Tuesday, January 27, 2009

"Hoarding" Mentality

Everywhere I watch and read, pundits, economists and armchair market experts (I do fall into the latter group) pronounce the banks are hoarding the money given them through the bailouts.

That is completely and utterly false.

The banks are not hoarding the money. What they have been, and are, doing with that money is using it, as per what little regulatory guidelines that were not gutted by our congressional folks, for the reserves of the assets they hold.

From my article "Downgrading Tomorrow";
"Any publicly traded company or any fund used for investment must have reserves matching the risk represented in the securities they hold for investment. Bond issues (which all debt based derivatives are) rated AAA need very little capital to be held in reserve as a safety net should that bond issue go belly up. This is because anything rated AAA is assumed to have little or no risk of failing. As a bond issue loses its AAA rating, each downgrade significantly raises the amount of money needed to hold in reserve by the holder of that bond.'

"In the 4th quarter of 2008, $2.3 Trillion
more of these bonds were downgraded. So, the reserves needed rose, in some cases, dramatically. Please, do not think of this in terms of only the 4th quarter 2008. There have been a lot more before this, and there will be a dramatic amount after this.'

"Guess where all that money from the "bailouts" is going. That's right, almost every penny is going to the reserve accounts as these derivatives are downgraded. That money cannot be used to lend out, because it is already covering part of the loss in value of these derivatives."

In no way am I defending the banks. Their ability to make bad decision after bad decision is rather astounding. I am suggesting that unless you understand what the exact problem is, how can you possibly construct a solution?

CNBC, FOX, CNN, all the major broadcast media, and all the major print media keep parading "experts" in front of us. I have yet to hear, except by a few astute folks in the blogging world, any one of these "experts" say these words: "Before we give any money to the banks or any corporation, level3 assets must be cleared from their books. For any money given them will go directly to their reserve accounts, and cannot be used to increase productivity."

To claim the banks are "hoarding", and ignore the collapse of the assets they hold, which will require more money in the future as they are downgraded more, is at best a lie. Maybe, just maybe with some, it is a lie of ignorance. When the Chairman of the Federal Reserve or the Secretary of the Treasury intimates the banks are hoarding, that is an outright lie, and they know it.

Again, every penny given in all the bailouts is lost forever. It is, at best, a lie to suggest the American taxpayer will realize a gain on any of this bailout money. At worst, if you are a politician or able to influence investment, it is a felony to suggest this.

Until these derivatives are forced out into the open, and can be cleared from the system, our economy, no, the global economy, has no chance of recovery. Every day that goes by the losses mount. Every dollar that goes to help hide these derivatives is lost, because tomorrow they will be downgraded more.

It is hard for me to believe only a few of our congresspeople are able, or willing, to put their career on the line for the sake of our country. Those that have talked about the problem, ie Ron Paul and Brad Sherman, are ridiculed by the head in the sand majority.

Pelosi, Reid, Boehner, and McConnell all seem to be utterly clueless about the problem. Pelosi and Reid are under the devastatingly false idea that if the government creates jobs, that will fix the problem. Boehner and McConnell both voted for the first bailout package, which is a 100% loss of taxpayer money, and are only feigning disgust now because a Democrat is in the Oval office. If McCain had been elected, how do you think they would vote on the second half of the bailout program?

What did we elect them for?

I guess it is so they get to lead the lifestyle of an elite, and get a benefit package, for the rest of their life, which will allow them to never have to worry. Even in a depression.

That's a very nice gift to them, from the electorate, which pays the taxes. Especially in light of this simple fact; Over the last 15 years, congress has removed the laws that prevented the banks from leveraging themselves into oblivion. In 1998, most banks could only borrow at a 10:1 ratio. By 2006, they could leverage to a 72:1 ratio (JPMChase), 35:1 (Bear Stearns), 40:1 (Lehman Brothers), 28:1 (Citi), 32:1 (Merill Lynch), 39:1 (Wamu), 34:1 (Bank of America), and many more that are leveraged 20 times borrowed money to assets, and more.

And, in a fitting twist of gratitude, congress, along with the previous administration, decided to double your tax burden to cover their bad decisions.

Your great-grandchildren may have choice words about all of this. Unless, of course, our educational system is gutted further. The growth of private schools that teach children dinosaurs did not exist has grown by more than four hundred percent in the last ten years. Should that trend continue, your great-grandchildren may not be able to perform their multiplication tables, let alone develop independent critical thinking abilities.

The best part about the rise in these private schools - they get 60-70% of their funding from the government. So, we get kids who know who Esau was, but will never be able to calculate exponent functions of interest over time.

Funny, I guess we already have that.

