Last month, Wayne Barrett published a monster 5,000-word article in the Village Voice explaining how Andrew Cuomo bears much responsibility for the subprime mortgage crisis.
Now, John McCain is suggesting that he might appoint Cuomo to run the SEC.
Caveat Bettor just can’t take it any more:
I’m so angry, I am voting for Obama today.
There you have it: the Village Voice, directly influencing the opinion of Republicans. Truly we are living in strange times.
New York and other big cities always complain that they provide vastly more in federal tax revenues than they receive back from the government in benefits. But John Gapper makes an excellent point:
The U.S. government’s latest plan to buy up bad securities could be a larger helping hand for New York than the Chrysler bailout in 1979 was for Detroit.
Maybe this is the way of killing the deal. If there’s one thing that all right-thinking Americans agree on, it’s surely that New York City is not the first best place for $700 billion of taxpayer assistance to flow.
I would never presume to understand what Hank Paulson is thinking. But here’s one idea of why he bailed out AIG but not Lehman: the asymmetry in their respective CDS positions.
Back in the blissful days of April 2007, I wasn’t very worried about the systemic risk such instruments posed:
The derivatives market can’t crash, in the way that the stock market or bond market can. It’s a zero-sum game where for every loser there’s a winner. Theoretically, the net amount of wealth tied up in derivatives is zero, which means that no wealth can be destroyed by a market event…
The great thing about derivatives is that short of a major investment bank failing, there’s very little systemic risk involved with them.
Ahem. My bad: clearly I massively underestimated the chances of a major investment bank failing. But my mistake was actually bigger than that, because there was a much greater risk than an investment bank failing, which was the failure of AIG.
Investment banks, after all, are microcosms of the derivatives market as a whole: their positions generally net out to something very close to zero. If Lehman failed, went the theory, the rest of the market could just net out Lehman’s positions and carry on trading.
AIG, by contrast, had a massively asymmetrical position in CDSs. It wrote vast amounts of credit protection, but bought very little. So if AIG were to fail, many people who thought they were sitting on massive mark-to-market profits on their CDS positions would wake up one morning to find them worthless. If they started marking those swaps to zero, the failures could easily start cascading.
And so the government bailed out AIG. The insurer will now be able to pay out in full on all the protection that it wrote.
But doesn’t that mean that the rest of the CDS market — everybody but AIG — is, in aggregate, sitting on a tidy profit on their CDS positions?
It’s hard to see an accurate picture of what’s going on right now, given the noise associated with the short-selling plan and the bailout plan and the inevitable repercussions of Lehman’s failure. But when the dust settles, it might just be the case that the CDS market turns out not to be as destabilizing as people currently fear, thanks largely to the AIG bailout.
Instead, if this financial crisis does continue to get worse rather than better, I suspect it will be due to old-fashioned bank insolvencies rather than blowups in newfangled derivatives.
Which, I’ll admit, is hardly reassuring.
It’s always worth remembering the famous question that Dsquared posed back in February 2003:
Can anyone, particularly the rather more Bush-friendly recent arrivals to the board, give me one single example of something with the following three characteristics:
1. It is a policy initiative of the current Bush administration
2. It was significant enough in scale that I’d have heard of it (at a pinch, that I should have heard of it)
3. It wasn’t in some important way completely fucked up during the execution.
Now, do I have more faith in Hank Paulson than in Don Rumsfeld? Yes. But given the panicky and incoherent noises that John McCain has been making about the economy over the past week, I can’t say the same thing about Paulson’s successor. (According to InTrade, there’s still a good 48% chance that McCain will be the man in charge of staffing that key position.)
Here’s Brad DeLong:
There is no way in hell that anybody should give any extra power to any Treasury Secretary chosen by John McCain.
I beg the Democrats in congress: write a bill that makes sense.
And here’s Paul Krugman, today:
Some are saying that we should simply trust Mr. Paulson, because he’s a smart guy who knows what he’s doing. But that’s only half true: he is a smart guy, but what, exactly, in the experience of the past year and a half — a period during which Mr. Paulson repeatedly declared the financial crisis “contained,” and then offered a series of unsuccessful fixes — justifies the belief that he knows what he’s doing? He’s making it up as he goes along, just like the rest of us.
