Saturday, March 15, 2008

More Bang for the Buck

The Fed is going to bail out Bear Stearns. What a laugh, they sold all of the good stuff last June when they had to raise cash. Whatever is left probably has junk status (they were highly leveraged when they hit that speed bump).

Presently it appears that Bear Stearns is being nailed with very large cash withdrawals; hedge fund derivatives comes to mind, 52 trillion dollars worth are out there somewhere.

Sources state that Bernanke stepped in to keep Bear Stearns from collapsing. It would have left financial markets in chaos and would have taken several weeks to sort out. The aggravating thing about all of this is that it wasn’t done on the spur of the moment; figure Bernanke had at least thirty days warning. Federal accountants had to have been crawling all over their books for weeks. This is a non recourse loan (it almost sounds like someone got a commission for writing it)! It does make one pause to wonder what the Fed is going to do with these securities. They kind of get to keep them.

Using the “Cockroach Rule,” it’s only a matter of time before another sick hedge fund appears. What is becoming apparent is, no one wants to buy real estate securities. There is NO MARKET. You got ‘em; you keep ‘em (or go talk to Ben).

Here is where I get shot for generalizing again. Let’s figure that 40 to 60 percent of the world’s assets no longer exist. They have vaporized. Current value does not equal book value. The million dollar house listed on the books is only worth 400K right now. Let’s assume that half of all the worlds money is in retirement funds. In this scenario, the losses are still invisible (the retirement draw down is still years away). Only if the demand for payment forces the fund to convert investments to cash, then the loss becomes apparent. Remember one very important point, real people lose or gain money, financial institutions only manage it.

From Bernanke’s point of view, supplying liquidity can help the funds avoid marking the bad assets to market. His goal is to stop a forced conversion and keep the losses hidden. The amount of money loaned to Bear wasn’t revealed; my guess, about 30 billion (that’s what they had in the two hedge funds that collapsed).

Right now there is a “bank” run on Bear Stearns. There are two possible scenarios. BS was less than truthful to Bernanke about the depth of the financial mess that they are in, or it’s real bad, beyond imagination. Some people out there are starting to cut and run. The first 10 to 20 percent of investors converting to cash will get their money the rest will get an “education.”

The Fed is “Insuring” a non bank??? I guess you need to be thoroughly medicated to comprehend the implied implications. There are two ways to throw your money around; the way Bernanke does it or the way the ex Governor of New York did it. I think the Governor got more bang for his buck!

Copyright 2008 All rights reserved


Sackerson said...

Hi Jim:

I second your point about not crystallising a loss, which is why we should hope the fudging works - the passengers on the Titanic can't take comfort from thinking the Captain had it coming. So I'm crossing my fingers and calling a stall:

... and also arguing (in my amateur way - you Americans know more about money than we Brits, because you're allowed to keep some of it) for some forgiveness of debt, or even of interest:


Anonymous said...

This bailout loan is probably the biggest liar loan in history. Hopefully the record will not be broken.

Anonymous said...

Dear Jim:

The news gets more dismal, each passing day and month. Where will we be 6 months from now? It seems that no one is facing the reality of the current and significant problems in the credit markets and for the average citizen. I thought your article was most interesting, especially in light of a conversation I had 2 days ago with a friend in the Orlando, Florida area. He told me that there were numerous forclosures in a high end development near Winter Park. He said the homes had sold in the 1 million dollar range (+ 4,000 sq. feet) 2 years ago and now were being picked up for $400,000.00 or not at all. I read recently that an anlogy to the real estate "bubble" was the stock market in the 1920's were everyone was buying on margin. Anyway, as you pointed out in one of your articles several months ago it seems that 600,000 in "value" from the example above, just went "poof". Were did allthe money go?

Where will we be in 6 months? What are your thoughts?

Anonymous said...

"Where did all the money go?"
Where it came from, of course.

Jim in San Marcos said...

Hi Anon 7:25

There was a real estate crash in the 1920's that started in Florida in 1926. Here is Link to it.

As for what will happen in the next 6 months, I'm not sure, but we have front row seats. The third week in June will be the first anniversary of the Bear Sterns melt down.

The thing to realize is that there is a ton of misinformation out there. Countrywide and Bear Sterns didn't drop dead overnight.

This is a poker game. Bluff if you can. Thats how John Paul Jones won against the Serpis in the Revolutionary War.

We all think as individuals. It doesn't occur to each of us that we will all probably come to the same conclusion at the same time and act accordingly. What looks like a group move is just a lot of individuals with the same idea taking action.

Bear Sterns is just an example. Investors are voting with their feet. After months of sleepless nights, they want some peace of mind. So they sell.

When the government jumps off the deep end with rebates and bail outs, it does kind of suggest a message of impending doom. They know more than they are letting on.

My best guess it that we could end up losing half of our savings. It's not the end of the world, but at my age, it could crimp my retirement quite a bit.

Hope that's of some help

Jim in San Marcos said...

Hi Sack

As for a stall, I think that will just drag it out longer and make it more painful.

If the Governments keep out of it, it could be over in 6 months. Of course we know that's not going to happen.

Sackerson said...

Over for whom? Maybe a long painful episode is better than kill or cure with the chances on the former. But retribution must be meted out according to culpability.

Jim in San Marcos said...

Hi Sack

I don't think you will get your pound of flesh.

To simplify it, someone earned the million dollars that was put in the bank. Then someone borrowed the million to buy a house. The homeowner walked and the house is now worth 400K.

The Fed is going to advance the bank 1 million on the foreclosure so it can stay in business.

The Feds money advance only stalls the inevitable. The house is worth 400K today and probably 200K next year. It does give the smart money a second chance to get out before it hits the fan.

The parties culpable for this mess are probably the politicians who over the last 40 years have undone what the Congress of the 1930's tried to prevent from ever happening again.

If the government didn't step in, the hit is shared equally among everyone and it would be fast. You don't get whats left of your money until the house is sold. Each depositor that is allowed to withdraw all of their funds out, before the collapse, leaves a smaller pie to divide up among those still with accounts at the bank.

That is pretty much what a run on the bank is. The first in line get their money, the rest don't.

This is a horrible example, I am using Banks, and there isn't much of a chance of a depositor ever losing money there.

The Fed is hoping to curb this bank run with cash. I wish them luck. This could be a very bad week for the Stock Market. Friday is a triple witching day for the market. Halloween could be early this year.

Strategic Investor said...

Jim, well said.

The Fed DOES have a precedent for this - the Argentina default crisis of 1980 would have left every major US bank insolvent had it had to market the bonds to market.

The Fed allowed the banks to carry the paper at par on hte books until it could be written off without causing the balance sheet to implode. Took about six years, but most of that was during the 1980s boom.

I wrote a more detailed post on the finances of Bear on my blog.

It would take losses of only 12 billion since November to make Bear technically insolvent. Given the immensity of its balance sheet, the massive fixed charges it had financing it (while experiencing shriking IB income) and the $57bn in mortgage securities, it seems quite possible that losses had exceeded this figure.

(That doesn't even count the off balance sheet obligations).