Monday, January 26, 2009

The Myth of the Slow Crash

courtesy itulip.com

From the article "The myth of the slow crash revisited" from itulip;
"Every single working day in the month of December 2008:
  • 190 U.S. companies filed for Chapter 7 or Chapter 11 bankruptcy protection
  • 4,950 Individuals filed for bankruptcy protection
  • 3,100 Homes went into foreclosure
  • 26,190 Jobs were lost and 25,035 workers filed for unemployment insurance
The idea we are slowly moving towards hard economic times seems false when educated by the numbers. Math is always an immutable truth, unless you didn't pay attention in school. Then you wouldn't know the difference.

The shenanigans of Wall Street and their friends in high political office often greased the system to benefit themselves. No surprise, really, except to be consistently reminded of the various methods in which it was done, and how deep the damage will be.

"Ever drive down your street and notice the lousy roads and sidewalks but the fine new school buildings, and fire and police stations? Ever wonder why? Road construction comes straight out of tax revenue, but those buildings just might be paid for using bonds floated in insider deals where tax revenue can be leveraged, leaving yet another FIRE Economy liability that will climb onto the backs of tax payers in 2009 and 2010 as local property and income tax revenues plunge and waves of municipal bond defaults mark the next stage of decline of the 1980 to 2006 FIRE Economy."

At the heart of the sudden withdrawal of Bill Richardson from the nomination as Secretary of Commerce is the price-fixing surrounding municipal bond issues. More than 30 financial services companies have been subpoenaed concerning muni bond issues across the United States.

From the NY Times concerning what happened in New Mexico;

"CDR Financial Products, of Beverly Hills, Calif., is at the heart of the federal investigation in New Mexico. Investigators there are looking at how CDR Financial came to be selected as the “swap adviser” for a $1.5 billion program — called Governor Richardson’s Investment Program, or GRIP — to raise money for road and rail construction in New Mexico."

"CDR Financial and its founder, David Rubin, gave $100,000 to two of Governor Richardson’s political action committees in 2003 and 2004, and the company earned $1.5 million for advising GRIP in 2004. A Colorado political consultant, Michael Stratton, lobbied on behalf of CDR Financial, and was paid $269,000 by JPMorgan Chase during the same period, according to regulatory filings. JPMorgan was the lead underwriter on about $1.1 billion of bond sales for GRIP."

What this means is sweetheart deals for the companies underwriting the bonds. The bond investors probably paid a lot more than they otherwise would have, and the municipalities may have been saddled with a lot more debt than can be repaid in an economic downturn.

A friend of mine asked me last week why the principal in his muni bonds, which he had bought last year, had declined by 20%. One of the reasons could be due to the economic times. Less revenue means decreased ability to levy taxes which pays off the bond issues. Also, the market makers for these bonds, who are primarily controlled by the companies that underwrote them, know something the investors don't. Many bond issues might never have a chance of returning principal.

It's good to see the Justice Department and the FBI work on behalf of the little guy, even if only occasionally.

Sunday, January 25, 2009

Penny-wise, Pound-foolish

Britain on the brink of an economic collapse

The latest headline from The Telegraph in Britain.

"The plight facing Britain is uncannily similar to the 1930s, since prices of many assets —from shares to house prices — are falling at record rates, but the value of the debt against which they are held remains unchanged.'

"This “debt deflation” is among the most painful of all economic phenomena, since it means the amount families owe increases each year even if they borrow no more."

There is a difference between the continents concerning media reporting. Many Americans despise European media for they feel it is 'liberally' biased. Yet, as the US is in the same economic maelstrom as the British, I have yet to see headlines such as these with any of the top 50 news outlets in the US.

Oh, do not think otherwise, the United States is infected to the same degree and of the same ailments as Britain. The only difference is the US is the leading economic engine for the world, and that does count for something. But in this case, that difference will make for little variation of the end result.

Plus, what ails the global financial world was packaged and sold primarily by US investment banks. In other words, those that control the big money sitting in sovereign wealth funds and foreign central banks blame the US for this crisis. We need massive foreign purchase of our Treasuries every week just to pay the interest on the bonds we have already issued. God forbid if they run out of money, or worse yet, find something as safe with higher yield.

If gold increases in value on a sustained basis, as it has over the past week, Treasury notes yielding less than 1% will begin being sold by the droves and that money will pour into gold. That will cause two things to happen;

1) The Fed will have no buyers for new Treasuries, thus forcing interest rates on Treasuries up to attract purchase.

2) Gold is currently being hoarded. As tens of billions of dollars begin purchasing what gold is remaining on the open market, gold will begin a dramatic climb in value. It will cause an immediate spike in gold prices.

