Saturday, March 14, 2009

Bailoutspotting (Or The Search For The Great Financial Methadone Clinic)

"I don't feel the sickness yet, but it's in the post. That's for sure. I'm in the junkie limbo at the moment. Too ill to sleep. Too tired to stay awake, but the sickness is on its way. Sweat, chills, nausea. Pain and craving. A need like nothing else I've ever known will soon take hold of me. It's on its way."

I believe Mark "Rent-Boy" Renton's words from the seminal movie Trainspotting could just as easily be attributed to any bank in the U.S., the vast majority of which are about to hit the lows of bailout addiction, however, without the benefit of a methadone clinic waiting on the other side of the heroin/bailout trip.

Among the various life-support and addiction-enabling systems designed during sleep-deprived brainstorming sessions in some dimly-lit small office in D.C., in the triage that was the post-Lehman financial world, was the FDIC's TLGP (Temporary Liquidity Guarantee Program). The program, which became effective on October 14, 2008 and had an automatic opt-in clause for all participants, had the purpose of facilitating the issuance of senior unsecured debt at a time when credit financial markets had frozen and not a single bank was able to raise debt at reasonable rates. Many have speculated that of all alphabet soups designed to stabilize the financial system, the TLGP (especially in parallel with the other two liquidity-guaranteeing programs, the TAF and CPFF) has had by far the most pronounced positive impact: as banks can only function properly if their cost of capital is lower than the rate at which they lend out funds, finding a means to achieve cheap funding in the term markets was of life or death importance to banks. Furthermore, the TLGP being open only to Bank Holding Companies, was one of the reasons for the demise of the "old model" and the transition of such iconic investment banks as Goldman Sachs into BHCs (see here for a full list of terms of the TLGP). The importance of the TLGP is further underscored by the amount of FDIC-guaranteed debt issuance by financial institutions: over $300 billion of term financing has been raised by banks since the TLGP's inception with only 2 non-TLGP issues having been completed.

The banks' addiction to the TLGP is perfectly understandable as by using the explicit guarantee of the U.S. when issuing debt, banks do not subject themselves to having to compensate investors for taking on objective bank risk (subordinated bank CDS levels imply term interest rates multiples higher than rates at which TLGP issues come to market). However, like every addiction, the longer it continues the higher the likelihood we will all end up with just one more dead, zombied junkie.

It is unclear how credit markets would function (if at all) in the absence of guarantees: the longer liquidity guarantees remain in place, the harder it will be to remove them and the more damage they will do to undermining what little private market discipline remains. And while banks will be happy to suckle on the FDIC teat for ever, the latter is already approaching a degree of distress where even deposit guarantees (as measured by Deposit Insurance Fund reserves) will soon be impossible. It is against this backdrop, that Senate Banking Committee Chairman Chris Dodd is seeking to be the ultimate enabler to the financial system. In a little noticed bill submitted on March 5 entitled the Depositor Protection Act of 2009, Dodd is seeking to increase TLGP-guarantor FDIC's $30 billion Treasury borrowing limit up to $500 billion. While on one hand, this action could be seen as the preparation for an ultimate bank failure, on the other hand, the funds thereby released will make sure that the addiction of the system to cheap money at the expense of market efficiency (and taxpayer cash of course) will persist, and eventually result in the virtually guaranteed overdose by the narcomaniac system.

Having FDIC's Cake And Eating It Too

The FDIC would likely be more than happy to perpetuate the image of all being well in its bid to restore systemic confidence (which is after all the heart of the problem), if it weren't for one small snag: the FDIC is on the verge of insolvency. At its heart, the FDIC is an insurer of deposits. It does this not so much with actual cash which would pay off depositors if there were a global run on the bank (which is negligible when compared to the total size of roughly $5 trillion in deposits), but by being a symbol of the U.S. guarantee to protect its depositors. After the money market fund broke the buck in late September, the FDIC had its job cut out for it, yet it did what it could, primarily by increasing the depositor insurance amount from $100,000 to $250,000 until December 31, 2009, to restore some confidence. However, because since then the FDIC's core role has become diluted due to its bank issue guarantees under the TLGP, the actual cash guaranteeing individual deposits has dwindled.

The heart of the FDIC depositor guarantee program is the Deposit Insurance Fund (DIF), which is actual cash set aside to, as the name implies, insure deposits. Yet recent data indicates that for the quarter ending December 31, the DIF has dropped to a staggeringly low number of only $19 billion, and the DIF reserve ratio (ratio of funds in the DIF to total insured deposits) was just 0.4% of total insured deposits, much lower than the statutory minimum ratio of 1.15%. Below is a graphic representation of the DIF reserve ratio over the past 4 years: based on the number of Q1 bank failures it is likely safe to assume that at this moment this ratio is significantly below the year end number of 0.4%.

The declining DIF is a scary prospect for the FDIC: after all, if the insurance money disappears (through a thousand small cuts by subsidizing all those bank failures which we read about every Friday night, or one massive cut such as the failure of a Citi or a BofA, which would immediately wipe out the DIF), even the implicit guarantee of depositors assets will be lost, leading the an instantaneous $5 trillion run on the bank.

The most recently disclosed amount in the DIF of $19 billion was an almost 50% reduction from the $36 billion at the end of September, and seeing how there have been 17 costly bank failures already year to date (all else being equal) it is easy to see how the FDIC is bleeding cash hand over first (while it would not surprise me at all if the reserve ratio was 0, or even negative, at this moment given all the recent activity to shore up funding, I will not hypothesize about this as the last thing I want, is to be accussed of causing a mass panic).

All these considerations have forced the FDIC to propose increasing the fees it currently charges TLGP-issuers including both depository institutions (by 25 bps) and bank holding companies (by 50 bps). The incrementally generated fees are expected to assist with replenishing the DIF. The current TLGP fee schedule is presented below:

It is curious that the FDIC is using the TLGP, which was supposed to be a sacrosanct debt issuance guarantee, as a cash cow to salvage its core deposit insurance product. And as always, the law of unintended consequences rears its ugly heads... But before getting to that, just how much debt has been issued under TLGP and what fees has it generated so far?

According to the FDIC
, at January 31, 2009, there was $253 billion in insured debt outstanding under the TLGP, and since then at least another $50 billion of FDIC-backed debt has been issued based on market data. This roughly $300 billion amount has translated in approximately $4.5 billion in fees through January, and Bank of America estimates that February and March added another $1 billion in fees. Thus, the FDIC has collected roughly $5.5 billion, or 2% on the $300 billion it currently guarantees under TLGP.

