Additional Perspectives On The AIG Fiasco

by ilene - January 28th, 2010 3:37 pm

Additional Perspectives On The AIG Fiasco

aig Courtesy of Tyler Durden at Zero Hedge

While Tim Geithner may hope the AIG situation is now dead and buried, it is likely anything but, with the recently launched investigation into disclosure fraud by the SIGTARP, and the relentless efforts by Darrell Issa to metaphorically crucify the tax-challenged treasury secretary currently ongoing.

As these noble pursuits continue, we ask two simple questions:

1) In Yesterday’s hearings, it became clear that everyone essentially recused themselves of any oversight over the AIG disclosure issue, including Hank Paulson, with most, even Bernanke, claiming they had no control over the counterparty decision-making process. We ask - then who did? Surely someone at the FRBNY had to pull a trigger at some point. Who is that person? And if it is merely Sarah Dahlgren, is there a formal notification that she had obtained proxy power from Tim Geithner, who yesterday disclosed had recused himself only informally to a very select circle of TurboTax-challenged friends.

2) Why did the Fed not guarantee AIG’s assets ahead of the firm’s implosion. Surely, the realization, which as everyone trumpets these days, that AIG’s failure would have destroyed the world should have been known to at least one person in authority? And as all know, the collateral call toxic spiral commenced only once AIG was formally downgraded by the rating agencies. Well, had the AIG had the formal guarantee of the Federal Reserve, which is implicitly a guarantee by the U.S., then AIG would not have been downgraded in the first place, and no collateral calls would be forthcoming. Of course, Goldman would end up owning CDOs that as Janet Tavakoli points out, and contrary to what the Fed claims, are now worth at best pennies on the dollar. Furthermore, Goldman’s AIG CDS would immediately have become worthless, with Goldman unable to sell them in the open market for a profit of billions of dollars, yet the firm would continue extracting collateral as per its prior arrangement with AIG, in essence not impairing Goldman at all. And had AIG not started down the downgrade spiral, then numerous other adverse consequences of the nationalization of the insurance company would not have transpired. While it would not have saved America’s financial system, it would have made the descent more manageable. Yet with Goldman having benefited massively from the elimination of a vast swath of competitors, one wonders if the guarantee track may…

Tags: AIG, Banks, CDOs, CDS, conflicts of interests, counterparties, debt, Goldman Sachs, taxpayers, the Federal Reserve

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Senate Approves Raising Government Borrowing Limit By $1.9 Trillion

by ilene - January 28th, 2010 1:19 pm

Is that today’s picture? They sure look happy. And the stock market seems to like it. But isn’t this like celebrating a decision to up your dose of antibiotics? - Ilene

BREAKING: Senate Approves Raising Government Borrowing Limit By $1.9 Trillion

barack obama nancy pelosi joe biden Courtesy of Vince Veneziani at Clusterstock

We just got word from a trader that the Senate has passed a measure to increase the Federal borrowing limit by $1.9 trillion to $14.3 trillion.

Senators voted 60-39 to boost the limit by $1.9 trillion after approving a short-term increase in December.

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The Implications Of The Stuytown Default

by ilene - January 26th, 2010 11:21 am

The Implications Of The Stuytown Default

Courtesy of Tom Lindmark at But Then What

Stuytown

In many respects, the non-news of the day was the decision by Tishman Speyer Properties to hand back to the lenders its Peter Cooper Village and Stuyvesant Town apartment complex. This particular train wreck has been a foregone conclusion for the better part of a year. Yet, it generated considerable attention in the blogosphere.

Why did it get so much play? Well the short answer is that it raises the question of why shouldn’t the average American avail themselves of the same remedy that Tishman and other big real estate players are opting for. Most pundits seem to think that they should do precisely the same thing if they think it’s in their best interest. I find it hard to disagree.