Every major news outlet in the US has been consistently wrong, everyday for the last two years, about why this is happening. Even after the Bear Stearns hedge fund debacle in June 2007, not once have I heard, or read, a journalist employed by one of the major media outlets ask a CEO "How much do you expect to lose of your level3 assets?" It's at the heart of the problem, and no one asks the question.

In fact, we have had a consistent parade of CEO's go on major television and claim that they are well capitalized, often days before the company goes bankrupt or is forced to merge. Merrill Lynch anyone? Are they really that stupid and have no clue as to their companies fiscal position? Or, with the help of "journalists" did they lie to the public, as in Jim Cramer's tirade to buy Bear Stearns, at $62, the week before it went to $2?

Asset deflation is the long term trend. The spike in gold, and silver, may be short-lived.

Get it while you can, and sell before it peaks.

As a friend of mine says when pondering a bet "Pigs get fat, hogs get slaughtered."

Saturday, January 24, 2009

Structured Finance Collapse

click on image for better view
courtesy of Mish, Bloomberg and JPMChase

Starting in 2003, many people questioned whether I had my wits about me, and if I needed to spend some time on the "funny farm." The reason - I had become alarmed at the proliferation of debt securitization, especially debt emanating from housing, and tried, mostly in utter vain, to have conversations about what it meant, and where it would lead.

The above chart is a fabulous example of my fears in illustrative form.

To be certain, I was simply reading and researching, regurgitating what I had absorbed. Nonetheless, my fears were well founded. What the chart shows is the dramatic fall in value of large financial institutions. That fall has occurred due to devaluation of structured financial products, namely derivatives. Debt can only be claimed as asset as long as the debtor has the ability to pay. When that ability to pay decreases, the debt becomes a liability.

The great minds of Wall Street encouraged looser guidelines for loans, for they made huge fees selling the securitizations. This, in turn, allowed more people to qualify for loans, which forced more buyers into the housing market which created more competition and drove up real estate values.

Imagine it this way - There are ten rungs to the economic ladder in our society. Prior to 2001, only the top 4 rungs could afford to buy a house in the traditional manner, ie 20% down with no more than a 35% Debt to Income ratio. Every deviation from that allowed a few more on the lower rungs to buy a house. By 2006, the loan programs were so loose, almost 8 out of ten rungs could buy a house. That's a 100% increase in the number of buyers, in 5 years. Twice as much competition meant bidding on attractive houses often exceeded asking prices.

Wall Street was in a feeding frenzy. The frenzy lasted until everyone that would ever be able to buy a house had bought a house. Then, the need for more housing drops to nil. 10 families only need 10 houses. The upward pressure on housing valuations would dissipate. For speculators, that is bad. They only bought in hopes of making a profit. After granite countertops, SubZero refrigerators, Viking stoves and hardwood floors, they need for the market to move up.

I think even 6th graders would state that things could not always increase in price. After all, their Pokemon cards lost luster in time. Somehow, our economic leaders lost simple economic realities.

When everyone was able to buy a house, due to looser guidelines, any bump downward in the economy would cause a certain percentage (those at the bottom) to start defaulting. This was bound to happen when you could no longer introduce large numbers into the buyer pool. Add to the mix that builders have given us 26 million more units than families needing a roof. Compound this with loan guidelines which were established on the premise that refinance or selling at higher price was ALWAYS an option, and disaster was guaranteed.

The disaster is what the chart shows.

Reflected in the chart is devaluation of derivatives, and decline in stock price. What is not shown is the amount of derivatives, still being claimed at full, or near full, value in level3 accounting rules. Most of these banks, in reality, have no green bubble. Many need another color bubble, let's say yellow, to illustrate how much they are in the hole. Some financial companies, such as Citi, would have a bubble in yellow that is almost as big as the blue bubble.

That is right, their eventual losses will exceed their current value by several times. The losses, as unbelievable as this sounds, are only getting started in being written down. The world economy is on the edge of collapse with the losses today. What happens when those losses are increased ten-fold?

This is why many people are saying, have said, and will continue to say that any money given to the banks is lost forever. Our leaders, especially Bernanke and Paulson, have repeatedly lied about the problem.

I hope Obama is different than Bush. Picking Geithner as Treasury Secretary is not a step in the right direction. Bernanke is his boss at the Fed, and Geithner agreed with his every move, to date. Every move Bernanke has made has been exactly the wrong move. 0% batting average. How can you put him in at clean-up? Bernanke will have a yes man at his side.

Most importantly, for confidence in the US to increase, those at the top in Wall Street need to be jailed before war crimes are considered. If that does not happen, the effects of how bankrupt our financial institutions will come into play while Democrats and Republicans squabble over where to send the terrorists. Yes, it is an extremely important issue, I am not suggesting otherwise. I just think that a Global Systemic Financial collapse, in which chaos ensues around the world, makes where the prisoners at Guantanamo go a moot point.

