claims on the contracts.

CDOs that sold credit-default protection may lose money as defaults erode their ability to withstand losses, Douglass said. The CDOs pool the swaps and then sell off pieces with varying risk. Standard & Poor's has ratings on 1,889 CDOs that sold credit-default swap protection on Lehman, the New York-based rankings firm said last month. Pieces of 1,526 CDOs sold protection on Washington Mutual, S&P said. More than 1,200 made bets on both Fannie and Freddie.

The Icelandic banks that failed this week were also often included in CDOs created during 2006 and 2007, according to Sivan Mahadevan, a New York-based Morgan Stanley strategist.

Italian PM: "There is talk of suspending markets"
Italy's Prime Minister said on Friday there was talk of suspending markets but later played down the idea that this was a serious policy suggestion. Asked what European Union leaders might discuss if they meet in Paris this Sunday, Silvio Berlusconi told a news conference: "There is talk of suspending markets for the time needed to rewrite (international finance) rules."

After the press conference was over and reporters asked for more details, he replied: "No, no, no. It was a pure hypothesis like when you say: 'let's suspend Basel 2' or 'let's do another Bretton Woods'. It was a hypothesis that was never mooted by any leader, least of all me."

Berlusconi said European Union leaders would meet on Sunday in Paris to discuss the financial crisis and they could ask for an emergency Group of Eight summit. In Paris, French President Nicolas Sarkozy, who holds the rotating EU presidency, said he was considering calling such a meeting but had not yet decided. During the news conference, held after a weekly cabinet meeting, Berlusconi urged shareholders not to sell stakes in Italian companies that were fundamentally sound.

"The stock markets are currently in the grip of panic and madness," Berlusconi said. "If you have shares, absolutely don't sell them." Berlusconi said his government and the Bank of Italy had asked banks not to call in loans and to continue to lend to industry in a country which he said was not yet in recession but would feel knock-on effects of the global financial crisis, including a drop in consumption and exports. Employers federation Confindustria has said it believes Italy is in recession.

Berlusconi urged investors to buy shares of energy companies Eni and Enel, saying the former would end the year with extraordinary results. "I have often been accused of being a salesman," said Berlusconi, one of Italy's most successful and richest businessmen. "I think however that I am doing my duty as prime minister, spreading not panic but calm and keeping a cool head for everyone."

Extreme leverage haunts Europe's banks as rollover crunch looms
Europe's credit markets have continued to seize up on mounting fears that the region's banks may fail to roll over $700bn (£405bn) debt falling due in coming months. The interbank lending system was largely frozen yesterday, dashing hopes that the dramatic half point cut by the European Central Bank this week and a raft of emergency measures by Germany, France, Italy, and Spain, would end the panic in the credit markets.

Three-month Euribor -- the benchmark lending rate for eurozone financial contracts -- surged to an all-time high of 5.51pc yesterday. The iTraxx Crossover index used as a fear gauge for a mix of European bonds hit a record 660. Hans-Peter Burghof, a finance professor at Hohenheim University, said there was a risk that the German banking system could break down altogether. "They can't lend a single euro more. They can't take a step back either, because they are already on the edge of the abyss," he said.

The International Monetary Fund said the top 15 banks in the Eurozone, Switzerland, and Britain will need to roll over $700bn in debts by the end of next year. It is far from clear whether they can do so. Even top banks are having to pay crippling interest rates of near 9pc to issue bonds. "Europe's banks have been incredibly aggressive in building up their liabilities," said Hans Redeker, currency chief at BNP Paribas. "They are going to be hit much harder than people seem to realize by the credit crunch. What is more, a huge chunk of their debt is in dollars."

The IMF data shows that Tier 1 capital levels of European banks are roughly half the levels of US banks. In effect, the Europeans and British have taken on twice as much debt leverage in a breakneck pursuit of expansion and profits. The elastic is now snapping back with a vengeance. Citibank warns that European banks face an "enormous" capital deficit. "However you look at it, they are terribly over-leveraged," said Matt King, the bank's credit strategist.

"They are going to have to raise $400bn in fresh capital, which is four times as much as they have done so far. But the money is not there. They could sell assets, but at what price? There is a risk of eating through their foundations," he said. "Unlike the Americans, they still haven't come to terms with their structural problems. We're facing a grim and painful process of deleveraging in the international banking system, and that is going to cut off the supply of credit significantly," he said.

Citigroup said the ratio of tangible equity to total assets has fallen to 1.1pc for Dexia, 1.2pc for Deutsche Bank, 1.3pc for Deutsche Postbank, 1.4pc for Barclays, 1.5pc for Fortis, 1.6pc for UBS, 1.7pc for RBS, 1.8pc for Credit Agricole. Deutsche Bank has begun to come under fire over the last two weeks. The credit default swaps (CDS) measuring the debt risk of Germany's flagship lender have risen from around 80 basis points in early September to 133 yesterday as investors fret about its high gearing. The share price has slumped 30pc in four trading days.

Huw van Steenis, bank strategist at Morgan Stanley, said Deutsche's leverage ratio of Tier I capital to assets is around 2pc, compared to 5pc for Citigroup and 6.4pc at JP Morgan. "We think high leverage, wholesale funding, and legacy assets leave risk in these very stressed markets," he said. Deutsche Bank said short-term loans -- where the chief danger now lies -- for just 16pc of its funding. It enjoys a huge and stable deposit base in Germany. The German government has guaranteed all deposits but there are no plans to copy French and Italian moves to create stand-by fund to inject state equity capital into the banks if necessary.

"I don't see any need for state takovers in Germany: our banking sector has not been as hard hit by financial crisis," said finance minister Peer Steinbruck yesterday The Bundesbank's deputy chief, Franz-Christoph Zeitler, went even further, insisting that "Germany has been largely immune so far to fears of a credit crunch." Such comments caused astonishment in the credit markets yesterday where Germany's venerable Pfandbriefe market for mortgage bonds and public finance is gasping for life, even though it has long been viewed as a rock-solid corner of the credit system. The German market for car loans is nearly frozen.

"These people are mad," said Mr Redeker. "They still don't understand the risks. The Europeans are running from one fire to another with micro-solutions, but that does nothing to relieve credit stress. The whole of Europe needs to get together and do what Brown has just done in Britain to provide equity and gurantee interbank operations," he said. To the surprise of many, Italy has so far emerged from this crisis in better shape than Germany. It is a moment for them to savour after years of suffering lectures from Berlin.

Morgan Stanley Extends Plunge; Moody's Mulls Rating Cut
Morgan Stanley dropped for a fifth day after Moody's Investors Service said it may reduce the U.S. investment bank's credit rating on concern the financial crisis threatens earnings and investor confidence. Morgan Stanley fell as much as 30 percent in New York trading after sinking 26 percent yesterday to the lowest level since 1996.

Moody's put Morgan Stanley's A1 long-term rating on review for a possible downgrade and lowered its outlook for Goldman Sachs Group Inc.'s Aa3 long-term rating to negative. Goldman shares also sank today. "An extended downturn in global capital market activity will reduce Morgan Stanley's revenue and profit potential in 2009, and perhaps beyond this period," Moody's said in an e- mailed statement.

The possible downgrade adds to pressure on Chief Executive Officer John Mack, 63, as he seeks to assure shareholders and clients about the company's health. The bankruptcy of Lehman Brothers Holdings Inc. and emergency sales of Merrill Lynch & Co. and Bear Stearns Cos. sparked concern that firms like Morgan Stanley that depend on debt markets will run out of funding.

Morgan Stanley's stock has "been under extraordinary pressure as of late, for no apparent fundamental reason, as we estimate liquidity, the balance sheet, and long-term earnings prospects are sound," David Trone, an analyst at Fox-Pitt Kelton Cochran Caronia Waller, wrote in a note today. "However, as we've seen with Bear Stearns and Lehman, once the fear virus has infected the story, it is tough to shake."

Shares of Morgan Stanley dropped $2.37, or 19 percent, to $10.08 at 9:55 a.m. in New York Stock Exchange composite trading, after sinking to $8.70. Goldman fell $6.59, or 6.5 percent, to $94.76. Egan-Jones Ratings Co. said Morgan Stanley probably needs to raise $60 billion in new equity to reassure customers and investors, up from a $30 billion estimate yesterday. The investment bank has about $900 billion of assets and an equity market value of $15.9 billion. Mark Lake, a Morgan Stanley spokesman, declined to comment.

"The analogy is a snowball rolling down a mountain, the mass needed to stop that negative momentum increases as that snowball picks up speed and size," Egan-Jones's Sean Egan said in a phone interview today. "Perception trumps reality. They need a massive injection to stop the slide and hopefully they don't commit the Bear Stearns or Lehman mistake."

Morgan Stanley and Goldman Sachs declined yesterday in New York Stock Exchange composite trading as a short-selling ban expired and concern grew about their earnings prospects. The New York-based firms have transformed themselves into bank holding companies and raised money from outside investors to help weather the credit market turmoil that toppled Lehman Brothers.

The Morgan Stanley credit review affects about $200 billion of debt, Moody's said. The ratings company affirmed its Prime-1 grade for Morgan Stanley's short-term debt. The outlook for Goldman affects $175 billion of debt, and the company's short- term ratings were also affirmed at Prime-1. Moody's in August cut Morgan Stanley's long-term credit rating from Aa3. At A1, the firm now has the fifth-highest investment grade rating.

"Investor, counterparty and customer confidence is critical to the funding and profit generation of the firm, especially in a hostile market environment," Moody's said in its statement on Morgan Stanley. Morgan Stanley is selling more than 20 percent of itself to Japan's Mitsubishi UFJ Financial Group Inc. for $9 billion. Morgan Stanley and Mitsubishi UFJ have moved to quash speculation that the deal would collapse, as the U.S. firm's shares tumbled 48 percent this week. The deal will close Oct. 14 "as planned," Mitsubishi UFJ spokesman Takashi Takeuchi said today in an interview.

Closing the investment will be "critical" for Morgan Stanley to keep its current credit ratings, Moody's said. "Morgan Stanley's recent performance has been relatively solid, it has acted to solidify its capital base, it has maintained a good liquidity profile, and it has benefited from a level of systemic support that is factored into the rating," Moody's said in its release. For Morgan Stanley and Goldman, becoming bank holding companies regulated by the Federal Reserve may "limit profit opportunities," while at the same time lower risks, Moody's said.

Goldman has raised $10 billion, including $5 billion from billionaire investor Warren Buffett. The company, led by Chief Executive Officer Lloyd Blankfein, has recorded $4.9 billion of credit market losses since August last year, compared with $15.7 billion at Morgan Stanley. "Goldman's commitment to controls is noteworthy," said Moody's analyst Peter Nerby in the statement. Morgan Stanley said yesterday that its hardest-to-value assets rose 13 percent in the quarter ended Aug. 31. The firm classified $78.4 billion of its assets, or about 8 percent of the total, as so-called Level 3 in the third quarter, up from $69.2 billion, or 7 percent, in the previous period.

Cost of U.S. Crisis Action Grows, Along With Debt
The global financial crisis is turning into a bigger drain on the U.S. federal budget than experts estimated two weeks ago, ballooning the deficit toward $2 trillion. Bailouts of American International Group, Fannie Mae and Freddie Mac likely will be more expensive than expected. States are turning to Washington for fiscal help. T

he Federal Reserve said this week it will begin buying commercial paper, the short- term loans companies used to conduct day-to-day business, further increasing costs. And analysts now say the $700 billion bank- rescue plan passed by Congress last week may have to be significantly larger.

"I always assumed they would be asking for more money along the way if it was necessary, and it looks like it's going to be necessary," said Stan Collender, a former analyst for the House and Senate budget committees, now at Qorvis Communications in Washington. "At the moment, there's nothing happening here that's positive for the budget. Nothing."

The 2009 budget deficit could be close to $2 trillion, or 12.5 percent of gross domestic product, more than twice the record of 6 percent set in 1983, according to David Greenlaw, Morgan Stanley's chief economist. Two weeks ago, budget analysts said the measures might push deficit to as much as $1.5 trillion.

That means a lot more borrowing by Treasury, which will push up interest rates, said Greenlaw. "The Treasury's going to be ramping up supply dramatically over the course of coming months to meet this enormous federal budget obligation," Greenlaw told Bloomberg this week. "The supply will trigger some elevation in yields." Treasuries have fallen the past four days even as stocks sank, a sign investors are preparing for bigger U.S. government borrowing. Benchmark 10-year note yields rose to 3.82 percent at 7:49 a.m. in New York, from a close of 3.45 percent Oct. 6.

Payments the government allocated to keep vital companies solvent are beginning to look insufficient. AIG, the giant insurance company that was taken over by the government in mid-September, said this week it may access $37.8 billion from the Federal Reserve Bank of New York, in addition to the $85 billion the government already loaned it to stave off bankruptcy. "You're in for a dime, you're in for a dollar on this one," said David Havens, a credit analyst at UBS AG.

The financial health and earnings prospects of Fannie Mae and Freddie Mac -- seized by the government on Sept. 7 to prevent them from failing -- worsened in the second and third quarters, the companies' government regulator said this week. The companies and regulators are recalculating the value of all of their assets to factor in price erosion. That may mean the government will have to spend more to keep the firms solvent.

Earlier this week the Fed announced it will create a special fund to buy commercial paper, the credit that businesses use to finance payrolls and other ongoing expenses. The Treasury will deposit money into the Fed's New York district bank to help set up the new unit. A Fed official said Treasury funding for the program could be "substantial."

California, Alabama and Massachusetts are urging the Fed and Treasury to include their securities in rescue plans designed for banks and businesses. The $2.66 trillion U.S. market for state and city bonds has been all but frozen since Lehman Brothers Holdings Inc., weighed down by losses in mortgage-backed bonds, declared history's largest bankruptcy on Sept. 15. California has said it needs to sell as much as $7 billion in notes to maintain its schools, health system and other public services. The Bush administration said it is reviewing the states' financial positions.

Meanwhile, Treasury Secretary Henry Paulson indicated two days ago that he is considering buying stakes in a wide range of banks in coming weeks to help recapitalize them. Such a move is allowed under the $700 billion bailout package Congress passed last week. Edmund Phelps, winner of the 2006 Nobel Prize for economics and a professor at Columbia University, said such action is necessary -- and will likely turn out to increase the measure's cost. Spending beyond the amount set in last week's bill would require further Congressional approval.

"We have to recapitalize the banks," Phelps told Bloomberg Television this week. "I don't imagine that there's enough money in the first Paulson plan to be able to do all that needs to be done in that direction." The additional borrowing could push the national debt well past 70 percent of GDP, the highest since the immediate aftermath of World War II, when the U.S. was still paying off war debt.

Gross U.S. debt, which includes debt held by the public and by government agencies, this year reached about $9.6 trillion, or about 68 percent of gross domestic product. The rescue legislation increased the government's debt limit to more than $11.3 trillion from $10.6 trillion. On top of all that, budget watchdogs say the sheer size of the interventions is making Washington more profligate than usual. To attract votes in Congress, leaders added several costly items to the $700 billion rescue, including extensions of some tax credits and tax breaks for makers of wooden arrows and stock- car racetrack owners.

Under normal circumstances, there would have been more resistance to such expenses, said Robert Bixby, executive director of the Concord Coalition, a non-partisan budget watchdog. The rescue legislation "creates a mask for all sorts of fiscal irresponsibility," said Bixby. "It covers up a multitude of sins."

Libor for Three-Month Dollars Rises as Cash Injections Misfire
The cost of borrowing in dollars in London for three months rose as cash injections and interest-rate cuts by 10 major central banks failed to thaw a credit freeze that put stocks on course for their worst week in 30 years.

The London interbank offered rate, or Libor, that banks charge each other for such loans climbed 7 basis points to 4.82 percent today, the British Bankers' Association said. The rate in Tokyo jumped to the highest since 1998 even as the Bank of Japan added more than $30 billion to the banking system. The overnight dollar rate tumbled 262 basis points to 2.47 percent.

"Central banks are trying to supply liquidity, and in many cases it just comes back to them," said Robin Marshall, director of international fixed income in London at NCL Smith & Williamson, which oversees about $20 billion in assets. "There's a real problem in getting people to put their money to work. The fear of counterparty risk is so intense that the only bank prepared to lend at the moment is the central bank."

Stock exchanges in countries including Russia and Austria delayed the opening of trading today and Indonesia extended a two-day halt as valuations plunged on concern more financial institutions will fail. Iceland yesterday suspended trading until Oct. 13 after the government seized Kaupthing Bank hf, the nation's biggest lender. Banks in South Korea stopped giving credit to importers.

Lending between financial institutions has seized up since the collapse of Lehman Brothers Holdings Inc. on Sept. 15, stymieing attempts by governments and central banks to stave off a global recession. The Bank of Japan added 3 trillion yen ($30.3 billion) to the banking system and the Reserve Bank of Australia pumped in A$2.63 billion ($1.8 billion). The European Central Bank today loaned banks $94 billion for four days.

