John Whitehead is being proven right.Read more...
Felix Salmon has been bending over backwards listening to and reporting on Andrew Schiff’s claim that he’s suffering making ends meet on $350,000 a year and only wants to give his kids a “middle class lifestyle” in New York City. I offer an sanity check as a long standing Manhattan resident and financial services industry denizen/scorekeeper.Read more...
By Satyajit Das, derivatives expert and the author of Extreme Money: The Masters of the Universe and the Cult of Risk Traders, Guns & Money: Knowns and Unknowns in the Dazzling World of Derivatives – Revised Edition (2006 and 2010)
In the old Soviet Union, Pravda, the official news agency, set the standard for “truth” in reporting. Discriminating readers needed to be adroit in sifting the words to discern the facts that lay beneath. Readers of The Economist’s “Special Report on Financial Innovation” (published on 23 February 2012) would do well to equip themselves with similar skills in disambiguation.Read more...
It’s always a pleasant surprise to see a TV program have a long form discussion on a fairly technical topic. Readers should enjoy the RT interview of Caitlin Kline and Alexis Goldstein of Occupy the SEC on its Volcker Rule comments. They discussed the major areas they were concerned with and some loopholes in the draft regulations.Read more...
I’d heard from German speaking readers about the Der Spiegel report of an SEC investigation in its German edition over the weekend and they’ve now released it in their English language version.
Der Spiegel is careful about its sourcing, so readers should take this account seriously.Read more...
By Wolf Richter, San Francisco based executive, entrepreneur, start up specialist, and author, with extensive international work experience. Cross posted from Testosterone Pit.
Dexia SA, the Franco-Belgian mega-bank that collapsed and was bailed out in 2008 and that re-collapsed in early October, is a big deal in Belgium where it employs 10,000 people and has over 21 million bank accounts. Its assets of $715 billion dwarf Belgium’s $395 billion economy.Read more...
Yves here. One of our ongoing frustrations at NC is when the media and blogosphere get up in arms about what we think are secondary issues.
We’ve been loath to comment on a Thomson Reuters article that claimed that rehypothecation of assets in customer accounts was the reason MF Global customer funds went missing. The reason we’ve stayed away from this debate is that the article, despite its length, did not provide any substantiation for its claim. While it did contend that US customer accounts were set up so as to allow assets to be rehypothecated using far more permissive UK rules, and described how rehypothecation could be abused, it did not provide any proof that this was what took place at MF Global. Note that this does NOT mean we are saying that rehypothecation did not play a role, merely that the article was speculative.
The bombshell testimony of CME chief Terry Duffy yesterday, that a CME auditor heard an MF Global employee say that “Mr Corzine was aware of the loans being made from segregated [customer] accounts,” suggests that some of the money went missing via much more straightforward means, namely, taking it and hoping to be able to give it back if the firm survived.
But there is plenty of reason to be worried about rehypothecation.Read more...
Truth be told, I hadn’t paid much attention to the implosion of MF Global, because so many hedge funds went under during the crisis that yet another levered trading firm death seems less than newsworthy unless it is big enough to constitute a possible systemic event. The collapse of MF Global didn’t seem all that unusual, save for the titilating angle that the firm was headed by former Goldman CEO and New Jersey state governor Jon Corzine (I’d treated the failure of hedge funds by other storied names, such as Jon Meriwether and Myron Scholes as comment-in-passing incidents).
But the picture changes considerably with the report that hundreds of millions of customer assets may be “missing”.Read more...
As much as I like to think I have a reasonably active imagination, it never ceases to amaze me how a bad situation can easily become worse.
Readers probably know the European authorities have been stunningly late to wake up to the fact that EU banks are undercapitalized, apparently being the only ones to believe their PR exercise known as a stress test. The banks’ options would seem to be limited. One is to raise more equity, which is kinda difficult now since no one is terribly keen about banks in general, and the ones in most need of more capital are the least attractive. Second is to let existing loans roll off. The authorities don’t like that idea, since less lending will increase downward economic pressures. And since bank CEO pay is correlated with size of institution, the banksters aren’t too keen about that either. Third is to cut pay to help accelerate earning their way out. You can guess how likely that is to happen. Last is to suffer state-assisted recapitalization, which under EU rules, would be a draconian exercise.
But never fear, the financiers have an “innovative” way around this problem. And this innovation is a remarkably destructive idea. From the Financial Times:Read more...
By Philip Pilkington, a writer and journalist based in Dublin, Ireland
As stock markets continue to fall and the eurocrisis rolls on an independent trader called Alessio Rastani appears on BBC live and gives a candid account of how he, as a trader, views the crisis.
He sees it, he says, as an opportunity to make an awful lot of money. He tells viewers that they too should seek out safe havens – such as US Treasury bills and dollar holdings – to weather the continuing storm.
Not long after the Twitterati are out in drovesRead more...
