The Volcker Rule & AIG: It’s Not About Prop Trading
by ilene - January 21st, 2010 10:42 pm
The Volcker Rule & AIG: It’s Not About Prop Trading
Courtesy of rc whalen at Zero Hedge
Watching the President announcing his proposals to forbid commercial banks from engaging in proprietary trading, I am reminded of the reaction by Washington a decade ago to the Enron and WorldCom accounting scandals, namely the Sarbanes-Oxley law. The final solution had nothing to do with the problem and everything to do with the strange politics of the capital city and the national Congress.
The basic problems of the Enron/WorldCom scandals was financial fraud and the use of off-balance sheet vehicles to commit same. By responding with more stringent corporate governance requirements, the Congress was seen to be responding — but without harming Wall Street’s basic business model. In that regard, note that today former SEC chairman Bill Donaldson was standing next to President Obama on the dais, along with Paul Volcker and Treasury Secretary Tim Geithner.
A decade on, we have the same basic problem, namely the use of OBS vehicles and OTC structured securities and derivatives to commit financial fraud via deceptive instruments and poor or no disclosure. Another name for OTC markets is “bucket shop,” thus the focus on prop trading today in the President’s comments was entirely off target. The Volcker Rule, at least as articulated today, does not solve the problem. And what is the problem?
The poster child victim for this latest round of rape and pillage by the large dealer banks is, of course, American International Group (AIG) along with many, many other public and private Buy Side investors. The FDIC and the Deposit Insurance Fund is another large, perhaps the largest victim of the structured finance shell game. Prop trading was not the problem with AIG nor the cause of the financial crisis, but instead the rancid production from the securities underwriting side of the business.
Not a single major securities firm or bank failed due to prop trading during the past several years. Instead, it was the customer side of the business, usually the mortgage conduit, that was the problem, the securities underwriting side of the business that the Volcker Rule conveniently ignores. And this is the one area that you will most certainly not hear President Obama or Bill Donaldson or Chairman Volcker or HFS Committee Chairman Barney Frank mention. You can torment prop traders, but leave the syndicate desk alone.
The dealers,…
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Capital City
by ilene - January 6th, 2010 2:35 pm
Intro, courtesy of David at The Deipnosophist:
No other way to state this, but baldly: The article, Capital City, is phenomenally brilliant and insightful. Its author, Kevin Drum, not merely knows his stuff, he did his homework and lays bare the connections for all to see.
And it comes with my strongest recommendation to read, despite its length. Not only will you learn a thing or two (I did), but it also is likely to bring your blood to a boil.
(I do wish, though, that writers and their editors would learn the difference between "danger" and "peril" — they are not synonyms for the same notion. When Kevin Drum says, "dangerous" in fact he means "perilous.")
-- David M Gordon / The Deipnosophist
Capital City
A year after the biggest bailout in US history, Wall Street lobbyists don’t just have influence in Washington. They own it lock, stock, and barrel.
By Kevin Drum | January/February 2010 Issue of Mother Jones
THIS STORY IS NOT ABOUT THE origins of 2008′s financial meltdown. You’ve probably read more than enough of those already. To make a long story short, it was a perfect storm. Reckless lending enabled a historic housing bubble [1]; an overseas savings glut and an unprecedented Fed policy of easy money enabled skyrocketing debt; excessive leverage made the global banking system so fragile that it couldn’t withstand a tremor, let alone the Big One; the financial system squirreled away trainloads of risk via byzantine credit derivatives [2] and other devices; and banks grew so towering and so interconnected that they became too big [4] to be allowed to fail. With all that in place, it took only a small nudge to bring the entire house of cards crashing to the ground.
But that’s a story about finance and economics. This is a story about politics. It’s about how Congress and the president and the Federal Reserve were persuaded to let all this happen in the first place. In other words, it’s about the finance lobby—the people who, as Sen.Dick Durbin [5] (D-Ill.) put it [6] last April, even after nearly destroying the world are "still the most powerful lobby on Capitol Hill. And they frankly own the place."