To allow the Bush Administration free reign in prosecuting one trillion-dollar initiative may be regarded as a misfortune. To do it twice looks like carelessness.
My Lehman story from last week has finally been picked up by the WSJ:
Lehman moved more than $8 billion between Lehman’s European headquarters in London and New York, where Lehman collects money from its global units and then disperses it daily.
On the Friday before Lehman filed for bankruptcy, Lehman’s London office was surprised to find that billions of dollars it expected in its accounts weren’t there, according to a person familiar with the situation. Lehman’s London insolvency administrator PricewaterhouseCoopers is seeking to have it repaid.
The issue took on political momentum over the weekend when U.K. Prime Minister Gordon Brown said he is working with U.S. authorities to get billions of dollars returned to the London unit…
While a large bank with offices around the world would be expected to transfer money among its operations, Lehman’s moves appear to go beyond that, people familiar with the matter said.
I suspect that at the margin, this provides an incentive for Barclays to do a deal to buy Lehman’s European operations — doing so might well preclude a lawsuit from any other potential owner, such as Nomura or PwC.
Note that the money was missing on the Friday before the bankruptcy, not the Monday after it. Lehman Brothers in the US looks as if it stole $8 billion from its own European operations even as it was still, technically, a going concern. If that’s true, Dick Fuld should be fired for cause rather than receiving a single penny from the $2.5 billion bonus pot. And in any case that bonus pot should certainly be spread among all Lehman employees, not just the ones in the US.
Update: Just found this: Bloomberg had much more detail on this story last Friday.
Senator Obama’s Statement of Principles for the Treasury Proposal: "Thus far, the Administration has only offered a concept with a staggering price tag, not a plan. "
ASIC in total ban on short selling: That’s the Australians, and with them it’s all stocks, not just financials. And then there’s Germany, Ireland, France, Switzerland, Portugal, Taiwan…
Why Paulson is Wrong and Oppose The Treasury’s Bailout Plan and Concerns about the Treasury Rescue Plan and Why You Should Hate the Treasury Bailout Proposal and The Bailout of All Bailouts is a Bad Idea and Paulson stops thinking, starts acting and The sticking points in the bailout plan and A Bad Bank Rescue and Hoping a Hail Mary Pass Connects: Just a few of the many, many blog entries and columns saying much the same thing. Steve Waldman sums it up in one word: Bad — although he later calls it "breathtakingly awful" just for good measure. He even has a better idea.
Facts about banks: "The total liabilities of Barclays of around 1,300 billion pounds (leverage ratio over 60!) surpasses Britain’s GDP… What would happen if a big U.K. bank were on the verge of failing? Would the Fed have to step in there too?"
How SEC Regulatory Exemptions Helped Lead to Collapse
To a First Approximation, Last Week Didn’t Happen: Kedrosky looks at a Morgan Stanley bond. "Assuming normality (which is a species of the assumption made my many default risk modelers), and noticing that we saw a $34 price decline, we witnessed a 50-plus standard deviation event, the sort of thing that shouldn’t happen without dinosaurs reappearing too."
Things you can’t do with the short-selling rule: Buy banks’ bonds, if you want to hedge by shorting the stock.
As Markets Swing, Meriwether Hears Echoes of His Own Collapse: He’s down 26% in 2008.
Here’s an idea I probably haven’t thought through properly, but shouldn’t outside investors be not only allowed but welcome in the new fund being set up by Hank Paulson? The fund is, after all, a distressed-debt fund at heart, and there are a lot of investors who would love to take this opportunity to buy up distressed assets on the cheap — especially if they could piggyback on the negotiating leverage that Treasury will have.
At the same time, every dollar invested in the fund by an outside investor is a dollar which taxpayers don’t need to come up with themselves, and is one less dollar added to the national debt.
I’m not even sure you would need particularly long lock-up times for investors. After all, the fund will surely have some kind of quarterly mark of what its assets are worth. Investors would be able to put money in or take money out each quarter, at whatever that mark is — while paying maybe a 1% annual management fee. If in any quarter investors withdraw more money than they invest, Treasury would then make up the difference — but at least it would have gone all that time in the interim without having to borrow the money.