It is obvious that even with the $3.5 billion generated via TLGP issuance in Q4, the rapid decline in the DIF is unlikely to be dented at all via any adjustments to the fee structure on new guaranteed debt, although this is just the route that Sheila Bair seems to have set out on. However, under the advice of Perella Weinberg, she must realize the futility of this action, which would explain the March 5 bill proposed by Senate Banking Committee Chairman Chris Dodd...

The Depositor Protection Act of 2009

In a very aptly named bill (full text here), Chris Dodd proposes a massive overhaul to the capitalization of the FDIC, so much so that it would make the limitations on the widely criticized TARP seem like child's play (with all the staged bellyaching in both Senate and Congress of how banks will not get even a penny more in bailout funding). Dodd, cunningly, is proposing adjustments to Treasury borrowing limit by the FDIC under the pretext that it will benefit depositors, when in actuality it is only bank holding companies and further TLGP issuers that will be the sole beneficiaries of this bill. The DPA 2009 effectively increases the implicit bailout capital available to banks by up to half a trillion! The terms of Dodd's DPA 2009 are presented below:

It looks like quite soon, with the blessing of the Godfathers of bailout enabling Geithner and Bernanke, the DPA 2009 will be a fact, more failing banks will become subsidized by taxpayers, and another half a trillion will have to be raised in the Treasury market, adding to the already significant backlog of over $2 trillion in new TSYs which the U.S. is praying can find a home both domestically but mostly in China. On the flipside, when (not if) this legislation passes, the FDIC should be able to rescind the incremental and totally useless fees it is planning on levying to issuer banks. Which brings us to the topic of...

Law Of Unintended Consequences

When the news of the proposed 25 and 50 bps increase in FDIC fees hit the market, there was a dramatic sell off in the secondary market of existing TLGP issues, demonstrated by widening spreads as investors expected a surge in issuance ahead of April 1, when the new fee structure is implemented.

This substantial widening has the potential to destabilize a majority of the to date efforts implemented in shoring up confidence in the credit system, especially the financial term markets.

Another troubling unintended consequence has to do with the term distribution of fixed-rate TLGP debt, which based on FDIC data, tends to be clustered around the 2-3 year mark.

When this fixed-rate debt is swapped back to floating, there tends to be pressure on 2 yr and 3 yr spreads to tighten. This has been empirically proven: 2 yr spreads have tightened dramatically over the past several days, coincident with a sharp uptick in TLGP issuance. Assuming TLGP issuance remains elevated until the end of March, ahead of the April 1 new fee schedule, swapping flows will keep short spreads abnormally tight. Then, once we enter April, spreads will be driven wider by the dramatic drop in TLGP swapping activity from reduced issuance.

And the last unintended consequence will likely implicate the much suffering LIBOR: as banks become TLGP-issuance averse and seek to borrow in the pro forma cheaper Eurodollar market, LIBOR is likely to spike and short spreads to widen. The threat of a widening LIBOR is perfectly evident just by looking at its trading levels over the past 10 days as banks have already starting looking at Eurodollar conduits as an alternative to TLGP.

The increase in LIBOR rates will have a cascading impact on a plethora of other credit market viability metrics, such as the mundane and mainstream media favorite Ted-spread, to the much more sneaky, under-the-radar and significantly more critical to term liquidity LIBOR-OIS spread.

Lastly, as the name implies, every action that the administration can and will come up with to postpone the inevitable day of reckoning for its cheap-liquidity addicted, zombie bank patients, will surely have even more unintended, unforeseen and definitely negative consequences.


There is nothing that can be done at this point to prevent the administration from leeching every last dollar out of its taxpayers to benefit the terminally addicted and zombied bank system. Using pretexts, subterfuge and lies, the administration's charade triage will only end once there are no more gullible taxpayers to provide their cash, no more demagogue senators and congressmen who will bend reality to make it seem that their actions benefiting a select few are for the benefit of all, and no more naive investors who buy into the promises that U.S. debt is the "safest investment." However, for the scope of this post, I can only hope that Perella Weinberg quickly realizes the futility of the TLGP fee increase, and that the goals of that particular action will be magnified when Dodd's hilariously titled DPA 2009 bill passes, as the negative consequences are likely to substantially surpass any positive ones.

In the grand scheme of things, at this point it doesn't really matter: at best, any FDIC action buys the U.S. financial system a year or so to delay the inevitable moment when the heroin addict decides it is time to seek the help of a methadone clinic before it is too late, only to realize that in its quest to feed the addiction, the administration forgot to provision for any precious methadone... but then again its availability would imply someone actually believes U.S. banks will, at some point, get to a point where detox is even a remote possibility which is obviously not the case (at least for now).

And if the unimaginable does happen, and the administration does comprehend that the wisest and correct thing is to use the cold turkey approach on U.S. financials, Zero Hedge provides some more sage advice from the protagonist of Trainspotting, who succeeded where so many U.S. banks have and will fail:
Relinquishing junk. Stage one, preparation. For this you will need one room which you will not leave. Soothing music. Tomato soup, ten tins of. Mushroom soup, eight tins of, for consumption cold. Ice cream, vanilla, one large tub of. Magnesia, milk of, one bottle. Paracetamol, mouthwash, vitamins. Mineral water, Lucozade, pornography. One mattress. One bucket for urine, one for feces and one for vomitus. One television and one bottle of Valium, which I've already procured from my mother, who is, in her own domestic and socially acceptable way also a drug addict. And now I'm ready. All I need is one final hit to soothe the pain while the Valium takes effect.
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Friday, March 13, 2009

National Rural Obtains Reduced Credit Facility

NRUC, whose $1.5 billion credit facility matured today, managed to roll the facility into a new $1 billion 364-day facility expiring on March 12, 2010, via a consortium of 12 banks. The changing bank landscape is obvious when one considers that Bank of Nova Scotia and RBS are co-lead arrangers and joint book runners instead of traditional go to secured lenders. The interest on the facility was not disclosed but as the company warned on its January 22 earnings call, it likely came at worse terms than the previous facilities. What is curious is that the facility represents a reduction of $500 million to the existing bank agreement it replaces, even lower than the worst case scenario of $1.1-$1.2 billion the company had expected, again as disclosed on its January earnings call. And, of course, the same maintenance covenant conditions apply as Zero Hedge noted previously, including a maximum leverage and a minimum TIER covenant (the latter being the one which we believe the company could be precariously close on when it announces its next earnings on April 9).

Another odd development is that the company had reduced its CPFF borrowings from $1.1 billion to 0, as it "has achieved the funding it needs from other sources, including member and dealer commercial paper, at lower costs."

