2bz

The Deal's Getting Done, But Will It Work?

I have a very uneasy feeling about this whole situation. I'm not much for conspiracy theories, but the facts are:

1. Goldman Sachs made a ton of money shorting the mortgages (and most likely the financials owning them) last year;

2. Now, shorting of financials is prohibited;

3. Goldman Sachs recently converted itself into a bank holding company which entitles it to access the bailout money;

4. Paulsen wants (or wanted) a blank check for $700,000,000,000.

5. Paulsen is the former CEO of Goldman Sachs with no doubt a continued close relationship with Goldman Sachs management. (and who knows if not a financial one at least indirectly).

That smells a little fishy to me. A prudent person doesn't usually let the fox guard the chicken coop.

I'm Speechless: Palin on the Bailout

Wow! This response reminds me of another famous response from a beauty queen:

"I personally believe that U.S. Americans are unable to do so because, uh, some, people out there in our nation don't have maps and, uh, I believe that our, uh, education like such as, uh, South Africa and, uh, the Iraq, everywhere like such as, and, I believe that they should, our education over here in the U.S. should help the U.S., uh, or, uh, should help South Africa and should help the Iraq and the Asian countries, so we will be able to build up our future, for our [children]."

- Miss South Carolina Teen USA for 2007

Bailout Talks Lose Sight of the Cost Question

On Sep 26 10:08 PM gramps2 wrote:

> The treasury will not receive 18% or anything even close. If a
> home owner defaults on their loan (something that those of us without
> an MBA seem to have figured out is happening) -- they don't make
> payments...

This is precisely my point. They will not pay the principal and thus the 35% valuation on the CDOs, and they will not pay the interest which brings the CDO coupon back to 6% (which, at least in this voodoo economic case, is equal to the average interest rate on the underlying performing mortgages).

Bailout Talks Lose Sight of the Cost Question

On Sep 26 05:13 PM tvb wrote:

> Having said that, yes my 18% yield comment is simplistic, but you
> get the point: there is a running yield on these bonds that I suspect
> is substantial (maybe not 18%, maybe less, maybe more). 18% would
> be consistent with the yield of many high-yield bonds which currently
> have strong cashflow (after servicing their debt) and solid businesses,
> but are oversold for fear/liquidiy reasons.

I was referring to my calculations as simplistic. I don't think you are looking at this all wrong. There may be an 18% yield on the performing loans, but the CDOs contain both performing and nonperforming loans. What I attempted to convey by making some grossly simplistic assumptions was that the ratio of performing to non-performing loans within the CDOs might just be the same as the ratio between the current "market value" and par. In such case the rate on the CDOs is the same as the rate on the performing mortages, that is 6% and not 18% (i.e. non-performing mortgages are assumed to have 0 value and make 0 interest payments).

Bailout Talks Lose Sight of the Cost Question

BS Detector wrote: "In the short term, the bad assets are moved off the companies, replaced by equity in the new company. The immediate pressure comes off, and the market determines the actual values over time. I might not be describing this quite right, but the idea's a nice twist."

That doesn't alleviate the need for valuing the assets to determine how much equity the banks can put back on their balance sheet. Unless of course, we come up with an imaginary number, say full value (as good as any other estimate), and let the banks put that up in their balance sheets.

Bailout Talks Lose Sight of the Cost Question

pkscottx wrote: "Part of the problem is that nobody knows what they are "worth" but as the saying goes "it's only worth what someone is willing to pay for it" so mark it to market!"

The problem is that there are no willing buyers nor sellers at an agreeable price, so there is no market. A deficit of buyers at a certain ask does not automatically mean that the sellers are wrong about the price. Furthermore, the mark to market is only a rough approximation of the value. If you sell 1 unit at $1000 that doesn't mean that you'll be able to sell 1000 units at that price. However, the mark to market approach implies the opposite.

Bailout Talks Lose Sight of the Cost Question

tvb said: "If these loans were paying 6% per year at par (don't know if that's the case, just estimating), the running annual yield on the investment (at 35 cents on the dollar) is almost 18% per year."

This is flawed reasoning. If the assets are fairly valued at .35 then the assumption is that not all of the assets are performing. Afterall, the reduction in price is not due to a rise in interest rates, but the amount of defaults. In fact, given a fixed reasonable rate of return the price implies that only about 35% of the loans are performing. You still get only 6% of the pie, but now the pie is 65% smaller. (This is a highly simplified back-of-the-napkin calculation only, to show the fallacy of the argument above) Furthermore, if the bailout actually occurs, the 6% rate may not be enough to offset the rampant inflation that will ensue.

The Simple Explanation of Bailouts, Inflation, and Deflation

Absolutely! However, since the Fed dropped its pants from the 5.25% levels putting us well on the road to stagflation rather than a deflationary recession. Flooding the market with money will only further aggravate the inflationary pressures. On the other hand, the collapse of a large number of banks will definitely drive us into a recession in the short term. Fortunately, in the latter scenario new banks will be created which, after the smoke clears, will lend out money and investors confident that the trash has been taken out will again buy equities and debt with confidence.