Another way of achieving much the same end would be to sell equity in the fund: set it up as a company, majority-owned by the government, but with a small public minority float with an IPO at say $100 a share. The share price would then be a very good day-to-day indication, if you believe in the wisdom of crowds, of how the bailout fund is doing and whether the government is making a profit on it. And of course the fund could raise new equity any time it liked, as an alternative to funding itself entirely on the debt markets and thereby placing an extra burden on the public fisc.
Fannie Mae and Freddie Mac are already in a very similar state; AIG soon will be. Why not get to a similar place with the bailout fund, only instead of nationalizing a private company, privatize some of a public company? Maybe Hank Paulson himself should be encouraged to buy say $10 million of shares for his personal account, to get the ball rolling.
What has happened to the vibrant heterogeneity of views and voices in the blogosphere? Among finance and economics blogs, I can’t think of a single one which thought that the short-selling ban was a good idea, and I also can’t think of a single one which has any enthusiasm whatsoever for the Paulson bailout plan. Jack has a good roundup of the incredibly wide range of voices which are highly skeptical of what’s going on here.
I don’t quite know what to make of this, but I do think that the two are connected.
The Paulson bailout plan basically comprises the Treasury secretary saying "trust me, I’ve determined that this is, sadly, necessary". But the fact that Paulson signed off on the short-selling ban is prima facie evidence that he’s not worthy of that trust.
It’s conceivable that both schemes are necessary ideas. But the US government has done an atrociously bad job at even trying to explain why they’re necessary. As Paul Kedrosky said on our finance-blogging panel at Blog World yesterday, the government is treating us all like children, and if they really want to ask us for another $700 billion, it’s high time they started treating us like grown-ups instead. This is supposed to be a democracy: we’re meant to be in charge here!
There’s one other possible explanation, which is the youth of the web as a communications medium. Paulson did the round of Sunday TV talk shows today, I’m told, defending his plan and trying to explain it. But I didn’t see any of it: I don’t watch TV and in any case I was travelling back from Vegas. If any Paulson defense of his plan were easily linkable by the blogosphere, I think there might be more debate. But you can’t easily link to a talk show, let alone copy-and-paste Paulson’s statements and bat them around in the way that bloggers like to do.
Treasury can and should do a much better job of communicating its policies and the thinking behind them, especially when it comes to the web. Press conferences and TV apperarances are no longer remotely enough.
Incidentally, this is not the kind of unanimity from the blogosphere which one finds in cases of clear-cut idiocy like John McCain’s proposal during the primaries to temporarily abolish gasoline taxes. No one’s saying that Paulson is stupid or that an argument can’t be made for his plan. It’s just that no one seems to be making that argument.
If you had to point to one part of the financial markets which contributed the most systemic risk to the system, it would probably be the lightly-regulated investment banks. Not a problem any more: there aren’t any left!
Flight to Quality: Worries over ABCP — again — only this time it’s all asset-backed commercial paper, not just subprime.
McCain on banking and health: Another jaw-on-the-floor moment from John McCain.
It’s The "Absurd Financial Product Some Rich Person Actually Bought" Contest!
The details of RTC II are emerging, and it’s pretty simple: give Hank Paulson $700 billion, let him buy up mortgage-related toxic waste, and thereby rescue the banks and save the global financial system.
Henry Blodget asks one key question: how on earth will these things be priced? All we know so far is that it’s going to be set up as a reverse auction, but that raises more questions than it answers. Reverse auctions are easy if you’re dealing with something fungible. But CDOs and MBSs and the like are all unique, and I have a feeling that Paulson will have to hire a large number of highly-qualified bond-market professionals to look very carefully at every instrument on a case-by-case basis. My guess is that there will be some kind of performance-related pay, which will be an interesting development as far as the civil service is concerned.
The good news is that there are probably a lot of those highly-qualified bond-market professionals looking for work right now. The bad news, of course, is that they are the people who created the problem in the first place: is there any particular reason to believe that they’ll be a particularly effective solution?
