John Slater

The Quest to Backstop Every Big Bank

Tyler, don't abandon us now. Like Franz Kafka's "hero" Gregor Samsa in The Metamorphosis ( en.wikipedia.org/wiki/...), I fear that the pressure of upholding the cause of truth in a world dedicated to lies has finally tipped you onto a road from which you cannot return. There are many of us out here who depend on you to separate the truth from the Newspeak of the Wall Street hegemonists. Descending into the jargon of the goldbugistas does not do justice to the insights we have come to expect from your articles.

Is Anyone Using Chrome?

It's a generational thing. My daughter uses Chrome. I use Firefox because i'm used to it and it works. Basically I've used it since 1994 when it was called Netscape so why change?

Interestingly we maintain a website aimed at interior designers - not your most technologically advanced community. Results there are:

IE 70.23%
Firefox 16.12%
Safari 10.68%
Chrome 1.24%
Opera .35%

Five Reasons I Believe the IPO Drought Is Ending

Where will the I-Banking infrastructure come from to drive this? Most of the major players have been blown away and the regional banks are pretty much all gone. Who do you see as the leading underwriters of the next round?

GM's Bondholder Pillaging Plan

As we have said previously at mergers.com/toughtimes... the real issue of the whole bailout is why the Treasury has decided to bail out the bondholders of the banks rather than demand that they participate in the recapitalization of the banks. The current message appears to be "invest in bonds of companies that actually make or do something tangible (e.g. the auto companies for all their faults) and you're going to get shafted; invest in the bonds of the major banks and you're fully protected. What does that say for capital allocation going forward? Makes it sort of hard to bet on America's industrial resurgence.

Tyler, you're pretty good at ferreting things out. How about this one? The most remarkable aspect of the Times story yesterday is the disclosure that Geithner pushed for a complete federal guarantee of the unsecured debt of the banks. When he was told that Congress would never approve that, he clearly moved on to find other ways. A vast amount of this debt has now been put on the government's books through federal guarantees of bank bonds. Apparently the plan is to put a bunch more on the books through the PPIP guarantees from the FDIC. All of this is being done with very loose interpretations of regulatory authority. Once it's on the books, Congress will have no option but to bail out the guarantees rather than bankrupt the FDIC and the Fed. Sounds like a pretty massive usurpation of power to me. In another era the Supreme Court would be hearing this case. Something has happened in the body politic for this to get so far without anyone pursuing this to its logical conclusion.

Picking on Geithner

The most remarkable aspect of the Times story is the disclosure that Geithner pushed for a complete federal guarantee of the unsecured debt of the banks. As we have said previously at mergers.com/toughtimes.../, the real issue of the whole bailout is why the Treasury has decided to bail out the bondholders of the banks rather than demand that they participate in the recapitalization of the banks. The current message appears to be "invest in bonds of companies that actually make or do something tangible (e.g. the auto companies for all their faults) and you're going to get shafted; invest in the bonds of the major banks and you're fully protected. What does that say for capital allocation going forward? Makes it sort of hard to bet on America's industrial resurgence.

Why Is Allen Stanford Being Prosecuted While Other Banks Get Bailed Out?

I am familiar with a couple of their investments. His company did make investments and they were most definitely bad. This provides a semantic distinction from Madoff who apparently didn't make any investments at all, though I am certainly not defending Stanford's actions.


On Apr 22 11:28 PM greyhorse wrote:

> This is idiotic. Did you actually read the SEC complaint or anything
> about the Stanford case? Stanford didn't just "make bad investments"...he
> made them up!
>
> No wonder the rest of the banking/investment industry went bezerk...they
> were trying to keep up with the Madoffs and Stanfords of the world.

TARP Funds to Common Stock: More Accounting Games

As I previously raised at mergers.com/toughtimes.../, the real issue is whether the Treasury is committed to protect the bondholders of the big banks. There is a great deal of capital in the banking system in the form of unsecured debt. In a normal world when a company goes broke some or all of the debtholders' interests will ultimately be converted to equity capital either in bankruptcy or in an out of court restructure. The current issue of The Institutional Risk Analyst(us1.institutionalriska...) makes a very interesting proposal for conversion of Citibank debt into equity, which would address the capitalization issue once and for all. It's time the Treasury explains in clear English why they are electing to further commit taxpayer funds to bailing out the bondholders.