The MSCI World Index lost 3.6 percent today, extending this week's drop to 19 percent, the most since at least 1970. Gold rose to a 10-week high in London as investors sought a haven for their cash. The Libor-OIS spread, a gauge of cash scarcity, climbed to a record 366 basis points. "You just don't know whether the person you're lending to is going to be the guy that has the weak balance sheet and is going to fall over," said Sally Auld, an interest-rate strategist at JPMorgan Securities Australia Ltd. in Sydney. "What markets are telling you is that it doesn't matter what central banks and governments do."

Libor, set by 16 banks in a survey conducted by the BBA each day in London, determines rates on $360 trillion of financial products worldwide, from home loans to derivatives. Member banks provide estimates on how much it would cost to borrow in 10 currencies for terms between one day and a year. Hong Kong's three-month interbank offered rate, or Hibor, climbed 1 basis point to 4.41 percent today, the highest level since Oct. 31. Singapore's three-month dollar loan rate increased for a fourth day, rising 23 basis points to 4.74 percent, the highest this year.

The ECB yesterday offered banks as much cash as they required for six days at its benchmark interest rate of 3.75 percent, bringing forward new measures to soothe money markets. It also loaned banks a record $100 billion in overnight-dollar funds, allotting most of the cash at 5 percent, 350 basis points above the Federal Reserve's benchmark rate. Today, it allotted four-day cash at 0.5 percent.

The BOJ has pumped more than 25 trillion yen into the system in the past three weeks, the most in at least six years, after lending growth at Japanese banks slowed in September for the first time in nine months as companies cut earnings forecasts. Loans, excluding those by credit associations, rose 1.8 percent in September from a year earlier, after increasing 2 percent in August, the Bank of Japan said today.

South Korea, Taiwan and Hong Kong cut interest rates yesterday, a day after reductions by central banks including the Fed and ECB. The U.K. government pledged Oct. 8 to spend 50 billion pounds ($87 billion) to bolster British banks. Japan's overnight call rate climbed as much as 18 basis points, or 0.18 percentage point, to 0.72 percent today, before falling back to 0.5 percent following a second injection of cash, according to brokerage Tokyo Tanshi Co.

The Reserve Bank of Australia added cash through so-called repurchase agreements after estimating money markets would have a deficit of A$1.84 billion in funds today. Australian banks reduced deposits held at the central bank by A$1.37 billion to A$8.36 billion yesterday, after those holdings reached a record A$11.04 billion on Sept. 30, the RBA said today on its Web site.

The difference between what banks and the Treasury pay to borrow money for three months, the so-called TED spread, was at 422 basis points. It widened to 423 basis points yesterday, the most since Bloomberg began tracking the data in 1984. "While the authorities across the globe have taken a host of unprecedented measures to shore up confidence, nothing seems to be working," Rajiv Setia and Piyush Goyal, strategists at Barclays Capital Inc. in New York, wrote in a report. "Participants are increasingly unwilling to bear counterparty risk with any entity, other than the government, at any price."

FTSE sinks to record low as panic sweeps Asia
Panic shot through stock markets around the world today, suggesting that drastic actions by central banks have failed to calm investors. The sell-off in stock markets worldwide came after after devastating falls on Wall Street yesterday. London shares dropped below 4,000 for the first time in five years, and were down 325 to 3,988 at noon. The pound fell to $1.6909, its lowest level for five years against the dollar, and was down 1.2 per cent against the euro.

The cost of banks borrowing money from each other also rose today in a sign that confidence has not returned, despite hundreds of billions of dollars being promised to bail out banks by governments around the world. The Libor rate for three-month interbank dollar loans rose by 0.3 per cent to 4.8 per cent. Traders fear that the actions of governments and central banks around the world will not be enough to avert a severe global downturn.

Oil prices plummeted to a one-year low below $83 a barrel, sparked by fears that a severe global economic crisis would lead to less demand for energy. Some Opec members want to cut production at their November meeting to shore up prices. Further sharp falls in the Dow Jones index are expected when the New York Stock Exchange opens later today. Bank shares took the brunt of the pain as markets gyrated with Barclays off 15.6 per cent, and HSBC down 4.3 per cent. BP fell 8 per cent and Royal Dutch Shell was off 5.9 per cent as oil prices fell. France’s CAC 40 and Germany's Dax benchmark indices were both down more than 10 per cent.

The falls followed a further plunge in Japan’s Nikkei stock average, which dropped 9.6 per cent, its biggest one-day loss since the 1987 stock market crash, on growing fears that the financial crisis will spark a world recession. The index has fallen 24 per cent this week, more than double the weekly drop immediately after the 1987 market crash. Russia, Austria and Indonesia suspended their stock exchanges for the day on fears that the panic would increase.

Indonesia announced that trading would be suspended indefinitely – after initially planning to reopen the market after a suspension imposed on Wednesday – to prevent deeper panic. The sell-off came as Japan’s Yamato Life Insurance company, an unlisted insurer, collapsed with $2.7 billion in debt, although government ministers and analysts were quick to play down the risk of contagion. However, fear reverberated across Asia and the selling was brutally swift with every market dropping hard at the opening, taking the MSCI index of Asia-Pacific stocks excluding Japan down 3.5 per cent to its lowest since June 2005.

The Indian stock market crashed nearly 10 per cent this morning as policymakers scrambled to avert a run on the rupee. "This is a bloodbath. It is discomforting that global markets are not reacting to the measures regulators have taken," Hiten Agrawal, head of research with Angel Broking in Bombay, said. India's central bank reacted to growing pressure on the country's currency by slashing the proportion of cash banks are required to keep in reserve from 9 per cent to 7.5 per cent, which will release about £6 billion into the banking system.

The mood in markets took its tone from Wall Street where US stocks plummeted as investors bet recent worldwide moves to try to thaw frozen credit markets would be insufficient to avert a global recession. The Dow Jones industrial average closed down 7.3 per cent. The bloodbath quickly spread. Sydney plunged 7.0 per cent, Seoul was down 7.5 per cent, Shanghai lost 3.8 per cent and Hong Kong plummeted 8 per cent. Oh Hyun-Soek, at Samsung Securities, said: “It’s beyond panic. Concerns about the global economy are deepening further and there is no sign of easing in the global credit crunch.”

The fear was underlined with the cost of protection against defaults in Asia’s sovereign and corporate debt soaring to record highs.
Singapore shares dropped 7.3 per cent at the opening with the Straits Times Index down 76.2 points at 1,971.72 – its lowest since December 2004. South-East Asia’s largest bank, DBS Group, fell 7.6 per cent after government data showed the city state was now in recession. The island’s economy shrank at a worse-than-expected annualised, seasonally adjusted rate of 6.4 per cent in the third quarter after declining 5.7 per cent in the previous three-month period, putting the economy into a technical recession.

But the hardest fall was in the region’s biggest market. Tokyo’s Nikkei average had sunk 10.6 per cent, or 974.12 points, to finish the morning session at 8,183.37. That surpasses a 9.4 per cent fall earlier in the week and would be the sharpest slide since a 14.9 per cent one-day plunged during the 1987 crash. Kaoru Yosano, the Economics Minister, urged investors to reach calm judgments in the face of the tumbling markets, stressing that Japan’s regional banks were strong as a whole.

Australian shares dropped to fresh three-year lows with the benchmark S&P/ASX 200 index down 259.2 points at 4,061.7, its lowest since May 2005. Losses this week alone have already reached 15 per cent. Even Australia's well-capitalised banks were caught up in the downturn, being sold off sharply in line with their troubled international counterparts. Lucinda Chan, client advisor at Macquarie, said: "These are massive, almost unheard of big days down. These plunges are deep and they hurt deeply. People's nerves are really at the end of their tether. The contagion factor is certainly very clear.”

New Zealand's benchmark NZX-50 index fell 115.6 points, or 3.9 per cent, to 2,828.5. So far this year it has fallen more than 28 per cent.
Hong Kong shares plunged 8.0 per cent in early trade, falling below 15,000 points for the first time in nearly three years. The benchmark blue chip Hang Seng index has fallen 1,211.48 points, or 7.6 per cent, to 14,731.76 minutes after trading started Friday. The index rose 3.3 per cent a day before.

Roubini: Rate Cuts Reduce Crash Risk, But Dow 7,000 Likely 'Sometime Next Year'
Today's global rate cuts have reduced the risk of a market crash, but won't resolve the underlying crisis, says NYU economist Nouriel Roubini of RGE Monitor.

But the financial market crisis has unfolded even quicker than Roubini expected (which is saying something), and the economist now thinks the Dow and S&P will suffer 50% declines from last October's peak vs. 40% previously. In other words, the Dow is going to 7,000, but over the course of months vs. days if Roubini is right, as -- unfortunately for bulls -- he mostly has been for the past two years.

"The policy response is going to become more aggressive [but] a steady flow of bad financial and macro economic news is going to push down equity markets," he says, forecasting a real bottom won't be hit until "sometime next year."

Because of growing slack in the global economy, Roubini says deflation is going to become a much bigger threat in the next six months vs. inflation. In such an environment, cash, Treasuries and gold are the only safe bets he says -- provided your holdings are within the FDIC's new $250,000 insurance cap.

Wells Fargo's $12 Billion Bid Beats Citi to Wachovia
Wells Fargo & Co. will become the largest U.S. bank by branches with an $11.7 billion offer for ailing rival Wachovia Corp. that trumped a competing bid by Citigroup Inc. Wells Fargo, based in San Francisco, and Wachovia said late yesterday they will stick to the terms of the all-stock deal they struck Oct. 3, four days after Citigroup's offer. The bid values the Charlotte, North Carolina-based lender at about $5.43 a share, 51 percent more than Wachovia's closing price of $3.60 in New York trading.

The deal marks Wells Fargo Chairman Richard Kovacevich's biggest takeover since he led Minneapolis-based Norwest Corp.'s purchase of Wells Fargo, founded in 1852, 10 years ago. Like JPMorgan Chase & Co., which last month acquired Washington Mutual Inc., he took advantage of the worst financial crisis since the Great Depression to extend his geographic franchise.

"They are going from being a mainly West Coast bank to rivaling Bank of America with a national retail franchise," said Tony Plath, a finance professor at the University of North Carolina at Charlotte. "There will never be another Wells Fargo- Wachovia transaction. This was a defining moment for Kovacevich." Citigroup, based in New York, dropped the legal battle it waged to prevent the merger. The bank, led by Chief Executive Officer Vikram Pandit, still plans to sue Wells Fargo for $60 billion in damages, saying news of the competing bid caused its own share price to tumble.

A torrent of back-and-forth court filings over the deal generated so much publicity that the Federal Reserve, concerned about its effect on U.S. financial markets, insisted on a cease- fire to allow the two suitors to settle their differences. The pause lasted until late yesterday, when Citigroup said it had ended talks with Wells Fargo. Pandit, who initially called the deal "compelling" and "one of those high-return acquisitions in which we have contained the risk," said in yesterday's statement that the bank's willingness to walk away was a sign of "discipline."

"Following several days of negotiations, we continued to have dramatically different views regarding risks involved in the transaction," Pandit said in a memo to employees. "As I said from the beginning, Citi does not need to do this transaction. We were willing to pursue it only if we could limit the risk and generate value for shareholders."

Citigroup missed out on an opportunity to keep pace with rivals that have expanded through acquisitions of troubled institutions, said Charles Carlson, a money manager at Horizon Investment Services LLC in Hammond, Indiana. In addition to New York-based JPMorgan's takeover of WaMu and Bear Stearns Cos., Bank of America Corp. acquired Countrywide Financial Corp. and Merrill Lynch & Co. "The more Citi could beef up its operations and be part of the big bank club, the better," Carlson said. "I'm not sure this is going to be viewed as good for Citi."

Wells Fargo gains control of a bank with $448 billion of deposits in 21 states. It would have 6,675 branches, compared with Bank of America's 6,139. More than half of Wachovia's branches are on the U.S. East Coast, while Wells Fargo's reach from California to Texas and Minnesota. Kovacevich said yesterday in a statement that the combination would "create significant value for Wachovia and Wells Fargo shareholders." He added that his management team has "adequately evaluated the risks inherent" in Wachovia's loan holdings.

Wachovia's $498 billion loan portfolio includes about $122 billion of option adjustable-rate mortgages. The home mortgages are prone to default because they allow borrowers to defer part of interest payments, boosting the principal. After housing markets weakened, borrowers were left with loans larger than the value of their homes.

"Credit teams at Wells Fargo have had an opportunity to work with their counterparts at Wachovia," Kovacevich said. Wachovia gained 29 percent in German trading to $4.63 today. Wells Fargo fell 5 percent and Citigroup was down 2 percent at $12.69 after dropping 10 percent yesterday in New York. The Wells Fargo deal was originally valued at $7 a share, or $15.1 billion. It declined this week as the bank's share price fell. Each Wachovia share will be exchanged for 0.1991 Wells Fargo share, based on the terms announced Oct. 3.

Wells Fargo said it expects expedited approval of the merger application by the Federal Reserve. The Fed said in a statement yesterday that it will immediately begin reviewing terms of the Wells Fargo offer. Citigroup on Sept. 29 signed an agreement in principle to pay almost $2.2 billion for Wachovia's banking operations, leaving behind its securities brokerage and asset management businesses.

At the time, Wachovia was on the verge of collapsing into receivership, and Citigroup began plying it with emergency funding. Citigroup also agreed to pay $12 billion to the Federal Deposit Insurance Corp. in exchange for a guarantee that the agency would absorb any losses beyond $42 billion on a $312 billion pool of Wachovia loans.

Later last week, as Congress considered bailout legislation that included tax breaks for buyers of troubled banks, FDIC Chairman Sheila Bair encouraged Wachovia CEO Robert Steel to "give serious consideration" to a new offer from Kovacevich, according to court filings submitted by Wachovia in the legal battle with Citigroup.

After the Wachovia board approved Wells Fargo's bid on Oct. 3, Steel called Pandit to inform him that Citigroup had been trumped and refused to engage in further discussions with his bank, according to a Citigroup court filing. Bair was on the call, according to an affidavit submitted by Steel. The FDIC said in a statement this week that "neither Chairman Bair nor any person at the FDIC in any way initiated or solicited the bid from Wells Fargo."

Bair said yesterday she wanted to "acknowledge" Citigroup's willingness to let the acquisition by Wells Fargo proceed. "While some outstanding issues remain, this announcement brings much needed certainty to the process," Bair said. Wells Fargo may benefit from a notice by the IRS that makes Wachovia's loan losses more valuable as deductions. The new rule means Wachovia's losses can be used to offset an unlimited amount of Wells Fargo's taxable income over 20 years. The rule change may save Wells Fargo $25 billion in the coming years, said Robert Willens, a former Lehman Brothers Holdings Inc. accounting analyst who teaches at Columbia Business School in New York.

Canada dumps $25 billion into the world’s safest banking system
The federal government said Friday it would inject up to another $25-billion of liquidity into the financial system through the purchase of insured mortgage pools. In a speech delivered in Ottawa, Jim Flaherty, the Minister of Finance, said the move is aimed at maintaining the availability of long-term credit, which is under severe strain at present as banks are unwilling to lend to each other.

"It is becoming increasingly clear that the continuing disruption of global credit markets, which has been severe and protracted, is making it difficult for our financial institutions to raise long-term funding. This is beginning to affect the availability of mortgage loans and other types of credit in Canada," Mr. Flaherty said.

The minister said the move was designed to mitigate a rising consumer rates, not a bailout of banks holding illiquid assets like in the United States. "Other countries have had to react to internal problems in their domestic banks," Mr. Flaherty said. "In contrast, our Canadian financial institutions are sound, well capitalized and we are proactively responding to insure that events beyond our borders do not interrupt the availability of credit in this country."

Indeed, the World Economic Forum this week deemed Canadian banks the most sound in the G7. Yet the banks have being pressuring Ottawa to aid the system, as their costs of borrowing rise. "It'll free up some cash for the banks, that's the most important part," Benjamin Reitzes, economist at BMO Nesbitt Burns in an interview. "It's a fair amount of money, how much it helps, we'll have to wait and see. It is a step in the right direction."

The move is being done in co-ordination between the Department of Finance and the Canada Mortgage Housing Corp. Mr. Flaherty said it would not require taxpayer funding because the targeted mortgage pools are already insured by the CMHC. In addition, the assets being bought would earn a rate of return above the government's own cost of borrowing.

The first operation is planned for Oct. 16, with a purchase amount of up to $5-billion. The Department of Finance will announce a schedule of future purchase dates to take place over the coming weeks. CMHC will shortly announce further details of the competitive auction process that will be used to purchase the insured mortgage pools.

"The mortgages involved in [this] initiative are already guaranteed through government-backed mortgage insurance and are high-quality assets," Mr. Flaherty said. "This initiative is an efficient, cost-effective and safe way to support lending in Canada by providing secure, reliable funding at an unprecedented time of global market turmoil."

Mr. Flaherty said federal officials would remain ready to act again if necessary. "The Government of Canada is ready to take whatever actions may be necessary to protect the stability of the Canadian financial system," the minister said.

Japanese Stocks Tumble in Biggest Weekly Drop; Nikkei Plunges
Japan stocks plunged, capping the Nikkei 225 Average's biggest weekly decline in its more than 50- year history, as the deepening credit crisis stoked concern that company failures will increase.

