Dear readers, if my initial analysis of the JPM/BSC situation was wrong, mea culpa. But my analysis was predicated upon one key assumption: that the Fed is not populated by a bunch of morons. If they go back at this point and re-trade the deal, they will look like a bunch of wimpy, pencil-pushing bureaucrats stumbling right into the minefield of moral hazard. From Wikipedia:
Moral hazard is the prospect that a party insulated from risk may behave differently from the way it would behave if it were fully exposed to the risk. Moral hazard arises because an individual or institution does not bear the full consequences of its actions, and therefore has a tendency to act less carefully than it otherwise would, leaving another party to bear some responsibility for the consequences of those actions. For example, an individual with insurance against automobile theft may be less vigilant about locking his car, because the negative consequences of automobile theft are (partially) borne by the insurance company.
Bottom line: BSC would be in Chapter 11 if not for the Fed's intervention. One can argue whether this was a mistake or not, but they elected to take draconian and immediate action to stave off what they perceived to be a clear and present systemic risk. In light of this fact, the equity was worth precisely zero at that time. BSC was dead firm walking. Nobody would trade with it. Employees were gearing up to flee. Its asset value would have rapidly eroded as values predicated upon firm reputation and people would have vanished in thin air. And this process would have happened in real time, if not for the Fed's intervention.
Fast forward to today. You've got a bunch of shell-shocked employees with lots of stock, Bill Miller, Joe Lewis and some other sad people and institutions who bought in at prices above $100. You've also got debt holders who'd rather buy deal insurance by accumulative votes to protect their claims.
But you know what? Sorry. To all of them. Because conveying the equity holders any value at this point is simply writing a check, courtesy of the U.S. taxpayer. This sets an awful precedent that the Fed won't soon live down, to the detriment of both the U.S. taxpayer and the financial markets in general. Because if they cave and toss BSC shareholders a bone, they'll be committing one of the most egregious kinds of moral hazard out there: the kind that didn't need to be, if they'd just stiffen their resolve and push on through.
Disclosure: no positions
This article has 19 comments:
It's infuriating.
"But my analysis was predicated upon one key assumption: that the Fed is not populated by a bunch of morons."
There is your fatal erroneous assumption for your analysis.
The feds are blithering idiots, capital hill is populated by clowns and the Oval Office is a romper room for an illiterate chimpanzee.
Our American public is not of much higher caliber; almost all of our citizens are fat, lazy, hamburger eating, beer drinking, television remote control button pushers.
Wall Street, however, is overburdened with savvy financial criminals.
Okpulot Taha
Choctaw Nation
Why JPM and why Bear? Bear's investors would have done better in chapter 11 and let the market set the price for exiting bankcruptcy. Compassionate capitalism is putting the interests of political survivorship or powerful interests survivorship ahead of economic market survivorship.
Instead of remaining a lender of last resort, the Fed in this move and almost all other moves has become the lender of compassionate resort. In doing so it has raised all these questions of adverse selection and moral hazard.
We are beginning to look more like 'old Europe' it is not?
Almost all american indians are alcoholic welfare recipients. Even the "entrepreneurs" are only able to profit through federal exemption of gaming laws.
By the time you add what the UK and European Central Banks have done, the total amount of printing and guaranteeing will be over USD 1 trillion.
Printing money – or creating money – is the ultimate power of the central banks. And of politicians. Promises are made, and to pay these bills, currency notes are printed. Problems arise in the financial system and, to rescue the foolish, currency notes are printed. This is worrying.
Fed's rescue halted a derivatives Chernobyl
www.telegraph.co.uk/mo...
The Fed has torn up the rule book, take a look at the latest Security and Exchange Commission filing by Bear Stearns. It contains a short table listing the broker's holding of derivatives contracts as of November 30 2007.
Bear Stearns had total positions of $13.4 trillion. This is greater than the US national income, or equal to a quarter of world GDP - at least in "notional" terms. The contracts were described as "swaps", "swaptions", "caps", "collars" and "floors". This heady edifice of new-fangled instruments was built on an asset base of $80bn at best.
The same leverage can be found all over Wall Street.
I was unable to find the SEC commission filing you mention. Could you give us a little more detail: type of filing and date perhaps.
Also the telegraph link is confusing. More detail please.