One thing does need to be cleared up: this, from the NYT, is confusing, and pretty much false.
The ambitious effort to transfer the bad debts of Wall Street, at least temporarily, into the obligations of American taxpayers, was first put forward by the administration late last week.
I’m pretty certain that Paulson is not going to buy up the obligations of Wall Street banks, let alone guarantee them. If you hold bonds issued by Goldman Sachs or Wells Fargo, they’re going to remain obligations of Goldman Sachs and Wells Fargo. Instead, the government is going to buy bonds owned by Goldman Sachs or Wells Fargo — bonds which, at heart, pay through to bondholders the income from millions of Americans’ mortgage payments.
American taxpayers will have new obligations: in order to buy those bonds, the government is going to have to borrow hundreds of billions of dollars. That’s new debt, and government debt. But there’s no government guarantee on anything. And if you own a CDO or some other mortgage obligation, the government is definitively not going to step in and make sure you get paid in full.
Jim Surowiecki is quite convincing when he blames Lehman’s demise on the fact that it was a public company:
The perception of weakness exacerbates the reality of weakness. And although there are myriad measures of a company’s health, nothing looks scarier than a stock price that’s heading toward zero.
On the other hand, the main dynamic here is that it was the public investment banks which took the most risk, and it was the riskiest investment banks (the ones with balance sheets in the hundreds of billions of dollars) which failed.
Being public is not, in and of itself, a bad thing for an investment bank: Greenhill stock is trading at an all-time high. As Surowiecki says,
Companies like Lehman and, earlier, Bear Stearns saw going public as an excuse to take on more risk and act more recklessly, when in fact becoming a public company makes caution more important, since the margin for error is smaller, and the punishment for failure swifter.
This is the main reason why there are still big question marks hanging over the future of Morgan Stanley and Goldman Sachs. If you’re a private hedge fund, like LTCM, you have to actually lose money in order to fail. If you’re a public hedge fund, like Goldman Sachs, all that’s necessary for your stock to go to zero is that investors worry that you might lose money.
In Lehman’s bankruptcy filing, its assets significantly exceeded its liabilities; I think it’s fair to say the risk of going bankrupt while solvent was not something which Dick Fuld historically worried overmuch about.
It was inevitable that we would see this sooner or later:
From the perspective of a few days, the big mistake was letting Lehman go, without saving the creditors.
Which is basically another way of saying:
If the government bailed out Lehman, the ensuing crisis of confidence would never have happened, and this weekend’s monster bailout would not have been necessary.
I don’t buy it. Hank Paulson has been working on his RTC II plan for months now, quietly; if Lehman hand’t precipitated its need, then something else would have, unless the Treasury stepped in to rescue every financial institution which looked like it might fail.
It’s even possible that Lehman wasn’t the immediate cause of the crisis, and that a Lehman bailout would have been followed in swift succession by an AIG bailout, a Morgan Stanley bailout, and, not long after that, RTC II.
To put it another way, the big-picture macroeconomic reasons why RTC II has become necessary (or as necessary as it is, anyway) would have been in place whether or not Lehman was rescued. And there are extremely good reasons for allowing Lehman to fail: unless bondholders face a non-zero chance of losing money, there will be no end to the risk and leverage that financial institutions will take.
This is also the reason why John McCain is so wrongheaded when he says he wants a more consistent Treasury policy in funding private-sector bailouts. Consistent means predictable, and if you know in advance exactly which institutions will be bailed out, then anybody can and will lend them bottomless amounts of money without taking any credit risk. A classic recipe for a credit bubble.
I’m not saying that letting Lehman fail, followed by bailing out AIG, followed by RTC II is exactly the sequence of events that, in hindsight, would have been optimal — far from it. If you’re going to implement something like RTC II, then best to do so before major institutions fail, rather than after.
But given volatile and unpredictable markets, the federal regulatory response is also liable to have an element of volatility and unpredictability to it. And that’s not necessarily a bad thing at all.
To whom and for what? "The cancer is on Main Street, and the tumor has been growing there for years. Wall Street provided drugs to hide the pain and keep us going, palliative but not curative. What is happening now is those drugs are wearing off."