The tumble triggered a suspension in futures trading. Mitsubishi UFJ Financial Group Inc. slumped 8.5 percent, leading declines among banks, after Moody's Investors Service said it may cut Morgan Stanley's credit rating. Mitsubishi Estate Co., Japan's second-biggest property developer, retreated 8.1 percent, while T&D Holdings Inc., the country's largest publicly traded life insurer, dropped 11 percent after a real-estate investment trust and an insurer filed for bankruptcy protection.

"I've lost my appetite and my weight has decreased by 3 kilograms so far this year," said Seiichiro Iwamoto, who oversees the equivalent of $1 billion at Mizuho Asset Management Co. in Tokyo. "I have to get myself ready for an even worse incident such as the collapse of a bigger company."

The Nikkei 225 Stock Average fell 881.06, or 9.6 percent, to close at 8,276.43 in Tokyo. The broader Topix index retreated 64.25, or 7.1 percent, to 840.86. The Nikkei slumped 24 percent this week, the steepest decline in the history of its data that extends back to 1949. The Topix, begun in 1969, tumbled 20 percent, also its worst week on record. The Osaka Securities Exchange and Tokyo Stock Exchange halted trading in Nikkei 225 Stock Average and Topix futures for 15 minutes in the morning session.

A U.S. housing slump and subsequent crash in investments tied to the country's mortgage industry has locked up credit markets as banks reined in lending. The London interbank offered rate for three-month loans rose to the highest since Dec. 28. The so-called Libor is the most widely used benchmark for short- term interest rates. Mitsubishi UFJ, Japan's largest listed bank, dropped 8.5 percent to 710 yen, while Mizuho Financial Group Inc., the second biggest, slid 12 percent to 330,000 yen. Sumitomo Mitsui Financial Group Inc. fell 8.2 percent to 552,000 yen.

Mizuho has declared $6.8 billion of losses tied to U.S. mortgage investments, while Mitsubishi UFJ, which agreed to buy 20 percent of Morgan Stanley, lost $1.7 billion. Sumitomo Mitsui has posted $1 billion in losses. Moody's put Morgan Stanley's A1 long-term credit rating on review for a possible downgrade, saying that the slump in financial markets may hurt profit next year, according to a statement. The ratings assessor also lowered its outlook for Goldman Sachs Group Inc.'s Aa3 long-term rating to negative.

"It's certainly capitulation and panic mode," said John Vail, who helps oversee about $106 billion as head of global strategy at Nikko Asset Management Co. "It's dark in the U.S. much like it was dark in Japan in the late 90s. The U.S. is having a taste of that bitter chalice." Surging costs to dispose of non-performing assets prompted UBS AG to lower its ratings on Mizuho and Chuo Mitsui Trust Holdings Inc. to "neutral" from "buy." Analyst Nana Otsuki also cut 12-month price estimates for Mitsubishi UFJ and Sumitomo Mitsui by as much as 33 percent.

Mitsubishi Estate lost 8.1 percent to 1,642 yen. Mitsui Fudosan Co., the nation's largest real-estate company, slid 6.8 percent to 1,575 yen. Sumitomo Realty & Development Co. dived 5.9 percent to 1,779 yen. New City Residence Investment Corp. filed for bankruptcy protection, becoming the country's first real-estate investment trust failure. Yamato Life Insurance Co. also filed for court protection from creditors in the nation's first bankruptcy in the industry in seven years.

T&D Holdings lost 11 percent to 4,220 yen, and Tokio Marine Holdings Inc. fell 11 percent to 3,100 yen. Fuji Fire and Marine Insurance Co. dropped 22 percent to 163 yen, the sharpest decline in more than two decades. Some shares gained as investors bet recent declines were overdone. About 80 percent of shares on the Topix traded below book value, indicating the liquidation value of assets is greater than the company's ongoing business.

Nintendo Co., the world's biggest maker of handheld game players, added 4.6 percent to 36,600 yen in Osaka trading, and Mitsubishi Corp., Japan's largest trading company, jumped 3.2 percent to 1,720 yen. Kawasaki Heavy Industries Ltd. rose 4.9 percent to 170 yen. "Regardless of however good they are, shares, especially small caps, are trading with a huge discount and they look very attractive to me," said Mizuho Asset's Iwamoto. "I'm bargain- hunting those stocks that deal in the Internet, financial services and retailing."

FASB meeting on "mark-to-market" accounting rule
The standard-setting board for corporate accounting is poised to revise a rule in a way that will give banks a break in the distressed market and could boost their balance sheets.

The five-member Financial Accounting Standards Board is scheduled to meet Friday morning to discuss its proposed guidance issued last week that provides some flexibility in applying "fair value" accounting where there is no market for a security _ like the market for banks' mortgage-backed assets that has been dysfunctional for months. FASB has been receiving public comment on the proposal over the past week.

Fair value accounting, also known as "mark-to-market" accounting, requires banks to value their mortgage-related assets at current market prices. Devastated by the write-downs they have taken on mortgage assets since the collapse of the housing market, banks _ with the backing of congressional Republicans _ have been pushing hard for the Securities and Exchange Commission to suspend the requirement.

The $700 billion financial rescue bill enacted last week affirms the SEC's authority to suspend the "mark to market" requirement and directs the agency to conduct a study of the rule's effect on U.S. bank failures this year. The FASB board, at a public meeting at its headquarters in Norwalk, Conn., is expected to vote to adopt the proposal as a final rule revision. Under the change, when an active market for a security doesn't exist, companies will be allowed to use their managers' estimates of value, taking into account expected future cash flows and risk discount rates.

FASB and the SEC jointly issued the clarification on Sept. 30, a move that was applauded by the banking industry, presidential contender Sen. John McCain and Republican leaders in Congress. But critics, including some analysts and investor advocates, say that suspending the fair value rule would muddy the validity of financial statements and encourage exactly the kind of dodgy accounting that defined the Enron era of corporate scandals earlier in the decade. The new guidance will apply to companies' financial statements for the just-completed third quarter. 

Relations in deep freeze as Iceland denounces UK’s ‘unfriendly’ action
Britain and Iceland engaged in a full-scale diplomatic spat yesterday as leaders of the two countries traded angry words about the handling of the financial meltdown. Gordon Brown denounced the “unacceptable” behaviour of the Icelandic authorities, who froze the accounts of hundreds of thousands of British savers, accusing them of taking illegal action.

“What happened in Iceland is completely unacceptable,” the Prime Minister told the BBC. “I’ve been in touch with the Icelandic Prime Minister, and I’ve said that this is effectively illegal action that they’ve taken. They have failed not only the people of Iceland, they have failed people in Britain.” For his part, an angry Geir Haarde, his Icelandic counterpart, accused Britain of performing an “unfriendly act” against his country by using antiterrorist legislation to seize Icelandic accounts. This was no way, he said, to treat a Nato ally.

No warships have been dispatched to the North Atlantic but there is no longer any doubt that the financial collapse in Iceland is becoming the worst crisis in relations between London and Reykjavik since the Cod War of the 1970s. “I certainly thought so this morning when I woke up to find that counter-terrorist laws were being used against us,” said Mr Haarde in response to a question from The Times. “This was very unpleasant, and I told the British Chancellor of the Exchequer that we are not pleased with this at all.”

Mr Haarde called Alistair Darling just before lunch yesterday and let off steam, officials said. “I told him that I considered this to be an unfriendly act,” he said. Mr Darling first enraged the Icelandic Government by threatening legal action in an attempt to secure full compensation for British savers trapped by the collapse of the Landsbanki bank. More than 300,000 British savers have deposits in the bank’s internet operation, Icesave.

Then came the British seizure of assets. Yesterday the Icelandic leader suggested that this was what had nudged his government into nationalising Kaupthing, the largest bank in the country, on Thursday morning. The scorecard in Iceland’s financial catastrophe so far: one major bank nationalised (Kaupthing); two in receivership (Landsbanki and Glitnir); and the stock exchange suspended until Monday. The value of the Icelandic króna plummeted briefly to 340 for €1. Just two days ago the over-the-counter exchange rate was 155 króna.

The heated conversation with Mr Darling appears to have concentrated on the need to keep some of Landsbanki’s operations going in Britain. “It’s very important that normal business continues as usual for Icelandic companies in Britain,” the Prime Minister said. “After all, it affects the jobs of 100,000 people, many of them UK citizens.” Mr Haarde and Mr Darling agreed that Britain would send a small team of financial experts to the island to clarify matters further. Mr Darling is also due to meet his Icelandic counterpart at the International Monetary Fund meeting in Washington this weekend.

The Icelandic Government, though profoundly irritated, has enough on its hands without launching into a diplomatic confrontation with Britain. Certainly the Icelandic foreign ministry seemed to be doing what it could to sugar the lives of visiting British journalists. A trip to the thermal waters of the Blue Lagoon was on offer yesterday, perhaps in an attempt to get correspondents out of the capital; reporters, too, were encouraged to attend the opening of the Imagine Peace Tower, Yoko Ono’s memorial to John Lennon.

The conflict is, however, rapidly becoming as ill-tempered as the hot days of the last Cod War when Icelandic coastguards cut the nets of British trawlers fishing in Iceland’s self-proclaimed economic exclusion zone. This time around ordinary Icelanders are more preoccupied with the problems of managing everyday life without a properly functioning banking system. Property deals are on hold, and companies relying on imports are in trouble because of the plunging currency. So, too, are Icelanders who bought houses and cars on loans denominated in foreign currencies. A financial crisis centre is being set up to help those worst affected.

“Many people will lose their jobs in the banking sector,” Mr Haarde said yesterday. “Many shareholders will lose fortunes, and we will have to do our best to ease the pain.” Although the Prime Minister tried to crack a few strained jokes while talking to the press yesterday, it is clear that the mood in Reykjavik is growing darker. Yesterday, for the first time, Mr Haarde was accompanied by a phalanx of security guards. This is almost unprecedented on this island where everybody appears to be a cousin of somebody else.

The President of Iceland, Olafur Ragnar Grimsson, had heart surgery this week, thus removing a popular figurehead who could have helped to calm the nation. Instead it appeared that the entire financial and political system of Iceland was suffering from a form of cardiac arrest.

Libor Holds Central Banks Hostage as Credit Freezes
Danilo Coronacion oversees 15 percent of global coconut oil production at CIIF Oil Mills Group in the Philippines. These days, he spends a lot of time worrying about events half a world away in London. The name of his pain? Libor.

CIIF has more than $60 million of debt, or 70 percent of its working capital, linked to London interbank offered rates that have soared since Lehman Brothers Holdings Inc. collapsed on Sept. 15. The cost of borrowing in dollars for three-months in London jumped 23 basis points today to 4.75 percent, the highest level since December. Rising Libor, set each day in the center of international finance, means higher payments on financial contracts valued at $360 trillion -- or $53,500 for each person worldwide --including mortgages in Britain, student loans in the U.S. and the debt of companies like CIIF in Makati City, the Philippines.

"You can't afford to be caught in the wrong position at any given time," said Coronacion, chief executive officer of CIIF, which generally pays 1 to 2 percentage points more than Libor. Central banks from the U.S. to England and China cut interest rates yesterday in an attempt to restart the flow of credit and prevent a global recession. The moves came after they had funneled trillions of dollars into money markets in a failed bid to end the blockage. South Korea, Taiwan and Hong Kong lowered their benchmark rates today.

The process of setting Libor is overseen by the British Bankers' Association, putting it outside the domain of central bank policymakers. The overnight dollar rate fell 29 basis points to 5.09 percent. That's still 359 basis points more than the U.S. Federal Reserve's benchmark rate.

Libor, a gauge of bank funding costs, continued to rise even after Spain and the U.K. acted to strengthen their banking systems and the U.S. Congress approved a $700 billion financial bailout. Even the Fed's decision Monday to double emergency cash auctions failed to unlock short-term lending. The European Central Bank today offered banks as much cash as they need for six days at its benchmark rate of 3.75 percent, bringing forward new measures to soothe money markets.

"You get to a situation where fear and panic take hold," said Peter Dixon, a London-based economist at Commerzbank AG, Germany's second-biggest bank. "This is the eye of the storm."

Still, the jargony acronym Libor mystifies most people. While U.S. presidential candidates John McCain and Barack Obama have sparred over the economy and the mortgage crisis in America, neither has braved a public discussion of Libor.
Banks aren't lending because they're worried any borrower may become the next victim and they'll be left with losses as the credit freeze deepens.

Late on Oct. 7, as U.S. stock indexes tumbled to their biggest annual declines since 1937, Axa Investment Managers, a unit of Paris-based Axa SA, sent out an updated list of acceptable counterparties to about 50 of the firm's most senior investors and traders. The memo, obtained by Bloomberg News, barred all new trading with Royal Bank of Scotland Group Plc and ABN Amro Holding NV, even if the dealings were backed by collateral.

Money managers were also told to look for ways of cutting credit risk. Trading was also suspended "even on a collateralized basis" with banks including Goldman Sachs Group Inc., Morgan Stanley, Merrill Lynch & Co., American Insurance Group Inc. and Macquarie Group Ltd.

Axa Investment Managers CEO Dominique Carrel-Billiard yesterday said the memo was out of date. "At any given point in time, there are buy lists, sell lists, inclusion lists and exclusion lists," any one list will not tell you much, he said. "In the current environment, those snapshots age at the speed of light." Today, Axa IM said it has increased the frequency of its selection process for investments and counterparties to ensure the best risk management under the present conditions.

The company is "trading normally" with Royal Bank of Scotland, ABN Amro, Goldman Sachs, Morgan Stanley, Merrill Lynch, AIG and Macquarie, according to a statement released by Sara Dennehy, Axa IM's head of U.K. media relations. Former Bank of England policy maker Willem Buiter said one way to stimulate lending may be for governments to guarantee interbank lending or act as the universal counterparty between banks borrowing for longer than overnight. "It's quite possible, indeed likely, that unsecured lending will not return on any significant scale -- ever," he wrote on his blog on Oct. 6.

Money-market rates signaled the severity of the credit crisis 14 months ago when Libor began to diverge from central bank policy rates. That happened after Paris-based BNP Paribas SA halted withdrawals from three investment funds because it couldn't value assets tainted by the collapsing U.S. subprime mortgage market. On Aug. 9, 2007, the three-month dollar rate surged to 40 basis points more than the overnight index swap rate, a measure of what traders expect the federal funds rate to average. It had averaged 11 basis points, or 0.11 of a percentage point, between December 2001 and July 2007.

"If you had asked me 13 months ago, I'd have said we'd be over the worst by now," said Stuart Thomson, a money manager at Glasgow, Scotland-based Resolution Investment Management Ltd., which oversees about $46 billion in bonds. Coronacion from CIIF Oil Mills, whose products are used to make cooking oil, beauty creams and biodiesel, says he remembers waking up to a more difficult world that morning.

"We were already in a volatile market at that time, and the rising Libor made our business even more complicated so that you have to be on your toes all the time," he said. "Our finance people had to work very closely with our traders, or it could have spelled disaster for us." CIIF's three treasury employees work in shifts around the clock with its three traders to monitor Libor, foreign currency exchange rates and coconut oil prices, which have been falling. "We're all getting squeezed," Coronacion said.

Libor is set through a daily survey by the London-based British Bankers' Association. As many as 16 banks, including UBS AG, Citigroup Inc. and Bank of America Corp., report the rates they think they can borrow at in 10 currencies and maturities ranging from overnight to one year. The concept of a centralized dollar rate set outside the U.S. emerged in the 1970s when the Soviet Union and Arab oil producers invested export revenue in London to prevent it from being confiscated by U.S. authorities, said Chris Golden, who worked for Credit Suisse White Field at the time and went on to head bond research for Lehman and Nomura International Plc.

The measure started as a series of rates quoted by four banks as a reference for floating-rate notes and syndicated loans, Golden said. The BBA began producing the unified rates known as Libor in 1986, an association spokesman said. That made Libor the natural benchmark when then-Prime Minister Margaret Thatcher abolished many restrictions on trading in the U.K., leading to an explosion in the range of products on offer, said David Clark, former head of funding at European Investment Bank, the European Union's Luxembourg-based development bank.

While the estimates that go into Libor used to be based on actual transactions between banks, they have become little more than guesswork since credit markets froze, according to three people with knowledge of how interbank rates are set. They spoke on condition of anonymity because they weren't authorized to discuss rate setting.

"Whatever answer you give is by definition wrong," said Meyrick Chapman, a strategist at UBS in London. "There is no interbank lending, so the only proper answer to where could you fund yourself is `I don't know' or `I can't."' BNP Paribas's decision to halt withdrawals from the three funds in August 2007 crystallized investor concerns that events such as Merrill Lynch's seizure of collateral from two Bear Stearns Cos. hedge funds and Germany's bailout of IKB Deutsche Industriebank AG were part of a wider breakdown. Libor rose as banks became wary that their counterparts might be holding subprime assets, and lending between institutions started freezing up.

That took its toll on Northern Rock Plc. The Bank of England bailed out the Newcastle, England-based mortgage lender in September of last year, after rising credit costs left it unable to borrow from its peers and depositors lined up to close their accounts. Tensions in the credit markets eased in late December after the Fed joined forces with central banks around the world to pump hundreds of billions of dollars into the money markets to relieve a year-end funding squeeze. The respite proved temporary.