No government program will abate the coming collapse unless two things immediately happen:
1) Jailing those that created and sold fraudulent structured financial products. The crimes are so pervasive that Goldman Sachs was buying insurance (CDS) on the CDO's they were selling, hoping to gain when (not if. they knew it would) that CDO collapsed.
2) Establishing a system for the orderly removal of level3 accounting rules and all level3 assets, namely structured debt based derivatives.

Yes, many of the names on the above chart, as well as countless other corporations, will instantaneously fail. But, most of the ones that fail had the biggest part in building our financial structure to this point. They will fail in as much as they helped cause the problem.

Then, and only then, can we begin to recapitalize those that are strong, and create new entities that are unencumbered by debt. Confidence can be guaranteed, because all would have full disclosure.

Because of this problem, which all governments and those at the top in corporations are intimately familiar with, nobody trusts anyone else. Even those in the media don't get it. I recently spent a good deal of time with an economic writer for a major global newspaper explaining derivatives to him and how corporations are valuing them. He has a degree in economics, and did not understand.

Well, the market in turmoil is making everyone a believer.

The big money has no confidence in a safe haven. Treasuries, all short term (the US government has been the largest buyer of long term for weeks now), will be sold en masse if gold begins its expected march. That will hurt the dollar, and we lose the ability to manage our debt, ie we will not be able to meet the interest payments on the bonds we have already issued. Then it is game, set, match.

Any, and I emphasize ANY ACTION that does not immediately tell the global financial world that we will not allow liars, cheaters and thieves to prosper, will have calamitous effects.

There is very little time left to deal with this issue.

Thursday, January 15, 2009

The Oriental Abyss

Asian markets are as hard hit, and in some cases harder, than the US market. Over the last 40 years, the Asian economies have been reliant upon the US consumer. From toys to automobiles, and everything in between, one would find it impossible to walk through a modern American house and not find that a majority of items were made in Asia.

They have also been reliant on US jobs, or at least the elimination of them, to fuel their production booms. Because there are a finite amount of those jobs to trade, increasing debt, and creating asset bubbles was the only way for US GDP to rise. Unfortunately, to have GDP rise, the debt taken must be equal to or greater than the rise in GDP. Almost always, mathematically, the debt will be greater, because profit must be there for the companies. No business is in business to break even.
Alas, at some point the debt load becomes so enormous, no more can be taken. Hence the reason economists call such economic manipulations "bubbles." Bubbles burst when inflated too much, and this bubble is way over inflated.

China, Japan and Korea are all greatly dependent on the US consumer buying the products made there, which used to be made here. Think about it, for those of you old enough; 40 years ago how often did you see "Made in China" on the bottom of what you just bought? Is the answer "0"?

One of the gravest consequences of this economic policy for the US is the fact that as we gave China business through the trading of jobs for imports, we financed it all with the sale of Treasuries to China as their profits grew. China is now the single largest holder of US Treasuries in the world.

China controls the value of US Treasury notes, and with it, the value of the US dollar.

"US mistakes are the root cause of the global financial crisis, a senior Chinese central bank official said overnight, rejecting criticism of China's high savings rate and booming trade surplus.
"Errors made in US economic policy-making, financial supervision and markets are the ultimate causes of the crisis," said Zhang Jianhua, research head at the People's Bank of China, in an opinion piece carried by the People's Daily.
Some observers in the West are blaming China and other nations' high savings rate and trade surplus for fuelling excess consumption and asset bubbles in the United States, he said.
"Such views are ridiculous and irresponsible in the extreme," Mr Zhang wrote in the harshly worded piece in the Communist Party's mouthpiece
China spends a large part of its forex reserves buying US debt, keeping interest rates down and creating the conditions for more spending by American consumers, economists have argued.
But Mr Zhang said China's forex reserves as well as investment in US Treasury bonds started to grow fast only from 2003 while household savings and the long-term interest rate in the United States have been falling since the 1980s.
It was the loose monetary policy, lax supervision and huge fiscal deficit in the United States that caused the financial turmoil, he argued.
The big US trade deficit is a result of its own economic structure, according to the article.
"Theories that try to shift the responsibility for the crisis to countries with high savings are severely lacking in self-criticism" says Zhang."

From dinner parties to casual conversation, one of the most ill-conceived ideas I run into is that if we pump enough money into China, it will become democratic. The fault in this logic lies within the premise, as if the history of China matches the history of the US. The Chinese are fundamentally of a different mindset than the West, especially the US. Attempting to overlap traits unique to the US, and applying them to the Chinese is problematic, at best.

