The Evil that is Day Trading

[cthulhu]

The thing is, nationalizing doesn't solve the current problem - they have assets they can't price - and it doesn't actually penalize the bankers who put us in this position. The assets would still be worth little and the other banks would still not be trading or loaning.

Exactly! Thats why I'm not suggesting nationalisation. The FDIC method of a structured insolvency process is much better. It solves the problem and penalises the bondholders of the bank itself, who frankly deserve to lose money (thats what risk is about)

The FDIC is meant for banks, with depositors and creditors. These financial institutions don't have depositors insured by the FDIC and their creditors are merely other financial institutions.

The investment banks are banks though with depositors and creditors - customers.

There are also bondholders and equity holders.

FDIC is about protecting the customers of commerical banks, while winding up the business as quicky as possible with as little disruption as possible and giving as much money back to the bondholders as fast as possible.

This process can be logically extended to investment banks with no problems at all - Lehman Brothers and Bear sterns showed us that the customers are not at risk. They will be made whole. The current problems are caused by trying to make the bondholders whole - the lemon socalism I mentioned.

Frankly, fuck the bondholders. If the bondholders and the equity holders get wiped out, but the customers are made whole, and the zombie banks are wound up, mission accomplished. The finical system won't be in panic mode, because the insolvent banks will be out of the picture, so only the solvent ones will be left. And they can lend money to each other. So we're back where we we were at the start minus a bunch of banks, which is a shame, but thats life.

[Crissa]

Yes, but you missed the point. Those aren't FDIC insured banks. They aren't banks. We can nationalize BofA if it fails, but we don't have laws in place on how to deal with AIG (which isn't a bank) aside from bankruptcy.

AIG in Chapter 11 would ruin more than just a few banks. Tho if we'd let it happen, those bonus checks wouldn't have gotten printed...

-Crissa

[cthulhu]

Yeah, I know, but you have all these lawmakers around picking their noses, passing the TARP or whatever. They can just make a law.

[Username17]

I genuinely don't understand why we're going to have the US government lend people money for the purposes of purchasing toxic assets to wait for them to blow over so that the banks can clear their balance sheets and start lending money at interest to people doing actual economic projects. Why not just let the banks fail, buy up the assets for pennies on the dollar and have the federal government lend people money directly for projects?

Instead of having Sally Mae and shit, we can just have the government give out the student loans, the housing loans, and the small business loans directly. They could charge prime +1% interest to small credit users. The government would take in more cash than they do now, credit would be more attractive than it has ever been to the people who actually use it, and everybody wins. Except the bankers who ruined things for everyone, but honestly fuck those guys.

In fact, credit under such a circumstance would be so available that it would destabilize the economy in the other direction. The government would have to set up a harsher interest system for private loans just to keep an inflationary spiral from consuming everything. But that's the point. If you want to get around a credit crunch, don't spend a trillion dollars to try to make Washington Mutual profitable.Just start directly lending people money. Say, a trillion fucking dollars worth.

-Username17

[Crissa]

We have a congress, yes. And if you were paying attention to the debate on the Stimulus package - where Republicans lobbied the President to remove items to make them feel better, and the they didn't vote for the package. Or where the opposition center in the Senate decided to randomly take out 100 billion of the best stimulus 'because it felt good'. And the President has had to wait months to get any Treasury appointees because Congress won't deem to vote on them.

Perhaps the President no longer trusts Congress.

[cthulhu]

Actually it looks like Benake and Gienther just asked in Congressional Testimonay last night for exactly what I just suggested so it looks like they are ahead of the 8 ball on that one.

[PhoneLobster]

Actually it looks like Benake and Gienther just asked in Congressional Testimonay last night for exactly what I just suggested so it looks like they are ahead of the 8 ball on that one.

I am deeply confused. I'm following this story closely through a number of economics and political blogs and columnists and frankly the plan being presented in no way resembles your temporary nationalisation to handle insolvency plan.

