Wall Street gains are privatized; losses are socialized

More articles on the $29B at risk for the Fed in the JP Morgan - Bear Stearns deal. I have nothing to add, so I will just provide a couple of links.

http://www.marketwatch.com/news/story/capitol-report-fed-puts-lipstick/

http://www.bloomberg.com/apps/news?pid=20601068&sid=aNXDBlrk1H1s&refer=home

$1.2 TRILLION in credit losses

Goldman Sachs forecasts global credit losses stemming from the current market turmoil will reach $1.2 trillion, with Wall Street accounting for nearly 40% of the losses. US leveraged institutions, which include banks, brokers-dealers, hedge funds and government-sponsored enterprises, will suffer roughly $460 billion in credit losses after loan loss provisions, Goldman Sachs economists wrote in a research note. Losses from this group of players are crucial because they have led to a dramatic pullback in credit availability as they have pared lending to shore up their capital and preserve their capital requirements.

Goldman estimated only $120 billion in write-offs have been reported by these leveraged institutions since the credit crunch began last summer. "US leveraged institutions have written off less than half [actually less than one third but let's not quibble] of the losses associated with the bursting of the credit bubble," they said. "There is light at the end of the tunnel, but it is still rather dim."

Ford divesting Jaguar and Land Rover

Ford Motor agreed to sell its Jaguar Land Rover operations to India's Tata Motors for $2.3 billion (really $1.7 billion as Ford will contribute as much as $600 million to the unit's pension plan). I can't believe that Ford was unable to make money with the high-end Jaguar and Land Rover product lines.

Blackstone Down 47%

Blackstone closed today at 16.35, down a precipitous 47% from its $31 IPO price in June 2007. By comparison, the S&P500 is down only 10% in the same period. Amazing!

Home prices down 2.4% in one month

Home prices in 20 US metropolitan areas fell in January by the most on record (10.7%!), a sign the housing recession is deepening, according to the S&P/Case-Shiller home-price index. The gauge has fallen for 13 consecutive months. January home prices fell 2.4% from a month earlier, following a 2.1% decline the prior month.

JP Morgan Chase ups bid to $10

JP Morgan Chase raised its offer for Bear Stearns, the beleaguered investment bank, to $10 a share Monday morning in an effort to pacify angry Bear shareholders. The sweetened offer of about $1 billion is intended to win over stockholders who vowed to fight the original fire-sale deal, struck only a week ago at the behest of the Federal Reserve and Treasury Department. Bear’s shares, which closed at $5.96 on Friday, rose to $11.44 (not sure why it's trading above $10, a new suitor is unlikely to come out of the woodwork). Under the new terms, each share of Bear Stearns common stock would be exchanged for 0.21753 shares of JP Morgan Chase stock, up from 0.05473 shares. In addition, JP Morgan Chase will buy 95 million newly issued shares of Bear Stearns common stock, or 39.5% of the outstanding Bear Stearns common stock after the issuance, at $10 a share (and essentially guaranteeing that existing shareholders are too diluted to prevent the sale).

In addition, Bear’s directors have indicated that they intend to vote their shares — worth almost 5% of Bear’s shares after the dilution of issuing shares for JP Morgan Chase. The deal is expected to be completed by April 8. While the initial agreement appeared to have defused the financial crisis of confidence that undid Bear, the initial terms of the deal — and the government’s controversial role in reaching them — drew criticism from those who say the takeover amounts to a government bailout of Bear, a firm at the center of the mortgage meltdown.

As part of the original deal, the Fed guaranteed to take on $30 billion of Bear’s most toxic assets. Under the revised deal, JP Morgan Chase will bear the first $1 billion of any losses associated with the Bear Stearns assets being financed and the Fed will finance the remaining $29 billion on a non-recourse basis to JP Morgan Chase.

Source: NYT

GOOG

LTCM II in trouble

JWM Partners LLC, the investment firm run by ex-LTCM chief John Meriwether, lost 24% in its $1 billion fixed-income hedge fund this year through March 14, according to two people with knowledge of the matter. Meriwether's Relative Value Opportunity fund was hurt as bond managers such as Peloton Partners and Carlyle Capital were forced to sell securities to meet margin calls, said the investors, who asked not to be identified because JWM doesn't publicly disclose returns.