How Much Risk Is the Treasury Really Assuming from Financial Institutions? (Part 2)

I would agree that Whalen's allegations of side letters are unproven. He is out on the point on that issue.

There are far more commentators who believe that AIG's CDS settlements were made without an aggressive attempt to minimize the settlement costs. Tyler Durden has published a number of pieces on Seeking Alpha in this vein. Others such as Simon Johnson have gone so far as to imply that the Treasury has been complicit in subsidizing the wholesale banks at the taxpayers expense.

My primary point is this. Whether or not some of these contracts and settlements are ultimately determined to be illegal, there is a tremendous groundswell of anger building over this issue. We have already seen with the AIG bonuses that threats of prosecution, public pillorying of corporate executives, Congressional hearings, etc. can force individuals and organizations to forego what may be legally enforceable rights. Such pressures will likely be placed on some of the wholesale banks with regard to the AIG payments. Once we head down that road, the risk analysis framework on which the OCC depends to evaluate the derivatives portfolios loses its empirical framework, bringing into question how much capital will be required to support the potential risks of these portfolios.


On Apr 10 10:40 AM amateur wrote:

> It has not been proved that any of the CDS issued by AIG and standing
> in 2009 had any cancelling by-letter of any kind.
> Even if some CDS might eventually be found to be fraudulent, why
> should that invalidate biilions of valid contracts?
>
> It is hard to believe the conspiracy theory that AIG managers were
> systematically risking jail for the benefit of shareholders.
>
> IMVHO, these destructive and misleading accusations seem more like
> propaganda of traders who are short the financials, rather than a
> contribution to debate.
>

How Much Risk is the Treasury Really Assuming from Financial Institutions?

Total CDS exposure (notional value) is $15.9 Trillion. The OCC's estimate of credit risk to the banks from all derivatives ($200 Trillion notional value) is $1.58 Trillion. And yes it is very confusing. Let's hope all of this is less confusing to the banks and their regulators than the CDO/subprime markets were.


On Apr 08 02:53 PM Larrysyr wrote:

> These numbers are extremely confusing (do you suppose that's intentional
> in the way the system was set up???). I'm having a lot of trouble
> lining up the 36 times exposure. Is that 36 times $440 billion,
> (which would equal $15.8 trillion, rather than the listed amount
> of $1.58 trillion)?
>
> I was almost comforted by the $1.58 trillion exposure (at least it's
> a ballpark...) until I ran that simple calculation. Warren Buffet
> was right when he called these things "financial instruments of mass
> destruction."

Prospects of Inflation in Emerging Markets - Like the U.S.

Excellent post. Prior to the crash the U. S. economy was overconsuming by something like 7% of GDP. There are a variety of ways for this to adjust, including in the better scenario, an increase in output in excess of consumption. Unfortunately this type of correction will continue to be impeded, at least in the goods producing sectors, until the Yuan valuation imbalance is resolved. Stagnant incomes and price inflation will have a somewhat similar impact and presumably will eventually result in improved margins and increased business investment, though in a much less efficient and more painful way.

On a related point, I am struck by how little attention is paid to a quirk in the U. S. price deflator that has masked both the inflation that occurred a few years back and the deflation that has been occurring in the more recent past. It is now obvious that a massive revaluation of cash flows (inflation) took place from the mid-1990's when personal net worth to personal income was about 5x until 2007 when the ratio reached 6.3x. With this ratio back to 4.8x at the end of 2008, we have now come full circle (deflation). This massive inflation in the value of investment assets never showed up in CPI, nor has the dramatic collapse of these values in the last eighteen months. CPI reflects housing costs as a rental equivalent and missed both the rapid runup of housing costs as well as the decline. Securitized investment assets don't show up at all. I would argue that we have already seen a dramatic deflation, which will soon run its course as housing prices bottom, setting the stage for your predicted resumption of measurable inflation.