We may well look back at 2010 as the year in which American society underwent a sea change in how it views its obligations to repay borrowed money. You see, there isn’t really any reason that this should be confined to mortgage debt. It’s not beyond reason or imagination to suppose that millions burdened by credit card debt will opt for the same solution. Ditto for students with crushing debt taken out to finance an education that isn’t producing any job or income to service the debt. There’s no reason to believe that with the stigma of being classified as a dead beat removed that default won’t become the new financial rage. Just as Americans clued each other in on the ins and outs of gaming mortgages during the boom so too are they likely to pass on the dirty little secret that you can walk from your debts with no consequences.

One of the best quotes I read today on the subject came from the Curious Capitalist:

But the larger take away from Tishman Speyer’s spectacular news is that it is just the latest entry in an expanding log of debt forgiveness that is transforming America’s economy. Whether it is residential homeowners walking away from mortgages they can no longer afford or want, or a super-sized borrowers kissing their assets goodbye, debt written off is debt forgiven.

And that puts us one step closer to a sustainable economic recovery.

I’m not sure that I would agree with the last sentence as I don’t know what sort of financial system you end up with if you change the system that radically but otherwise,…

Tags: American taxpayer, borrowed money, debt, Debt forgiveness, Stuyvesant Town, Tishman Speyer

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Low Interest Rates and Easy Credit Are Catastrophes for Any Economy

by ilene - January 22nd, 2010 8:49 pm

Low Interest Rates and Easy Credit Are Catastrophes for Any Economy

Courtesy of Charles Hugh Smith, Of Two Minds

The Federal Reserve insists that super-low interest rates and loose lending are the keys to renewed growth. Their analysis is fatally flawed; those are catastrophically destructive policies in any economy.

One of the key analytic tools in the Survival+ critique is very simple to grasp: sort out the incentives and disincentives, and you are halfway to a systemic understanding.

For example, U.S. sickcare (a.k.a. "healthcare") is fundamentally doomed to insolvency and collapse because its incentives for all participants are entirely perverse. (Please see Perverse Incentives and a Government Doomed to Collapse January 14, 2010).

With this is mind, let’s examine the incentives built into the Federal Reserve policy of super-low interest rates and loose lending ("easy credit"). The fundamental idea here is straightfoward: consumers have limitless desires, and all we need to do to reinvigorate consumer spending is make borrowing more money both cheap and convenient/easy.

But what about the hidden incentives and disincentives? This policy is incredibly perverse in several profound ways:

1. it provides a powerful disincentive to saving (accumulating capital)

2. it offers a powerful incentive to speculate with "free money" provided by lenders

3. it provides a powerful incentive to leverage a small amount of capital/cash into gigantic bets via "easy money" (3% down payment mortgages, etc.)

4. it rewards risk and destroys moral hazard because the losses incurred by the borrower deploying massive leverage are extremely modest (3% down isn’t much to lose, so why not gamble that housing with rise 30% from here?)

5. it incentivizes a feedback loop of ever-expanding bets, leverage and borrowing (i.e. housing speculators buying a second, third and fourth home because they made a killing on their first house) which "rewards" the speculative mania with ever higher assets prices as this specious "demand" grows with expanding leverage and debt.

6. In a financial system which actively suppresses interest rates, then capital earns virtually nothing. Entrepreneurs have no incentive to be prudent in their borrowing, and holders of capital are left with no choice but speculation in risky assets lest their capital melt away in an engineered environment of "benign" (slow steady erosion of capital) inflation. Recall that "low" 2.5% inflation will rob you of a third of your capital every decade.

This is exactly the trap into which pension funds fell: required by actuary models to earn 6%, faced with a Fed-manipulated yield of 2%,…

Tags: budget, credit, debt, Interest Rates, japan, Martin Armstrong

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ECB Prepares For Euro Rupture As Greek Crisis Escalates

by ilene - January 17th, 2010 10:35 pm

Ambrose Evans-Pritchard makes the argument that Greece is caught in a "textbook deflation trap." - Ilene

ECB Prepares For Euro Rupture As Greek Crisis Escalates

Fears of a euro break-up have reached the point where the European Central Bank feels compelled to issue a legal analysis of what would happen if a country tried to leave monetary union.