Citigroup analysts say avoid ... Citigroup

Citigroup strategists say that as markets and economies de-leverage, investors should steer clear of companies that have relied on borrowed money, especially in the financial services sector.

Poor Presentation Skills

I am constantly amazed at the poor presentation skills of many of our most luminary fianciers. I attended a luncheon today where a superstar investment strategist made a presentation on pension fund management. She was a good public speaker in terms of her comfort in front of an audience etc, but she was absolutely NOT a good speaker when things like logical coherence are considered. While she was clearly very knowledgeable and a lot of her points provided good insight, I would estimate that 90% of what came out of her mouth bore zero relation to the topic at hand.

Fannie Mae and Freddie Mac capital requirements reduced

US regulators may reduce capital requirements imposed on Fannie Mae and Freddie Mac to help them expand their combined $1.5 trillion in investments and revive the market for home loan securities. Fannie Mae and Freddie Mac also agreed to raise more capital as part of the deal with the Office of Federal Housing Enterprise Oversight. Fannie Mae and Freddie Mac are required by Ofheo to hold an extra 30% capital cushion to protect against losses on the mortgages they own and guarantee. An easing could amount to an extra $200 billion to $300 billion of purchases from the companies. Fannie Mae climbed 27% and Freddie Mac jumped 26% yesterday. Fannie Mae posted a $3.55 billion loss and Freddie Mac posted a $2.45 billion loss in the fourth quarter, both records as rising foreclosures sent credit costs soaring net loss for the period. The capital surcharge is one of the last remaining restrictions imposed on the companies after $11.3 billion of accounting misstatements.

This will not end well. Expand their capacity to make more of the same investments that lost them $6 billion in a single quarter? And presumably they already bought all the best mortgages, so they'd be dipping into lower quality stuff at the margin. Bad, bad idea.

Fed cuts fed fund rate 3/4 percentage point

Fed fund rate is down to 2.25%. But immediately following the news the DJIA dropped 100 points (from +300 to +200) because market was expecting a full point cut. According to MarketWatch, based on futures trading in Chicago, investor's bets implied a 100% chance of a cut of one percentage point.

Dallas Fed president Richard Fisher and Philadelphia Fed president Charles Plosser dissented in favor of less aggressive action.

In a related action, the Board of Governors unanimously approved a 75 basis point decrease in the discount rate to 2.5%.

Philip Morris International

Started trading today under ticker symbol PM, separate from parent Altria.

Bear Stearns Dead!

It turns out my guess of 28 days was wildly optimistic. JP Morgan Chase is buying Bear Stearns for $2 a share, exchanging 0.05473 share of its stock for one share of Bear Stearns. Both boards approved the transaction over the weekend. Bear Stearns opened down 88% from Friday's close at $3.70 (just one business day after it closed Thursday at $57). The collapse was bigger than Enron and faster than LTCM. I can just see the class action securities lawyers foaming at the mouth.

Bear Stearns on life support

Bear shares slumped $27 (47.4%) to $30 on news of a critical liquidity crisis at the investment house. The Federal Reserve invoked a rarely used Depression-era procedure today to bolster the firm. The arrangement allows JP Morgan Chase to borrow from the Fed's discount window and put up collateral from Bear Stearns to back up the loans. This process will be in place for 28 days. My guess is Bear Stearns will cease to exist as an independent entity before those 28 days are up.

Of course market participants are waiting for the other shoe to drop, which showed up in the stocks of all the other major players. Lehman Brothers down 14.6%, UBS down 8.3%, Citigroup down 6.1%, Goldman Sachs down 5.2%, Morgan Stanley down 4.9%, J.P. Morgan Chase 4.1%.

News of the day

If time allows I will add links, but for now I at least wanted to post quick blurbs.