Never in the history of China has regime change come without the wholesale massacre of the opposition. Even today, look at how Tibet has has been handled. US influence has not benefited the Tibetans. That culture is being wiped out. The rate at which the Chinese government has attempted to assimilate Tibet has only increased over the last 40 years. The Dalai Lama dares not set foot in Tibet, for if he did, well.......

The fast rise in China's economy was built on the US increasing its debt load at a faster pace.

Since our economic system cannot absorb any more debt, the consumer must now start purchasing goods with cash. How many of you have gotten letters from your credit card companies reducing your limits? I know people with credit scores of 800 (and many very near there) that have received them. Housing values have tumbled, no more home equity lines of credit. Unemployment is rising at record pace, fewer paid workers = less goods can be bought.

China's economy is in trouble. As is the US. A big problem for the US is that China's piggybank, which it soon will be forced to got to, is in dollars. It will have to spend those dollars, ie sell Treasury notes, to keep its own economy afloat. As noted in the article above, they realize the US is, at the moment, unable to help. Now, you must ask yourself this question - If China is in the position of deciding to save their economy, or keep the value of the dollar up, which way will they go? Remember, for the time being, the US is unable to increase the amount of goods they buy.

I believe, very soon, most Americans will regret that our leaders ever gave China one dollar.

Beware who advises you

To add to the disturbing trends, the privatization of America's infrastructure is well under way. Someone emailed me an article, which here I include excerpts from, and which I must caution, is from Project Censored. Project Censored may be considered by some to be conspiratorial by nature, for they follow, what they feel are, the most noteworthy stories censored from the mainstream media.

Nonetheless, the trend is real, and it is disturbing.

Major private equity firms, including The Carlyle Group, among others, are bidding with states and municipalities for control over roads, bridges, even sewer systems. These deals are being brokered by, and encouraged by, some of the biggest investment firms, such as Goldman Sachs, in which they get huge fees for making the deals happen. Cash strapped states are looking at the short term boost to their state budgets, but eliminating the revenue stream for every year thereafter.
The worst part of this trend are the non-compete clauses that are included in the sale contracts. If a private equity firm buys a toll road, the contract almost always includes language that prohibits the state from improving any roads near the toll road. Thus leaving the toll road a few years later in the enviable position of perhaps being the only drivable road in the area.

From the article;
"We will soon be paying Wall Street investors, Australian bankers, and Spanish contractors for the privilege of driving on American roads, as more than twenty states have enacted legislation allowing public-private partnerships to build and run highways. Investment firms including Goldman Sachs, Morgan Stanley, and the Carlyle Group are approaching state politicians with advice to sell off public highway and transportation infrastructure. When advising state officials on the future of this vital public asset, these investment firms fail to mention that their sole purpose is to pick up infrastructure at the lowest price possible in order to maximize returns for their investors. Investors, most often foreign companies, are charging tolls and insisting on “noncompete” clauses that limit governments from expanding or improving nearby roads.'

"...states are selling off our nation’s enormous, and aging, infrastructure to private investors. Proponents are celebrating these transactions as a no-pain, all-gain way to off-load maintenance expenses and increase highway-building funds without raising taxes. Opponents are lambasting these plans as a major turn toward handing the nation’s valuable common asset over to private firms whose fidelity is to stockholders—not to the public transportation system or the people who use it."

More often than not, the insiders to the transactions will benefit far more than the public, who paid for the road, through taxes, in the first place...

"On June 29, 2006, Indiana’s governor Mitch Daniels announced that Indiana had received $3.8 billion from a foreign consortium made up of the Spanish construction firm Cintra and the Macquarie Infrastructure Group (MIG) of Australia. In exchange the state handed over operation of a 157-mile Indiana toll road for the next seventy-five years. With the consortium collecting the tolls, which will eventually rise far higher, the privatized road should generate $11 billion for MIG-Cintra over the course of the contract.'

"In September 2005, Daniels solicited bids for the project, with Goldman Sachs serving as the state’s financial adviser—a role that would net the bank a $20 million advisory fee. When Goldman Sachs, one of the nation’s most active and most profitable investment banks, with deep connections to Washington, began advising Indiana on selling its toll road, it failed to mention the fact that, even as it was advising Indiana on how to get the best return, its Australian subsidiary’s mutual funds were ratcheting up their positions in MIG—becoming de facto investors in the deal. Many are suspicious that governors like Daniels across the nation are taking questionable advice from corporate investment banks—and from Washington."