One additional oddity arises upon listening to the company's January earnings call (replay #: 877 919 4059, pin: 56664948). At approximately 29 minutes 45 seconds into the call a John DiAntony (sp) from Network Technologies asks a pointed question about potential RICO (Racketeering Influenced and Corrupt Organizations Act) litigation against the company to which Steven Lilly gave a terse and angry response that the caller is "probably on the wrong call." Upon some further diligence, it seems that Mister DiAnthony was on the right call, however his question may have been one that the company had no desire to answer.

A little background: some time ago Jeffrey Prosser, who used to be the owner of now defunct Innovative Communications Corp, and to which NRUC had lent substantial money ($485 million outstanding at November 30 and against which NRUC recorded a $126 million loan loss provision in the three months ended November 30 as ZH previously reported) had filed a lawsuit in which NRUC (and surprisingly David Einhorn's Greenlight Capital) were named as defendants. Prosser himself is the target of two lawsuits filed in District Court in the Virgin Islands by Stan Springel, the trustee overseeing the bankruptcy of ICC in which Springel "has identified about $60 million in non-business transfers of property to pay for the Prosser family's luxurious lifestyle over the last decade." Based on the allegations filed against Prosser, the man has good taste: among the "transfers" itemized in the suit are:
  • $3.4 million for non-business purchases such as fine wines and liquors;
  • $3.1 million to American Express for non-business purchases including clothing, jewelry luxury goods, dining, airfare and hotels;
  • $984,997 for various insurance policies with AIG Private Client Group;
  • $757,421 for luxury clothing and jewelry from retailer Bergdorf Goodman;
  • $722,387 to Michael Connors Inc. art dealership;
  • $144,294 to Audio Advisors Inc. for audio and video products and services;
  • $216,416 for custom-ordered art from Aleksander Popovic Studio;
  • $138,000 to Sutka Productions for party planning related to the wedding of the Prossers' daughter.

And while that lawsuit is one we will be following with great attention, the countersuit filed by Prosser (and his wife Dawn) against NRUC is also of great curiosity (among others, it also names Sheldon Peterson, CEO, John List, GC, and Steven Lilly, CFO, Greenlight Capital, Ernst & Young and Deloitte & Touche as defendants) which presents a variety of serious allegations against the company including:

  • Accounting Fraud;
  • Mail & Wire Fraud;
  • Racketeering;
  • Embezzlement;
  • Money Laundering;
  • Defalcation;

and a variety of other charges. While it is feasible that Prosser's countersuit against National Rural is merely an attempt to deflect attention from the company's allegations against himself, a close reading of the amended RICO suit filed February 9, which Zero Hedge has obtained, indicates that Prosser does have an intimate familiarity with the events and operations at NRUC and at first glance is likely worthy of some credibility.

Either way, we present the Prosser suit in its entirety here, as we believe that this situation promises to be even more interesting going forward and we intend to follow its mudslinging development very closely in the coming months.


Some curious developments in the ICC bankruptcy situation.

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Yet More REITs Conserving Cash

REIT Simon Property Group announced results of its dividend election today, which for all practical purposes could be called anything but an "election." The final outcome is that shareholders will receive a dividend of $0.90/share consisting virtually entirely of stock (90%) and the balance in cash. The irony is that when queried, shareholders predominantly opted for a cash distribution (193.6 million shares, or 93%), versus those opting for shares (15.2 million, or 7%), while 22.5 million "shares" didn't care either way.

The REIT, which has roughly $773 million in cash and $18 billion in debt currently, has reason to conserve cash, as the deteriorating cash flow generation from its portfolio of regional malls and community shopping centers is likely being impacted very adversely as a result of the accelerating bankruptcies among its retailer tenant base. Surprisingly, the company has a market cap of $8 billion, which, based on a closing share price of $34.73 and representing a 20x multiple of its consensus 2010 earnings of $1.73 (a number which could be in threat of reduction if ongoing deteriorating within the commercial real estate community continues), seems somewhat rich based on its growth prospects. Without doubt the primary factor in determining its recent share price moves is its short interest which at 24.3 million is slightly more than 10% of the company's total stock float of 212.7 million shares. Sphere: Related Content

Robert Gibbs Cracks Jokes, Wen Jiabao Remains Stoic

Otherwise humorless White House press secretary Bob Gibbs had his first attempt at cracking jokes when he told Chinese premier Wen Jiabao that the latter doesn't have to worry about anything and that "there's no safer investment in the world than in the United States." [but to please not compare U.S. CDS levels to those of other G7 countries]. This came in response to Wen's earlier admonition that he wants assurances he isn't just funding the U.S. obesity epidemic, purchases of 5th vacation homes and bathroom ceiling-installed plasma TVs, by buying T-Bill after T-Bill. After Jiabao said he "wants assurances that [China's] investment is safe and requests the U.S. to maintain its good credit, to honor its promises and to guarantee the safety of China’s assets" Gibbs made it abundantly clear he pledges to "cut the budget deficit in half in hour years." He also handed Wen the 110+ page budget but specifically tore out the pages with worst-case 2010 assumptions of 7.9% unemployment (a number already surpassed and expected to hit 10% by most accounts) and even funnier GDP projections.

As the market has grown attached to hearing someone say convincing and reassuring stuff about just how swell everything is, Gibbs' stand up routine could not have come at a better time, seeing how treasuries had crashed in early trading only to be propped up on these wise and prophetic words of assurance. Just in case Gibbs' rhetoric proved insufficient, Treasury spokesman Heather Wong also chimed in:
"The U.S. Treasury market remains the deepest and most liquid market in the world. President Obama is committed to taking the steps necessary to restore growth and put this country on the path of fiscal sustainability, including cutting the long- term deficit in half over the next four years."
As a point of reference, the US budget deficit is expected to hit (in a best case) about $1.75 trillion in 2009 and slightly more in Treasuries is expected to be issued. Additionally, there is roughly $10 trillion in combined bailout guarantees, stimulus programs, assurance and assorted TARP derivatives floating around. Combined, these two number are roughly equal to the projected U.S. GDP of about $14 trillion (and about 14 times the graphic demonstration of what $1 trillion is... used to be a big number... now, nobody cares). Either way, I missed the Econ 101 lesson where you put all these ingredients in the pot, throw some lead in for good measure and end up with budget reduction gold. Hopefully Chinese student were paying more attention in class. Sphere: Related Content

Univision Latest Member Of PIK Club

Broadcaster of Mexican soap operas Univision just made credit bubble investors even more sorry to have bought into its GS underwritten March 2007 Pay In Kind (PIK) bond, after disclosing in an 8K filing last night that it would PIK the September 15 interest payment on its 9.75% Senior Notes due 2015, and the in-kind election would extend indefinitely into the future. As reason for the PIK election the company stated the following:
The Company has elected to pay PIK Interest in the amount of approximately $79 million for the interest period commencing on March 15, 2009 to enhance liquidity in light of the current uncertainty in the financial markets.
No surprise there.