We discuss what the role of banks should be, given how much government support they have, on Real News Network. Enjoy!Read more...
The Administration and its allies have gone after Standard and Poor’s for its downgrade of the US bond rating to AA+. They have attacked S&P’s general competence, its failure to reexamine its decision in the light of a $2 trillion math error (a Wall Street Journal story does not reflect well on S&P’s haste) and the subjective and political basis for its judgment. Even if these attacks have merit, however, they come off as being less than convincing by virtue of sounding like sour grapes.
There is a much more straightforward basis for questioning S&P’s conduct, and it has nothing to do with how S&P arrived at its rating.Read more...
We had thought the authorities and the banks (no doubt with winks and nods from the Fed) would work to make sure that haircuts on collateral were maintained while the Washington game of debt ceiling chicken played itself out.
Either the Merc (more formally, the Chicago Mercantile Exchange) wasn’t on the distribution list or it decided not to play ball. <Read more...
So they are now motivated to get something done.
A lot of Democrats, by contrast, are fiercely opposed to the pact under discussion, which consists of $3 trillion of cuts and no tax increases, or more accurately, an immediate commitment to cuts, and tax increases possibly coming via a to-be-brokered tax reform. The Democrats see the trap being laid for them; reform/increases later is likely to be no reform. (Separately, this package will kill the economy, a consideration that pretty much everyone is ignoring, proving Keynes correct: “Practical men, who believe themselves to be quite exempt from any intellectual influence, are usually the slaves of some defunct economist.”).
The latest update at the Wall Street Journal was cautious:
With prospects of a government default looming in early August, leaders on both sides denied Thursday that a deal was close…Both sides warned that an agreement is not near. “There is no deal,” Mr. Boehner told radio host Rush Limbaugh. White House spokesman Jay Carney used similar language. And White House officials said Mr. Obama has never considered an agreement that did not include revenue increases.
A good deal can change in the next few days, but the window of opportunity narrows as time passes. And that is why the Treasury’s apparent refusal to consider options for working around the debt ceiling looks colossally irresponsible. This is similar to the behavior of the financial regulators pre-Lehman: they placed all their chips on one outcome, that of a private sector bailout, and failed even to find out what a bankruptcy would look like (at a minimum, if Lehman had prepared a longer-form filing, the implosion would have been less disruptive).
But this “all in” strategy is by design. Obama has long wanted entitlement “reform,” as in gutting; Paul Jay of Real News Network pointed out to me today that Obama told conservatives at a dinner hosted by George Will in the first week after his inauguration that he planned to turn to it once he got the economy in better shape. So this is a variant of a negotiating strategy famously used by J.P. Morgan: lock people in a room until they come up with a deal. But the J.P. Morgan approach used time to his advantage; here the fixed time frame makes this more like a form of Russian roulette with more than one cylinder loaded.
It is also worth noting that what starts happening on August 3, assuming no deal, is “selective” default. It isn’t clear if and when Treasuries would be at risk of having payments skipped, and I would assume Social Security would also get high priority. But with Treasuries, the bigger risk is not a missed payment (which would certainly be made up later) but a downgrade, which is expected to force certain types of investors who are limited to AAA securities to dump their holdings.
A useful article in the Economist describes how Wall Street, which had heretofore assumed that there was no way the US would (effectively) voluntarily skip some interest payment, is now scrambling to figure out how to position themselves should such an event come to pass. Many observers had assumed that the repo market, on which dealers depend to fund themselves and collateralize derivatives positions, would go into chaos (the belief was that counterparties would demand bigger haircuts). But the Economist argues that does not appear to be the case:
SIFMA, a trade group for large banks and fund managers, recently gathered members together to discuss issues like how to rewire their systems to pass IOUs rather than actual interest payments to investors, should a default occur. “It’s one of those Murphy’s Law things. If we do it, it won’t prove necessary. If we don’t, we’ll be scrambling like crazy with a day to go,” says one participant.
But the moneymen hardly have all the bases covered. “I really thought I understood this market, until I tried to map all of the possible consequences of a breakdown,” sighs a bond-market veteran. That is hardly surprising, given that Treasury prices are used as the reference rate for most other credit markets. Moreover, some $4 trillion of Treasury debt—nearly half of the total—is used as collateral in futures, over-the-counter derivatives and the repurchase (repo) markets, a crucial source of short-term loans for financial firms, according to analysts at JPMorgan Chase.
Some fear that a default could cause a 2008-style crunch in repo markets, with the raising of “haircuts” on Treasuries leading to margin calls. The reality would be more complicated. For one thing, it’s not clear that there is a viable alternative as the “risk-free” benchmark. One banker jokes that AAA-rated Johnson & Johnson is “not quite as liquid”. In a flight to safety triggered by a default, much of the money bailing out of risky assets could end up in Treasury debt. Increased demand for collateral to secure loans could even push up its price.
