A concise comment by Francesco Guerrera in the Financial Times on why the SIV rescue plan is misguided and therefore will be ineffective. Although some of the issues have been discussed elsewhere, Guerrera gives a crisp treatment, and takes issue with a key assumption, that the bank sponsors can’t afford to take SIV assets on to their balance sheets. He also starts with a nice riff, comparing the crisis and “calm the market” effort to that of the Panic of 1907.
From the Financial Times:
SIVs are predicated on the idea that you can make money by issuing cheap short-term commercial paper and investing in higher-yielding long-term debt.
Far from being an exotic invention, SIVs are a riff on the old, and dangerous, banking trick of borrowing short and lending long…..
This apparent no-brainer came unstuck during this summer’s credit squeeze…. Which is where the superfund comes in.
Backed by up to $100bn in credit lines from Wall Street banks and run by the investment firm BlackRock, the fund has two goals. To persuade increasingly desperate SIV investors not to dump billions of dollars in long-term debt to pay for their losses.
And to revitalise the ailing commercial paper market by setting a “fair price” for assets now regarded as toxic. Unfortunately, the plan is almost as bad as the problems it is addressing.
Take the fire sale issue. Under its rules, the fund is only allowed to buy highly-rated securities from SIVs (ie no subprime).
The restriction is needed to prevent the whole exercise from turning into a risk-free bail-out of failed investments. But it will not stop jittery SIV investors from unloading junk-rated assets faster than you can say “asset-backed”.
The fund’s ability to aid “price discovery” in commercial paper is not great either.
As an independent asset manager, BlackRock ought to advise the fund to buy SIV paper at the best price.
If that happens to be the very low one the market currently ascribes to this stuff, why should the super fund bid it higher?
As for “systemic banking risk”, there isn’t any. Most of these assets are owned by hedge funds, not banks, one of the reasons why SIVs were off balance sheet in the first place.
A large sale of SIV paper, which does include bank debt, would increase Wall Street’s cost of capital and damage its reputation. But it would not break a bank.
If Citigroup, the largest SIV manager, were to take the $66bn in assets held by its SIVs onto its balance sheet, its capital adequacy ratio would fall by just 0.1 percentage point.
But neither Citi nor any of its US peers will do that. Wall Street, with the Treasury’s not-so-tacit backing, prefers to hide behind their legal right not to save the SIVs.
Such a head-in-the-sand approach could have dire consequences. The financiers and politicos appear oblivious to the possibility that the fund could fail to buy enough SIV assets. Forget a fire sale, how would they like a “backfire sale” as their fund flounders?
If US banks really want to shore up market sentiment they should follow HSBC, Standard Chartered and Rabobank and use their own cash to rescue their SIVs.
Delaying the day of reckoning by cowering into a mutual back-scratching fund will do little to persuade investors that Wall Street has a solution to their problems.