SEC tries to bankrupt Wall Street: What’s going to happen to all the cash brokers were sitting on in the wake of their clients going short?
Dogs and Cats Living Together: "I say it’s time to buy risky bonds. Either things recover. Or the fact that your bond portfolio has gone bust is the least of your worries."
John McCain Is Not Qualified to Be President: He thinks that the Fed "needs to get out of the business of bailouts". Er, no, it doesn’t.
Did the Gramm-Leach-Bliley Act cause the housing bubble? "GLB made it possible for JP Morgan to buy Bear Stearns and for Bank of America to buy Merrill Lynch. It’s why Wachovia can consider a bid for Morgan Stanley. Wince all you want, but the reality is that we all owe a big thanks to Phil Gramm and others for pushing this legislation."
Adios Free Markets…Mixed Feelings Today, But Tomorrow I will HATE IT! "I have never woken up to bigger gains in my portfolio and they have never been less deserved."
ABX: Extraordinary Value: The time to buy subprime nuclear waste is when the blood is running in the streets!
Financial Terrorism, But, Like, The Real Kind? "So you have a ridiculous action taken by the Fed (insane, even), but then come up with a way to justify it by using a more ridiculous theory." Someone should remind Cramer and Ritholtz of Hume’s criterion for believing in a miracle.
It seems a long time ago now, but back at the beginning of the credit crisis, when US banks were being bailed out recapitalized by foreign governments rather than their own, one of their favorite methods of raising new capital was to issue convertible bonds.
Here’s a measure of how bad things have gotten since then: in pressuring the SEC to ban short-selling, the likes of John Mack have implicitly conceded that there’s simply no way they’ll be able to issue any kind of convertible bond for the foreseeable future.
How’s that? Investors in convertible bonds are perfectly happy to put up new money, but they invariably short the underlying stock at the same time. It’s called convertible arbitrage, and it’s popular enough that there’s almost no room in the convertible-bond market for anybody else. Any bank trying to issue a convertible bond into a market where short-selling is banned would be doomed to fail.
I’d be interested to see how the prices of various banks’ public convertible bonds are doing today. I doubt there’s a panicked attempt to dump them all immediately, now that hedging them has been banned. But I also suspect that there’s a huge overhang of bonds waiting for any buyers to come along.
Not that you can short the converts — that’s been banned, too, at least in the UK, and probably in the US too, before long. The main effect of that, I suspect, will be to simply drive volumes and liquidity in the convertible-bond market down to zero. Which is fine if the only source of capital right now is the US government. But if other people are interested in putting up money too, the ban on short-selling might, ironically, make it that much more difficult for them to do so.
Dealbreaker has a most germane chart of what happened when Pakistan banned short selling: a brief and large rally, followed by a slow and devastating collapse.
Could the same thing happen with the US stock market? Absolutely, yes. Banning short-selling is a way of buying time — but if the mooted RTC II isn’t up and running very quickly, the stocks which went up today are liable to go straight back down to where they were — and, probably, further, given that each successive stock-market low is lower than the last.
It’s surely no coincidence that the short-selling ban was unveiled at exactly the same time as politicians started talking in public about a huge government bailout fund. The problem with the fund is that it will require time-consuming legislation to set up, and time was the one thing which Morgan Stanley, in particular, didn’t have.
And so the short-selling ban is a stopgap measure, designed to artificially boost stock prices until Congress can get its act together and throw a few hundred billion dollars at the market in a more substantive attempt to stop it from imploding.
Those kind of measures actually can work: I’m thinking here of when the Hong Kong government started simply buying all the stocks on the Hang Seng index during the Asian financial crisis, and ended up making a fortune.
Whether it’s the government’s job to intervene in the markets, however, is another question entirely. If it were just stocks falling, no one would ever suggest the Treasury should start propping up the equity markets, but somehow if those stocks are financial then that seems to change the moral calculus substantially.