Then there is the impact of a ratings downgrade. Money-market funds, which hold $684 billion of government and agency securities, are allowed to hold government paper that has been downgraded a notch. Other investors, such as some insurers, can only hold top-rated securities but their investment boards are likely to approve requests to rewrite their covenants, especially if a lower rating looks temporary. “It would be a full-employment act for lawyers,” says Lou Crandall of Wrightson ICAP, a research firm. There’s a surprise.
In other words, this event is focusing enough minds that a lot of parties are looking at ways to get waivers or other variances to allow them to continue to hold Treasuries even in the event of a downgrade or delayed payment. But a report from Reuters on the Fed’s contingency planning makes them sound markedly less creative than their private sector counterparts (but it is important to note that Charles Plosser of the Philadelphia Fed, the key source for his story, has been a critic of the Fed’s fancy footwork in the crisis. In fact, the New York Fed is the key actor, and it has been notably, um accommodating in the past).
In addition, the New York Times reported yesterday that some hedge funds are moving into cash to buy up Treasuries in case other investors dump them. I’ve even heard of retail investors planning the same move. That does not mean the volume of buyers will be enough to offset forced sales, but it does say that fundamentally oriented investors would see this event as an opportunity, not a cause for panic.
The financial system is so tightly coupled and there are so many potential points of failure that I’m hesitant to say that the consequences of a default may be far less serious than are widely imagined. But in the Y2K scare, the considerable panic about potential catastrophic outcomes led to a tremendous amount of remediation, which served to limit problems to a few hiccups. Unlike Y2K, the remediation efforts have started very late in the game, so their is a lot more potential for disruption.
But even so, why is the Administration so willing to engage in brinksmanship? S&P expects a 50 basis point rise on the short end of the Treasury yield curve and 100 basis points on the long end, which they expect to reverberate through dollar funding markets and cause all sorts of hell. Remember, we have both Geithner and Bernanke again in powerful positions, and both went to extreme efforts to prevent damage to the financial system. Why are they merely handwringing at such a critical juncture? Might they have a trick or two up their sleeve?
I can think of at least one. I was working for Sumitomo Bank (and the only gaijin hired into the Japanese hierarchy) and was in Japan during and shortly after the 1987 crash. Initially, the reaction in Japan was one of horrified fascination, of watching a neighbor’s house burn down. It then began to occur to them that their house might burn down too.
The volume of margin calls on Black Monday and Tuesday were putting serious pressure on the Treasury market, which was beginning to seize up. On top of that, bank were understandably loath to extend credit to clearinghouses and exchanges (as we’ve discussed elsewhere, the Merc almost failed to open and would have collapsed if the head of Continental Illinois had not approved an emergency extension of credit after a $400 million failure to pay by a major customer. Had the Merc failed, the NYSE would not have opened, and its then CEO John Phelan has said it too might have failed). So keeping the Treasury markets liquid was a key priority in stabilizing the markets.
Japan is a military protectorate of the US. The Fed called the Bank of Japan and told it to support the Treasury market. The BoJ called the Japanese banks and told them to buy Treasuries. Sumitomo and the other Japanese banks complied.
I could see the same phone call being made again in the event of a default or downgrade. First, the yen is already at 78 and change, which is nosebleed territory from the Japanese perspective. The BoJ intervened once in the recent past when the yen got slightly above this level. Purchases of Treasuries is a purchase of dollars, and done on big enough scale would help lower the yen. Second, if you buy the hedgie view, buying in the face of forced (as in AAA mandate driven) and not economically motivated selling means this trade would have near term upside.
Is this scenario likely? I have no idea. Is it possible? Absolutely.
Again, I would not bet on happy outcomes. As Cate Blanchette muttered in the movie Elizabeth, “I do not like wars. They have uncertain outcomes.” And while the negotiators finally seem to have awakened to the risk of entering uncharted territory, the old rule of dealmaking is if one side’s bid is below the other side’s offer, you can’t get to a resolution. That’s where the two sides appear to be now, and even though it would be rational for both to give a bit of ground, rationality has been missing in action on this front for quite some time.Read more...
A recent post by Ezra Klein, “What ‘Inside Job’ got wrong,” manages the impressive feat of being spectacularly off base, rhetorically dishonest, and embarrassingly revealing of the lack of a moral compass all at once.
Since being off base is a major part of Klein’s brand, I suppose one should not be surprised; those who’ve had the good fortune to have limited contact with his output can read Jon Walker’s “Ezra Klein: Insurance Exchanges Don’t Work and Must be Expanded Dramatically,” or Physicians for a National Health Care Program’s “Does Ezra Klein really think ‘managed care didn’t kill anyone’?” for two of many examples.
I’m going to shred this piece in some detail, first, because it will be entertaining, and second, I hope that it will encourage readers to take a cold, bloodyminded look at the excuses made for malfeasance in our elites.Read more...