But it’s also about something even bigger. It’s about the way that lobby—with the eager support of a resurgent conservative movement…
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An Independent Look into JP Morgan
by ilene - September 18th, 2009 5:18 pm
An Independent Look into JP Morgan
Courtesy of Reggie Middleton’s Boom Bust Blog
The JP Morgan forensic preview is now available. Remember, this is not subscription material, but a "public preview" of the material to come. I thought non-subscribers would be interested in knowing what my opinion of the country’s most respected bank was. There is some interesting stuff here, and the subscription analysis will have even more (in terms of data, analysis and valuation). As we have all been aware, the markets have been totally ignoring valuation for about two quarters now. It remains to be seen how long that continues.
Click graph to enlarge
Cute graphic above, eh? There is plenty of this in the public preview. When considering the staggering level of derivatives employed by JPM, it is frightening to even consider the fact that the quality of JPM’s derivative exposure is even worse than Bear Stearns and Lehman‘s derivative portfolio just prior to their fall. Total net derivative exposure rated below BBB and below for JP Morgan currently stands at 35.4% while the same stood at 17.0% for Bear Stearns (February 2008) and 9.2% for Lehman (May 2008).
We all know what happened to Bear Stearns and Lehman Brothers, don’t we??? I warned all about Bear Stearns (Is this the Breaking of the Bear?: On Sunday, 27 January 2008) and Lehman ("Is Lehman really a lemming in disguise?": On February 20th, 2008) months before their collapse by taking a close, unbiased look at their balance sheet. Both of these companies were rated investment grade at the time, just like "you know who". Now, I am not saying JPM is about to collapse, since it is one of the anointed ones chosen by the government and guaranteed not to fail – unlike Bear Stearns and Lehman Brothers, and it is (after all) investment grade rated. Who would you put your faith in, the big ratings agencies or your favorite blogger? Then again, if it acts like a duck, walks like a duck, and quacks like a duck, is it a chicken??? I’ll leave the rest up for my readers to decide.
This public preview is the culmination of several investigative posts that I have made that have led me to look more closely into the big money center banks. It all started with a hunch that JPM wasn’t…
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Market Gaming: Pressin’ Their Bets
by ilene - June 26th, 2009 11:50 am
This article by Karl Denninger helps explain Zero Hedge’s previous article on Goldman Sach’s principle trading unit and the ETF-underlying pair trades.
Market Gaming: Pressin’ Their Bets
Courtesy of Karl Denninger, The Market Ticker
Props to Zerohedge on tracking this:
Just released NYSE data indicate a 50% ramp up by Goldman’s principal Program Trading unit. Whereas the prior week saw Goldman trading only 631 million principal shares on the NYSE, the most recent data indicate a massive rise to 977.8 million. Also notable is Credit Suisse’s doubling in principal program trades to 586 million from 245 million. Zero Hedge is compiling materials to demonstrate the phenomenal gamble CS is taking by being the largest holder of the ETF-underlying pair trade. The ensuing implosion, once the market loses the invisible futures bid, will likely destroy Switzerland’s second biggest bank and likely take down the country with it.
This is ridiculous.
Someone needs to start listening to Volcker, who has strongly promoted returning to the Glass-Steagall separation of commercial banking and trading activity.
Program trading is now up to 40.4% of all NYSE volume – approaching half.
For those who aren’t savvy in this stuff what’s going on here is a pair trade between the underlying instrument(s) and the ETFs on the exchanges. This is an arb play and it works until it doesn’t – for an example of "doesn’t" in the single-name world witness what happened to VW/Porsche earlier this year when the arb speculators on their merger got rammed, or those hedgies who were playing the Citibank preferred-conversion arb earlier this year.
These are allegedly "hedged" transactions in that there is an alleged unbreakable correlation that protects the person doing it from loss.
In truth there is no such thing as an unbreakable correlation and the alleged "protection" against getting reamed is illusory. This is the same sort of "genius trade" that was run with AIG’s CDS positions – remember the claim that "we’re unlikely to ever see a loss"?
How’d that work out?
Here’s the chart from Zerohedge (original source the NYSE itself; click for a larger version):
Someone has to get out in front of this and stop it before it blows up in everyone’s face and we have yet
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Philip R. Davis is a founder Phil's Stock World, a stock and options trading site that teaches the art of options trading to newcomers and devises advanced strategies for expert traders...
Ilene is editor and affiliate program
coordinator for PSW.