Libor jumped again on March 17, after New York-based Bear Stearns collapsed when clients pulled $17 billion from the securities firm in two days and creditors stopped renewing loans. Everything accelerated with the Sept. 15 bankruptcy of Lehman Brothers. The cost of borrowing in dollars for three- months has surged 1.93 percentage points in the past three weeks. "It shows you again that people have gone into a defensive crouch," Federal Reserve Bank of Dallas President Richard Fisher said Oct. 6.

The difference between what banks and the U.S. Treasury pay to borrow money for three months widened to 413 basis points today, the most since Bloomberg began tracking the data in 1984. The so-called TED spread, which reflects perceptions of how risky it is to lend to banks, averaged 41 basis points in the 17 years to July 2007. By comparison, on Oct. 20, 1987, when stocks collapsed globally on what became known as Black Monday, the spread was at 300 basis points. It peaked at 160 basis points after the hedge fund Long-Term Capital Management LP imploded in 1998.

The spread charts and financial acronyms mean real pain for people like Maureen McNally of Trenton, Florida. The monthly payments on her Libor-linked mortgage from Countrywide Financial Corp. have climbed to $769 from about $500. "I had to give up my cable television, I had to give up my house phones, because I had to cut back completely," said the 53-year-old gift processor at the University of Florida in Gainesville. "I am so disgusted with this whole mortgage thing I never want to own a home again." McNally says she's had her house on the market for nine months without an offer.

Martin Zorn, the chief financial officer of Integra Bank Corp., said he's never seen so much volatility. The Evansville, Indiana-based bank, which has branches in Indiana, Illinois, Kentucky and Ohio, is finding that rate quotes for loan proposals are now good only for the day they are made, not for two weeks as in the past, Zorn said. Half of Integra's loans and all of its deposit rates are tied to Libor. "Everyone is very, very panicked," he said. "A bunch of people are putting money in the mattress, which worries me."

Central bank efforts to tame Libor have had little impact because instead of lending the extra cash, banks are holding it on deposit with the ECB at a loss. On Oct. 6, banks borrowed 13.6 billion euros from the ECB at its emergency rate, which then stood at 5.25 percent. At the same time, they deposited 42.6 billion euros overnight at 3.25 percent. "Libor rates are now more or less meaningless because everyone is just doing business with the European Central Bank," said Jan Misch, a money-market trader at Landesbank Baden- Wuerttemberg, Germany's biggest state-owned bank.

ECB President Jean-Claude Trichet said banks are probably over-assessing the risks they are taking. "They are going too far in the other direction," he said at an Oct. 2 press conference in Frankfurt. "I call upon them to keep their composure." So far his calls have fallen on deaf ears.

Plan B: Flood Banks With Cash
Banks are supposed to lend money, but they aren’t doing very much of it these days. That is not the only cause of the global recession that is unfolding, but it is hard to see how economies can begin to recover without functioning financial systems.

The American government has responded by taking over more and more of the lending itself, while using indirect means to shore up the banking system. It has not worked. Never in history have the Federal Reserve and the Treasury announced more plans to try to fix the financial system within a span of a few months — and rarely have investors been less impressed.

The Standard & Poor’s index of 500 stocks is down 22 percent since the end of September, and 42 percent since it peaked a year ago. It may be time to try a new approach, and perhaps to abandon the announced details of the bailout plan passed by Congress with such difficulty only a week ago. The government needs to decide which banks it is sure are worth saving, and pump capital into them directly.

Treasury Secretary Henry M. Paulson Jr. indicated this week that he was considering such an approach, which would be much simpler and could be much more effective. The announced plan for the bailout package was for the government to buy up dubious assets from banks, paying more than they are worth now but less than they are expected to be worth later.

If that is completed, banks will get cash — $700 billion or more. But their net worth will rise only to the extent the government overpays for the assets. Pricing those assets will be anything but easy, and the expectation of the government program has further frozen those markets. No one wants to sell until they can find out what the government will offer.

The alternative is to go in the direction Britain went this week. The government could use the $700 billion, or at least a large part of it, to buy preferred stock in banks. The government could be selective in deciding which banks get the cash, and it could impose conditions on those that seek the money. Those banks could be required to come clean about the risks that they have taken in dubious assets, and to write those assets down to what a willing buyer would pay now.

With that information, the government may decide to let some banks fail. But the others, in which the government does invest, would have a government seal of approval that was backed up by cash. And a lot of cash. A rule of thumb might be that if the government thinks a bank needs $4 billion in additional capital, it gets $8 billion.

The terms could be arranged so that the government gets a reasonable profit if the bank can pay the money back within five years, and can convert its stake into common stock only if that deadline is not met. That would give the current shareholders hope that their stock will be worth something someday, and perhaps avoid the further sell-offs that could otherwise arrive with the plan.

For much of the 14 months this crisis has been growing, the government has believed it was one of illiquidity — a temporary inability to raise cash — rather than insolvency — the issue when a financial institution is broke. The assumption was that the banks really would be fine when worries went away, and they had to be helped over that temporary hump. The Federal Reserve expanded both the amount it was willing to lend and the collateral it would take to back up loans.

The crisis, it turns out, is one of a lack of solvency, not just liquidity, and that is why banks fear to lend to one another. Each bank knows the games it has played in valuing assets — or at least could have played — and is loath to believe the balance sheets of other banks. That suspicion has chilled the interbank lending market.

The sad saga of the American International Group is one reason for that chill. When A.I.G. first said it needed help, $40 billion was said to be all it needed. Now the total is over $120 billion, as more problems are found. One European precedent that the Treasury could study was used this week when the government of Denmark guaranteed both deposits in Danish banks and all interbank loans. The banks were ordered to halt dividend payments and share buybacks.

Given their need for capital, it is odd that most American banks are paying any dividends at all. Even after reductions, most big American bank shares now yield more than 3 percent, and some more than 7 percent. Yet few of the banks are confident they have enough capital, or that their competitors do, which is why they are reluctant to lend. In that atmosphere, does it make any sense to reduce capital by paying dividends? Should the government funnel money to companies whose owners are getting big payouts while the banks report large losses?

In the absence of a functioning financial system, the Federal Reserve announced plans this week to lend money to companies that cannot get credit in the free market. Those loans will be made at low interest rates, with no equity for the government and no controls over how the money is spent. It ought to make anyone nervous to have the government allocating capital, which in this environment could mean it is making the decision to let companies live or fail.

How will the Federal Reserve deal with that quandary? What interest rate will it charge if it is the only lender willing to put up cash to buy a company’s commercial paper? There are no answers available. The Fed does say it will not buy more commercial paper from a company than the company had outstanding in August. And it will cut off a company if one of the rating agencies downgrades it. Doesn’t it make you feel better to know that the Fed has subcontracted its investment decisions to Moody’s and its competitors?

Ideologically, this is not what either Republicans or Democrats would have proposed a few months ago. But desperate times produce desperate tactics. “The central bankers all learned the lesson of the 1930s,” said Robert Barbera, the chief economist of ITG, a Wall Street firm. That lesson was that if the choice is between allowing the system to collapse and writing a lot of checks, you write the checks and forget about ideology.

Unfortunately, none of them learned the lesson of the 1920s, which is that when asset prices soar, it is not a good idea to sit around doing nothing, as the Fed did for most of the housing boom. Cheerleading, which it sometimes did, is even worse.

One aspect of this crisis is that the people in charge of the financial system — in the banks, at the Fed and other central banks and at the Treasury Department and other finance ministries — consistently underestimated the damage, both to the system and to the world economies. At first, many thought the damage would be limited to losses from a small group of mortgages. Banks raised a little capital, but not nearly enough.

As the problems spread, they kept offering reassuring words, which they might well have believed. Those words provided brief comfort for some, but destroyed a lot of credibility. As recently as Sept. 18, after Lehman Brothers had gone broke and it was clear that consumers were cutting back, the Federal Reserve Open Market Committee thought the economy could come through.

“Participants agreed that economic growth was likely to be sluggish in the second half of 2008,” said the minutes of the meeting. “Several participants had marked down their near-term outlook for economic activity and some judged that downside risks had increased, but most continued to expect a gradual recovery in 2009.” We should be so lucky as to get sluggish growth for the remainder of 2008. The gross domestic product seems likely to show significant declines, and those declines may continue into 2009.

The real problem, which many preferred to ignore because they had no ready answer, was that the financial system was breaking down. The excesses of lending and gambling had destroyed the new financial system — the one built on securities as an alternative to bank lending — and left the old commercial banks too weakened to step in. Or, in the words of Paul A. Volcker, the former Fed chairman, “In the U.S., the market took over. The market has flopped.”

Now, added Mr. Volcker, “everybody is running back to Mother, the commercial banking system.” Unfortunately, Mother is very ill. Even worse, her children do not trust one another, and that is why the system is frozen. In 1933, when Franklin Roosevelt became president amid a panic, he declared a bank holiday that closed the banks while federal examiners went over their books. When the holiday was over, the government closed some banks and declared the rest were healthy.

In reality, there was no way the government could be sure of that. But the public accepted it, and the bank runs stopped. This time, the government has offered too many assurances that turned out to be false. It will take cash to convince the public — and the other banks — that the survivors are safe.

At Morgan Stanley, Outlook Darkens; Stock Tumbles 26%
The sharks are circling closer to Morgan Stanley. Shares of the financial behemoth sank 26% Thursday as concern escalated among investors about its future and other banks. Morgan Stanley depends on heavy borrowing and holds risky securities. The stock has plunged 77% this year to a 10-year low. Hedge-fund clients have pulled about one-third of their money from the firm in recent weeks. The cost of protecting against a Morgan Stanley default has surged. The firm can't issue new debt.

Morgan Stanley is hoping to ease the pressure with a planned $9 billion investment in the firm by Japanese bank Mitsubishi UFJ Financial Group Inc., set to close Tuesday. Investors are worried because Mitsubishi's purchase price of $25 a share now is roughly double Morgan Stanley's closing stock price Thursday. With Morgan Stanley shares so low, the $9 billion commitment for 21% of the firm two weeks ago could now buy a 65% stake.

Though there is no break-up fee on the deal, Mitsubishi is bound by its contract with Morgan Stanley and would face potentially unlimited liabilities if it were to walk away. So the future of Morgan Stanley might rest on whether the Japanese bank will honor its word, despite billions of dollars of immediate paper losses it would suffer on its investment. Thursday, Morgan Stanley and Mitsubishi repeated that the deal was on track. Morgan Stanley shares fell $4.35 to $12.45 in 4 p.m. composite trading on the New York Stock Exchange.

Late Thursday came more bad news. Moody's Investors Service placed the long-term debt ratings of Morgan Stanley (senior debt at single-A1) and its subsidiaries on review for downgrade and assigned a negative outlook to the long-term ratings of Goldman Sachs Group Inc. (senior debt at Aa3) and its subsidiaries.

"Investor, counterparty and customer confidence is critical to the funding and profit generation of the firm, especially in a hostile market environment," the rating agency wrote in its report on Morgan Stanley. "During its review, Moody's will focus on the success of the actions that management takes to alleviate these confidence pressures and maintain customer franchises, while retaining key producers in a difficult environment."

The crisis marks a dramatic comedown for a white-shoe firm with a storied Wall Street past. It was created in 1935 to continue the investment-banking business of J.P. Morgan & Co. after the government forced institutions to separate their commercial and investment-banking businesses during the Depression.

Morgan Stanley has come under scrutiny partly because many other of its large, heavily indebted rivals have required government rescues or shotgun mergers or have failed. These include the bankruptcy filing of Lehman Brothers Holdings Inc., the government takeovers of mortgage firms Fannie Mae and Freddie Mac, the government rescue of insurer American International Group Inc., the government-assisted takeover of Bear Stearns and the hastily arranged purchase of Merrill Lynch & Co. by Bank of America Corp.

Morgan Stanley wasn't the only financial stock to get clocked in a steep, marketwide sell-off that sent the Dow Jones Industrial Average tumbling 7.3%. Merrill fell 26% despite its pending deal to be acquired by Bank of America, which isn't expected to be derailed; U.S.-traded shares of Credit Suisse Group dropped by 21%, and Wells Fargo & Co. fell 15%. In an attempt to combat the credit crisis, Morgan Stanley in recent weeks became a bank holding company, which will likely force it to use less borrowing to fund its trading operations and give the government more oversight into its businesses.

The Federal Reserve has approved Mitsubishi's purchase of as much as 24.9% of the firm. The Japanese bank likely would be able to get further regulatory approval to buy a bigger stake in Morgan Stanley, but it would need to agree to greater regulatory oversights. The Federal Reserve could waive the waiting period for Mitsubishi to close its deal, but only by finding that immediate action is necessary to prevent the probable failure of the bank. The Fed already waived the lengthy public-comment period for the original stake, citing "unusual and exigent circumstances."

Fed officials believe the Mitsubishi stake is on track to close as anticipated. But if the Mitsubishi deal were to fall through, the government could consider a range of options, including injecting capital into the firm or into another bank, which potentially could buy Morgan Stanley.

Any decisions about a government capital injection or equity stake would be left to U.S. Treasury Secretary Henry Paulson, who made that decision with President George W. Bush in the case of Bear Stearns, Fannie Mae, Freddie Mac and AIG. Now, Mr. Paulson has authority under the $700 billion rescue package to inject capital into struggling banks. Mr. Paulson declined to comment.

The Fed has considerable latitude to lend directly to Morgan Stanley if it faced an immediate funding crunch. Morgan has full access to the Fed's discount window, and the Fed in recent weeks has loosened its collateral restrictions for financial institutions to ease deepening strains in credit markets. Direct borrowing from the Fed soared to more than $400 billion outstanding last week.

Morgan Stanley is well-capitalized enough to fund itself through the third quarter of 2009, analysts say. But debt markets now are effectively closed to the company, wrote Bernstein Research analyst Brad Hintz. In a filing Thursday, Morgan Stanley said market disruptions in September forced it to contingency funding plans that included selling assets and pledging collateral to federal government-sponsored lending programs. It said liquidity reserves have fallen since August, analysts estimated by around 25% or 30%, but the filing added that Federal Reserve policies and the company's change to a bank holding company will help it meet its requirements.

The crisis at Morgan Stanley comes during a week in which the government has taken aggressive steps to revive global markets, from the potential of buying stakes in banks to lending to nonfinancial corporations to participating in a world-wide coordinated interest-rate cut.

When speculation spread Tuesday that Mitsubishi might back out of its commitment, Morgan Stanley Chief Executive John Mack hit the phones, telling clients the deal was on course, according to people familiar with the matter. A memo sent to the New York company's 46,000 employees decried "the extreme volatility" of "a rumor-a-minute environment." Mitsubishi reiterated that the deal is expected to close Tuesday.

Morgan Stanley executives are eager for the transaction to be completed, since the stake will bolster the firm's balance sheet and deepen its relationship with a large commercial bank. Now that Morgan Stanley has morphed into a bank holding company, it could benefit from close ties with Mitsubishi, traditionally one of Japan's most conservative banks. The Japanese bank wouldn't face a direct financial penalty if it walks. But any such move would likely sour Mitsubishi's relationship with U.S. banking officials. Those ties are important to the bank at the moment because it recently acquired all of UnionBanCal Corp., the U.S.'s 25th-largest bank.

Any move to renegotiate the deal with Morgan Stanley for a larger stake would create other complications. Foreign ownership of 25% or more of a U.S. commercial bank counts as control. If Mitsubishi were to control Morgan Stanley, cross-guarantee rules would expose UnionBanCal to its liabilities. The Federal Deposit Insurance Corp. would be exposed to Morgan Stanley.

Though Morgan Stanley has been swept up in an environment of "panic and fear and hysteria," the firm has "locked in a source of new equity with Mitsubishi, and we don't have any reason to believe that's not going to happen," says Scott Sprinzen, an analyst with Standard & Poor's

American automakers GM and Ford fight for survival
America's biggest car manufacturers, General Motors and Ford, are facing a long, hard battle for survival tonight after Wall Street abruptly lost confidence in their financial stability in the face of plummeting vehicle sales. In the course of a few hours, GM's shares crashed by 31% to close at $4.76, their lowest level since 1950, while Ford's stock plunged by 21% to a 20-year low of $2.08 on mounting concern that both companies are at risk of bankruptcy.

The Detroit-based carmakers, which have been the mainstays of US motor manufacturing for more than a century, are struggling to cope with an evaporation of bank funding for car loans to enable customers to purchase new vehicles. In a severe blow to their financial credibility, Standard & Poor's said it was considering downgrading its credit ratings for both GM and Ford, citing "the rapidly weakening state of most global automotive markets".

Both are already rated as offering "junk" debt, meaning that they are high-risk prospects for lenders, and a further reduction will make it even harder for them to borrow money. GM's sprawling empire includes brands such as Cadillac, Chevrolet, Saab and Vauxhall. It has traditionally been the largest of Detroit's "big three" carmakers, ahead of Ford and privately owned Chrysler.

