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Too Big to Fail: Bigger Than Ever

I am proposing at theory that a group of Too Big To Fail (TBTF) firms have expanded their reach and have by defacto cornered the markets.  The mechanism for this coup has been made possible by using the $12-trillion repo market to access very cheap short-term borrowing and using overvalued collateral to then borrow very cheaply and to play the spreads in all kinds of securities.  I also suggested that the TBTFs have painted the tape, especially the stock market, by taking advantage of thin trading.  This is why you see the markets up-ticking on fumes and scant volume. This is as much an act of desperation as it is an act of greed, but the two fits nicely together.

The weak link in this daisy chain is the overvalued nature of the collateral that the banks are using for repo swaps. In fact, the lack of true banking reform and lack of oversight since the crisis has permitted "under-collateralization" to develop in much the same manner as before the 2008 Bear Stearn and Lehman Brothers crisis.  The dynamite-strapped TBTFs are able to engage in this with impunity by supporting the Gumnut and bond bubbles as if it were God's work.  The six biggest financial institutions now hold assets equivalent to 62 percent of the economy, up from 58 percent before the crisis and 20 percent in 1994.   58 percent was bad enough.

Most of the operation is done by investment banks or prop desks. Even so, the standard commercial banking side shows some shifts. It is true that overall credit per the H8 report (all banks, not just the TBTFs) has subsided since February 2009 from 9.348 trillion to 8.899 trillion now. But securities have increased from 2.163 trillion to 2.322 trillion now, and Treasuries from 1.262 trillion to 1.425 trillion. Commercials banks are not real interested in expending loans which have declined from 7.185 to 6.577,  but securities and bonds, which have been messed with by Gumnut, have grown aplenty.  And I would bet that the TBTFs are behind most of it. This may not be a huge deal, unless the same application is used by investment banks, but using futures, leverage, gearing and thin markets.

The fact that this is occurring once again is a clear indication that the Fed and Gumnut is operating to support speculative activity rather than conducting monetary policy under its charter or its Act.  Risk and stress in the repo market almost always arises from volatility in the value of collateral. Since the implication is that the Gumnut backs up most of this collateral or looks the other way, players so far have ignored and overplayed this risk factor.  They have deliberately worked to over-inflate securities and markets to (at best) affect some kind of economic self-fulfilling prophesy or (at worst) they have geared up markets in order to hijack more "performance bonuses" and loot. Since it's other people's money, I don't think the banksters really care.  It's the same script as 2007, just a different scam.

Of late, we have been given more information as to just how much the collateral in general might be worth. I had mentioned what mortgage holders could expect (25 cents on the Dollar) on Ambac's insurance. Incidentally, today the Fed finally released its Maid Lane (NYSE:AIG) security holdings, and Ambac insured mortgages are among them. 

Separately,  Ireland has undertaken a large-scale bank rescuethat involves pumping in $43 billion to pick up toxic assets of its banks. Since Ireland is well along the path to a debt crisis, its Gumnut forced a 47% haircut on the assets it will acquire. It would be very unlikely that a haircut of that magnitude would be paid by the US Gumnut for the same type of transaction involving US banks. Or would it?



Disclosure: no positions