It’s certainly hard to imagine a Treasury secretary more well-disposed towards Wall Street than Hank Paulson, who was CEO of Goldman Sachs up until the minute he moved to Washington. Paulson, in turn, gave Morgan Stanley the mandate of advising on the Frannie bailout. You can look at Morgan Stanley’s payment for that job in one of two ways: either it was very, very small (the headline figure), or else it was very, very large (tens of billions of dollars of Federal money being used to take toxic assets off Morgan Stanley’s balance sheet).
What’s more, if Morgan Stanley imploded, Goldman Sachs would surely have been next in the firing line — Goldman needs Morgan to survive, there’s safety in numbers, there can’t be only one. Does Hank Paulson overestimate the systemic importance of Goldman Sachs to the US economy? Almost certainly, yes — he could hardly have been CEO of Goldman if he didn’t.
On the other hand, he’s a decisive dealmaker who understands finance, knows what he’s doing, and still retains the confidence of the market. His attempts to stop the financial system from collapsing might not be working very well, but he’s certainly no laughingstock in the way that, say, John Snow might have been if he’d attempted something similar.
The upshot is that it’s still far too early to tell whether any of Paulson’s decisions will actually work. But even the best-case scenario is unattractive at this point: financial disaster averted, but a massive increase in government debt, the moral hazard associated with a brand-new Treasury put, and a discredited SEC which looks like it’s taking policy advice from Pakistan.
As for the worst-case scenario, well, for that, I’ll send you over to Nouriel. Credit losses of $2 trillion, half the US banking system nationalized, municipal defaults, house price declines accelerating, a sudden stop in consumer spending, global contagion, stagflation, you name it. Nouriel concludes:
At this point the perfect financial storm of the century cannot be contained. The only light at the end of the tunnel is the one of the coming financial and economic train wreck.
So brace yourselves: whatever happens, it’s going to be a bumpy ride for a while yet.
Here’s a chart of how the Dow and the S&P have performed over the course of September to date. I chose the time frame because it was basically the period in which AIG, a Dow component, imploded.
The point of the chart is, of course, that the Dow is an unreliable average which shouldn’t be trusted. It only includes 30 stocks, and if one of them goes to zero, that can cause the Dow to significantly underperform the stock market as a-
Um, hang on a minute. The Dow is the blue line: it closed yesterday down 4.54% month-to-date. The S&P 500 is the red line; it closed yesterday down 5.95% month-to-date. Somehow, the Dow managed to comfortably outperform the S&P 500 despite having one of its thirty hands tied behind its back.
Is that because the S&P 500 is more financially based than the Dow? I don’t think so: the two are performing very much in line with each other today, and the Dow includes American Express, Bank of America, Citigroup, JP Morgan Chase, and also GE if you consider that a financial.
We might be seeing a small flight-to-quality trade here, where investors flock to what they consider the safest of the blue-chips. But I haven’t seen much indication of that. I suspect this is just another artifact of how crazy the markets have been of late, and there’s no point in trying to read anything into it.
Whee! Isn’t this fun? Stocks are "skyrocketing" today, after "soaring" yesterday — the Dow’s up 700 points from where it closed on Wednesday. Let’s not tell anybody that at its current level of 11,316 it’s actually lower than where it ended last week. It almost seems as though markets are becoming immune to bailouts. Which I guess is one way of reducing moral hazard and the worries surrounding the Bernanke Put.
Quote of the day comes from a distressed heiress:
"Five years ago, if you were an investment banker that meant big bucks and automatic entry. And today it is a dirty word," said author Holly Peterson, the wife of a multi-millionaire investment banker and the daughter of multi-billionaire financier Pete Peterson.
The story explains that in the rarefied world of New York City co-ops, investment bankers are much less likely to get board approval these days. As a result, they’re going to be harder to sell — and prices are going to come down.
Alternatively, maybe NYC co-ops will become a bit like Damien Hirsts (or high-end houses in London): bought only by Russians, but always for vast amounts of money. I’m not up to speed on co-op boards’ attitude to Russian buyers, but if they’re the only people willing to pay top dollar for these apartments, the boards won’t hold out forever.
(Via SAR)
I like Floyd Norris when he’s angry.
Lehman did not measure up because its chief executive, Richard S. Fuld Jr., simply was not reckless enough as he ran Lehman into the ground.