Because of the recent market turmoil, many states have realized huge losses in their pension funds and other funds which they must pay out of on a regular basis. The sale of infrastructure can help abate some of those losses. The problem is it is a one time sale. Once any state or municipality sells a road, or a sewer system, or a water system, to a private entity, future revenue is gone. What will they do next year to replace that revenue. Raise taxes?

Only the future will tell us if this was a deal for you, or not. Judging by Goldman Sachs behavior over the last 7 years, don't hold your breath.

Wednesday, January 14, 2009

Pay off your debt with more debt

This could become a great trend. Since the US taxpayer is being asked to keep Wall Street alive, with no profit for doing so, shouldn't they be allowed the same rules as the corporations that led them there?

Pay off your debt (and payments to your investors) with more debt, instead of the cash you originally agreed to pay. Here is how Neiman Marcus, as reported by Forbes.com, is doing it: $700.0 million in senior notes due 2015 will get toggle bonds in place of their quarterly $15.75 million payment.

So...., if the retailers, now owned by hedge funds and private equity groups, are allowed to pay their creditors with more debt, thus avoiding payments in cash, shouldn't you be able to pay off your credit card to these same retailers in the same fashion? Just send them a nice note, along with a signed and notarized IOU, explaining you will pay them, in a time frame you decide, the interest on what you owe. Never mind you agreed to pay a preset interest rate within a preset time frame. If they conduct themselves this way with whom they owe money to, you should, by law, be able to do the same to them. I say by law because corporations are viewed, by the intent of the law, to have life, just as you do. When a corporation shutters its doors, it dies, by law, and follows the same procedures of liquidation as you do.

Yes, there are some technical differences, but they are only technical. Corporations, as viewed by the intent of the law, are born, and die, just as a person does.

Of course I am being partially facetious. But this is telling, and alarming. Neiman Marcus is not alone in this course of action; "Neiman Marcus is the 24th company in the past year to elect to fork over bonds in place of cash. Other notable names include Freescale Semiconductor and Realogy, owner of Century 21. All were bought by private-equity firms."

It is more alarming that many, if not most, of the big business names we know are now part of larger, thus fewer, owners. It is hard to imagine that Private Equity groups, in retrospect, have been good for America.

Monday, January 12, 2009

Bailout Application

I don't know who made this, but very funny. Click on image for better view.

Sunday, January 11, 2009

Schiff vs Paulson

A "firm grasp of the obvious" moment, but still a cool video.

Saturday, January 10, 2009

Downgrading Tomorrow

Meredith Whitney, the analyst at Oppenheimer who has become the scourge of Wall Street, points out a disturbing fact. In the 4th quarter of 2008, more than $2.3 Trillion of securities were downgraded by ratings agencies. That's over 2 1/2 times the pace of the previous quarter. All these securities are structured bonds and mortgage backed securities, otherwise known as debt based derivatives.

What this means in real terms is this: Any publicly traded company or any fund used for investment must have reserves matching the risk represented in the securities they hold for investment. Bond issues (which all debt based derivatives are) rated AAA need very little capital to be held in reserve as a safety net should that bond issue go belly up. This is because anything rated AAA is assumed to have little or no risk of failing. As a bond issue loses its AAA rating, each downgrade significantly raises the amount of money needed to hold in reserve by the holder of that bond.

In the 4th quarter of 2008, $2.3 Trillion more of these bonds were downgraded. So, the reserves needed rose, in some cases, dramatically. Please, do not think of this in terms of only the 4th quarter 2008. There have been a lot more before this, and there will be a dramatic amount after this.

Guess where all that money from the "bailouts" is going. That's right, almost every penny is going to the reserve accounts as these derivatives are downgraded. That money cannot be used to lend out, because it is already covering part of the loss in value of these derivatives.

If Company Z has $1 Billion invested in a CDO, which was rated AAA when they bought it, what would the value be of that CDO be if it is now rated only A? I can tell you this, it ain't $1 Billion anymore. It may only return 80% of its purchase price. That's a 20% loss, or in the view of Company Z, a $200 Million loss. But, the reserve requirement needed from AAA to A may only have increased to $20 Million.

That is a $180 Million gap between known loss and reserve requirement. Should Company Z be forced to sell, today, that CDO, the reserve would only cover a fraction of the loss. The rest is "writedown" in accounting jargon.

The reason there are Billions of dollars in the bailouts is because there are hundreds of Trillions of dollars in derivatives. All based on debt that is falling in value. Most of these downgrades have reduced the ratings on derivatives far more than AAA to A. Many have gone to "junk" status, meaning they went from AAA to AA to A to BBB to BB to B, and now some have gone further. Because these derivatives are all predicated on housing values always going up, the reality they are really worth something close to ZERO is very likely.