This latest PIK election brings the total of toggling PIK bonds to 22 or more than half of all outstanding, as of the 52 PIK notes have been issued, 6 have been redeemed and 2 have filed for bankruptcy, while Harrah's recently reduced the size of its PIK issue by $350 million. The remaining 22 issues amount to $17.7 billion. The 22 bonds in which investors are likely to never again see any cash payments (if default expectations are any indication) prior to their eventual bankruptcies are the following:

• American Media Operations 14% subordinated partial PIK notes due 2013
• Berry Plastics 11% subordinated partial PIK toggle notes due 2016
• Claire's Stores 9.625% senior PIK toggle notes due 2015
• Digicel 9.125% senior PIK toggle notes due 2015 (note: reverted to cash-pay)
• Freescale Semiconductor 9.125% senior PIK toggle notes due 2014
• Harrah's Entertainment 10.75% senior PIK toggle notes due 2018
• HCA 9.625% second-lien PIK toggle notes due 2016
• Intelsat Bermuda 11.5% senior PIK toggle notes due 2017
• iPayment 11.625% senior PIK toggle notes due 2014
• Laureate Education 10.25% senior PIK toggle notes due 2015
• Metals USA L+600 senior PIK toggle FNS due 2012
• Momentive Performance Materials 10.125% senior PIK toggle notes due 2014
• National Mentor L+637.5 senior PIK toggle notes due 2014
• Neiman Marcus 9% senior PIK toggle notes due 2015
• Noranda Aluminum L+400 senior PIK toggle FRNs due 2015
• Noranda Aluminum Holdings L+575 senior PIK toggle FRNs due 2015
• Realogy 11% senior PIK toggle notes due 2014
• Symbion Healthcare 11% senior PIK toggle notes due 2015
• TXU (Texas Competitive Electric Holdings) 10.5% senior PIK toggle notes due 2016
• TXU (Energy Futures Holdings) 11.25% senior PIK toggle notes due 2017
• Univision 9.75% senior PIK toggle notes due 2015
• US Oncology L+450 step-up PIK toggle notes due 2012

If analyzed by private equity backer, it would seem that TPG is in the most trouble as of its 11 PIK notes, it has opted to toggle 7 of these including Aleris (in ch.11), Freescale, Harrah's, Neiman Marcus, US Onco and TXU. Additionally, ZH would not even recommend to look at Apollo's bonds as an indication of the PE company's status as everyone pretty much knows the answer to that one already. Sphere: Related Content

Keeping The CLO Fire Stoked

Some of the primary culprits for the credit bubble, created part and parcel with the ubiquitous spread of the securitization product, were the alphabet soups of assorted collateralized asset pool funds such as CDOs, CMOs and, most notably, CLOs. A week ago Zero Hedge wrote about the increasingly prominent position of CLOs in the crosshairs of rating agencies, when Moody's put all non-AAA CLO tranches on downgrade review. The action impacted funds holding about $440 billion in assets. Today Bloomberg picks up on this topic presenting several very dire predictions of what the ongoing drubbing in less than pristine CLO tranches means for many funds. In summary, quoting Ross Heller of NewOak Capital:
"The game is over. There isn’t going to be money available for refinancing. Companies will have to be put into bankruptcy and the debt restructured."
And Zero Hedge is called pessimistic. But what are the facts: leveraged loan issuance in the U.S. plummeted to $11.7 billion in January and February from $66.3 billion in the first two months of 2008 and $158.7 billion for the same period in 2007: investors are busy offloading existing loan holdings as both the HY and LCDX indexes continue probing new lows.

A little background per Bloomberg:
CLOs, a type of collateralized debt obligation, pool below investment-grade loans and slice them into securities of varying risk and return. The leveraged loans are rated below BBB- by Standard & Poor’s and less than Baa3 at Moody’s and are defaulting at a 4.5 percent rate, the fastest since November 2002, according to data from S&P’s LCD.

Now, as an economic slowdown drags into the 16th month, borrowers unable to pay their debts are causing record losses for CLOs. Moody’s Investors Service put 760 of the funds, holding about $440 billion of assets, on review for downgrades on March 4. Unless policymakers decide to earmark some of the $11.6 trillion of government programs created to combat the seizure in credit markets to support high-yield loans, defaults may soar through 2012, according to investors.

The market began to unravel in July 2007, just as bankers tried to find investors for credit they provided in KKR’s 11.1- billion-pound ($15.6 billion) purchase of Alliance Boots Holdings Ltd., the owner of Britain’s biggest drugstore chain. Deutsche Bank AG, JPMorgan Chase & Co. and other banks were forced to delay selling 8 billion pounds of loans for the takeover, becoming the first deal frozen when credit markets started to seize up.

Lower loan prices and companies reneging on their debt agreements are causing losses on the CLO securities held by banks, insurance companies and hedge funds.
Additionally, CLOs holders of less than pristine tranches will not benefit from any of the government's subsidy programs (most notably TALF), which as ZH wrote, focuses only on the top-most, AAA rated tranches, which for all intents and purposes are not in significant danger: it is the lower rated tranches that need incremental capital.
“CLOs should be the next focus for the TALF,” said Randy Schwimmer, a senior managing director of Churchill Financial LLC in New York, a lender that also manages more than $3 billion of the debt pools. “Commercial lending needs to be supported.”

Without demand from CLOs, companies are paying higher rates for loans, Schwimmer said.

Investors bought CLOs because they had higher returns than similarly rated securities. The $58 million AA ranked portion of KKR Financial CLO Ltd. sold in March 2005 offered investors interest of 45 basis points more than benchmark bank rates. That compared with a spread of as little as 36 basis points for companies of the same grade, according to Merrill Lynch & Co. indexes. A basis point is 0.01 percentage point.

As cash flowed into CLOs, the funds bought almost two-thirds of the debt that financed the record $616 billion of leveraged buyouts in the first half of 2007, S&P LCD data show. Between 2002 and 2007, they accounted for 60 percent of term loan purchases, according to S&P LCD.

Until the credit markets seized up in late 2007, private equity firms, including Blackstone and Carlyle Group, formed teams to manage CLOs. They earn revenue by charging fees and buying stakes in funds they oversee.