Even before the present economic slowdown, the US carmakers were losing headway to Japanese rivals because of a shift in tastes among American motorists from pickup trucks and sports utility vehicles to smaller, more fuel-efficient cars. The US government has promised $25bn (£14bn) of loan guarantees to help the motor manufacturers stay on a firm financial footing. But experts are becoming increasingly concerned that this may not be sufficient to avert bankruptcy.

"These fears are justified," said George Magliano, a motor industry analyst at Global Insight in New York. "Will they survive? Yes, I think so. But it's going to be a tough fight." As an economic slowdown dampens demand, global Insight expects sales of light vehicles in the US to fall from 16.1m to 13.6m this year, then to 13.4m in 2009, leaving the manufacturers scrambling to scale back on assembly-line production.

A report by experts at Citigroup this week suggested that if conditions deteriorated further, Ford and GM could be forced into "drastic spending cuts" including slashing jobs and making new pay deals with unions — or even debt-for-equity exchanges, in which the banks would take ownership of part of the two companies. Citigroup's analyst Itay Michaeli said: "Already weak balance-sheet positions will find it difficult to accommodate a prolonged global downturn. The risk-reward balance has tilted decidedly negative."

General Motors plunged $38bn into the red last year, while Ford lost $2.7bn. In a recently recorded YouTube video appealing for support, GM's chief executive, Rick Wagoner, insisted the firm had a "bright future" but had hit a rocky patch. At today's share prices, GM was worth just $2.6bn, less than its capitalisation at the start of the Great Depression in 1929, and Ford was valued at less than $5bn — paltry sums for two companies that sell $353bn worth of vehicles annually.

In Detroit, the companies' troubles have been greeted with gloom. Gerald Meyers, a University of Michigan business professor, told the Detroit News that morale was plummeting: "It's like finding out that you have a terminal disease. You try to do something about it, but you know that you are in deep trouble."

Ford and GM have been offering bargain-basement prices on cars. In a bid to save money, GM recently ended its 11-year run as a key sponsor of the Oscars in Hollywood. The company is trying to offload several of its brands including the gas-guzzling Hummer marque, which makes vehicles modelled on the Humvee armoured car used by the US army. Since 2006, Detroit's three major manufacturers have cut more than 100,000 jobs, hitting hard in the so-called "rust belt" of manufacturing across Michigan, Indiana and Ohio in America's midwest. Ford has mortgaged most of its assets to raise money, including its blue oval logo.

GM, Ford May Face Bankruptcy on Slowdown, S&P Says
General Motors Corp., Ford Motor Co. and Chrysler LLC may be forced into bankruptcy by slowing economies and dwindling U.S. auto sales, Standard & Poor's analyst Robert Schulz said today.

"Macro factors could overwhelm them at some point" even with the three biggest U.S. automakers committed to turnarounds, Schulz said in a Bloomberg Television interview. S&P said yesterday it may cut GM and Ford debt deeper into junk on forecasts for 2009 auto demand falling to the lowest since 1992.

GM, Ford and Chrysler are under pressure as the worsening global credit crisis makes it harder for buyers to get loans and dealers to finance their operations. U.S. industrywide sales tumbled 27 percent in September, the most in 17 years. GM fell 17 cents, or 3.6 percent, to $4.59 at 9:52 a.m. in New York Stock Exchange composite trading, while Ford added 7 cents to $2.15. GM slumped to a 58-year low yesterday and Ford closed at its lowest since 1982. Chrysler is closely held.

With all three companies working to boost cash, any bankruptcy filing would be a last resort, not a "strategic" decision, said Schulz, who is based in New York. "We don't see that as something they would choose," he said. Schulz said the "trigger" for a forced restructuring under bankruptcy protection would be based on the automakers' ability to preserve liquidity as sales decline.

Operating-cash needs at GM, Ford and Chrysler are "substantial, so if it looked like they were going to be pushing toward that number because of these operating losses and cash usage, that's sort of the point where they'd have to consider" bankruptcy, Schulz said. S&P said yesterday that its debt ratings for GM and Ford, already at six steps below investment grade at B-, may be lowered again because the automakers face a "serious challenge" in 2009.

GM shares will fall further, Barclays Capital analyst Brian Johnson said in a report today, reducing his stock price for the Detroit-based automaker to $4. "With auto sales stalled in the U.S. and beginning to contract in the rest of the world, we believe GM's cash needs are increasing," wrote Johnson, who is based in Chicago. "Moreover, the downside risk of greater decline in worldwide auto sales driving greater cash needs is increasing."

GM and Dearborn, Michigan-based Ford lost a combined $24.1 billion last quarter. GM last posted an annual profit in 2004, while Ford hasn't had a full-year profit since 2005. "Bankruptcy is not an option GM is considering," spokeswoman Renee Rashid-Merem said yesterday. "It would not be in the interests of our employees, stockholders, suppliers or customers."
The automaker said it still expects to add $15 billion in liquidity by the end of next year, including speeding up plans to cut $10 billion in costs.

Ford said yesterday it is reviewing its liquidity and will give an update when third-quarter results are released. The second-largest U.S. automaker borrowed $23.4 billion in 2006 so it could absorb the cost of shutting factories and cutting jobs while it develops new models. The automakers won Congress's approval last month for funding for a $25 billion loan package to help develop more fuel-efficient vehicles. The funds will be spread primarily among Ford, GM and Auburn Hills, Michigan-based Chrysler, though other automakers, such as Volkswagen AG, have said they will seek a portion.

Regulators are writing the rules for that borrowing even as auto-market conditions worsen. Industry researcher J.D. Power & Associates estimated yesterday that U.S. industrywide sales will fall to 13.6 million this year and 13.2 million in 2009. Last year's total was 16.1 million. Industrywide sales of 13 million autos next year would mean shrinkage in the overall U.S. vehicle fleet, said Erich Merkle, an analyst for consulting firm Crowe Horwath LLP in Oak Brook, Illinois.

"We are going to find people where they may have had three cars and now have two, and two cars now have one, and a lot of that is just because of the economic environment," Merkle said. "They may not have the ability to buy a new car and even if they do, they may not be able to get financing for that car." Global demand in 2009 may be even worse, with "an outright collapse" now possible, according to J.D. Power, which is based in Westlake Village, California.

Toyota Shares Post Biggest Weekly Plunge in 34 Years
Toyota Motor Corp., Japan's biggest carmaker, posted its biggest weekly decline in at least 34 years on concerns the deepening credit crisis will further damp auto sales and spark a global recession.

Toyota dropped 4.7 percent to 3,220 yen on the Tokyo Stock Exchange. The stock plunged 21 percent this week, the most since at least the week ended September 13, 1974, the earliest point of available Bloomberg data. Honda Motor Co., the second-biggest carmaker, declined the most in a decade this week and Nissan Motor Co., the third-biggest, had its worst fall in seven years.

Japan's Nikkei 225 Stock Average and broader Topix index both had their worst weeks in history on concerns that tougher lending standards will damp spending by businesses and consumers. The credit crunch and slower economic growth have already prompted U.S. auto sales to fall for 11 months in a row, the longest slide in 17 years.

"The sky is falling," said Ed Rogers, chief executive officer of Tokyo-based hedge fund adviser Rogers Investment Advisors Y.K. "We have to hit a bottom, where buyers feel they can come back into the market." The Topix Transportation Equipment Index dropped 22 percent this week, the most since January 1982. Honda dropped 8.9 percent to 2,110 yen and ended the week down 26 percent. Nissan lost 9.4 percent to 464 yen and declined 25 percent this week.

Toyota is offering no-interest loans on 11 models in the U.S., the world's biggest auto market, in a bid to revive demand. Its U.S. sales plummeted 32 percent in September, the biggest such decline since 1987. Yesterday, market researcher J.D. Power & Associates estimated that car and light-truck sales will fall to 13.6 million this year and 13.2 million in 2009. The total was 16.1 million last year and hasn't been as low as the 2009 projection since 1992.

Japan's three-largest carmakers earn more than half of their operating profits from North America. Toyota has fallen 61 percent since its 8,340 yen peak on February 27, 2007. Earlier this week, Toyota lost its spot as the world's largest automaker by market capitalization to Volkswagen AG. General Motors Corp., the world's largest automaker, yesterday tumbled to its lowest in New York trading in 58 years and Ford Motor Co., the second-largest U.S. carmaker, fell to almost a 26-year low. Below is a chart of Japanese automakers' and suppliers' share performance today and over the past week:

Russian Oligarchs Lose $230 Billion, 62% of Combined Wealth, in 5 Months
Russian billionaires from aluminum magnate Oleg Deripaska to soccer-club owner Roman Abramovich lost more than $230 billion in five months during the nation's worst financial crisis since the 1998 default on its debt. The combined wealth of Forbes magazine's 25 richest Russians tumbled 62 percent between May 19 and Oct. 6, based on the equity value of traded companies and analysts' estimates of closely held assets they own. The loss is four times larger than the fortune of the world's wealthiest man, Warren Buffett.

Moscow's benchmark Micex stock index declined 61 percent since its peak in May. The global credit seizure, war with Georgia and falling commodity prices led foreign investors to pull $74 billion out of Russia since the early August, according to BNP Paribas SA. While Russia's 1998 default and devaluation of the ruble eradicated savings for most of the population, this year's losses are wiping out its richest citizens' fortunes.

"There was a massive transfer of wealth into the hands of the oligarchs in 1998," said Mark Mobius, executive chairman of Templeton Asset Management Ltd., which has about $30 billion in emerging market stocks. "Now it's going the other way." United Co. Rusal's Deripaska, 40, the richest Russian on the list, lost more than $16 billion and in the past week ceded stakes in Hochtief AG and Magna International Inc. Chelsea FC owner and Evraz Group SA shareholder Abramovich, 41, lost $20 billion, based on assets excluding property and cash.

The biggest loser has been Vladimir Lisin, 52, an avid hunter and head of Russia's Shooting Club, whose 85 percent stake in OAO Novolipetsk Steel lost $22 billion in value in the period. Novolipetsk rival Evraz declined 83 percent, shrinking 49- year-old founder Alexander Ambramov's fortune to $2.2 billion from $13.4 billion. Russia's biggest steelmaker, OAO Severstal, also fell, cutting the wealth of chief executive officer and majority owner Alexei Mordashov, 43, to $5.3 billion.

"They should take us all off the Forbes list," said Alexander Lebedev, ranked 39th by the magazine in May with $3.1 billion of wealth. Lebedev, 49, who owns 30 percent of state-run airline OAO Aeroflot, said in an interview on Sept. 23 that "silly" rhetoric by the Kremlin over the conflict in Georgia was responsible for 40 percent of the stock market's drop in August.

OAO Lukoil Chief Executive Officer Vagit Alekperov, 58, saw his 20 percent stake in Russia's second-biggest oil producer decline to $7.2 billion from $19.5 billion. The fortune of Alekperov deputy Leonid Fedun, 52, declined to $3 billion from $8.4 billion. Both men have said they will continue to buy more Lukoil shares. Dmitry Rybolovlev, 41, who controls OAO Uralkali and owns 20 percent of OAO Silvinit, the country's only potash producers, lost about $12.8 billion, leaving him with $4.1 billion.

Alfa Group partners Mikhail Fridman, 44, German Khan, 46, and Alexei Kousmichoff, 45, ranked seventh, 10th and 17th, respectively, lost at least a combined $12.1 billion. Alfa's shareholdings include BP Plc's Russian oil venture TNK-BP, mobile-phone operators OAO VimpelCom and Turkey's Turkcell Iletisim Hizmetleri AS, supermarket chain X5 Retail Group and television broadcaster CTC Media Inc.

At least one of Russia's wealthiest got out in time. Mikhail Prokhorov, 43, sold his 25 percent stake in OAO GMK Norilsk Nickel to Deripaska's Rusal for an undisclosed amount in April, just before nickel prices began to slump. The value of that stake plummeted from $13 billion on April 24 to $3.38 billion on Oct. 6. Prokhorov received $7 billion in cash as part of the Norilsk transaction, the Kommersant and Vedomosti newspapers reported then, citing unidentified people familiar with the deal.

"Are you criticizing me for feasting amid the Black Death," Prokhorov joked with reporters in Moscow on Sept. 30, after buying half of Renaissance Capital for $500 million. That was less than a quarter of the value the investment bank had a year ago when VTB Group sought to take it over, according to a Vedemosti report. "Crisis time is a peak for opportunities," Prokhorov said. "An absolute peak."

Russia's Micex and RTS stock exchanges delayed the opening of trading today on orders of the market regulator. It was unclear when trading would start, a spokesman for Micex said. The RTS won't resume stock trading until "further notice," the bourse wrote in an e-mailed statement.

"You can now buy the free float of the entire Russian energy sector with the market cap of Coca-Cola, and still have change to buy all the Russian banks," Merrill Lynch & Co. emerging markets equity strategist Michael Hartnett said in a note to clients today. The unprecedented loss of wealth may set the stage for a new round of asset redistribution, said Pavel Teplukhin, president of Troika Dialog Asset Management in Moscow.

"We've seen quite a significant inflow of fresh money by our wealthy individuals to acquire at these very attractive levels that we haven't seen since 2003, 2004," Teplukhin said in a Bloomberg Television interview on Oct. 9, a day the Micex Index climbed 9.8 percent.

The next round of wealth building may be the most intense yet, according to Renaissance Capital. The first came between 1995 and 1998 as Russia's first president, the late Boris Yeltsin, agreed to sell stakes in the nation's biggest industrial assets in return for loans from bankers including Potanin, who helped organize the state bailout. "It will be a game with bigger stakes than in early 1990s privatizations and the redistribution after the 1998 crisis," said David Aserkoff, chief strategist for Russia at Moscow-based Renaissance Capital.

"Oligarchs with cash will be able to use their knowledge of the business and political landscape to find the next billions," Aserkoff said in a research report on Oct. 6. "The market will grow back," billionaire Viktor Vekselberg, 51, one of BP Plc's four partners in oil company TNK-BP and founder of Renova Group, told reporters yesterday. "The only issue is when. I don't think it will be soon."

Russia seeks to reassure as bank crisis deepens
Russia raised bank deposit guarantees on Friday as the banking crisis deepened, with one bank's licence revoked, another asking clients to repay mortgages and S&P putting 13 institutions on negative outlook. With memories of painful savings losses of the 1990s and Soviet times still relatively fresh, authorities are working hard to support the banking system.

State-owned companies have already bailed out two mid-sized banks that fell prey to the crisis, and Prime Minister Vladimir Putin on Friday said guarantees on personal bank deposits will now cover 100 percent of the first 700,000 roubles ($26,760), the equivalent of nearly 40 average monthly wages. The announcement came on a day of more news for the Russian banking sector, which has seen foreign sources of funding blocked by the global credit crunch, and the liquidity problems exacerbated by the flight of investor capital from Russia.

The sharp sell-off in shares -- with Moscow bourses down 56 percent since the start of August -- has eroded the value of collateral used in repo loans, sparking wide-spread margin calls and leaving some organisations unable to meet obligations. Standard & Poor's ratings agency put 13 of Russia's financial firms on negative outlook on Friday, including big players such as investment banks Troika Dialog and UralSiband Russia's largest privately owned bank, Alfa Bank.

"The outlook revisions reflect our growing concerns about the adverse impact of the ongoing domestic and international market turbulence," S&P credit analyst Ekaterina Trofimova said in a statement. "We expect that higher funding costs and reduced access to the debt markets will continue to put pressure on banks, especially the small and mid-size ones and those which have sizeable amounts of debt maturing in the coming months."

Analysts and bankers say not all of Russia's 1,000-plus banks will be able to survive the crisis. "Over the coming year, the state will have to take steps to force a consolidation of the banking sector to ensure that many of the weaker institutions are absorbed into better-capitalised entities without causing debt defaults that would threaten the system more broadly," Goldman Sachs said in a research note.

Small, Moscow-based Eurasia Centre bank on Friday became the first to have its banking licence revoked by the central bank over "significantly unreliable" accounts and inability to meet creditors' demands. Mid-sized lender Rosevrobank has asked clients to repay their mortgages straight away rather than risk the prospect of real estate prices falling 30 percent. The big, state-owned players are also feeling the pinch.

VTB-24, the retail banking arm of VTB is reducing investments and is not ruling out job cuts. Russia's largest lender and most trusted bank, Sberbank, has changed its strategy to focus on loan quality over credit growth, and has hiked interest rates on new loans. As well as guaranteeing deposits, Russian authorities have focused much of their $210 billion market rescue package on measures to boost banking sector liquidity and encourage banks to pass money down the chain to smaller players.

But analysts say it is a slow process of confidence rebuilding -- which means for some players it may come too late.
Overnight interbank money-market rates held near 10 percent on Friday compared to levels of around 4 percent in May-July, illustrating the lack of available credit. "The size of the support package of the banking sector is impressive ... and part of that is aimed at the medium-sized banks," said Yaroslav Lissovolik, strategist at Deutsche Bank. "The problem is many of these measures have not yet come into effect."

Yen Set for Biggest Gains in 10 Years as Carry Trade Evaporates
The yen headed for its biggest weekly gain in a decade against the dollar as the global stock- market rout prompted investors to sell higher-yielding assets and pay back low-cost loans in Japan's currency. Japan's currency was poised to rise the most versus the euro in any week since the 15-nation currency's debut as the Dow Jones Stoxx 600 Index tumbled 5.9 percent, discouraging carry trades. Group of Seven finance ministers and central bankers meet today in Washington to discuss the financial crisis.