It is not very honest for the talking heads on television to state "The banks are not lending because they are hoarding." The banks are using all the bailout money to meet the increasing reserve requirements as these derivatives are downgraded. The really bad part of all this is the reserve requirements are far, far less than the actual loss in value. The banks need the bailout money to be applied to their reserve accounts, or else they are forced to sell these derivatives, and instantaneously go bankrupt due to the aforementioned "gap."

That is correct. If the largest banks, pension funds, corporations etc were forced to sell their derivative holdings today, almost all of them will be out of business tomorrow.

Every penny given in all the bailouts is lost forever. It is, at best, a lie to suggest the American taxpayer will realize a gain on any of this bailout money. At worst, if you are a politician or able to influence investment, it is a felony to suggest this.
As Financial Times writes;
"The problem of toxic assets is facing not just large banks. University endowments to small regional banks across the world bought chunks of structured bonds or mortgage-backed securities. Is the $10m, $100m or $1bn they own worth anything at all?
Finding a reliable source to value these toxic assets remains a near-impossible task. Indeed, the US government cleverly skirted the issue in its bail-out of Citigroup by offering a blanket guarantee on over $300bn of troubled assets. The rescue left the troubled asset conundrum on ice to deal with in the future."
I will add to the list of who bought these - Money Market funds, Pension funds (both public and private), Foreign Central Banks (all of the Fannie and Freddie money has gone to buy back MBS sold to the Chinese), Annuity funds, Insurance companies and Hedge funds.

To date, globally there has only been around $20 trillion in "writedowns" (there may be more, it is the closest I can come with the available information.) There is somewhere between $600 Trillion to $1 Quadrillion in derivatives, again, hard to quantify exactly because almost all of these structured finance derivatives are bought and sold outside of any regulatory control. Almost all of these have been sold by US investment banks in the last 6 1/2 years.

What happens if all these derivatives are worth only 50% of their original value? A $300 Trillion dollar loss, at minimum? The world markets are already reeling with $20 Trillion in losses.

Until these derivatives are forced out into the open, and can be cleared from the system, our economy, no, the global economy, has no chance of recovery. Every day that goes by the losses mount. Every dollar that goes to help hide these derivatives is lost, because tomorrow they will be downgraded more.

Better to take our lumps today, than let tomorrow have us in a hole that is a few feet deeper.

Bailout Game

As GM begs, and gets taxpayer money, under the guise that it will transform its production lines for cars of the future, it stops all plans for cars of the future.

"General Motors Corp., working to conserve cash as it pursues immediate financial aid from the White House, today said it has put on hold construction plans for a new Flint plant slated to build the engines for two of its most anticipated new cars: the Chevrolet Volt extended-range electric vehicle and the Chevrolet Cruze compact car.'

“It’s temporarily on hold as we assess our cash situation,” said GM spokeswoman Sharon Basel. “I don’t think it’s a surprise that we’re studying and reviewing everything given the position we’re in.”

How can Congress give your money, in any honest way, to a company that appears to not want to be around next year? GM, Chrysler and Ford have all put themselves in this position by adhering to greed based policies since the late 1950's.
Had the US automakers focused on building cars that could run for 200,000 miles with only oil changes and tire changes, as the Japanese did, they would need NO BAILOUT!
Had they focused on building cars that could run on less gasoline, they would need NO BAILOUT!
Without creating the next generation of vehicles, GM has ZERO chance of selling any cars in the future. If foreign makers, such as Honda and Toyota build them first, and the US automakers are not demonstrably better, GM will fail, anyway.
Any money given them is lost, forever.

Wednesday, January 7, 2009

The "BIG" Two ask for a Bailout

This is too good not to pass along.

What more can Americans expect? Our government, instead of letting free markets be free, and having the market punish those that make bad decisions, has picked favorites to "help". Never mind that every dollar used in "bailout" is lost forever due to the bad decisions which led us here still active policy among those being "helped". Every business owner will be at the trough asking for his/her fair share.

Considering the porn industry is probably "bigger" than most industries, it is not surprising. Will we see prostitutes march on the capitol steps next?