“They opened up the buyer base and enabled leveraged finance debt to be purchased by the far-larger investment-grade universe,” said Chris Taggert, an analyst at debt research firm CreditSights Inc. in New York.

And like every drunken orgy, this one is now in a world of hangover pain.

A return of the CLO market is unlikely because the existing securities have lost so much value, said NewOak’s Heller, who doesn’t agree that the government should support the high-yield debt.

With the average CCC ranked loan quoted at 36.5 cents on the dollar, 147 of 557 CLOs monitored by Wachovia Corp. are violating terms requiring a minimum amount of collateral.

Breaking these rules may force managers to shut payments off to the riskiest portions of the fund and divert cash to repay the safest bonds, Heller said.

Four of KKR’s CLOs holding about $7 billion of loans are breaching this test and paying down senior notes, according to a regulatory filing by the New York-based firm March 2. KKR spokesman Peter McKillop declined to comment.

If company downgrades to the lowest ranks reach 40 percent, managers will have to dump holdings, further depressing loan prices, according to Kyle Bass, the managing partner of Dallas- based Hayman Advisors, who made $500 million in 2007 betting on losses from subprime mortgages.

“The unintended and dangerous consequence of these defaults would be an evaporation of the CLO bid,” Bass wrote in a letter to investors this month. “Now is not the time to enter this space.”

The bottom line is that all those who claim that deleveraging is done, have no idea what they are talking about. While the Moody's Death Watch list accounts for a little over $200 billion, thanks to the greed of packaging and securitizing leveraged loan, the world is facing near half a trillion in defaults as the market for CLOs disappears, and the only bidders remaining are those laser-focused on specific names, and usually with Investment Grade ratings. And the last thing to keep in mind is that CLOs are not alone: a default wave among the CLO pool will promptly drag with it all other forms of securitization, whose current interdependent existence is balanced more precariously than a house of cards on the head of a pin.

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The Week In Review

I am still amazed by the kind of bear market rally that a few statements of dubious propriety by CEOs of semi-nationalized banks as well as a couple of misread economic statements can generate. For a recap of why Zero Hedge has not changed its outlook on the current situation based at least on the data flow that most bull market rally proponents focus on, I present the "Top 10 major macro themes of the past week" report by BofA's David Rosenberg, the first man unafraid to call the current depression by its true name: a much better encapsulation of the reality of the past 5 days than what the MSM will have you believe.


1) Unprecedented plunge in household wealth

Households ran for the safety of guaranteed deposits amid the worst financial crisis since the 1930s. However, the mere $200 billion they stowed away in that haven fell far short of protecting them from the massive $5 trillion in losses they incurred on equities and real estate. Real estate net worth fell by $670B in 4Q for a $4.6 trillion total decline since the sector rolled over in 2006. Equity losses totaled $8.5 trillion for the year, and $3.9 trillion of that was incurred in just the fourth quarter alone. The slide in the equity market inflicted considerable damage to pension funds and mutual fund shares, which collectively lost $2.2 trillion in 4Q. The aggregate loss in household wealth is now an eye-popping $12.9tn (and now roughly up to $20 trillion in 1Q): This constitutes a 20% decline in household wealth since the peak was put in back in mid-2007. Wealth destruction of this magnitude is unprecedented in the post-WWII era. The 2001 tech-wreck saw a 9.6% decline in net worth while the 1975 equity asset deflation yielded close to a 4% decline in wealth. So far in the first quarter of 2009, we’ve already seen a 20% decline in the value of the S&P 500. History suggests a strong correlation between falling wealth and rising savings and this 18% year-over-year plunge in net worth is highly deflationary.

2) Meanwhile, consumer deleveraging continues

The household debt-to-income ratio dropped to 134% in 4Q from 136% in 3Q. What this confirms is that a 20-year secular expansion has now come to an end. At its peak, this ratio was as high as 139% and nearly a 40ppt increase from 2001 levels. US consumers levered up so much that they tacked on more debt in the last seven years than in the prior 40 years combined. With equity and real estate values plunging, households are being forced to rely less on rising asset prices and more on their paychecks to fund living expenses. In other words, frugality has come back into fashion and we would expect this ratio to continue coming down – adding to deflation pressures.

3) Most sources of borrowing are drying up

The Federal government is expanding its balance sheet at its second fastest rate in recorded history – debt has exploded by 24% year-on-year as of the fourth quarter of 2008. But the Federal government does not operate in a vacuum – other sources of borrowing are drying up rapidly. From nearly 7% growth a year ago, the annual trend in household credit has vanished. Corporate borrowing growth has gone from 13.5% a year ago to a YoY trend of 4.7% currently. State/local governments have sliced debt growth to 2.2% in 4Q from 9.3% a year ago. All in, domestic credit growth, even with the Federal government surge, slowed to an 8-year low of 5.8% YoY in 4Q, down from 6.3% in 3Q and 8.6% a year ago. All the surge in Washington has done is slow the overall descent – it has certainly not prevented overall credit growth from subsiding. Panacea, not an antidote.

4) Retail catches a tailwind

The Fed’s Beige Book actually hinted that consumer spending was no longer falling off a cliff in the past couple of months and that anecdotal view was backed up by the data that came out for February. Not only was January revised up to +1.8% (from +1.0%), but the gains held in February as the headline came in at - 0.1% versus expectations of -0.5% (and ex-autos were +0.7% on top of a 1.6% spurt in January). It seems strange to be seeing such a pickup in view of the fact that we lost 651,000 jobs in February and 655,000 in January, not to mention the collapse in consumer confidence to all-time lows. Be that as it may, the data are the data and many economists now are going to be headed back to the drawing board and revising their first quarter GDP numbers to be somewhat less negative than they were before (we had been at -6.5% SAAR for 1Q). Here are some possible explanations:

1. Income tax refunds have been huge so far this year – up 40% YoY in Jan- Feb (a record $105 bln in Feb).
2. There has been a refinancing boomlet that has left money in people’s pockets – up 17% YoY in Jan-Feb.
3. The seasonal factor for February was also very aggressive (0.878 – i.e. looking for a 12% slide in the raw data) – in fact, it was the most aggressive SF in 12 years. The RAW data actually showed that retail sales slid 3.9% in February, which was the weakest sequential change on record (and half the time, in any given February, sales manage to rise before the seasonal adjustment is applied). We estimate that retail sales would have DECLINED 1.5% if a more normal seasonal factor had been deployed – so tread very
carefully in interpreting this data.
4. There is some ‘noise’ around the data because in the three months to December, sales plummeted at a 26% annual rate. So we could also just be seeing a bit of a bounce from extremely depressed levels.