"Risk aversion continues to be the name of the game," said Jeremy Stretch, senior strategist in London at Rabobank International. "We have seen the yen holding up remarkably well." The yen rose 0.8 percent to 99.03 per dollar at 8:36 a.m. in New York, from 99.82 yesterday. It reached 97.92, the strongest since March 19, and is up 6 percent this week. Japan's currency advanced 0.9 percent to 134.64 per euro, from 135.83. It touched 132.83, the strongest since July 2005.

Coordinated interest-rate reductions by central banks in the U.S., Europe and Asia in the past two days failed to revive lending among banks, putting stocks on course for their worst week in 30 years. The cost of borrowing in dollars in London for three months rose to 4.82 percent today, the highest since December, the British Bankers' Association said. U.S. Treasury Secretary Henry Paulson and top aides are still considering options on how to proceed with a $700 billion bank bailout plan, including having the government acquire preferred stock, two officials informed of the matter said.

Paulson and Federal Reserve Chairman Ben S. Bernanke will meet with counterparts from the G-7, which comprises Canada, France, Germany, Italy, the U.K., the U.S. and Japan. Threatened by the worst economic outlook in a quarter- century, officials arrived in Washington still without the broad-based strategy that investors were seeking, raising the risk of further turmoil if their remedies disappoint. Among the options is a proposal by U.K. Chancellor Alistair Darling for nations to guarantee lending between banks, a suggestion that Paulson hasn't ruled out.

Japan will propose at the G-7 meeting that the International Monetary Fund establish a lending program to help developing countries deal with the financial crisis, the Nikkei newspaper reported today, without citing anyone. The program would be funded with foreign-exchange reserves from Japan, China, the Mideast and developed countries, the newspaper said.

The euro fell 0.3 percent to $1.3560, from $1.3604, on speculation the credit crisis in Europe will deepen, prompting the European Central Bank to cut interest Rates further. The bank lowered its benchmark rate two days ago for the first time in five years. Europe's currency is on course for its second straight weekly decline versus the dollar. The pound fell as much as 1.8 percent to $1.6792, breaching $1.70 for the first time since November 2003.

The South Korean won surged as much as 11 percent to 1,224.95 per dollar after a meeting among financial regulators fueled speculation the government will intervene to support the currency, which yesterday reached a decade-low 1,485.32. The nation's foreign-exchange reserves dropped in each of the past six months, sliding $24.6 billion to $239.7 billion as the Bank of Korea used the funds to stem the won's slide.

The yen gained 20 percent this week to 65.55 versus the Australian dollar, 15.4 percent to 58.97 against New Zealand's currency, known as the kiwi, and 7.6 percent against the euro on speculation investors will reverse trades in which they get funds in countries with low borrowing costs and buy assets where returns are higher. Japan's 0.5 percent target lending rate compares with 6 percent in Australia, 7.5 percent in New Zealand and 3.75 percent in Europe.

"It has been most volatile against the Aussie and kiwi, and the big move is to the downside," said Derek Halpenny, the European head of global currency research at Bank of Tokyo- Mitsubishi Ltd. in London. "If you stand back from this, the moves we have seen are extreme. We should continue to see the yen as the star performer." Implied volatility on one-month dollar-yen options, a measure of expectations for future currency moves, rose to 32.18 percent, the highest since Bloomberg began compiling the data in 1996. Higher volatility can wipe out carry trade profits.

"People in the options market are saying this is some of the most frantic activity they have seen," said Geoffrey Yu, a foreign-exchange strategist in London at UBS AG, the second- biggest currency trader. "You don't want outright cash exposure to the yen because it's so volatile. That's why people are going into options." Currency volatility mirrored turbulence in global stock markets as the VIX, the Chicago Board Options Exchange Volatility Index surpassed 60 for the first time yesterday. The VIX jumped 11 percent to 63.92.

Credit default swaps and those who issued them are to blame for crisis
The average American is puzzled by the current financial crisis. The reason is that the problem occurred at what can only be viewed as the rarified air of finances, finances that allow CEOs to receive millions of dollars in yearly salary. Let's follow a loan through the system to the place where CEOs make their money and threaten ours.

The average home loan borrower went to a mortgage broker, who would take down personal information, such as annual income and the appraisal of the home the borrower wished to buy. This loan application would then be shopped around loan institutions, generally banks or savings and loans. Once the institution loaned the money, the loan would again be sold to another bank, which would bundle the loan with other loans with similar risks and yields.

This bundle was now a mortgage-back security. This mortgage-backed security was resold and rebundled with similar bundles and was now a collateralized mortgage obligation. This final bundle was sold to large investment groups like pension funds, banks, insurance groups, central banks, as bonds.

These investment groups, however, wanted protection for their bonds just in case the borrowers defaulted. Groups like Bear Stearns, Lehman, and AIG insured these CMOs only their insurance wasn't called "insurance" because that would have brought them under state and federal regulation. The insurance was called "Credit Default Swaps." The substitution of "swaps" instead of "insurance," kept the regulators away.

If everything worked as planned, everyone would have made money, lots of money, but the system broke down because the housing market was inflated. Not only was it inflated but fraud and unethical behavior further inflated values. The way it worked was that the brokers at the point of origin of the loan falsified the income of many borrowers, sometimes not even listing income.

In minority areas, brokers steered prime loan borrowers away from fixed, thirty year loans to ARMs (adjustable rate mortgages) and interest only loans. In many instances, these ARMs didn't reset with interest rates but automatically, which guaranteed that the borrower would default. However, they brought in more money for the broker. Appraisers inflated the values they put on homes, which was especially important for borrowers who were refinancing since it allowed to increase the size of their loans.

Naturally, defaults began occurring when the inflated properties priced themselves out, leaving borrowers with a steadily declining asset. The ripples went up through the system to the CMOs. The institutions that held these instruments, called upon the issuers of the credit default swaps to pay for the declining value of their CMOs.

It is at this point that the real trouble began. Since there was no regulation of the credit default swap market and it is a huge market world wide, estimated at $43 trillion to $54 trillion. Yes, that was trillion," not "billion." The regulations that determine the capital reserves for insurance companies, for example, were totally lacking for credit default swaps. The only asset that guaranteed these credit default swaps in many cases was simply the reputation of the issuing company.

Even worse, many of these swaps were hedged (leveraged). Thus, a billion dollar asset that plunged 40 cents on the dollar would cost the investors $600 million, but the company that issued the a swap that was hedged would be responsible for as much as $6 billion. When one understands the huge amounts of money involved, combined with the total lack of regulation, it is easy to see how our economy got into trouble.

The failure of the credit default swaps leaves pension funds, for example, with less capital to distribute to its members. The decline in capital for banks if it doesn't bankrupt them, leaves them less to loan since capital determines how much they can lend. This situation impacts companies, which then hits the stock market. In short, everyone is affected although the full impact may not be felt yet. In the end, the situation is simply "a big mess."


goritsas said...

Hi S&I,

I've been bashing TOD for casting you out as heretics and now heralding you as prophets.

I'm probably a bit OTT.

Sadly, TOD, as always, is too chickenshit to address anything head on.

Anonymous said...

Eh ... don't be so glum ...

CNBC said this morning and again this afternoon that the market has bottomed!

When has CNBC ever been wrong?

Anonymous said...

Everyone around me is just Taking it, with a smile and a laugh. "I'm not even going to look at my 401K account!" hardy har har.

I finally had the balls today to warn some close pals at work and I was ridiculed. "Stock up on some food, get some cash while you can."

They pointed outside and said, "Look, the sky is falling" and laughed.


Thanks to our authors here. At least I don't have to get online anywhere for a couple months if need be.

good luck all - - Forrest

Anonymous said...

TOD made the fatal mistake of letting too many industry 'insiders' in, thus destroying their ability to do meaningful outsider analysis in any deep way. As I noted here, getting excited by someone who is the cause of the problem feeling the urge to post as if that position gives them some special insight, when obviously it didn't, is kind of silly. That goes for any industry, any topic, especially vague, metaphysical constructs like financial manipulation and wealth extraction, which is what the US financial 'industry' should be labeled as.

You can easily see this in the endless idiotic postings by people in denial about x or y, global warming, whatever. This isn't the first time I've seen industry 'insiders' be the most clueless and non-critical, and it won't be the last.

There are great exceptions, see Doug Noland, this week's is depressing: The Wall Street Bust:

Here at home, our maladjusted economic system will only be sustained by somewhere in the neighborhood of $2.0 TN of new Credit. It’s simply not going to happen. The $700bn from Washington would seem like an enormous amount of support. In reality, it’s nowhere even close to the amount necessary for systemic stabilization. To the $2.0 TN or so of new Credit required this year (and next) add perhaps as much as several Trillion more necessary to accommodate speculative de-leveraging (liquidations forced by huge losses). Importantly, the Bust in Wall Street Finance has ensured that insufficient liquidity will be forthcoming to maintain inflated asset prices and sustain the Bubble economy – creating catastrophe for the leveraged speculating community.

The “Freidmanites” thought they understood the (post-crash) policy mistakes that led to The Great Depression. They believed the “Roaring Twenties” was the “Golden Age of Capitalism.” The great bust could have been avoided with a simple ($5bn or so) banking system recapitalization. As we are witnessing today, the issue is not some manageable amount of new “capital” to replenish banking system losses. Instead, the predicament is the massive and unmanageable amount of new Credit necessary to, on the one hand, sustain a mal-adjusted Bubble Economy and, on the other, the Trillions more required to accommodate a gigantic speculative de-leveraging. I have a very difficult time seeing a way out of this terrible mess.

Ilargi, as things evolve, having a solid source to go to doesn't lose its value, it simply changes the direction and message. The value remains.

You are doing an incredibly good job, thanks so much.

As the maze unravels, being able to see its maneuvers and distortions more clearly will be more, not less valuable, even if the time to pull out money, etc, has passed.

Anonymous said...

So anyone know how the Lehman's CDS auction actually went? It should have ended by 2PM EST right?

. said...

Well, this has certainly been a day. Trading suspension? Rewriting the rules? Unknown effects of Lehman CDS resolution disaster?

I have located 5,000 acres of mesic sandstone forbs (whatever those are) in central Missouri and I'm going to go hide in the middle of them until this has passed.

Anonymous said...


I've come to "believe" that the core of rational analysis in human affairs is not "logic," but ethics (our sense of how well we socially treat other people and our will to be ethical).

If I understand you, another aspect of that could be summed up as:
Do unto others as you would have them do unto you.
Would you agree to that ?

Concerning the "conspiracy theory", RG says:
I don't think it was so much an intentional act to gut the country as it was the inevitable outcome of maintaining business as usual for the non-negotiable American lifestyle born out of the hubris of being a military superpower.

And Tim says:
It's a classic tragedy of the commons. Nobody in their right mind wants peak oil, terrorists, global warming, a global depression and the like, but that is where their actions lead when taken as a whole.

My reaction is to invoke Occam's razor. If the above explanations are sufficient and simpler, then they are probably true.
Put another way, there is the expression "On ne prête qu'aux riches", i.e. "Money is lent only to the rich" which also means that things "just have a way" of setting themselves up in a manner that favours the rich. A multitude of individual decisions tends to favour the influential.

In short, I still rationally resist the conspiracy theory, but like Tim, I have difficulty shaking the impression that Ilargi may be right.

It’s really too late for the U.S. in so many ways.

True. But what of the rest of the world?


Jason R said...
This comment has been removed by the author.
Jason R said...

GM and Ford are now being forced to deny they are going to file bankruptcy. Isn't that a sure sign it will happen?

The Lizard said...

"Sadly, TOD, as always, is too chickenshit to address anything head on."

Show them some differential equations - that always gets their willies wagging.

rachel said...

Ilargi: Your posts may not help us move our money much longer, but it will help us know we are not alone. Please keep it up.
Today I go to yell "Arrest the Economic Terrorists!" while ABC Nightly news is filming in my town, tomorrow McCain is here.

God help us

One good thing my victory garden seeds arrived in the mail today!

Anonymous said...

Stoneleigh and Ilargi,

It has been an absolute privilege to watch this unfold through your eyes these past months. Thank you.

Mike b

Anonymous said...


Thank You so very much for what you have done and what you continue to do. I appreciate it more than you will ever know.

If we do all find ourselves paupers, at least we shall not be alone.

We will rebuild.


The Lizard said...

Mike b:
"Stoneleigh and Ilargi,
It has been an absolute privilege to watch this unfold through your eyes these past months. Thank you."

Hear Hear!
This deadly melodrama will play out till Spring. I&S, please do stay through this winter of change.

"You are reserved for a great Monday!’ Fine, but Sunday will never end."

DJ said...

This is an interesting development:{b9acbb03-9607-44fa-8ea4-110138703ca6}

So if I get this straight, Fannie will stop collecting on it's mortgage-backed securities because the FDIC will now cover any of their losses. Doesn't make me feel that great about my "FDIC Insured" account, now does it?

Anonymous said...

just on BNN

Economist Sherry Cooper says Paulson may announce guarantee for ALL US bank deposits tonight in his address.


Anonymous said...

Yes, thank you for all the work you have both done. I don't know exactly what's coming, but I do feel much better prepared to face it and adapt for life in our new low-resource, low-profit world. Thanks again.

Linda S.

Anonymous said...

Stoneleigh, your prediction for the markets seems to be spot on. I believe you said the first bounce would be around DOW 7000. Was today close enough or do you think we get closer to a 7000 bottom?

RAS said...

I don't know whehter or not you can succeed in warning anyone else, but I want you to know that this site is where I come to for the best financial news around. It is so much better than any site or network out there!

Ilargi said...

My TOD posting privileges have now been revoked.

Pray tell, what happened?

Anonymous said...

I wonder, no more growth due to PO? At least in the long run.

Anonymous said...

On February 2, 2008 I walked out in the winter cold. Was summoned by a large cottonwood-- standing alone on the tall grass prairie. It was about 15 degrees, the snow about 3 feet deep. I had never noticed the tree before. I called me- I walked a couple miles through barbed wire, snow drifts, tall prairie grass and got to this previously unnoticed tree. Huge- 200 years old. I stood under the tree, put my arms around it. It would have taken 4 of me to embrace it totally.

As I walked away from the tree to the frozen slough (pond) I walked through the low boughs of the tree. They were blooming- on February 2. I started to shake with fear. It was wrong, unnatural for buds to burst in this deep chill of winter. It was an ill omen. The tree called me. I am to be its prophet of doom.

All is not well. Much is amiss. Take heed. Gather those you love around you. The empire is dying- embrace it, hold it as it breathes its last breathes.

Shamba said...

Ilargi you like black cats! I knew you were okay. does Stoneleigh like cats, too? :)

anyway, obviously I like and have more than one feline, which is not what I posted to say.

Thanks for all the information you two have put up here the past year. It has helped in many ways for me to deal with the reality that has been happening. I didn't handle all my money wisely but half of it I did.

And all of your info and some other sites as well, ahve helped in a kind of emotional/psychological preparation for the future.

I'll still be reading.

best wishes for you and Stoneleigh and your families, etc.,


Anonymous said...

I read TOD until I realized that Ilargi's "receding horizons" combined with the economic collapse which was right in front of our eyes, even a year ago was the real story to impact our lives and oil production.
Now it frustrates me to see threads over at TOD struggling with these economic issues, while continuing to ignore or reference Aut. Earth. Recently, contributors there are saying PO is now history because of the economy. It's about time they realize it because some here did quite some time ago...especially the writers here who were told to leave TOD.

My seeds should be here soon and my solar oven arrived yesterday.

scandia said...

I&S, You'll get no flack from me if you decide to close down TAE. The depth and consistency required must consume much of your energy.
I,too, hope you can keep going until spring. I'd miss you both, miss the other regular posters.
I have put small amounts in the tip jar and will continue to do so when I can.
I sure don't understand if Canada has the best banking system in the world why the gov't needs to take on 25Billion of mortgages. Yes, I heard Flaherty's explanation. didn't make any sense to me.

Unknown said...


I sure don't understand if Canada has the best banking system in the world why the gov't needs to take on 25Billion of mortgages. Yes, I heard Flaherty's explanation. didn't make any sense to me.

The answer is extortion or, from the other viewpoint, bribery. The BoC lowered prime and the big banks refused to follow. Today, they followed. This is the price of their cooperation: $25 billion.

How much will it cost next month?

Anonymous said...

Your personality has evolved for me over time. Now, just when I thought I had it figured out you reveal that you like cats (black ones anyway). Once again your personality profile is changed.
--A cat lover

Greyzone said...

Peak oil is simply the lock being applied to the empty "infinite growth" tavern at which the world has gotten very drunk these last few years. Once this economic mess flatlines some years down the road, people will naturally start to think "growth" again. But peak oil will have long since ensured that no real growth is possible by that time.

I had many email exchanges with certain TOD persons when I&S had to leave TOD. I was very disappointed from what I learned in those exchanges but I won't go further into that now. It's all water under the bridge.