Why Big Banks Should Be Smaller

The primary issue is not simply bank size (though I am in agreement that giant banks are not healthy for the body politic), but the confusion of functions. We have mixed up the agency function of disintermediation, with the principal risk appetite of the banks. Per my post at mergers.com/toughtimes.../ Geithner is so focused on recreating the securitization engine that he is missing the major risk inherent in allowing giant deposit gathering institutions to take on principal risks in these volatile markets. That's a recipe for disaster as has been proven over and over again. It's an awful lot easier for a trader to stuff his bank's proprietary portfolio with unwanted junk than to do the hard job of finding unsuspecting widows and orphans to buy the drek.

Straight Talk from Geithner on Securitization

My personal estimate is that about 70% of credit creation was occurring outside the regulated banking system at the peak. Of course much of this was structured by the banks to get the assets off their balance sheets, so this is a little misleading. We have not come close to replacing this credit creation capability, which helps explain the deflationary forces still at work in the economy. It will be interesting to see if the big banks can regain the confidence of the markets. It has happened before, but I am skeptical, at least in the short run. Way to many of the pieces of the machine are broken, starting with origination, underwriting, rating of the securities and distribution. I think its going to be a long slog back.


On Mar 30 04:25 PM mark ferraris wrote:

> Two comments:
>
> - I don't know what statistics the Secretary was looking at but the
> combined activity of the securitiazation markets (which includes
> the activity of the mortgage agencies) has for more than 15 years
> outstripped the balance sheets of the banks. It is not less than
> half.
>
> - Every single fix that was introduced prior to the recent "toxic
> asset plan" was window dressing. The new plan is the main course
> and probably should have been introduced first. Many folks just
> get it wrong in terms of how the securitization markets work. The
> first phase of the process is the underwriting of the underlying
> assets. That's what the banks do best (although not so well recently).
> What securitization does is allow these banks to clear their balance
> sheets of yesterday's loans or originations by selling them off to
> what some call the "second market" through securitzations. The investors
> in this second market are nearly exclusively sophisticated institutions.
> Nevertheless, these investors need to be able to rely on the underwriting
> acumen of the banks that created the underlying assets. Over the
> past two plus years the complete erosion in the "confidence" that
> these investors have in the underwriting and structuring acumen of
> the banks is what has brought the securtization market to its knees
> and clogged up the balance sheets of even the most healthy banks.
> Programs like TALF will help to prime the pump but the toxic asset
> plan will have a far greater impact (by multiples of ten or more)
> on freeing up room on the balance sheets of the banks to create more
> assets (loans).
>
> Mark Ferraris
> Principal
> Orchard Street Partners LLC

Who's Gaining from the AIG Unwinds?

All of the Fed's and Treasury's actions are calculated to promote the survival of the big four banks. Geithner's answer is that we have to salvage these banks to restore the securitization markets. No one seems willing to ask the question of whether this is a good thing.

How Will the Geithner Plan for Banks Ever Get Approved?

If these new toxic conduits are built around a true hedge fund structure, in addition to a 20% profit share there will be a 2% management fee. Under this regime the "private" investors will have their 3% investment back in less than two years and probably still have another ten years to milk the pool. Zero risk and pretty good return. I'll take two.

How Much Worse Can AIG Get?

The real danger is in letting not just AIG, but the partially nationalized banks continue to take new trading positions in insanely complex and dangerous derivatives markets. As I said in a post to my Tough Times blog last night (mergers.com/toughtimes.../):

"It is naïve indeed to think that the political and media demagogues will be any more forgiving of a government controlled bank that pays a star derivatives trader a salary of $20 million, than they are to see her earn that as a bonus. Yet that’s what top traders earn in what is likely the most complex market ever invented by the mind of man. If we’re not willing to pay these stars what it takes to attract them to the government owned banks, then they will most certainly be working for the competition and the competition will win."

If action isn't taken soon, we will wake up to see trading losses on the current administration's watch that far exceed anything experienced so far.