Areas that look better are clothing (which we highlighted in our Beige Book piece last week), electronics, pharma and e-tailing. All have posted back-to-back gains. Building materials, food and autos have been quite soft by way of comparison.

5) Total pool of unemployed surges

What gets lost in all the commotion in the trading pits over the headline payroll number is what happened to the total pool of unemployed. It soared 851,000 in February to a record 12.5 million, up 5 million or a huge 68% from a year ago. It’s a good thing we have an elaborate social safety net that includes unemployment insurance or else we would be talking more about the 1930s. The headline unemployment rate jumped to 8.1%, the highest since December 1983, from 7.6% in January, 7.2% in December, 6.8% in November, 6.6% in October and 6.2% in September. At that rate, we could be breaking above the post-WWII high of 10.8% established back at the depths of the 1982 recession, by September of this year. Keep in mind that there is a significant correlation between the unemployment rate and consumer delinquency rates in the banking system. This is not merely a comment on what the jobless rate data imply for consumer discretionary and homebuilding stocks, but for financials as well. And, just as the financials led the peak in the S&P 500 by six months in 2007, we would expect to see a recovery in this vital sector first before expecting to see a bottom in the overall market.

The number of full-time jobs sagged 940,000 in February after more than 1 million lost in both December and January – 3.5 million full-time jobs lost in just three months and 6.7 million since the recession began in late 2007. In a normal recession, we tend to see around 2.5 million full-time employment losses and currently we are nearly triple that and counting. These are jobs with benefits and because of their permanency, they have a tremendous impact on the household budget.

6) Why Treasuries look so attractive

After last Friday’s employment report let’s not kid ourselves any longer that we do not have a major deflationary backdrop on our hands. In this environment, income is king. Now, if it weren’t for the fact that default rates are soaring and the move into high-grade corporates has become a mainstream view, we would be big fans of the credit market. That is a crowded trade. Treasuries are generally underowned and unloved. We do see that the equity culture is not dying as much as we would have thought, but insofar as the stock market can generate cash flows, the ability to do so with consistency is in question. Wells Fargo became the latest to cut its dividend – by 85% to a nickel per share in a move that will save the bank roughly $5 billion per year. So far this year, the amount of dividends that has been cut has totaled $40.78 billion (financials now represent 11% of total dividend payouts, down from the 2006 peak of 30%). In less than three months, the dividend cuts have already exceeded the $40.6 bln in all of 2008. According to S&P, dividends are on track to decline 23% this year, the most since 1938. According to the folks at S&P, the sharp curtailment of dividends (but the yield is 3.1%!! Hey – ever heard of a ‘value trap’?) is the equivalent of a 26% pay cut to the average retiree.

7) Is gold at a critical juncture?

We are amazed at how many people believe gold is in some sort of bubble. Is it an over-owned investment? Not in our view. Is it talked about incessantly like oil was last year or tech in the late 1990s? No. Has the bull market been premised on leverage? No. Some bubble. In any event, gold is still in an uptrend, and that does not mean that it will never correct hard. It will, and it has already – this latest corrective phase is the 15th of this 8-year-old bull market. The key is to time your purchases as closely as possible to these tests of the 50-day moving averages – which is the process the gold price is now in technically. And the history of this bull market has shown that after gold touches the 50-day m.a. in these corrective phases, it has gone on to rally by an average of 12% in the coming year (median too). When an article shows up like this on page 20 (20!) of Wednesday’s FT, it suggests to us that this is not a bubble just yet (“UBS Bullish On Gold Price Nearing $2,500”). Call us when it hits the front page.

8) Small business sentiment at a new 28-year low:

• The NFIB index sagged to 82.6 in February from 84.1 in January, the lowest print since April 1980 (and the second lowest ever). The difference, of course, is that in April 1980 the funds rate was 18% as opposed to 0% today (at least the Fed back then still had bullets in its chamber).
• The net share of companies reporting that credit was tough to secure stayed at +13, the highest in three decades. Just prior to the Fed’s move to cut the funds rate to 0%, this metric was running at +11, and before the TALF was announced, it was +12, so clearly monetary policy, whether in a traditional or nontraditional sense, is pushing on a string.
• Up until the summer of 2008, when oil was surging toward $150/bbl, the top concern by small businesses was inflation. Now it is the sales backdrop – one in three cite this as their top worry.
• Corporate pricing as per the NFIB plunged in February to a record low -24 from -15 in January and -6 in December. Now as for ‘plans to raise prices’, a more forward looking indicator, this too fell to +1 in February from +2 in January and +22 a year ago – again, an all-time low.
• Not only that, but the index measuring wages collapsed to a record-low of 7 in February from 9 in January and 23 a year ago. Note that the last time the unemployment rate was over 8%, this metric was running north of 20, which goes to show that in today’s much more competitive and less regulated labor market, an 8%+ jobless rate actually represents much more dramatic excess capacity than was the case two or three decades ago. Company plans to raise wages stayed at an all-time low of +3 as well.

9) Nothing is quite like the Fed cutting the rates to zero

We think Bernanke et al better soon stop talking about quantitative easing and embark on the program to buy coupons: The financial markets are becoming unglued and monetary policy appears to be, in a word, impotent. Since the funds rate was taken to near-0% on December 16th, the yield on the 10-year note has surged 50 basis points. Mortgage rates have come down an insignificant 40 basis points. New car loans rates have jumped 25 basis points. Rates on homeequity lines of credit haven’t budged. Three-month Libor is back above 1.3% and has risen 8 bps in the past week. And the Dow has lost 2,400 points – since the Fed went to ZERO. We think it’s time for some dramatic action out of the Fed – not just to bring credit spreads in, which has been met with some but not a whole lot of success, but to take the whole yield curve lower and further ease debtservice strains for the overall economy (investors yanked a net $911 million out of high-yield funds last week, the most since early October; the junk bond market is down 3.3% so far this month; the US CDX is index is back trading at a 250 bp premium over Treasuries, the widest spread for the year).