By Ambrose Evans-Pritchard, courtesy of Clusterstock

“Recent developments have, perhaps, increased the risk of secession (however modestly), as well as the urgency of addressing it as a possible scenario,” said the document, entitled Withdrawal and expulsion from the EU and EMU: some reflections.

The author makes a string of vaulting, Jesuitical, and mischievous claims, as EU lawyers often do. Half a century of ever-closer union has created a “new legal order” that transcends a “largely obsolete concept of sovereignty” and imposes a “permanent limitation” on the states’ rights.

Those who suspect that European Court has the power pretensions of the Medieval Papacy will find plenty to validate their fears in this astonishing text.

Read the whole story at The Telegraph — >

Tags: debt, Europe, Greece, Greek Crisis

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Mysterious Direct Bidding Strength Leads Traders To Suspect A Massive Hidden Treasury Buyer

by ilene - January 14th, 2010 3:01 pm

Mysterious Direct Bidding Strength Leads Traders To Suspect A Massive Hidden Treasury Buyer

Courtesy of Vincent Fernando at Clusterstock/The Business Insider

This week’s treasury auctions have seen massive buying strength from direct bids, which represent U.S. institutional investors.

Such has been the strength that traders suspect a single massive contrarian buyer could be at work, purposefully trying to conceal itself:

FT: Auctions of US Treasury notes this week have attracted extremely strong buying from domestic institutional investors, fuelling speculation that "one big bidder" has decided to defy the conventional wisdom on Wall Street that US government debt is due for a fall.

The surprising demand for Treasury notes has come in the form of "direct bids", the term used for US institutional investors who bypass the so-called primary dealers that underwrite government bond sales.

Yesterday, direct bids accounted for 17 per cent of the sales of $21bn in 10-year Treasury notes, far higher than the recent average of 7.4 per cent. It was the highest percentage of direct bids in a 10-year Treasury auction since May 2005.

On Tuesday, direct bids accounted for a record 23.4 per cent of the bidding for $40bn in three-year notes, up from an average direct bid of 6 per cent.

Market participants say the unusually high level of direct bidding suggests that a large investor is looking to accumulate Treasuries without alerting the primary dealers on Wall Street to its intentions.

Iceland’s President Effectively Tells UK “Go To Hell” - Hooray For Iceland

by ilene - January 6th, 2010 9:48 am

Iceland’s President Effectively Tells UK "Go To Hell" - Hooray For Iceland

Iceland, Jokulsarlon Lagoon with icebergs

Congratulations to Iceland for figuring out that it is better to suffer a credit rating downgrade than to torture its citizens for a decade or longer. Please consider Iceland president vetoes collapsed Icesave Bank’s bill to UK.

Iceland was plunged back into crisis after its president refused to sign a bill promising to repay more than €3.8bn (£3.4bn) to Britain and the Netherlands after the collapse of the country’s Icesave bank in 2008.

The escalating row threatens to further destablise the Icelandic economy, which went into meltdown after the failure of its three big banks, cutting off further aid from the International Monetary Fund and jeopardising efforts to join the European Union. The credit rating agency Fitch immediately downgraded Iceland, describing the latest political row as a "significant setback".

The British and Dutch governments had compensated savers who lost money when Icesave’s parent Landsbanki filed for bankruptcy. But both have since put pressure on Reykjavik to repay the money.

Opinion polls suggest that Icelanders will overwhelmingly vote against the passage of the bill. A petition urging Grimsson not to sign the bill attracted 62,000 signatures, around one-fifth of the population. Critics say the bill would burden each citizen with a debt of €12,000 including interest.

In a televised address, Grimsson said: "It is the cornerstone of the constitutional structure of the Republic of Iceland that the people are the supreme judge of the validity of the law. It is…the responsibility of the president to ensure that the nation exercises this right." He said the referendum would take place as soon as possible.

