Maggie's Farm

Markets fear banks have $1 trillion in toxic debt


A trillion is a big number...something tells me if this is true there's no guvmet bailout that can save the devistation this will cause. H.

By Sean O’Grady, Economics Editor
Published: 06 November 2007

A new phase in the credit crunch, one of “$1 trillion losses” seems to be dawning. The crisis at Citigroup and renewed doubts about some of the world’s leading banks disquieted stock markets on both sides of the Atlantic yesterday, with the fractious mood set to continue.

The FTSE 100 fell 69.2 to 6,461.4, with Alliance & Leicester (down 4 per cent) and Barclays (off 3 per cent, to a two-year low) singled out for punishment. In New York, Citigroup, down |4.9 per cent to multi-year lows, weighed on the Dow Jones index, which fell 51.7, or 0.4 per cent, to 13,543.4. Merrill Lynch, Goldman Sachs and Lehman Brothers also dropped on speculation they face more writedowns on top of the $40bn (£19bn) announced in the past four months.

Bill Gross, the chief investment officer of Pacific Investment Management, said US mortgage delinquencies and defaults would rise in 2008. “There are $1 trillion worth of sub-primes, Alt-As [self-certified] and basically garbage loans,” he said, adding that he expects some $250bn in defaults. “We’ve only begun to see the pain from rising mortgage payments,” he added. Brian Gendreau, an investment strategist at ING, commented: “Financials are 20 per cent of the S&P 500 and if that sector doesn’t do well all bets are off. People just don’t know what’s on the balance sheets.”

The banks remain unwilling to lend to each other, preferring to rebuild their balance sheets and “hoard liquidity” to buttress themselves against any shocks from repatriating off-balance-sheet losses from their special investment vehicles (SIVs). However, this tightening up has led to a vicious circle. Making credit tougher has exacerbated the problems of struggling mortgage holders in America; default rates then rise and make the banks even more exposed to losses as credit agencies downgrade their assets. This seems to be what happened at Citigroup. The admission that it was unable to assure investors that a potential $11bn write-down for sub-prime mortgages would not grow has led to this fresh fit of extreme nervousness. Huge write-downs by Merrill Lynch ($7.9bn) and UBS ($3.4bn) have not helped.

Samir Shah at Landsbanki Securities said: “People thought most of the bad news had been priced in. It seems we’re entering a second phase of the credit squeeze. We’re going back to a place where liquidity is drying up and volatility is increasing.”

Barclays has seen its shares savaged. “There is a concern about the extent of the debts among the banks generally and who will be left holding the debt,” Richard Hunter, of Hargreaves Lansdown, said. “There’s a read-across to Barclays Capital. People are concerned about the exposure it has.” Profit growth at its subsidiary was “strong”, the bank declared last month, though it offered no comment yesterday.

Alliance & Leicester also suffered from vague rumours that it had turned to the Bank of England for emergency funding. An A&L spokesman offered this reassurance: “Each week in recent months, including last week, Alliance & Leicester has successfully raised the funds it requires. We have also continued our share buy-back programme.”

The Chancellor, Alistair Darling, also pleaded for calm. “We are experiencing an unparalleled period of financial uncertainty caused by the problems in the US housing market,” he said. “I believe that we can get through that. Many banks in this country have very strong balance sheets after years of making very good profits.”

Meanwhile, on the continent, newspaper reports named two German banks – WestLB and a small specialised bank for professional people – as possible next victims of the crisis

Lack of transparency in derivatives is going to kick out ass

The post above to my knowledge does not address any derivatives. Simple underwriting of sub prime loans is only the first light bedroom slipper falling gently to earth. Lets wait for the derivative hobnail boots to begin marring the polished wooden floors of the nations boardrooms.

Consider:

As an indication of the dangers they pose, it is worthwhile recalling a shortened list of recent disasters. Long-Term Capital Management collapsed with $1.4 trillion in derivatives on their books. Sumitomo Bank in Japan used derivatives their manipulation of the global copper market for years prior to 1996. Barings bank, one of the oldest in Europe, was quickly brought to bankruptcy by over a billion dollars in losses from derivatives trading. Both the Mexican financial crisis in 1994 and the East Asian financial crisis of 1997 were exacerbated by the use of derivatives to take large positions on the exchange rate. Most recently, the collapse of a major commodity derivatives dealer Enron Corporation has lead to the largest bankruptcy in U.S. history.

Taking on these greater risks raises the likelihood that an investor, even a major financial institution, suffers large losses. If they suffer large losses, then they are threatened with bankruptcy. If they go bankrupt, then the people, banks and other institutions that invested in them or lent money to them will face losses and in turn might face bankruptcy themselves. This spreading of the losses and failures gives rise to systemic risk, and it is an economy wide problem that is made worse by leverage and leveraging instruments such as derivatives. When people suffer damages, even though they were not counterparties or did any business with a failed investor or financial institution, then individual incentives and rules of caveat emptor are not sufficient to protect the public good. In this case, prudential regulation is needed – not to protect fools from themselves, but to protect others from the fools.