10) Foreclosures on the rise

Foreclosure data out of the USA showed a 6% MoM rise and +30% on a YoY basis in February, so the growth rate is slowing but the base level is still uncomfortably high and still rising. The banks are saddled with 700,000 properties on their balance sheets as well (the ‘shadow inventory’), according to RealtyTrac. And, according to the Mortgage Bankers Association, a record 11.2% mortgage borrowers are at least one payment past due or in the foreclosure process. Since the housing rescue plan only goes so far as to cut debt-servicing burdens for certain homeowners to 31%, but does not address the negative net equity position many still face, it is an open question as to how successful this initiative is going to be – we recall all too well that Hope Now and FHA Secure were supposed to be the saviors ages ago. California, Arizona and Nevada are the main culprits – in fact, 1 in every 70 Nevada homes received foreclosure filings last month (and the total number is up 156% over the past year). California foreclosures were up 5% MoM (and +134% YoY) – and this is with the lowest mortgage rates on record, all the bank efforts for loan modifications and all the moratoria on foreclosure activity. So yes, it is impressive that home sales in the Golden State have doubled from a year ago, but from what we can see, we estimate up to 60% of that activity is foreclosure based. Sphere: Related Content

Six Flags Preparing For Bankruptcy

The last time we wrote about amusement park operator Six Flags it was on defibrillator alert. WSJ has come out with a report in which CFO Jeff Speed confirms he has hired bankruptcy law firm and financial advisors Paul Hastings and Houlihan Lokey. Speed states that he is hoping (against hope) to arrange a consensual plan with creditors ahead of an August deadline for $319 million in equity payments. Of course a chapter 11 in SIX will have marginal impact to the 3 or so left shareholders in SIX stock which was last trading at $0.17/share. Six Flags bonds are also trading at abysmal levels, with the '13 and '14 maturities both Tracing in the low teens. Sphere: Related Content

Merrill Traders Mismarked P&Ls By Up To $7 Billion To Game Bonus

We are surprised to have missed this the first time around. On page 4 of the Cuomo accusations against Merrill (and Lewis), the Attorney General raises a huge allegation against Merrill's trader employees: the AG claims that traders "willfully" manipulated their P&Ls, potentially by up to $7 billion, in order to make it seem they were more profitable in advance of the early mid-December bonus evaluation, knowing full well they would subsequently remark their books lower, having been already paid for the previous fake P&L number.
The Office has also learned that, less than a week after Merrill voted its premature bonuses, Merrill determined that it would incur an unexpected additional $7 billion in losses for the fourth quarter of 2008, beyond the $8 billion it was already anticipating (Id. at Ex. D at 9-11 and Ex. H at 128-29). It appears that some of these losses may have been booked by Merrill employees who marked down their portfolios only after their 2008 bonuses were set (Id. at Ex. W). Despite the gargantuan unexpected losses, Merrill did not reconsider its bonus awards (which had been voted but not yet paid out) and Bank of America neither requested nor demanded that Merrill reduce its bonus pool (!d. at Ex. C at 106-07, Ex. D at 115-17, Ex. E at 86, and Ex. H at 28). Again, these material developments were undisclosed to the company's shareholders or to the legislators considering how to salvage the American banking system (!d. at Ex. C at 146-49).
As any derivatives trader will attest, this calendar "straddle" as it is lovingly called by some, is by far the oldest trick in the book, where multivariate models' inputs are jiggered in order to spew one number, only to have the correction subsequently "discovered" and fixed at the bank's expense while the bonus has already been pocketed. It is also a reason why many banks have pushed their bonus determination late into the subsequent year so that they are able to have at least semi-audited numbers serve as the basis for bonuses.

If Cuomo pursues this avenue successfully and obtains proof of malfeasance, the consequences would be much more dire than a mere slap on the wrist and bonus disgorgement, as mark manipulation does have criminal connotations associated with it, for both the perpetrator and the enabler/supervisor. It is likely that many if not all derivatives traders at Merrill are likely sweating bullets right now and "opportunistically" looking for exit opportunities in an attempt to cover the tracks expeditiously before the Attorney General's office realizes that there are such things as desk trading blotters that keep track of any trade done during the day, and any P&L mismatch between the "official" record and the trader's own would be immediately obvious by just comparing entry/exit levels on the blotter. Sphere: Related Content

The Unmasking Of the CNBC Circus

Last night's interview is a must see for anyone who ever gets their investment (or any other kind) of advice from CNBC. While after this interview Cramer's future at the network is not so certain, maybe, just maybe, CNBC will reevaluate its role in the financial media community.

Part 1

Part 2

Part 3

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Frontrunning: Friday 13th

  • Global trade slowing down: US Exports fall 6.7%, trade narrows to six year low (Bloomberg)
  • Angry Maxine Waters' special concealed interests (NYT)
  • Goldman cuts global forecast to 1% contraction (Bloomberg)
  • Swiss changing tax evasion policies, preamble to full tax evader disclosure? (Bloomberg)
  • Buffett declined to help AIG on two occasions (Bloomberg)
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Thursday, March 12, 2009

Overallotment: March 12

  • Gamechanger: China officially wants U.S. to ensure safety of its investments, holds $700 billion of TSYs (Bloomberg)
  • 18% of American wealth vanished (WSJ)
  • Swiss bank action sparks currency war (Reuters)
  • Will banks start to walk their talk (Naked Capitalism)
  • Long-term GE investors fret, fume (Reuters)
  • Geithner shines when offstage (Bloomberg)
  • Citi to name board replacements (WSJ)
  • Hedge funds evaluating TALF participation (or the deja-vuness of levering up on mediocre assets) (WSJ)
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Sovereign Risk Update

I will keep harping on this theme until such time as harping is no longer necessary. Equity market rippage has resulted in essentially zero change in overall country risk profiles (and deteriorating risk in Japanese risk). There is a massive disconnect between equities and credit, especially sovereign credit which is becoming a defacto proxy for corporate risk via extended short-term guarantee programs and assumed liabilities. Not much needs to be said here: no equity market rally is indicative of increased risk tolerance until the lines below move dramatically tighter.

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Savage Thoughts

Today was one of only four times in history for the Swiss National Bank to intervene alone, that last time being in the mid-1990s. So for that extraordinary action we receive an extraordinary move in many markets a veritable reversal of fortune for emerging markets, banking shares, commodities and the USD. For US equities it was a three-peat three up days in a row surprising many technicians with the break of S&P500 741 leading to calls of 768. A 4% up day for equities had other drivers the retail sales drop was modest and in fact it suggests the return of the US consumer something that may mean trouble on other fronts. The commodity market saw an early rally in oil extend to a dramatic one with oil up 10% and breaking from recent correlation gold rallying $15 to 925 up nearly 2%. But the surprise result on the day may really be in fixed income where a bid equity market, a weak USD and a higher energy complex along with $11 bn in new supply all this left the 30Y US 4 bps lower with an auction notable in its foreign demand. The underlying driver of why todays SNB action had such a broad effect rests with the G20 Finance Ministers meeting ahead. The talk for the week has been that the IMF will get promises for more money targeted to aid the emerging markets. This was followed by the Obama, Yang pledge for more global stimulus and by the push of some emerging markets to intervene or promise to intervene. What remains to the day is sustainability. Headlines persist about the trouble ahead BOE Barker warns on the economy and the danger of a swift recovery leading to a swifter removal of stimulus. The US jobless claims continue to show the vulnerability of the US consumer and the GS research team like many others just cut their view of European GDP to -3.6% in 2009 worse even than our US outlook. The global great recession remains despite the extraordinary actions. So its going to be difficult for many to get beyond the charts and reversal momentum to actually believe in something different. There are dangers in the SNB action as well as it could lead to another set of devaluations elsewhere. JPY moved back over the 97.80 level on back of the SNB action and despite fiscal year-end flows the risk may be for 100 over 95. The EUR from 1.2730 to 1.2940 today helps the US but risks trouble in Europe. SNB needs both EUR/CHF and USD/CHF weaker. The world also needs to see a rebalancing of the global trade game and the US consumer and credit cycle arent the answer but the problem. Sustainability wont be found on this roulette wheel today but perhaps in the confidence boost of a real, globally planned, coordinated policy plan from the G20.

