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Robert McDonald
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FROM INSIDE SILICON VALLEY: Sorting the truth or likely truth from the noise is a key attribute of the successful investor. My commentary is a distillation of some of this effort relative to particular stocks and investment areas. My publishing at this point in time is limited to the blogsphere,... More
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    1997:  Attempts to regulate derivatives (credit default swaps, CDO’s) were effectively stopped by the group of three, Robert Rubin, Alan Greenspan and Larry Sumners. In 1997, together with then-Federal Reserve chairman Alan Greenspan, Rubin strongly opposed giving the Commodity Futures Trading Commission oversight of over-the-counter credit derivatives when this was proposed by then-head of the CFTC Brooksley Born. Rubin's role was highlighted in a Public Broadcasting Service Frontline report, "The Warning." Over-the-counter credit derivatives were eventually excluded from regulation by the CFTC by the Commodity Futures Modernization Act of 2000. 

    September 1998: Long Term Capital Management (LTCM) a hedge fund that was considered “too big to fail,” was in the  process of failure.  This unfortunately provided a concrete example of the concerns raised by Commodity Futures Trading Commission Commisioner Brooksley Born in her efforts to establish the regulation of derivatives.  IN response the Federal Reserve Bank of New York organized a bailout of $3.625 billion by the major creditor banks in order to avoid a wider collapse in the financial markets.  LTCM was undercapitalized and used enormous amounts of leverage to purchase thinly traded, hard-to-value assets in direct analogy to the use of derivatives by Goldman, AIG and others that contributed to the meltdown being discussed here. that contributed to the 2007-2009 meltdown.  LTCM  failed, and under the authority of the Federal Reserve a "private-sector" rescue plan was cobbled together. Had these bankers suffered big losses from LTCM, they might have thought twice before jumping into the exact same business model of undercapitalized, overleveraged, thinly traded, hard-to-value paper. Instead, they reaffirmed Benjamin Disraeli's famous aphorism: "What we learn from history is that we do not learn from history."

    October 9, 1998:  Citigroup was formed following the $140 billion merger of Citicorp and Travelers Group which created the world's largest financial services organization.  This merger included Salomon Smith Barney, an investment bank, which effectively made the deal illegal under the Glass-Steagall act.  Robert Rubin, who at the time was Treasury Secretary under Bill Clinton, was to ultimately join Citigroup as Chairman of the Board and as an advisor in other capacities (see the relevant paragraph below).  Robert Rubin was one of the key principles in repealing Glass-Steagall act in 1999 (see timeline milestone below).

    November 12, 1999:  Glass–Steagall Act repealed with the same group of three, Greenspan, Sumners and Rubin, facilitating the process, THE ACT THAT HAD PROTECTED THE U.S. FROM ANY BANK MELTDOWNS SINCE THE 1930’s.  It had included provisions that prohibited a bank holding company from owning an s investment bank and the use their own and depositor money in risky trading operations. The name of the act that repealed Glass–Steagall was called the Gramm–Leach–Bliley Act. 

    2000: The Commodities Futures Modernization Act defined financial commodities such as "interest rates, currency prices, and stock indexes" as "excluded commodities." They could trade off the futures exchanges, with minimal oversight by the Commodity Futures Trading Commission. Neither the Securities and Exchange Commission, nor the Federal Reserve, nor any state insurance regulators had the ability to supervise or regulate the writing of credit-default swaps by hedge funds, investment banks or insurance companies.

    2001-'03: Alan Greenspan's Fed dropped federal-fund rates to 1%. Lulled into a false belief that inflation was not a problem, the Fed then kept rates at 1% for more than a year. This set off an inflationary spiral in housing, and a desperate hunt for yield by fixed-income managers.

    2003-'07: The Federal Reserve failed to use its supervisory and regulatory authority over banks, mortgage underwriters and other lenders, who abandoned such standards as employment history, income, down payments, credit rating, assets, property loan-to-value ratio and debt-servicing ability. The borrower's ability to repay these mortgages was replaced with the lender's ability to securitize and repackage them.

    2004: The SEC waived its leverage rules for reasons that are far from clear. Previously, broker/dealer net-capital rules limited firms to a maximum debt-to-net-capital ratio of 12 to 1. This 2004 exemption allowed them to exceed this leverage rule. Only five firms -- Goldman Sachs, Merrill Lynch, Lehman Brothers, Bear Stearns and Morgan Stanley -- were granted this exemption; they promptly levered up 20, 30 and even 40 to 1.  The same agency failed to oversee those brokerage firms in subsequent years as many gorged on subprime debt.