Almost 300,000 British savers had deposits with Icesave, attracted by market beating interest rates. Their accounts were frozen in October 2008, sparking a diplomatic row between Britain and Iceland, which had only recently begun to thaw. Britain outraged ordinary Icelanders at the time by invoking anti-terrorist legislation to freeze the UK assets of Landsbanki.

Repayment Blocked

The Times Online Reports Iceland blocks repayment of £2.3bn to Britain

Today Iceland’s President, Olafur Grimsson, vetoed a bill that would have enforced the repayment of the money by 2024.

Under Iceland’s constitution there must now be a referendum on the issue.

But the repayment is deeply unpopular in Iceland. A poll in August found 70 per cent of the country was opposed to it.

The Icelandic Government issued a statement to try to reassure Britain and the…

Tags: Banks, citizens, debt, Iceland, Netherlands, Politics, UK

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PIMCO Slams The Brakes On US, UK, And Corporate Bond Buying, Amid Massive Debt Binge

by ilene - January 4th, 2010 1:26 pm

PIMCO Slams The Brakes On US, UK, And Corporate Bond Buying, Amid Massive Debt Binge

Courtesy of Joe Weisenthal at Clusterstock/Business Insider

Young woman mountain biking, low angle view (blurred motion)

In a new 2010 outlook, via Bloomberg, PIMCO’s Paul A. McCulley reveals his firm’s uber-cautious stance towards bonds, amid the massive borrowing underway in the UK and the US.

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PIMCO Managing Director Paul McCulley leads the firm’s quarterly Cyclical Economic Forums, in which investment professionals from around the world gather to discuss the outlook for the global economy and financial markets over the next six to 12 months. In the following interview, Mr. McCulley discusses the results of the December Forum and its implications for PIMCO’s investment strategy in 2010.

Q: PIMCO recently developed its outlook for 2010. What are the general conclusions?
McCulley: The global economic recovery underway will likely be very much de-synchronized, borne of heterogeneous initial conditions on display prior to the recession, with a full range of possible outcomes. In the developed world, we had double bubbles in property and credit creation. Much of the developing world, in contrast, had already gone through its “baptism by fire” a decade ago and actually had incredibly sound balance sheets in the public and private sector as a starting point.

In addition to these differing initial conditions, there is still uncertainty over three major issues, which in turn creates a range of possible outcomes in our forecast. Depending on how these issues progress, we’re looking at multiple potential resolutions of the inherent tension in the overall system. There will likely be some bipolar market outcomes.

Q: Can you talk more about those three major issues?
McCulley: The first issue is the peg between the Chinese yuan and the U.S. dollar, which essentially gives us a one-size-fits-all monetary policy in a very differentiated world. Progress, or lack of progress, on this issue could lead to several outcomes. If China were to let its currency appreciate, it could regain a degree of monetary policy autonomy and a better ability to manage the risk of overheating and asset price inflation. Another outcome, however, is that China refuses to let the yuan appreciate, essentially maintaining too easy of a monetary policy for itself and the developing countries that shadow Chinese policies. This would create bubble risk, particularly for assets such as emerging market (EM) equities and commodities.

The second major uncertainty is what will happen when the Fed completes its mortgage-backed securities (MBS) buying programs. We know that…

Tags: debt, Investing, Paul McCulley, PIMCO

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In The Year 3000: Predicting The Liability Side Of The Fed’s Balance Sheet