Bo Savage Sphere: Related Content

Let's See If Citi Runs Again, Shall We

The fourth leg of the trifecta squeeze just came out (to everyone's total lack of surprise): Citi chairman Dick Parsons said "Citigroup does not need any more capital injections from the government and that the bank would remain in private hands." Demonstrating a keen sense of humor, in an interview with Reuters Dick had this to say:
"I think actually, particularly with the latest conversion... Citi is actually one of the better capitalized banks in the world."
Seeing how Citi has received over $45 billion in taxpayer cash and 3 bailouts since October it would be a shame if Citi was one of the worse capitalized banks in the world. Reuters further claims that the regulators have recently begun work on a contingency plan to stabilize Citigroup if problems mount, but no imminent rescue was planned according to an anonymous person familiar with the plan B preparations.

As the three big bad banks are apparently big fans of Douglas Adams, we expect part 5 of the trifecta to surface tomorrow when Citi's janitor provides his resounding endorsements of the non-nationalizeable nature of the financial conglomerate, and the short squeeze hits 1,500 on the S&P. In the meantime, for your amusement, with Bloomerg's kind generosity, we provide the transcript of the update conference call Lehman held on September 10, 4 days before it filed for bankruptcy and particularly draw your attention to where Dick Fuld says "Today's strategic actions, each of which is significant in its own right, taken together as a whole, significantly reduces our remaining risk and greatly improves our ability to create value for our shareholders." Good stuff.

(Disclaimer: Zero Hedge is, to its own dismay, long Citi stock. )

Lehman Transcript Sphere: Related Content

$8.8 Billion Redeemed Week Ending March 11

I am not quite sure why TrimTabs' week ends on a Wednesday but lately few things surprise me. Regardless, the latest cash tracking data out of the company indicates that $8.8 billion was redeemed out of all equity mutual funds versus a revised outflow of $19.7 billion in the prior week, which by simple addition means that over $28 billion was redeemed in the past two weeks. The only inflow in the week occurred into US equity ETFs, while all other categories saw cash departures. Which means that either the market cheerleaders on CNBC are on drugs every time they pronounce how all the cash on the sidelines is just pouring into markets, or TrimTabs is using a congressional committee to "determine facts." Oue money is with the former, which again would imply the current rally is merely an exercise in short triggered stop losses.

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Berkshire Unsecured Rating Cut By Fitch To AA, Outlook Negative

Following in the footsteps of GE's downgrade earlier, the AAA rated financials are now extinct.

The Fitch downgrade is presented in its entirety, however one important thing to note is Fitch's disclosure that it had evaluated non-public information regarding BRK's derivatives exposure. Being the first to downgrade the company upon seeing this disclosure likely portends nothing too good from the other rating agencies which are behind the curve.

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Barney Frank Seeks Antidote To Republican Amnesia

Or such is the title of the letter just sent out by the House Committee on Financial Services in which the Democrat-GOP squabbles take on a new and heated flair, compliments of Barney. Seems the purpose for the letter is borne out of criticisms of Frank that he personally did not pass any legislation to regulate Fannie and Freddie until 2007, his claims in 2003 that FNM and FRE were not in crisis, and his lack of attempts to restrict subprime lending between 1994 and 2007. At first read, the extremely defensive letter (below) would be admissible material for a late night comedy show, with such pearls as:
“Being accused of having blocked legislation to prohibit irresponsible lending to low-income people from 1995 to 2006 is flattering in a bizarre way,” Frank noted. "Apparently those Republicans parroting these right-wing talking points believe that I had some heretofore undisclosed power over first Newt Gingrich and then Tom DeLay, which allowed me to keep them from passing legislation they wanted to pass. If that had been true, I would have used that power to block the impeachment of Bill Clinton in the House, the war in Iraq, large tax cuts for the very wealthy, the intrusion into the sad case of Terri Schiavo, and appropriations bills that badly underfunded important social priorities.
While the market is on a roll and seems poised to break to break a 20% upswing in one week, partisan wrangling of this kind usually leads to very adverse consequences in the form of bear markets, crushed economy, broker taxpayer and heated Chelsea arguments.

Anyway, we definitely recommend reading the letter by BF, if no other reason than for the hilarity that ensues.

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The Utter Worthlessness Of Subprime Assets

There is likely no better example of just how totally worthless subprime "assets" are in the current market than the ongoing liquidation of Carrington Investment Partners. The Greenwich hedge fund, which shut down in late 2007 with about $1 billion in assets, had initially locked up its investors for a year while it was proceeding with an orderly liquidation. Well, the liquidation resulted in zero sales, a 10% decline in AUM on top of the destruction in 2007 and another year of freezes. In the meantime, investors, most notably Joseph Umbauch, the magnate behind Mistic Beverage, have filed numerous lawsuits against the fund operator.

Bruce Rose's Carrington has resorted to a desperate attempt of salvaging anything by selling between $50 and $100 million in shares via the Hedgebay secondary market broker according to Hedge Fund Alert. And while in most other cases of liquidation, even involving litigation, the seller sees at least bids of pennies on the dollar, Carrington has attracted exactly zero bids to date. Maybe if potential buyers get the backing of TALF to buy these kinds of horrendous assets, investors, who had put money into hedge funds investing in illiquid, real-estate backed assets, wouldn't be entirely wiped out.... This may be just the excuse for Obama to come up with yet another market recovery alphabet soup program, as well as some additional TV time.

For some laughs we refer you to the last available investor letter issued by Carrington. Sure brings fond memories of the insane pre-credit bubble burst times. Also a primer on how to advise your investors tongue-in-cheekly that your assets are bunch of toxic garbage.
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