    2005-'07: Unscrupulous home appraisers found that they could attract more business by inflating appraisals. Intrinsic value was ignored, so referrals kept coming in. This helped borrowers obtain financing at prices that were increasingly unsupportable. When honest appraisers petitioned both Congress and the bureaucracy to intervene in the widespread fraud, neither branch of government acted. 

    Sept.  2006:  The Financial Accounting Standards Board (FASB or the “Board”) issues FASB Statement No. 157, Fair Value Measurements (“Mark to Market”) -- effective for financial statements issued for fiscal years beginning after November 15, 2007


    Aug.  2006: J. Kyle Bass, a hedge fund manager from Dallas, gives a presentation to Wall St Execs in a New York conference room, that pitched his theory about a looming housing market meltdown to senior executives of a Wall Street investment bank. (from Bloomberg)


    Feb 2007:  Joshua Rosner, a managing director in New York at investment-research firm Graham Fisher released a paper in February 2007 that states “overvalued and overrated collateralized debt obligations tied to subprime mortgages would soon cause a financial-market meltdown. That, in turn, would limit credit to home buyers..” 


    Jan-07:   Behr Sterns Mortgage Backed Securities (MBS)

    Hedge funds halt redemptions


    Spring 07:   Paul Springer warns Europe and US Regulators

    of a Financial Crisis


    7/1/2007:  Behr Sterns MBS fund failures


    October 2007:  Dow peaks at a little over 14000.


    Nov 2, 2007:  Meredith Whitney, financial-services analyst for CIBC World Markets, downgrades Citigroup resulting in 7% fall in the stock, a new 4 year low


    November 5, 2007:  Robert Rubin is appointed as Chairman of Citigroup.  He was also a Director and Senior Counselor of Citigroup from, where he performed ongoing advisory and representational roles for the firm from October 1999 to Jan 2009


    November 7, 2007: publishes on line article “FAS 157Could Cause Huge Write-offs” -- “Banks may be on the hook for untold billions because the new rule makes it harder to avoid mark-to-market pricing of securities.


    December 2007:  Average U.S. Investment bank leverage peaks at approximately 28:1.  This was a red flag warning that any degradation in the valuation of bank holdings including mortgage back securities could result in bank undercapitalization problems.  This is exactly what was to happen


    December 31 2007:  The meltdown has started and is in its early days.  The Dow has dropped to around 12000 and is off 14% from its recent October high.


    1/11/2008: Bank of America purchase of Countrywide under distress conditions


    June 2008:  The Dow is now trading in the 11,000 range and is now off 20% from its October 2007 high.


    8/27/2008:  Merrill Lynch Mortgage Backed Securities (MBS) asset sale at 78% discount!! It should have been no secret that with the implementation of FASB 157 Mark to Mark accounting rules (see above milestone) that this write off would influence the valuation of MBS securities held by other major banks and in turn, this would result in correspondingly large write downs signaling that we were having an economic disaster more significant than any other since the Great Depression. This indeed became the reality that we are all now very familiar with.

    March 17-30, 2008:  On March 17, 2008, JP Morgan Chase offered to buy Bear Stearns at a price of $2 per share or $236 million. On March 24, 2008, that offer was raised to $10 per share or $1.1 billion in an effort to pacify angry shareholders. JPMorgan Chase completed its acquisition of Bear Stearns on May 30, 2008 at the renegotiated price of $10 per share. The U.S. Federal Reserve rewarded Bear Stearns' shareholders in the deal by taking responsibility for $29 billion in toxic assets in Bear Stearns' portfolio. 

    9/16/2008:  Lehman collapse


    9/17/2008:  MONEY MARKETS LOCKUP  - the Great Recession of 2008-2009 is now operating in full force.  For the first time ever a money market dollar has slipped to 99 cents.  As a result the U.S. Government steps in and guarantees money markets at their normal valuations.


    9/17/2008: The U. S. Government takes over of AIG and guarantees its liabilities in order to avoid even more serious financial market disruption.


    9/ 21/2008: Morgan Stanley and Goldman Sachs become banks in order to avoid potential bankruptcy.  As banks they are elgible for low interest loans from the Federal Reserve that they might not otherwise have access to.


    9/26/2008:  J P Morgan buys Washington Mutual aka WaMu in the biggest bank failure in history, JPMorgan Chase will acquire massive branch network and troubled assets from Washington Mutual for $1.9 billion.


    October 6-11, 2008: The DOW falls over 1,874 points, or 18%, the S&P 500 falls more than 20%.