January 7, 2009
Porn industry seeks federal bailout
Posted: 05:27 PM ET

Larry Flynt is asking for a bailout.
WASHINGTON (CNN) — Another major American industry is asking for assistance as the global financial crisis continues: Hustler publisher Larry Flynt and Girls Gone Wild CEO Joe Francis said Wednesday they will request that Congress allocate $5 billion for a bailout of the adult entertainment industry.
“The take here is that everyone and their mother want to be bailed out from the banks to the big three,” said Owen Moogan, spokesman for Larry Flynt. “The porn industry has been hurt by the downturn like everyone else and they are going to ask for the $5 billion. Is it the most serious thing in the world? Is it going to make the lives of Americans better if it happens? It is not for them to determine.”
Francis said in a statement that “the US government should actively support the adult industry's survival and growth, just as it feels the need to support any other industry cherished by the American people."
“We should be delivering [the request] by the end of today to our congressmen and [Secretary of the Treasury Henry] Paulson asking for this $5 billion dollar bailout,” he told CNN Wednesday.
Flynt and Francis concede the industry itself is in no financial danger — DVD sales have slipped over the past year, but Web traffic has continued to grow.
But the industry leaders said the issue is a nation in need. "People are too depressed to be sexually active," Flynt said in the statement. "This is very unhealthy as a nation. Americans can do without cars and such but they cannot do without sex."
"With all this economic misery and people losing all that money, sex is the farthest thing from their mind. It's time for congress to rejuvenate the sexual appetite of America. The only way they can do this is by supporting the adult industry and doing it quickly."
So far, there has been no congressional reaction to the request.
–CNN’s Chloe Melas contributed to this report

Friday, January 2, 2009


"In today's regulatory environment, it's virtually impossible to violate rules."

Bernard Madoff, money manager, Oct. 20, 2007

"Existing-Home Sales to Trend Up in 2008"

Headline of a National Association of Realtors press release, Dec. 9, 2007

On Dec. 23, 2008, the same group said November sales were running at an annual rate of 4.5 million—down 11% from a year earlier—in the worst housing slump since the Depression.

There has not been one single month in the last two years the NAR has NOT revised their previous numbers downwards. The revision always comes a month or two later. Expect the November numbers to really be around 4.1 million annualized.

"I expect there will be some failures. … I don't anticipate any serious problems of that sort among the large internationally active banks that make up a very substantial part of our banking system."

Ben Bernanke, Federal Reserve chairman, Feb. 28, 2008. In September, Washington Mutual became the largest financial institution in U.S. history to fail. Citigroup needed an even bigger rescue in November.


"I'm not an economist but I do believe that we're growing."

President George W. Bush, in a July 15, 2008 press conference.


"A very powerful and durable rally is in the works. But it may need another couple of days to lift off. Hold the fort and keep the faith!"

Richard Band, editor, Profitable Investing Letter, Mar. 27, 2008. At the time of the prediction, the Dow Jones industrial average was at 12,300. By late December it was at 8,500.


AIG "could have huge gains in the second quarter."

Bijan Moazami, analyst, Friedman, Billings, Ramsey, May 9, 2008. AIG wound up losing $5 billion in that quarter and $25 billion in the next. It was taken over in September by the U.S. government, which will spend or lend $300 - 350 billion to keep it afloat. Most of that will go to Goldman Sachs, as they were AIG's biggest purchaser of CDS.

May 9 - $40.28 per share. Dec. 31 - $1.57 per share

"I think Bob Steel's the one guy I trust to turn this bank around, which is why I've told you on weakness to buy Wachovia."

Jim Cramer, CNBC commentator, Mar. 11, 2008. Two weeks later, Wachovia came within hours of failure as depositors fled. Wachovia shares were at $27 on March 11 - By Dec. 31, they were at $5.50. Thanks for the 80% loss, Jimbo.


"It's not based on any particular data point. We just wanted to choose a really large number"

A US Treasury Department spokeswoman explaining how they settled on $700bn for the first 'bailout' of the economy. Reported on forbes.com


"I think this is a case where Freddie Mac (FRE) and Fannie Mae (FNM) are fundamentally sound. They're not in danger of going under…I think they are in good shape going forward."

Barney Frank (D-Mass.), House Financial Services Committee chairman, July 14, 2008. Two months later, the government forced the mortgage giants into conservatorships and pledged to invest up to $100 billion in each.

To date, the total has exceeded $1.75 Trillion given FNM and FRE, with another $5 Trillion pledged. All the money spent so far was to repurchase MBS sold by FRE and FNM to overseas investors, mainly the Chinese.


“Anyone who says we’re in a recession, or heading into one — especially the worst one since the Great Depression — is making up his own private definition of “recession.’”

Commentator Donald Luskin the day before Lehman Brothers filed for bankruptcy, The Washington Post, Sept. 14.


And, the best for last......

Andrew Lahde, a hedge fund manager who quit after winning big betting against the big financial companies, wins the award for gracious farewell in his valedictory note to his investors, who were up 866%from the start. Lahde's Hedge Fund was only one year old when he quit:

"The low-hanging fruit, i.e. idiots whose parents paid for prep school, Yale and then the Harvard MBA, was there for the taking... All of this behaviour supporting the aristocracy only ended up making it easier for me to find people stupid enough to take the other side of my trades. God bless America."
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