by ilene - January 3rd, 2010 6:09 pm

In The Year 3000: Predicting The Liability Side Of The Fed’s Balance Sheet

Courtesy of Tyler Durden

When it comes to the asset side of the Federal Reserve’s balance sheet, there are no secrets: with the winddown of the bulk of the Fed’s emergency liquidity programs by February 1, the majority of the Fed’s current $2.2 trillion in assets will continue being outright-held securities. And even as the emergency programs sunset, the quasi-permanent, QE remnants will be here to stay. What we know for certain is that the current $1.8 trillion in Treasuries and MBS will rise to at least $2.2 trillion, as the balance of QE round 1 is exhausted. Will this purchasing of outright securities end there? Hardly. As the Fed is the only market for MBS, and as the MBS market can not allow a dramatic rise in 30 year mortgage rates, which is precisely what will happen if the buyer of first resort disappears, we fully expect some form of QE to show up and grab the baton where QE 1.0 ends. In fact just today, Fed economist Wayne Passmore, under the aegis of Atlanta Fed president Dennis Lockhart, stated during the annual American Economic Association meeting that GSE ABS should have an outright explicit guarantee by the Federal Reserve. Forget about QE then - this would be an onboarding of over $6 trillion in various assets of dubious worth, which currently exist in the limbo of semi-Fed guaranteed securities, yet which have an implicit guarantee. Of course, should the broader Fed listen to young master Passmore, look for John Williams’ expectation of hyperinflation as soon as 2010 to be very promptly met. The danger of the Fed’s next unpredictable step is so great that it is even causing insomnia for none other than BlackRock big man Larry Fink, who asks rhetorically "Are they going to kill the housing market?" Well Larry, unless the Wall Street lobby hustles, and the Fed isn’t forced to print another cool trillion under the guise of Mutual Assured Destruction, they very well might.

So now that we (don’t) know about the assets, what about that much less discussed topic: the Fed’s liabilities?

As it stands now, and as we have often pointed out, the liabilities of the Federal Reserve are rather straightforward: the major items are currency in circulation (about a $800 billion, and excess reserves of roughly $1.2 trillion of overnight deposits/excess reserves.…

Tags: ASSETS, debt, Fed's balance sheet, GSE, home values, liabilities

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The Junk Bond Rally Is Moral Hazard In All Its Glory, And Will Continue Next Year

by ilene - December 28th, 2009 3:08 pm

The Junk Bond Rally Is Moral Hazard In All Its Glory, And Will Continue Next Year

Courtesy of Vincent Fernando at Clusterstock

Junk bonds have been on fire this year, generating returns of over 50%. For this trade, the credit crunch appears over and it’s pretty clear that Uncle Sam has your back if things turn south. Or at least that’s the belief.

By nature of providing financial breathing room for the entire private sector via low interest rates and easy money for the banks, while helping the less levered companies, you at the same time unavoidably provide a huge get-out-of-jail card to highly leveraged companies financed with high yield debt. In fact, the U.S. is prodding banks to lend more right now, which means easy re-financing for leveraged or operationally-challenged companies with debt maturing in the near term.

So is the junk rally over? Well given a historically awesome year for 2009, it’s hard to ask for a repeat, but Citi’s John Fenn thinks that investors will continue pouring money into high yield bond funds. Want to see moral hazard in all its glory? Then look no further than the junk bond market of 2009… and 2010:

After a record-setting year of mutual fund inflows, next year likely brings some respite, but not much. Even with high yield yielding 9%, the asset class is relatively attractive from a risk-return perspective, and the experience emerging from past recessions suggests significant inflows are likely to persist beyond one year. Certainly, $32 billion of retail inflows trumps the next highest year on record, 2003, by a comfortable $4 billion. However, during the period the size of the market has grown by roughly 40%. As Figure 13 indicates, on a percentage basis, retail flows in 2009 were less than 2003 and also a number of years in the nineties when the market was much smaller. The takeaway, in our view, is a repeat of the 2001-2003 period for high-yield mutual funds implies another $32 billion of inflows over 2010 and 2011.

We’re not saying junk bond yields should rally, as in they’re good value. The point is that money is likely to keep pouring into them. Until they get slaughtered and it’s too late. Unless they’re bailed out again.

(Via Citi Investment Research, High Yield - Outlook and Strategy, John Fenn, 23 December 2009)

Tags: debt, Investing, Markets

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Additional Perspectives On The AIG Fiasco

By Andrew Wilkinson

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