Posted on March 1st, 2009 by Eric in
General Calculated Risk looks at the latest plan floated by the Treasury — to make low-interest, non-recourse loans to private investors who buy bad assets — and immediately gets it: this is a plan to drive up the prices of toxic assets by creating a lot of moral hazard.
By offering low interest non-recourse loans, these public-private entities can pay a higher than market price for the toxic assets (since there is no downside risk). This amounts to a direct subsidy from the taxpayers to the banks. It is amazing how many different ways they’ve tried to recycle the same bad idea.
Indeed. Every plan we’ve heard from Treasury amounts to the same thing — an attempt to socialize the losses while privatizing the gains. We’re going to buy up all the bad assets at premium prices; no, we’re going to offer the banks guarantees against losses; no, we’re going to let private investors buy the stuff, but offer them de facto guarantees against losses in the form of non-recourse loans.
Underlying all this, apparently, is the theory Tim Duy sums up so aptly:
Policymakers are assuming that restoring proper functioning in credit markets - and confidence in general - is equivalent to a housing price rebound. They seem incapable of envisioning a world in which this is not the case. This tunnel vision prevents policymakers of trying to devise policy which assumes that the many of the assets in the banking system are simply “bad.” For Bernanke and Geithner, there are no bad assets. Only misunderstood assets.
And the insistence on offering the same plan over and over again, with only cosmetic changes, is itself deeply disturbing. Does Treasury not realize that all these proposals amount to the same thing? Or does it realize that, but hope that the rest of us won’t notice? That is, are they stupid, or do they think we’re stupid?
I don’t know which possibility is worse.
Posted on February 21st, 2009 by Eric in
General Remember CDOs? Of course, you do…although no one is trading these monsters anymore they continue to wreak havoc to the global economy.
We still teach about them on the CQF. Why? Maybe they’ll come back one day, maybe with a different acronym, or if they don’t then they are at least a fantastic teaching aid for showing how not to model and how not to risk manage.
Hang on a second. Have they really disappeared? I’m not so sure they have. What’s that recent deal that the UK Treasury has just done with RBS? It looks scarily familiar…something to do with $325 billion of toxic assets (no doubt including a few CDOs and CDO^2s) and divvying up different levels of risk?
The balance sheet of RBS is £2.3 trillion. In return for £6.5 billion in some dodgy non-voting shares the UK Treasury is going to be insuring some of that £2.3 trillion. The first £19.5 billion is RBS’s responsibility, after that the taxpayer takes care of 90% of the rest of the $325 billion.
Sound familiar? Yes, the UK Treasury has just got itself the mezzanine tranche of a CDO!
Observations:
1. This “Mother Of All CDOs” that the Treasury owns is mezzanine tranche, the hardest tranche to value and risk manage.
2. Assuming there are CDO^2s in the portfolio this is now officially a CDO^3.
3. Worst of all, the premium paid to the UK Taxpayer is £6.5 billion in RBS shares. Of course, if things go wrong, as they probably will, then that premium will plummet as the RBS share price plummets. Note to Lord Myners, Alistair Darling and Gordon Brown: When you buy insurance on company X, buy it from company Y, not company X itself.
4. A fall of a mere 8.2% in the value of the toxic assets will wipe out the £6.5 billion. And that’s best-case scenario in which the RBS share price doesn’t fall!
5. Finally, the shares are non voting so as to give the impression, albeit rather feebly, that RBS has not been nationalized. Look, the Taxpayer owns 90% of RBS, and can vote on 75% of the shares. Why keep up the charade? Nationalize all dangerous banks, across the globe, immediately. Guarantee the deposits of the man in the street. And clean up the mess in an atmosphere of relative stability.
The UK Treasury is being advised by a bunch of dodgy Sirs and Lords, none of whom have a clue about what is going on or what to do, none of whom have any qualifications in risk control. But I’m sure all of them are jolly good chaps to have a glass of port with in the clubs of St James’s.
Posted on January 28th, 2009 by Eric in
General Disasters are usually marked by a number of incidents adding up and leading to the potentially worst outcome.
In this context, we just need to look what happens in the economy. We had a third bailout and unbelievable losses in the case of AIG, last week. This week Citigroup became a penny stock. GM is most likely nearing bankruptcy next week and already today its German subsidiary Opel is declared dead by the press. Then there is GE which might become the next victim. “It´s time for a break”, might be what distressed investors might think. The trend has becomes manifested over the last weeks, we are changing from bad times to worse.
Within the next six months we will be most likely to observe dramatic economic implosions and bankruptcies. The ticking economic time-bomb hidden in Credit Default Swaps might lead to bully-up companies and even countries. I confirm my earlier predictions that the events will turn out bad in Q2, and I had predicted this trend leading to a depression, back in 2007.
However, there are still some individuals who believe in recovery. Some Forex traders told me that I might be wrong and the recovery is in sight. I do not share their hope. The situation is too bleak. We have most likely passed the period of efficient preparation. Now, time runs out.
We are on our way to leave what I call phase-I. Phase-I allows us to prepare for what will happen in the crisis. It allows us to get some accessories, a survival kit, a swimming west and get into a boat. By April, the rescue boats will become scarce, and in case you have not managed to get one than most likely you will sink with the Titanic.
When this happens, governments will attempt to accesses your capital rights. This will happen in parallel to other distortions in the markets. While any kind of investment in the “economy” will be depleted, one will have to start worrying about governments actions. The rate of depletion has taken fascinating speed over the last weeks and is sheer impossible to keep up with the news, but I recommend you watch for signs of accessing your capital rights.
Let me give you some examples:
One of these things is nationalization, which we have seen now in many countries. They drive shareholders directly into losses. AIG´s former CEO Maurice Greenberg is a great example of someone losing a major amount of money. Another example for accessing your capital right is inflation. And inflation is building up. It is like a Tsunami. What you notice at this point of time is that the water pulls back, but you might want to watch out for the wave of freshly printed money. The next way is to tax you out by implementing new taxes. Last but not least there is something called quantitative easing and in my eyes it is the most advanced method of accessing the capital rights of people. By buying government debt or corporate bonds a central bank usually can control the monetary exchange rates. It is a monetary policy tool. Therefore it should not be used as a political tool to stimulate the economy at all. If someone decides to do so, he takes severe market distortions into account. At discretion bond and equity prices will move in one or the other direction. In a situation like this where market participants distrust it is like adding oil to the fire. It increases the level of uncertainty and cause even higher volatility. It´s economic suicide.