Another public interest concern involves transparency Some derivatives are traded on formal futures and options exchanges which are closely regulated. Other derivatives are traded over-the-counter in markets that are almost entirely unregulated. In these non-transparent markets there is very little information provided by either the private market participants or collected by government regulators. Prices and other trading information in these markets is not readily available as is the case with futures and options exchanges. Instead that information is hoarded by each of the market participants. While standard theories of financial markets agree that more transparent markets are more efficient, it requires a public entity to require information be reported and disseminated to the market AND this is where the BIG MONEY is invested.

"We view them as time bombs both for the parties that deal in them and the economic system ... In our view ... derivatives are financial weapons of mass destruction, carrying dangers that, while now latent, are potentially lethal."
Warren Buffett

Buddy,
I often here that refrian. But tell me who bought:

Long Term Credit Management

Enron

WorldCom

October 2005 Refco suspends trading
One of the world's largest derivatives brokers is forced to freeze trades.

1995 Barings Bank goes bust.
Nick Leeson loses $1.4 billion by gambling that the Nikkei 225 index of leading Japanese company shares would not move materially from its normal trading range. That assumption was shattered by the Kobe earthquake on the 17th January 1995 after which Leeson attempted to conceal his losses.

Buddy,

Bill Seidman's words are encouraging, however it's one mans opinion. Even if you lined up five Bill's I would still hear the echoes of those who encouraged us during the S&L crisis with similar soothing sounds. Whats Seidman suppose to say? "Hey things are totally out of hand and we don't know what we're doing? What was the intercom system at the World Trade Center saying after the first jet hit..."It's OK folks, stay where you are, it's all right"....yeah

The same sounds were heard while Enron crashed, and then WorldCom etc. etc.....With the exception of a very tiny band of economists the ones you read and hear are normally cheerleaders for the school of "Calm down it'll all be OK"...that happens just before you lose power in engines # 3 & 4, and the co-pilot wants to declare an emergency but the pilot believes he can just fly her right onto the runway. Instead he flys it right INTO the runway , if he gets that far. Buddy . of all the guru's on Wall Street, one, only one called it right on Oct. 19, 1987 when the market dropped 22%, Elaine Garzarelli..

I'm convinced, as you are aware, that Wall Streeters are congenitally unable to tell the truth. Even if they were disposed to do so, the truth is often buried so deep or grossly distorted that it takes five of six "restatements of earnings" to get to the "truth"

Do you recall him mentioning that in 1989 there were less than (memory recall here) fewer than 500 derivative funds and that today there are approximately 14,000 derivative funds with another 6,000+ Funds of Funds FOF's? with no one knowing how much money is hedged in them and to what ratios?

Did he mention that since 2005 there has been a two thirds increase in the number of these funds? That the eight largest banks hold over 55% of all assets in the country...that the FED is beholding to business, not the American people, that it is a private entity?

I applaud your confidence.

I'd appreciate knowing just how the FED tracks privately owned, unregulated , non transparent derivative funds?

Rick Ballard, R i c k B a l l a r d ...are you the same Rick Ballard that barred me from comments on another website because I disagreed with one of the other posters?

rick ballard. I believe it was on the site TigerHawk wasn't it?

could have been ..just like to know if it's the same SOB.

Well you know me Buddy. He can run but he can't hide. I'll ask him every time he posts here until he gives a yea or nay.

I'm confident it's the same person. Why? I made a bitch about it, I believe on this site and you assured me that you knew Rick was a stand up guy.

You are now in a diplomatic posture, ergo it's gotta be the same SOB who had some control over at Tigerhawk and censored me because I disagreed with a regular poster there. Heck he might even be TigerHawk I never bothered to find out. He thru down the persona non grata and barred my postings. Poor form.

Do you have the particular ad hominem attacks or a archived page where the entire thread can be re-read?

I'd love to see the heights one had to reach to have been edited out.

Also, and I could easily be wrong, but I do not recall posting at a site called Flares.

Did you have any authority at TigerHawk?

Rick..just forget the last post...it's petty and you're a great poster here..whatever was done was done...so be it....plus Buddy did say you were a good guy and I'm coming off as a supreme jerk, which is a role I don't relish.

Let's go forward and chew on the topics of today.

Best,
Habu

I make a rapprochement, answered by:

"No thanks, Habu. If you can't remember where you were and what you said, it just ain't my job to straighten it out."

That isn't a diplomatic answer. It's aggressive. So here's what. I'll still say your an SOB, and we've agreed it's a fact that you edited me, however we know neither the topic, context , or wording used.....only your word that the attacks were ad hominem...so I'll just say your a lying SOB, that you were protecting a regular contributor from a thrashing and we'll leave it at that.

What we have established is that you are the Rick Ballard that did what I said you did. The remainder falls into your court to prove context,topic, and wording used ..otherwise you simply remain an inferior editor, a task well suited to what talent you have.

You and I are not going to get along on this blog.