Had he had the foresight to make a lot more bad bets in the derivatives market, the government would have feared financial chaos and might have nationalized Lehman, just as it nationalized A.I.G., Fannie Mae and Freddie Mac. Or it would have subsidized a takeover, as it did for Bear Stearns.
The Paulson-Bernanke Doctrine is not “too big to fail.” It is “too reckless to fail.” …
If these nationalizations smack of socialism, it is closer to the Marxism of Groucho than of Karl.
At the same time, I wouldn’t mind seeing a slight downtick in the amount of generalized recriminating going on, especially insofar as it’s directed at the government. Pundits (not Floyd!) who have no idea what counterparty risk is and who can’t even tell you the difference between equity and debt are opining with great moral seriousness about the problems of privatizing profits and socializing losses, the double standards involved in bailing out banks but not homeowners, the obscene amounts of money that banks’ executives made on the way up and which they won’t have to repay on the way down, and so on and so forth ad nauseam.
And the problem is exacerbated by the fact that genuinely informed commentators are making exactly the same points.
It’s not that the complaints are groundless, although I do think they’re larded with an astonishing amount of hindsight, and they do hold national regulators to standards of perfection and perspicacity which are utterly unrealistic.
I just think that now’s not the best time to be pontificating along such lines. There’s a time and a place to sit in one’s armchair and expound upon the fact that we’d all be better off if these big financial institutions hadn’t taken on so much risk and that really regulators should never have allowed the financial system to become this risky in the first place.
Right now, in the midst of the crisis, when banks still aren’t lending to each other and there are dozens of major fires to be put out, is probably not that time or that place.
On the other hand, helpful suggestions would be very gratefully appreciated, I’m sure. Start from where we are right now, and come up with some bright ideas for how to get a liquid and well-regulated financial system working again. Ad hoc bailouts and liquidity injections might be clumsy and unfortunate and rife with moral hazard — but they might well also be the only tools at our disposal.
A sign of the times in a WSJ headline today:
Citi, Looking Rejuvenated, Weighs a WaMu Takeover Bid
Yes, "rejuvenated". Young, fresh-faced, carefree. Or, alternatively, just as haggard and battered as it ever was, but looking increasingly healthy in comparison to the rest of the financial system, which is in even worse shape.
"People view us today as being a source of the solution, instead of part of the problem," Gary Crittenden, Citigroup’s chief financial officer, said in an interview.
The scary thing is, he’s absolutely right. Which says much more about the desperate straits we’re in than it does about Citi’s health.
One question, though: if Citi buys WaMu, will the Seattle bank immediately appear on the list of $400 billion in non-core assets which Pandit has said he intends to sell?
The SEC has now implemented its short-selling ban: it’s on 799 financial stocks, which, interestingly, do not include XLF, the biggest ETF for financial stocks. In theory, if you wanted to short a given stock in the XLF basket, you could short XLF and then just buy the individual components you weren’t interested in. But there are easier ways of shorting, like selling calls or buying puts.
With short-selling banned, there will probably be a substantial move into the options market by the erstwhile shorters. That might well drive down the price of call options, especially on financial stocks but also on broader indices. And I’m reminded of the advice that call options can be a smart investment anyway, especially for younger investors who can afford to lose their money. If that was something you were thinking about already, right now (or some point over the next few weeks) might be a great time to enter the position.
On the other hand, all options get significantly more expensive in times of high volatility, so maybe the effect of the short-selling ban will simply be to make call options slightly less expensive than they were, but far from cheap.
I do wonder though about the opportunities this financial crisis provides to investors who can stomach illiquidity and have a long time horizon. There are many such investors out there, both retail and financial, not to mention all those university endowments, sovereign wealth funds, and the like. Does anybody have an idea of where the long-term, locked-up money is going?
As for anybody thinking of trying the short-XLF play, I have some simple advice: don’t do it. It’s more stupid than clever, and if anybody catches you trying to make such an obvious end-run around the new regulation, you’ll deserve the large fines the SEC will surely find some way to impose on you. After all, anybody doing such a thing is a financial terrorist!