    October 18, 2008:  From a Wall Street Journal interview on this day, “Citigroup announced that former Treasury Secretary Robert E. Rubin was joining the firm. But what exactly would Mr. Rubin do at Citigroup? Citi's SEC filing eight days later noted that Mr. Rubin would be joining the bank's board of directors. After that, the message to investors began to get murky. Citi said that Mr. Rubin "will serve as Chairman of the Executive Committee of the Board and will work with Mr. [John] Reed and Mr. [Sanford] Weill, Chairmen and Co-Chief Executive Officers, in a newly constituted three-person office of the Chairman."Affirming his career-long interest in markets, Robert Rubin joined Citigroup as a board member and as a participant "in strategic managerial and operational matters of the Company, but [...] no line responsibilities.”  The Wall Street Journal called this mix of oversight and management responsibilities "murky.” 

    December 3, 2008:  In an interview with the Wall Street Journal, Robert Rubin said: "I think I've been a very constructive part of the Citigroup environment. Separately, the Journal noted that Citigroup shareholders have suffered losses of more than 70 percent since Rubin joined the firm and that he encouraged changes that led the firm to the brink of collapse.  In December 2008, investors filed a lawsuit contending that Citigroup executives, including Rubin, sold shares at inflated prices while concealing the firm’s risks. A Citigroup spokesman said the lawsuit was without merit


    December 31, 2008:  Wells Fargo acquired Wachovia after a government-forced sale to avoid a failure of Wachovia. Before its acquisition by Wells Fargo, Wachovia was the fourth-largest bank in the United States based on total assets.

    January 9, 2009:  Robert Rubin resigns from Citigroup following months of criticism of his performance at the giant U.S. bank whose financial problems related to the meltdown including devalued mortgage backed securities led to a government rescue. 

    March 19, 2009:  The Dow bottoms out at 6500, 54% from its Oct. 2007 high and its low for the 2007-2011 period. 

    April 17, 2010:  Bill Clinton, in an ABC News intervies says he was given bad advice by Robert Rubin and Larry Sumners regarding the regulation of derivatives and the repeal of the Glass-Steagall Act.  Clinton also blamed the Bush administration for scaling back on the policing of the financial industry.  "I think what happened was the SEC and the whole regulatory apparatus after I left office as let go."

    Sep 02 3:10 PM | Link | Comment!
    High speed trading operations owned by banks and hedge funds make billions of dollars each day by the use high speed computers running elaborate algorithms. These algorithms are designed  to detect stock and  commodity market imbalances and make profitable trades on the discrepancy, discrepancies and trades that are invisible to other market participants. These imbalances may only last microseconds and can only be detected by the high speed systems owned by these operations. This is a legal way of stealing from what should be a free market trading system that would normally provide equal opportunity for every trader. The end result is the equivalent of a tax on any affected trade, a tax that takes from potential profits and adds to loses of others. This kind of market manipulation is not covered by current financial regulation but needs to be.  Right now it is a legal way of taking unfair advantage of other market traders and is a tax on America's overall economy at a time when the economy can least afford it.

    Let's find other more equitable ways to re-capitalize the banks.

    Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
    Aug 28 12:29 PM | Link | Comment!
    Steve Jobs has left an Apple management team and corporate culture in place that can run circles around any other technology or even entertainment company in the marketplace (see the significance of this in my comment below on "Apple TV"). There are also products and a product roadmap in place and then there is the continued development of the sticky ecosystem that will provide a growing revenue stream even in a slow economy.  All of these factors will keep Apple's growth momentum in place for the foreseeable future. 

    And then there is the possible Apple home entertainment/HDTV system  which could be announced in the first half of 2012.  This will be a significant new business area and add huge impetus to Apple's growth momentum.  It will provide features that go way beyond TIVO and it will grow the sticky ecosystem in an even faster way.  This will also suck the air out of 

    Buy Apple LEAPs to capitalize on all this dependable growth -- Apple is the ideal vehicle for this opportunity. Why do I suggest the use of LEAPs for enhanced returns.  Apple LEAP's have been giving 100 - 300% returns over 6 mo to 1 year holding periods ever since March of 2009 and there is every reason to believe that this growth is going to continue.  LEAPs also provide time protection for the inevitable sell offs in the stock which inevitably been followed by full reversals followed by more valuation growth.  

    You don't need technical analysis, a fancy computer or rocket science to make this investment and it is totally legal. Apple Jan 2014 LEAPs go on sale on September 12 which means you can acquire them before the next blowout earnings report! If you don't want to wait or want to diversify your LEAP investment over time, the 2013 LEAPs are on sale have been so since Sept of 2011.

    Disclosure: I am long AAPL.
    Tags: NFLX
    Aug 28 12:10 PM | Link | Comment!
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