1) Fed is temporarily willing to swap up to $200B of AAA structured financial products whose values are difficult to ascertain in the market (no such animal - if nobody wants them in the open market then their value is $0) for Treasuries. This will NOT end well, yet the market rallied on the news. Although subsequent analysis has shown that the added liquidity has not improved the credit crunch. Banks can take all the liquidity the Fed offers, but if they are not willing to lend then that doesn't really matter, does it?

2) A second SocGen trader has been brought in by the French police for questioning. It appears the rot goes a lot deeper than the lone trader that brought down Barings.

3) Chrysler is shutting down for two weeks to cut costs. If every car they make leaves them with a loss, perhaps the proper solution is to shut down for 50 additional weeks.

4) SecTreas Paulson says the current financial crisis shows that deregulation has failed us. We have regulations coming out of our ears; it is the regulators who failed us. Where were the SEC, the Fed, and all the other myriad regulators while mortgage banks were making all these worthless loans and Wall Street was pushing all these worthless structured products?

Carlyle Capital Collapses

Carlyle Capital, the bond fund affiliated with private-equity firm Carlyle Group, is on the verge of collapse after failing to agree a new financing deal with lenders. Late today, the fund said that it expects lenders will soon take possession of "substantially all" its remaining assets after it was unable to meet surging margin calls on its portfolio of residential-mortgage-backed securities. Shares of Carlyle Capital were all but wiped out, tumbling 98% to 29 cents from $12. So far, Carlyle Capital said it's defaulted on $16.6 billion of its debt, and its remaining borrowing is expected to go into default soon. Negotiations with lenders effectively ended when the pricing service used by certain lenders reported another drop in the value of MBSs. That was expected to trigger another $97.5 million of margin calls, on top of the roughly $400 million of demands that Carlyle Capital received last week. Margin calls have soared since the end of February as credit markets have worsened.

At the end of December, the fund had total equity of about $670 million and had used short-term loans, or repurchase agreements, to fund an investment portfolio of close to $22 billion. (That's leverage of 33x. There's the cause of the collapse right there.)

Debt > Equity

It's been widely reported (and misreported*) that home debt exceeded home equity for the first time on record (data goes back to 1945). Home equity percentage as of December 2007 is 49.6%, and I'm sure that number will go down a lot further before things recover. Other than the pain that this is going to cause me indirectly through a weak economy, I continue to fail to understand how other people's irresponsible financial decisions are my problem.

* NPR incorrectly reported that home debt exceeded home VALUES rather than equity (I've also heard at least one investment banking "expert" who should know better make this claim), and USA Today incorrectly defined the equity percentage as home debt divided by home value.

Oil Bubble

Crude oil may reach a record $130 a barrel this year because pension funds are investing more in commodities, said Pierre Andurand, the chief investment officer of BlueGold Capital Management LLP, a hedge fund. (Gee - I wonder if his fund is heavily invested in oil, which would make his opinion entirely self-serving. They shouldn't allow hedge fund managers to opine on the market.) The outlook for oil over the next five years is also bullish as producers find it hard to replenish reserves and demand outpaces supply. Oil companies are finding it tougher to replace their findings and are drilling for harder-to-reach deposits while energy demand and crude prices surge to records.

With commodities prices surging to all-time highs, Calpers, the largest US pension fund, said it plans to boost investments. "There's a lot of index funds flowing into oil, and the world is under-invested in commodities, especially pension funds,'' said Andurand. "Oil is now a medium-to- long-term outlook story, and it's bullish in terms of fundamentals of production constraints. Next year, oil may rise even further to $150 a barrel,'' said Andurand, whose $300 million fund has so far invested 70% in energy (BIG SURPRISE!) and 30% in agriculture and metals since February.

Translation: There are a bunch of upset people who have missed out on the spectacular run up in oil prices. Oil is a limited resource, so how can the value come down when everyone wants more? When they start buying oil, the price will go higher forever and ever.

Replace "oil" with "real estate" and you've got 2006, or "internet" or "telecom" and you've got 1999, or "tulip" and you've got the 17th century. The more things change, they more they stay the same.