My TOD posting has been way down these last several months because there have obviously been more pressing issues at hand.

As for me, my wife and I need to do some significant dry and canned good rotations this weekend and I am going to see what sorts of sales I can find on seeds for next spring, as well as review my tools.

Roubini, whom I greatly respect, thinks the rate of fall is going to slow down from here for a bit. I am going to guess that he still sees some Christmas season for retailers. It won't go to zero instantly so there should be a slight uptick in certain categories. Roubini is expecting to breech the 7000 level by the end of the year. Additionally, as we have already seen, Italian Prime Minister Silvio Berlusconi let the cat from the bag with the suggestion that markets will be "frozen" next week. Between government actions and even a little bit of the remaining Christmas sales, the rate of fall will probably slow until mid-December then resume with a vengeance. Heck, we may even get a small retracement now or a bit of flatline behavior in a holding pattern for some weeks.

In any event, life is about to become far far more frugal. I've done what I can and still don't feel that it's near enough. I doubt that any of us feels that anything we have done is "enough" but rather the best we can do having been dealt a deliberately bad hand.

My best wishes to I&S and to everyone reading this blog. We're all going to need it.

bicycle mechanic said...

CNBC just said that all the Swaps today had been covered. That no company went defunct, and that all had paid up in "collateral".

Does collateral = assets?

Or is this more like a Firesign theatre skit. Where the gameshow host has just given MS Mergatroud her Prize, a nice big brown bag. MS Mergatroud opens the bag and proclaims that it was only a bag of SH!T. And the game show host calmly assures her, "but, its such a fine bag of Sh!t MS Mergatroud".

Time for a walk through the old forest not far from my home. The suns rays pierce its old growth covering, a soothing tonic of shadow and light.

One might expect an Oracle to step out at any moment from behind one of the century year old oaks and reveal to his guest mysteries and tales of long ago.

But then a pan handler appears and CUT, back to technological reality.

It is my understanding that Hopi's and other Native Americans speak of the four races. From mouth to ear over Time, this has been taught to each generation.

White, Red, Yellow, Black

Creator gave the Black man the responsibility over the Sea and Water, and one can see that the Black man has gained great skill and techniques as fishermen and builders of multiple unique vessels to travel the water, and live in harmony with the water

To the Yellow man he gave air. As you can see the Tibetans have become the master of air through their breathing and their abilities to control this is many unique peaceful ways and they live in harmony with the air.

To the Red man he gave care of the earth and its animals. And as you can see the Red man lives in harmony with the Earth and its animals, and even as difficult as it is, the Native Americans today live in harmony with the land.

To the white man he gave care control of fire. And it can be now said that whenever or wherever a white man goes, he carries fire, and has learned many ways to utilize it. I leave it to you to decide if the White man lives in harmony with fire.

E. Fraser said...

This canary in the coal mine has had her emails unanswered, her blog reviewed with 'pffft's' and her thinking/advice met with "ah ha's" since 2005. I sold up including my problem home w/rental attached, folded inward as much as I could with everything... I can cook most anything - and I love bean soup. Most friends thought I was over the top. No one is answering my emails now and I feel awful for them all since they are all - lower middle-class folks like myself. If I only felt there would be prosecution of the individuals responsible for the crimes at the back of all this, even though that might not happen while I am still alive (since I am older) - it would give some comfort. Thank you for your blog - one of the very best out there.

Ilargi said...

No, but really, y'all should meet Sparkie, my very black cat. She talks way more than I do, and that in itself is no mean feat, She doesn'r stop, i tells ya. Spark is kinda like your ultimate blabbermouth,

Anonymous said...

I am also on the TOD commenting blacklist. Don’t step on any of the toes of the contributors or you may find yourself removed from the discussion. It also helps not to mention anything too politically or religiously inflammatory or off-topic.

Their discussions must nimbly dance around their audience’s beliefs and superstitions so as not to bar the main message, peak oil, from the minds of their readers. I think it was unfortunate that Stoneleigh’s and Illargi’s contributions were seen as an unnecessary diversion from the peak oil message when “Peak Oil” will be meaningless beyond the financial and economic impacts it produces.

Stoneleigh said...

Please don't give TOD a hard time. As far as I'm concerned, what happened back then is water under the bridge, and we'll all have more than enough to worry about in the future without dwelling on the past as well. If we all end up hungry and cold together, or our children are drafted, previous disputes will seem insignificant.

Nate Hagens has been my friend for a long time, and I would rather he didn't end up regretting putting that article up. I was very pleased that they ran it again today and I had another chance to discuss its message. People were much more receptive this time :)

Stoneleigh said...

I am indeed a cat person as well :)

Fortunately, our talkative Sparkie has the good sense to stay away from our huskies, which are not known for treating cats gently.

Stoneleigh said...

Grey Zone,

Glad to see you came through hurricane Ike unscathed.

My guess for the extent of this initial cascade was that the DJIA would at least take out the October 2002 low of about 7500. There may be more downside potential for this move, but we are also getting closer to a counter-trend rally. I would expect such a rally to begin towards the end of this month, and to last for perhaps a couple of months.

Thereafter, the downside potential is much greater. 2009 should be a very memorable year - the year when the Wall Street storm hits Main Street with a vengeance. Getting in some supplies while it's still easy is a good idea IMO.

Anonymous said...

Well...after reading Ilargi's latest, and all the responding comments, while listening to the soundtrack from The Last of the Mohicans, it occurred to me that I should re-post something from TAE September 27th...Here it is:


[I] think I had perhaps better get out of the say, to take care of myself and those closest to me...

If time is money, then borrowed money, in the end, can buy nothing but borrowed time.



Our revels now are ended. These our actors,
As I foretold you, were all spirits, and
Are melted into air, into thin air;
And like the baseless fabric of this vision,
The cloud-capp'd tow'rs, the gorgeous palaces,
The solemn temples, the great globe itself,
Yea, all which it inherit, shall dissolve,
And, like this insubstantial pageant faded,
Leave not a rack behind. We are such stuff
As dreams are made on; and our little life
Is rounded with a sleep.

[The Tempest]


Yea...I'm a bit melancholy.

That said, please consider this one more "Thank you very much" to Ilargi and Stoneleigh.


Anonymous said...

Regarding the TOD post about you guys being right - I agree - great job - I continue to read here.

But I must tell you that I lost alot of money being short financial stocks - not that you specifically told me to do it, but reading here, well, it seemed like a home run. When that short selling ban was put in I lost about 30% of my retirement account on SKF and SEF longs. Those stocks have since come back but the risk was too great in the interrim so I sold. Fortunately the rest of my account was in cash so Im probably faring better than most.


Travis Greenstreet said...

Mike b:
"Stoneleigh and Ilargi,
It has been an absolute privilege to watch this unfold through your eyes these past months. Thank you."

I couldn't have stated my sentiments better. Prescience and poetry are a powerful combination.

Stoneleigh said...


I'm sorry you lost money. Sudden rule changes are one of the reasons I usually suggest that most people are better off on the sidelines in cash. Playing the markets at a time like this is a huge gamble - volatility will whipsaw you all over the map, exchanges may be closed or overwhelmed with sell orders so that you can't execute timely trades, or with some things there could be counterparty risk. The rewards are potentially large, but it's easier to lose your shirt instead.

Cash under your own control, or short term treasuries, is safest. The thing is not to worry too much about the return ON capital, but to worry about the return OF capital. I know it's difficult if you live on investment returns, but those returns are by no means guaranteed for much longer anyway. In a deflation your cash will appreciate by the real rate of interest, which will be high even if the nominal rate is low, even if you kept it under the bed. Your purchasing power will therefore increase as assets prices fall, giving you many options later.

Anonymous said...

Thanks for this blog. Please don't stop now!

Anonymous said...

I knew people were in denial, but I had no clue just how much.

I frequent another discussion board that hosts a variety of topics. One thread mentioned Iceland's bankruptcy, to which one responder--trumpted by a NUMBER of cheerleaders--laid the entire economic crisis at the door of the "liberal media," whose goal was to influence the upcoming presidential election. She suggested that if we all would turn off our TVs for ONE MONTH and tune out the media, everything would resolve itself.

Anonymous said...

More banks failed today

Up to 15 so far, always on a friday...

Anonymous said...

Stoneleigh said: "Getting in some supplies while it's still easy is a good idea IMO."

Good idea! I just received a few black and white (ceramic) filters for my Big Berkey water filter. The Country Living Grain Mill will arrive soon. When Main St. is affected in 2009, some of these basic supplies might not be readily available.


Anonymous said...

Hi François,
What struck me about Salmon's take on Nouriel, "At some point, Nouriel will be too bearish..." was it's smug tone.

Where did this tone come from? I wondered. Then it occurred to me how blinded he must be by his assumptions. Yet, I was sure he was probably very satisfied with his own rationality, which caused me to wonder about the limits of logic, which led me to Godel's Incompletenes Theorem.

Few people realize that arithmatic cannot be consistent and complete at the same time, or what it means. For me what it means is that logic is not the core of rationality; ethics is. Why? In my world, ethics are both consistent and complete at the same time; they're an absolute in the relative world. I'd suggest that if our professions have become overwhelmed by sophistry it's because of our lack of awareness that pure logic is not the penultimate of science and rationality. I've met so many people who shade data to their own advantage that I've long ago given up on the professions; a lack of ethics corrupts the logic, which is limited in it's own way. I & S's analyses of herd dynamics works because rationality is so rare. Like the Golden Rule.

Anonymous said...

Thought participants/readers here might find this interview of Michael Hudson of interest.


scandia said...

Now I wish you all could meet my Mayacat, a very tall, silver gray Russian Blue, as good a companion as one could get!
I've been thinking about the G7 leaders meeting, the talk that they may shut down world markets and REWRITE THE RULE BOOK for the entire global financial system. Wow!
Some job. these guys will finally start to earn their paycheques! Except there is a problem. I don't think they know the whole of a complex system nor comprehend how it works. Does anybody? Maybe another Goldman man?
So-o-o, even if the project begins, wouldn't such a monumental task take years and years? Or could it be that this new rule book has already been written, that preparations are simply for its release?
I just don't see how what they propose to do, rewrite the rule book, can be executed.
Rumour, thanks for the explanation. Extortion! Yikes!

Anonymous said...

Oh, yeah, well my beautiful forest cat slept next to my back last night. Oh, I was toasty warm!
Anyone else getting tired of this talk about "historically, this is what the gov. has to do..." I'm thinking we don't have a whole lot of history to fall back on, and never before have we had these financial instruments to deal with, this global economy, and PO facing us. We're in uncharted waters.

Anonymous said...

Greyzone, just because you and I are not exactly, of the close and undying, sort of pals, doesn't mean I would see you pale and haggard for want of a good source of seed.

Try Johnnyseeds

They test and give germination rates as they deal with commercial growers. This means you can put some trust in the seed and as well buy in quantities that allow you to divide packages and so freeze a bunch for future use. I tried them this year for the first time and got some really good results, though Johnneys is a company in Maine with I imagine quite a different climate from South Coastal B.C.

About this :

I had many email exchanges with certain TOD persons when I&S had to leave TOD. I was very disappointed from what I learned in those exchanges but I won't go further into that now. It's all water under the bridge.

Hell man don't leave us hanging, that sounds like good juicy stuff and we are quite discreet around here ... we won't tell a soul, all strictly hush hush.

Greenpa said...

well, as long as it's critters- we had a beautiful, huge, brilliant black cat for 11 years; his name was Inkspot. A terrific companion. His replacement is Nigel- not a Russian Blue, but he could pass for one.

And at the moment we're being serenaded to sleep by the mournful howls of our brand new today puppy downstairs; Delilah; a Catahoula Leopard/Boxer cross to replace the watch dog which just killed all the chickens...

yep, life goes on.

Anonymous said...

Ric - I'm going to get picky.

Godel's results only prove than no arithmetic that strongly extends primitive recursive arithmetic can be both consistent and complete. But that could mean lots of different things, maybe PRA is just the wrong base to built an arithmetic from.

So is logic not the core of rationality, rather ethics is? Well, mathematical logic sure isn't the core of rationality. But logic is more than just proof, more than just math. Logic includes arguing things out, striving to understand, giving accounts.

One of my favorite thinkers is Heraclitus , and he has a lot to say about both ethics and logic in the few fragments we have. "For humans ethos is the divine force" (ethos anthropos daimon). Ethics is not the heart of rationality, it is "daimon," destiny, or the divine force. It is what is decisive for humans, but not always via rationality. Or consider what he says about logic and wisdom (DK b108), or about logic and humanity (DK b72) "Although intimately connected with the logos, men keep setting themselves against it." Ethics is a close to rational behavior as humans usually get (outside of some special cases like art, wisdom, or inspiration), and it is frequently closer than humans' use of logic to rationalize with (as we so frequently set ourselves against what our own logic is telling us). But that does not mean that logic is not the core of rationality, ethics is, only that ethics is more central to human rational behavior than logic is, because well behavior is more central here than rationality is. I could yammer on about the relation between alethia, logos, zoe and anthropos, and link it to Dewey and the old Gnostics, but it is late, and somehow this doesn't quite seem the venue. But seriously I think your formula that ethics is closer to the heart of rationality than logic, has got something important in it, but isn't quite right ...

Starcade said...

I'll start with the general comment at large, then do a separate one for some of the responses.

It is too late to get out financially -- or at least fully in that regard. The more I see McCain and Palin fumble around, the more I am certain that:

1) They should be immediately arrested and disqualified from the Presidency for inciting their few remaining followers to such hate that only riot can result.

and 2) They know something. They know this election cannot be held.

And if you look at today's Dow farce, you understand why.

TWO 800-point reversals, each taking about 40 minutes -- one at the beginning of the day, one at the end. We circuit-breaker (a badly needed wake up call) and go -1,000 otherwise.

The Prime Minister of Italy is right: All world stock-market trading must cease. Probably indefinitely. Definitely until some real valuation can come to not only markets, but currencies and countries as well.

None of these companies have ANY positive value left -- none of any sort. The derivative creators and their shadow bankers own the world -- 15 times over, if not more. Heads of state have no power here.

The entire system will die -- either now (with an immediate crash of all value to zero, which is the only place where it can go) or with hyperinflation on top of it.

The entire system must be halted. Only that which is essential to continue minimal operations and the public good should be continued until such time this can unravel.

Anonymous said...

I have slowed my posting at TOD,as I have a limited amount of time, [net time is recreation,as far as my darling Latino wife is concerned]and the information I have from TAE requires more thought,and reflection than TOD.

I&S,The Cassandra effect is something we all deal with,however I have had a slight respite.
Had to go to work EARLY this am for a "safety"meeting.As our crews usually works solo,It is a chance to socialize,and catch up on the gossip.
A good friend of mine,with whom I have a shared outlook and worldview nailed the vp who is in charge of the 401ks...ask him to respond to the rest of the company about current events,and wasn't is strange that snuffy called it almost exactly when he objected to the changeover from profit sharing to 401ks 3 years ago,and just how much is left in our retirement fund anyway??!!!....
he who laughs last...
My 5 cats send their greeting.My favorite is a small black and white ["calender kitty"as she is beautiful]who follows me all around supervising my chores,and is a world class pest as she believes the only reason I exist is to hold and pet her.[may be that is my reason for existing!]
I am hoping to have the chance to continue reading your evaluations of our times.Have you considered that this blog would make one hellava history of the true nature of the crash of '08.One "of the people"and having a unique,counter spin to whatever sh!t is produced as the train wreckc continues?


Starcade said...

Iowa Boy: If you have the means to get out and have the food where you can ride this out for a while (and the guns to protect yourself), it sounds like now is the time. If I read Ilargi right, he feels TSHTF _this weekend_ to the point where the election cannot be held and an NSPD-51 is declared in the United States for the economic situation.

And here's another thing to support that claim: On Sept. 11, 2008, the President signed an Executive Order ordering all federal agencies to create a chain of succession, not unlike that which the Constitution now provides his office. The deadline to put those successions on his desk? Tomorrow.

Dopamine: It is far too late for the rest of the world too. Or at least most of it. The real question is: What's going to come out of all this? I think the "One World Government"/"New World Order" people will win out.

Jason R: The American car industry is dead. The only real use most people will have for cars is as new houses. GM, Ford, all the rest of the American companies?? Toast. Worthless. Gone.

anonymous regarding full backstop of all deposits: He has two choices: Hyperinflation through this, or a mass bank run and we don't even get through October before Martial Law. He can either do it now or do it later -- that is, lose all social order. Most would rather delay the pain, so he really has no choice but to guarantee all bank deposits, whatever the cost.

greyzone: Re: Christmas. I can't see it. The only way Christmas and the retail sector have been preserved (the credit bubble) is dying. I see the retail sector being beheaded Q1 next year. You're already seeing the start of it with Circuit City not even able to get enough credit to hold stock for the holidays.

Stoneleigh: But short-term T-Bills are basically now at zero return. (The 1-month has been basically between 0.03% and 0.06%.)

Did I just read that right... _15_ banks failed today???

Scandia: They have to rewrite the books, and shut it all down until they do. The problem is that we can't trust what they do next.

knutty knitter said...

