Vikram Saxena

Monday Market Review: Bulls Back with a Vengence

Respirate: The area between 85 and 90 was strong resistance. It is likely to provide strong support and a good entry point with well defined stops.


On May 19 07:05 AM Respirate wrote:

> Vikram, if you can answer a question: What level are you looking
> at for an OIH trade? $86-87?
>
> I agree that 'Services' is the sweet spot in the oil sector. It's
> easily outpaced the S&P in recent months and may be expensive
> in the short term.
> Thanks -- R

Uneasy Silence About Regional Banks

What I wanted to highlight was the complete black out about the regionals. Given Team Obama's media savvy, I would like to see some proof before I jump in.

The note about preferred is from the WSJ article. I am including the relevant excerpts below.
Quote WSJ:
"In addition, it isn't clear what happens to hobbled regional banks that could have a hard time finding extra capital. Many are facing a deluge of bad loans to finance residential and commercial properties.

Regions, based in Birmingham, Ala., is among a handful of the tested banks without any privately held preferred shares that it could convert into common stock to boost its capital buffer, according to Deutsche Bank. That leaves it with a narrow range of options beyond turning to the government for aid."

On May 07 11:02 AM greedcanbgood wrote:

> "Many of these banks, especially Regions, do not have a large cushion
> of preferred capital to convert to common."
>
> Your analysis is incomplete unless you provide details. Otherwise,
> the reader is led to believe that all your regional listed are in
> the same boat and clearly, they are not.

Uneasy Silence About Regional Banks

1. I am sorry for the spelling error. This was done very late last night and Seeking Alpha's editor does not have a spell-check (or allow the built in checker of Chrome to highlight spelling mistakes).

2. Before the wireless revolution what you call the obscure was the more common idiomatic use of the word
www.thefreedictionary....


On May 07 10:36 AM Kenny Sullivan wrote:

> Ever hear of spell check? Poor spelling, poor grammar and an obscure,
> if not wrong, use of of the word tether are unprofessional. I began
> looking for errors in the article, rather than looking for content.
>
> Kenny Sullivan

It Wasn't a 'Bailout'

Bear was sacrificed so that a financial system collpase could be avoided. It was made an example of. If the Fed had opened their window to IBs a week ago, Bear would still be around.

Also the notional value of CDS has very little to do with leverage. In most cases each position has a hedge. For example, your $100 put on IBM might be hedged with an other side put on the Technology Spider (XLK). The notional amounts will still add up but the risk is hedged.

The leverage comes from the securities Bear held in its own books. They were heavily levered (30:1 ?) so a 3% fall in the values of the security would wipe out their equity. IBs use this leverage to benefit from the interest rate arbitrage; they borrow at a lower rate and invest at a higher rate.

When the value of the mortgage bonds started falling, Bear got margin calls, which triggered a bank run. Bear could not satisfy the cash requirement since it could not liquidate its securities fast enough at a fair price.

This can happen to any bank; the role of rumors in this case is really sad. The wealth of a lot of hard working people was wiped out.

Subprime Write-Downs More Than 50% Done? Write-Ups Coming Next?

www.aleablog.com/dont-.../\
Dont Mark to Markit


seekingalpha.com/artic...

10) Be careful using the ABX indices. They are too easy to short, and do not represent the values that are likely to be realized in the cash markets. The same is true of the CMBX indices. This would lead me to be a bull, selectively, in AAA CMBS, after careful analysis of the underlying collateral. (CMBS was a specialty of mine when I was a mortgage bond manager.)

Subprime Write-Downs More Than 50% Done? Write-Ups Coming Next?

mtclm:

I think what he meant was that all the short positions which MS has will expire worthless; i.e. the loss and severity will not be as bad and MS will not earn anything on these after accounting for the maintenance cost. The write-downs, as noted by the Lehman analyst and specificially probed by the City analyst factor in the worst case scenario on BOTH sides of the trade!



www.risk.net/public/sh...

"Chief financial officer Colm Kelleher said that the the mortgage desk had decided to short the subprime market by taking a $2 billion short position in low-rated subprime mortgage-backed securities (MBS). In order to meet the cost of the negative carry of the short position, the desk also went long $14 billion of AAA-rated super-senior [tranches] of BBB subprime securities, which we refer to as mezzanine," he said. The investment in the top tranches of collateralised debt obligations (CDOs) of MBS was assumed to be safe enough to provide a reliable source of funding to meet the cost of the short position, even if the underlying market declined"

As it is clear, their short positions are in much worse tranches since they needed $14B of long mezannine debt to balance out the negative carry spread on $2B of the short sub-prime.

Their long positions are going to be worth a lot more before the short positions start losing money. And the principal of the short positions which earns interest will detoriate much faster than the long position, decreasing the cost of carry.

Again, do the math.

Subprime Write-Downs More Than 50% Done? Write-Ups Coming Next?

Thanks for all the messages folks. Some observations.

The bond market has already priced most sub-prime based bonds at very low valuations. Mark to Market rules ensure that the banks have to take the write-downs as they occur. Bonds originally rated as AAA are trading in the 50s, reflecting extreme risk even though there is real tangible collateral backing them.

1. ABX sub-prime indices
markit.com/information...

Index Series Version Coupon RED ID Price High Low

ABX-HE-AAA 06-1 6 1 18 0A08AHAA1 86.19 100.38 84.17
ABX-HE-AAA 06-2 6 2 11 0A08AHAB8 70.06 100.12 66.1
ABX-HE-AAA 07-1 7 1 9 0A08AHAC6 55.94 100.09 53.46
ABX-HE-AAA 07-2 7 2 76 0A08AHAD4 52.92 99.33 52.47


2. The TABX index tracking the BBB sub-prime mezannine debt which fund many CDOs is trading as almost worthless; even the 40-100 tranche which start taking losses after 40% of the principal is exhausted are trading in the teens

markit.com/information...

3. Salvage Value: The salvage value for loans on homes in foreclosure varies between 50-80% of the home's market value depending on the size of the loan and the market condition. And not all these loans were no-down payment loans; in many cases they homeowners had some kind of equity in the deal (downpayment).

Homes have a tangible value and use; in nominal dollar terms there are unlikely to fall significantly below the replacement costs.

4. Creative solutions for Tough Times:
The Fed has shown that they are willing to reveal weapons most people do not even know exist.

Similarly it is also likely that the stakeholders affected by the high amount of foreclosures will band together to find a solution.

For example, subprime related foreclosures are concentrated in specific pockets of the country. The geographical concentration means that it is easy to form entities to manage them as rentals. If the homes are transferred at 60-70cents to the dollar to new entities, a bulk of these homes are going to be cash flow positive rentals from day #1; Californa, Nevada and Florida continue to be very attractive places to live in. The original note-holders can continue to have an equity stake in the entities.

Time, inflation, and the devalued USD will fix things. The wash-out is occuring as we speak.

Subprime Write-Downs More Than 50% Done? Write-Ups Coming Next?

As I wrote in the article, MS took the $9B write-down assuming 100% default and 100% severity. Houses are tangible assets and not going to be worthless in nominal dollar terms. You do the math.