Hedge Funds Frozen Shut

There's a chill spreading across the hedge fund industry. With more portfolios falling victim to the credit crunch, managers by the dozen are freezing investor redemptions, preventing a mad rush to the exits that would force funds to sell beaten-down assets to raise cash. But is this unprece­dented move just postponing the day of reckoning for funds and the market? Since November at least 24 hedge funds have barred or limited investors from taking their money out, tying up tens of billions of dollars for an indefinite period.

Bernanke off his gourd, as far as I'm concerned

"Principal reductions that restore some equity for the homeowner may be a relatively more effective means of avoiding delinquency and foreclosure.''

Cool, so if I'm underwater I get my equity restored. Then when home prices rebound, I can pocket the additional appreciation in addition to Ben's giveaway. Damn, maybe real estate does ALWAYS pay off.

"Lenders tell us that they are reluctant to write down principal. They say that if they were to write down the principal and house prices were to fall further, they could feel pressured to write down principal again.''

Well, DUH! Does this strike him as unreasonable? What does he think will happen if prices drop further (which they probably will)?

Based on futures prices, traders expect the Federal Open Market Committee to lower the benchmark rate by 0.75 percentage point by or at the panel's next meeting on March 18. I hope the traders are off their rocker, because another 75 basis point cut will put us well on the Japan path of zero interest rates. And we all know how well that worked out for them. Come to think of it, their mess started with bloated real estate prices - if I recall correctly at one point the real estate in Japan had a paper value larger than all the real estate in the US.

ETA: I found it; it was even more ridiculous that I remembered:
Japan suffered one of the biggest property market collapses in modern history. At the market's peak in 1991, all the land in Japan, a country the size of California, was worth about $18 trillion, or almost four times the value of all property in the United States at the time.

Now I'm certain commodities are the new bubble

The first commodities index built to allow investors to profit from rising food inflation is due to be launched today. The UBS Bloomberg Constant Maturity Commodity Food Index will cover 13 commodities directly linked to food consumption. It will include raw materials not usually included in general commodity indices, such as high-quality winter red wheat, soyameal, soy oil, orange juice and lean hogs.

Muni auctions continue to fail

Auction-rate bond failures show no sign of abating after investors abandoned the market for variable-rate municipal securities. Almost 70% of the periodic auctions in the $330 billion market failed this week as investment banks stopped buying the securities investors didn't want. Yields on the debt averaged 6.52%, up from 3.63% before demand evaporated in January.

Sharper Image Bankrupt

Sharper Image filed Chapter 11 bankruptcy.

One observation made by MarketWatch is that $25 million in gift cards and certificates became worthless overnight since federal law allows a company to stop honoring store gift cards when it files Chapter 11.

Updated (5/31):
Sharper Image was purchased by Hilco Capital, Gordon Brothers and Bluestar Alliance for $49 million. It will operate solely as a licensing company, closing all remaining stores immediately.

Dumbest Thing I've Heard in a while

I just heard a CNBC analyst on TV asking, "The question is when are we going to see some of the money going into commodities start moving back into equities. When is that appetite for risk going to return?" That is idiotic. The risk isn't in equities (they obviously aren't going to skyrocket, but they aren't going to plummet a la 2000-2 either). The risk is in commodoties, which are being built up to be the next bubble. It's ridiculous...

• Gold +43% in six months
• Oil +46% in six months
• Wheat +100% in just under a year
• Corn, Cattle, hell even soybeans, are going through the roof

Now a good deal of these increases are that the prices are quoted in dollars on world markets, and the dollar is down quite a bit (which has no effect on non-US demand) so a lot of this is explained by the decline of the dollar as opposed to real price increases, but it doesn't come near (anywhere near) explaining all of these increases. So what's going on here?

We've got media headlines like "World recession blamed for basic commodity price hikes." Wait a minute - aren't prices supposed to DROP in a recession?

Looks a bit silly (and crooked) now, doesn't it?

2005:


2006:


For those of you who are not aware of this, David Lereah was the chief economist of the National Association of Realtors at the time these books were published. It's amazing to me the self-serving crap (almost criminally so in this case) that gets published under the guise of scholarly research just because the author has a credential. How can a publisher sell this in good conscience without even putting the author's affiliation on the cover? What happened to Dr Lereah's sense of intellectual honesty?