Love this site. I even manage to understand some of it :)

Chainsaw and Skilly are sleeping in the sun. It's Spring here and they are now old. They were strays we adopted - one from a rubbish bin and one pinching my sister's dog food, and have well repaid us over the last 14 years. They were sweet little tabby kittens then. Now they are getting stiff and slow.

I think we will be ok down here. The community is very strong (and not religious).

I can only hope all our children have a good life even if it isn't highly consumerist.

viv in nz

Anonymous said...

Hello Illargi,

I posted some months ago and asked if you thought we are being subject to malignant intent. I see from the sum of your writings that you clearly believe in purposive and malignant forces operating to (at least partially) direct the disaster/

Plenty of bankers lose... sure, but don’t let it blind us to the fact that ~some~ of the bankers will do very well. As in the previous bubbles. The ~same~ bankers.

Goldman Sachs, eh Illargi? If you show up at the table, and you have a plan... And the other guys are just reacting...

We have wild cards... we have actors playing against each of the others. But there are those with a plan, and some levers. ~Playing against the system~. My fear is that the 'levers' include more than interest rates and SEC rulings, ie economic levers, I fear they include war and death, maybe plagues. Real biblical, great.

Its all of a piece. Zietgiest meet the Rockefellers, got a plan...


PS Great work has helped enormously. Not sure how I could ever repay you, I do owe you however

PPS 'Biblical' it will seem to some if 'they' pull ~all~ the levers... these people ('end of timers')are gonna be in a trance, and erratic. God knows what they might do. A 'current', a set of people to watch out for, if things really go south... curiously they seem to be groomed for something or other, almost 'cultured' one might say... muah hahahahah

scandia said...

Starcade, I guess my concern over a rewrite of the rule book is a lack of confidence in the writers. First of all the bailout plan in the US put Paulson into a dictator, above the law position. How can a world-wide policy encompass that situation? Also the shetoric used by Paulson to terrify Congress into submission is being used word for word to now terrify every citizen on earth into submission. Same words from the same mouth- Paulsons.Hey,it worked once so why not try it again. Geez, I do sound paranoid don't I.
Greenpa, your story of the farm's watch dog killing the chickens is a metaphor for our times.

scandia said...

An article in the Telegraph to-day that a Cat Protection charity had 11 million pounds invested in an Icelandic bank. Aw...meow,meow....

el gallinazo said...


"And at the moment we're being serenaded to sleep by the mournful howls of our brand new today puppy downstairs; Delilah; a Catahoula Leopard/Boxer cross to replace the watch dog which just killed all the chickens..."

Did the previous dog have a golden parachute clause?

el gallinazo said...

The comment this week from all the newspaper financial editors, "Nobody could have foreseen this." Nobody, that is, who was selected for his/her job because their head was located up their posterior orifice.

el gallinazo said...

Nouriel Roubini was the single guest from 8-9:00 am today of the C-Span 1 call-in program Washington Journal. He was magnificent. Only criticism I could find was that he may still be underestimating the magnitude of the catastrophe. If Obama were not bought and paid for,Roubini would be a hands down choice for the new Secretary of the Treasury. If you can catch the rerun or a web broadcast of this hour, you will not be disappointed. The call-in public was surprisingly well informed.

As to calling off the USA elections, with Chimpy's approval ratings at under 25%, this would be very risky to TPTB. It would result in an immediate insurrection of the majority of Americans. They could no longer be baffled by the bullshit. Lincoln didn't call off the election in 1864 while we were slaughtering each other by the tens of thousands on the battlefield. Even a volunteer army would be split ideologically. There are currently not enough Blackwater sociopaths to do the job alone. Don't think it's going to happen.

MNlawyer said...

It appears that credit default swaps, something that did not exist 16 years ago I am told, [at 50+ trillion dollar of exposure?] will be capitalism's downfall. Money changers are now not only in the temple, they now claim to own it and are now beginning to dismantle it. Where will they worship when it is gone?

TAE has been at the top of my igoogle book marks gadget for less than a year; where or how I got here, I forget, but can not now start my day without first reading Ilargi's daily posting and seeing the historical photographs. Regularly forward TAE daily articles to my grave yard whistling friends and acquaintances, hoping to open the eyes of the blind, bring enlightenment to the minds of the infirm, and change the thinking of America's sheep population.

Also read/follow "jesse's cafe americain", somewhat similar to TAE, but with more technical analysis. All in all however, TAE is my favorite. If there was an award for the most insightful, influential and brilliant blog, TAE would grab the award hands down. The insight and wisdom posted at TAE the past 12+ months has been nothing short of Nobel standards. Also, the candor and refusal to sugar coat the mess we are in is greatly appreciated. I prefer to refer to it as "the dog shit on the carpeting approach" [i.e., no way to ignore it].

Watching MSM after reading TAE, I think of myself as a Russian citizen ala the 1960s, listening to Pravda.

A BIG THANK YOU for all of your hard work and dedication.

P.S. could someone kindly tell me, what is "TOD", Thanks.

Anonymous said...


A TOD is The Oil Drum where Ilargi and Stoneleigh used to cover financial matters before they moved on to greater things...


goritsas, was rude to PG and said he owed you an apology. I can see them pulling the post on the grounds the thread could have degenerated but a ban seems way OTT

Stoneleigh said...


Thanks :)

TOD is a peak oil website called The Oil Drum where Ilargi and I used to write before we started TAE. We did that in order to concentrate on finance. The other crises we face - peak oil, peak natural gas in North America, climate change, environmental degradation, over population etc - are all very important, but financial collapse has the shortest timescale.

In other words, people who don't deal with finance in the short term may not have a long term to worry about, while people who protect their assets now are far more likely to have the freedom of action later to deal with everything else. It's a type of crisis triage system.

The Lizard said...

"People are not responsible enough to be in charge of the world"

Stoneleigh said...

Viv in NZ,

Greetings from one knitter (and general handcraft addict) to another :)

I was tempted by NZ when I was deciding to leave the UK, but ended up in Canada as I have family and citizenship here. NZ certainly has factors in its favour, apart from being beautiful.

Anonymous said...


Mish wrote a "S&P 500 crash count" yesterday. can you comment on if the E-wave count and outlook is similar to yours? thanks.


Stoneleigh said...


But short-term T-Bills are basically now at zero return. (The 1-month has been basically between 0.03% and 0.06%.)

The return doesn't matter. People, and pension funds etc, have got into a great deal of trouble chasing yield without realizing that means chasing risk. What matters now is not the return ON capital, but the return OF capital. You need to put what you have somewhere where you stand a good chance of being able to keep it.

During a deflation, the real rate of interest (the nominal rate minus negative inflation) will be high, even if the nominal rate is essentially zero. Moreover, that will be true even if you keep your money under the bed, as its appreciation relative to asset values does not depend on a formal interest payment. True you wouldn't be getting a monthly income from it, but then monthly investment income is not likely to continue for much longer anyway.

In a deflation, he who loses the least wins, in general terms (although some people will be both lucky enough and ruthless enough to amass great fortunes).

scandia said...

thehangedman, thanks for the link to the ModernMystic. Cheerful fellow!I hope he lives with a cat for his own wellbeing.

Anonymous said...

el pollo, thanks for the roubini mention, couldn't find the show you mention but here is some writing, Roubini, on Oct 9 with a Oct10 mention of the market. Pretty good on the horror show scale. He gives a point by point idea of what needs be done by world govt., - on this wish-list, I will agree he would definitely have to believe in the, 'everything goes better with Coca Cola', Santa Claus.
Stoneleigh, glad you decided on Canada , about New Zealand I would agree with you that would be a fine place and I would go there except I have a cousin there. Sometimes virtual is better than actual when it comes to family.

The Lizard said...

"ModernMystic. Cheerful fellow!I hope he lives with a cat for his own wellbeing."

He lives with Mrs. Mystic. Whether that is good for her wellbeing is unknown.

bluebird said...

I too wish to thank our hosts Ilargi and Stoneleigh for starting this blog. I happened upon it last spring, and am most grateful for their knowledge and wisdom. I have learned a lot reading them, and from the other posters here.
Anonymous Reader

Anonymous said...

Hi Brian M,
What a wonderful response! Yes, primitive recursive arithmetic can't prove the consistency of Peano axioms. In my view, this demonstrates (not proves) the problem, which is how logic is more reductive than conclusive. Russell and Whitehead argued about this; and as you can probably tell, I side with Whitehead.

You're right that this is all too far off-topic. and I'll cut this short. Heraclitus wrote "ethos anthropos daimon". Interpreting this lays bare our assumptions. In this case, I interpret daimon more like the trajectory of character; or to put it in another way, as an aspect, or mode of logos. If you're ever near Southern California , let me know and it'd be a pleasure to take you to lunch somewhere on the rubble (stale beans, maybe) and talk further! Why's this important? To me, it's how we live and die.

(Sarah, our 20 year-old cat, has been howling as I write--she's the boss and I must go!)

Anonymous said...
This comment has been removed by the author.
Anonymous said...

Roubini interview

Go to video list, his visage is there #1

Anonymous said...

@ Ric,

This is Robyn M., the other half of Brian M. You are welcome to invade my personal blog with this discussion, if you'd like. Link should be in my name above.

Thanks so much to Illargi & Stoneleigh. This blog is a revelation. And glad to see the cat-loving knitters coming out of the woodwork here!

Farmerod said...


I have surmised recently that traders' speculaton in the short term might lead them to take the inflationist's view which will trump flight to safety and raise long term bond yields. So far that hypothesis is unproven; yields have alternatively plummetted and rocketed for whatever reasons.

But let me clarify my concern. Since the lump sum of my pension if/when I quit will be larger if the current long term yields IN CANADA are lower, I am concerned with CANADIAN long term interest rates. At first I assumed that Canadian rates would follow US rates ... or be lower, since we have the strongest banks in the world, supposedly. But now I wonder if the flight to safety will simultaneously lower US long term interest rates but perhaps raise those in Canada as international money seeks a safe haven there. In this case, I have no way to hedge that risk, AFAIK whereas it's straightforward to take a long position in TYX or short in TLT for US rates.

Second, is it true that when the $C gets hammered due to falling oil prices, that long term bond yields also fall?

Farmerod said...

BTW, I bought CSBs on-line this morning in two batches. First transaction took about 10 minutes, second about 3 minutes. Easy peasy. They don't actually get purchased until Nov 1 and then, presumably, there's a 4-6 week delay until the certificates are received. I got the regular CSBs rather than the premium bonds because you only have one month per year to redeem the premium bonds without having a really good excuse. All the major CDN banks have Canada Savings Bonds as a biller on their web banking systems.

Anonymous said...

Both Canada and NZ were on my short list to migrate. Not sure how I would do this. Just go for a visit and disappear? Without housing or job, it would be difficult. I see medical problems in my future and with no insurance, a hospital visit would consume my small amount of savings. Sad that this is how the US treats its people.

The Lizard said...

"I bought CSBs on-line this morning"

Same here yesterday.
Regular bonds. Cashable anytime.

Guest Bud Burrell on FSN's program is advocating a full constitutional reset in the USA. The system is too damaged and corrupt and the only answer is to start all over again.

Listening to him talk was one of those moments when I realized I could be listening to my own thoughts. Very scary.

We're all so out there.

Anonymous said...

Catherine Austin Fitts...worth a read



Anonymous said...

Not to deliberately get anyone's wind up but sale of CSB's can be closed off at any time at the ministers discretion.

When the initial sale was delayed from it's advertised date two things came to mind . First was that the reason was that the rates would be lower and bad news for Harper in the election. The other that there were serious problems with issuing them at all.

It seems that the former was the reason, and while I think there shouldn't be a problem purchasing, down the road, I say that from the position of one who has already bought theirs .

PS. There seems to have been no advertising campaign this year for those bonds. That, as well, struck me as strange but does seem to tie into the election idea.

The Lizard said...

"PS. There seems to have been no advertising campaign this year for those bonds. That, as well, struck me as strange but does seem to tie into the election idea."

Google for keywords relating to the bond release delay and see how little you find.
Canadians are "nice" the way that sheep are "nice".
Too easily lead and so too easily mislead.

I'm surprised the bonds were released before the election and surprised there is an RSP option still offered.

As Stoneleigh repeats frequently it's not a matter of return on capital, its a matter of return OF capital.
At the end of the day, all jargon and equations aside, you have to eat food under a roof.

Anonymous said...

As to the lack of publicity regarding the sale of CSB's, it may be simply that Canada needs so little in the way of new bond sales because we have had budget surpluses over the past ten years and have re-configured our national debt to our best advantage already.

This position has been advanced by the Dept of Finance over past years to defend low interest rates on CSB's, GoC bonds, etc.

Stoneleigh said...

Anon @3:17,

Canada has managed to produce surpluses at the federal level largely due to the erstwhile boom in demand for our manufactures south of the border, the global commodity boom, the economic stimulation of our own housing boom, the willingness of the populace to consume themselves (taxably) into heavy debt loads, and downloading everything on to the provinces, which in turn downloaded responsibilities on to municipalities.

Now municipalities, which don't really have the capacity or competence to take on, for instance, bridge monitoring and repair, are being squeezed financially from all directions. Their tax revenues will fall despite attempts to increase taxes, many of their investments will go sour and they will find it harder and harder to raise money in other ways.

The federal government has squeezed lower levels of government very hard, leaving us very vulnerable to huge cutbacks in services and potential public safety issues quite quickly. Municipalities have been papering over the cracks for a while now, but they won't even be able to do that soon.

The federal surpluses also didn't make much of a difference to our national debt, as they could have done.

Stoneleigh said...


I have surmised recently that traders' speculation in the short term might lead them to take the inflationist's view which will trump flight to safety and raise long term bond yields.

They tend to take the inflationist view when we see counter-trend rallies, but I don't think this coming rally will last long enough for that to happen (I'm guessing a couple of months). The resumption of the decline should start again in the new year and should play out over perhaps a similar amount of time before we should see a larger rally correcting the entire decline from October 2007 (ie a rally at a higher degree of trend). That kind of rally could see long term rates rise, but it's difficult to predict specifics that far out.

At first I assumed that Canadian rates would follow US rates ... or be lower, since we have the strongest banks in the world, supposedly. But now I wonder if the flight to safety will simultaneously lower US long term interest rates but perhaps raise those in Canada as international money seeks a safe haven there.

That is entirely possible, although Canadian government debt instruments are also likely to be seen as relatively safe, so there may not be much difference. It rather depends on the timeframe, as Canada seems to be doing very well right now merely because we are lagging behind the US by about a year. My guess is that we'll play catch up very quickly by declining faster than the US had done, as the UK is now doing.

Interest rate relationships are likely to be as chaotic as relative currency values going forward, which is one reasons the derivatives market is in big trouble. Bets on currencies and interest rates are about 80% of the derivatives market, and people expect those relationships to be fairly stable. They're going to be anything but stable in the coming years.

Second, is it true that when the $C gets hammered due to falling oil prices, that long term bond yields also fall?

I think the Canadian dollar is likely to fall as the commodity complex takes a big hit while the US dollar benefits from the flight to safety. How long that situation will last is not clear though. In the longer term, I think the Canadian dollar will outperform the US dollar, perhaps once economic upheaval impacts oil supply enough to compensate for demand destruction.

In the meantime, if the Canadian dollar does indeed fall as I expect, interest rates would probably increase. There are so many complicating factors that it's difficult to see too far ahead though.

Stoneleigh said...


I'll check out Mish's piece and comment on the new Debt Rattle thread.

Anonymous said...

Hi I&S,

First, let me join everyone else in thanking you for the service you have done. I started off as a regular TOD reader until I read Stoneleigh's credit crunch primer. It became apparent to me very quickly that the credit crunch was the more significant crisis, especially in the short term - how do governments create renewable infrastructure if they can't get credit? I've since been a fairly regular reader here for quite some time (an now rarely go to TOD), and appreciate all the effort you have put into educating people like me.

So again, thank you for all your hard work, and good luck to all in the coming months and years.


Anonymous said...

fb, "The do unto others as you would have them do unto you" is about actual truth and will always remain timeless. Ethics, monetary jargon, credit swaps, laundering---Yep, all encompassing timelessness and radiantly irrefutable.

This fractional banking crap is the root of the problem. There is no way whatsoever that any outcome leveraging unbacked fiat can have a happy ending. 800 billionated cents multiplied and leveraged 50-500 times does not make those infinitely expanding derived ripples gain any actuality or labored worths, and this assumes the original 800 billion cents was honestly earned with sense.

It is not to late for the USA, the fact that we are not as socialized as thee French and all of Europe (Yet) should widen your listening ears. The fact that 90% of common dupes in this nation opposed this bailout should widen ears even more. No, there is still a glint of freedom left here, we are not all bought off by fakeass fiat and wonder*Fedmints of nothing promising more of the same.

Perhaps we can clone that Napolean pissy anger and really muck things up? I have no bias whatsoever, I just understand how power is doled out and how unbacked fiat is the key. BTW, The parent company that I work for happens 2B in France.

Cheers & takecare said...

Well, it's Monday and the world is indeed a different place. It's a place where war is being waged on deflation. And as so often is the case, governments are very slow to fight inflation--but they race to fight deflation like men with their hair on fire. This is why the world has not seen deflation in 70 years.