How Wall Street Lied to Its Computers: "The people who ran the financial firms chose to program their risk-management systems with overly optimistic assumptions and to feed them oversimplified data."
Running Down Wall Street: Carney on why the share price is so important to investment banks.
Titanic events in the market: "When the Titanic hit that iceberg, at first the crew didn’t think it was so bad. The ship’s hull was divided into watertight compartments, and not enough of them had been ripped open to sink the ship."
400 Points Later, All Is Well: "The equity market, and fundamentals are at this point distant cousins, barely on speaking terms with one another."
Kraft to Replace AIG in Dow: Think of it as the "stock up on canned goods" hedge.
Sarah Palin and John McCain on AIG: Studies in cluelessness.
Expresses Concern Over Markets: He’s postponed a trip out of town. Do you feel reassured now?
The financial crisis reaches Manchester United: Or, the Cristiano Ronaldo crisis reaches the US Treasury. One or the other.
Mies van Der Woes: "Decades of suburban development around Plano has meant that heavy rains have no place to seep in. As a consequence, since the Farnsworth House was built, it has suffered seven 100-year floods."
I have a nasty feeling that Christopher Cox watches Jim Cramer. Today, Cramer started waxing conspiratorial about the dastardly types who would be so unpatriotic as to sell investment-bank stocks:
"It could be financial terrorism. What a great way to take down America. It’s a financial national emergency. There’s someone who wants to bring down capitalism. No one’s listening to me! To ban short selling is wrong. Unless you have reason to believe that it’s a force which would use physical terrorism which is using financial terrorism."
And lo, later that same day:
The Securities and Exchange Commission took its most aggressive assault against bearish stock bets by stating its intention to issue a temporary ban on short-selling.
This is not a good idea, see Paul Kedrosky and John Jansen explain; they will be joined by many others soon enough. Justin Fox attempts a weak defense ("a bear raid on a bank or securities firm can become a self-fulfilling prophecy"), but the fact is that a ban on short selling isn’t just a bad idea in and of itself, but it will also have very little practical effect. If you want to bet that a certain stock is going to fall, there are lots of ways to do that (like, say, buying put options), and the Law of One Price will take care of everything else.
I think that what the anti-short crowd largely fail to realise is that you don’t need any sellers at all for the price of a stock to drop. If a stock price is falling, that doesn’t need to be because lots of people are selling at any price; it’s just as likely to be because no one is willing to buy at a price similar to where the stock was trading yesterday. In a bear market, the key people to keep an eye on aren’t the sellers but the buyers: it’s the buyers who are the price-setters, and when they go away — as they’re liable to do, in times like these — stock prices can plunge dramatically even when there aren’t any shorts at all.
Of course, no one’s interested in the details of market dynamics right now: much better to point fingers and Take Decisive Action. At least that way, if the market continues to fall, it’s harder for other people to blame you for being asleep at the wheel.
Still, I’d love to see what would happen if Osama bin Laden were to release a video claiming credit for all the recent market turmoil. If Cramer is right, that alone would be enough to cause a massive stock-market rally, no?
At 5:01pm, Calculated Risk put up a blog entry with the headline "Report: WaMu Attracts No Bids".
At 6:19pm, Calculated Risk put up a new blog entry, with the headline "Report: WaMu has Attracted Multiple Bidders".
A little bit later, Calculated Risk backtracked, editing the second headline to read "Report: WaMu has Attracted Multiple Potential Bidders".
At 6:57pm, Calculated Risk put up a third blog entry, with the headline "Financial Times: Five banks Evaluating WaMu".
As I write this, at 7:35pm, the three blog entries between them have amassed 226 comments.
No wonder the market’s so frazzled. And this is by any standards a smaller story than the big ones right now: the RTC II, the fate of Morgan Stanley, the various Fed liquidity facilities and how and where they’re being used.
I’m getting on a plane tomorrow — I’m flying to Las Vegas, where I’m on a panel at Blog World. I’m sure I’ll miss a lot of news — but I’ll also miss a lot of noise. If you don’t need to be keeping up with all this stuff on an hour-by-hour basis, it’s really best not to even try. There’s precious little upside, and lots of downside.