The current plan is the American government is going to create massive loans that they are not available to the general public that will be given to the same individuals and financial institutions that created the crisis.

Those loans will be used to buy the known bad (very bad) assets at WAY above market prices. Then if any of those assets magically make money the Feds and the Crims will split profits but if (when) those assets lose vast amounts of money the government will eat the entirety of the losses (as in all PPP arrangements the government takes all the risk and expense).

The testimony you mention is widely considered little more than window dressing to try and distract opponents of the "Heads Criminals Win, Tails Government loses" plan.

In effect they are making vague noises about putting in places rules that would allow, maybe, in future the kind of action you (and everyone else and their brother) want the government to use... but don't want to actually do that right NOW.

And all that covers language which discusses "other tools" including the current "buying bad assets" strategy that is widely established as the plan they are in the act of implementing right now.

[cthulhu]

Actually it looks like Benake and Gienther just asked in Congressional Testimonay last night for exactly what I just suggested so it looks like they are ahead of the 8 ball on that one.

I am deeply confused. I'm following this story closely through a number of economics and political blogs and columnists and frankly the plan being presented in no way resembles your temporary nationalisation to handle insolvency plan.

You're following more closely than me then - all Newsradio had this morning was that those two were seeking extra powers, and then used the specific example of the need to seize AIG to avoid paying out bailout money.

I agree the current plan (both by bush and Obama) is stupid, as I pointed out before. The really grating thing is that the FDIC structured insolvency approach is used all the time and has a proven history of working well. I don;t get what the problem is.

[PhoneLobster]

I agree the current plan (both by bush and Obama) is stupid, as I pointed out before. The really grating thing is that the FDIC structured insolvency approach is used all the time and has a proven history of working well. I don;t get what the problem is.

Everyone agrees on that. Even Frank's (quite sensible) "Communism or bust" plan is closer to that proposal than what they seem intent on actually doing. Hell there are members of the ultra elite cleptocracy themselves bashing Gietner and friends over this stupidity.

Anyway, the long and short of it is. They are putting out proposals for the vague authority to do a bunch of stuff. But the only plan they have actually outlined in concrete is the bit where the government covers 97% of bad asset purchase at inflated prices through "you can't lose!" loans. EDIT: and the declared backup plan if, when this fails is "No, this first plan WILL work! Or else! Clap Harder!"

Now I can't absolutely rule out that it is all a massive super giant bait and switch where they talk up and leak the bad plan (which certain greedy cleptocrats are waiting to eat up with a spoon), get vague policy support for a good plan along with the firm support for the bad plan then BAM declare emergency and switch to the good plan declaring vague pre-existing authority at the very last second... thus preventing a thousand fat cat profiteers from crying out in pain for several months while it comes together.

But how likely do you think that is?

[cthulhu]

Yeah, the current problems are solely caused by this do or die determination to make the bondholders whole. Who cares about them. Its insane.

I think we are just agreeing here.

[PhoneLobster]

I think we are just agreeing here.

That would be fine and possibly correct, but in the same post I find something to quibble about.

Yeah, the current problems are solely caused by this do or die determination to make the bondholders whole. Who cares about them. Its insane.

"The problem" with the current plan seems to be one of two things.

1) It is like the 4th draft of basically the same thing. Premised on the belief that the bad assets are really just temporarily misunderstood assets, and if we could just boost confidence with bogus tax payer funded price fixing all the bad assets would return to their bubble values and all the problems would be fixed. Overnight. FOREVER!

2) Actually point 1 is just a transparent ruse and that the people conceiving of the plan expect a gullible public to take hook line and sinker while they loot even more personal profits from the public pocket while worsening the economic disaster and laughing all the way to the bank.

So yeah, sure it all ends up looking like an inexplicable determination that retaining the status quo of financial institutions at any cost is the only solution. But really either way it's clearly just the emergent result of a ridiculous faith in known bad assets or a remarkable (but hardly unprecedented) utterly arrogant looting the economy for the good old boys ethic.

[cthulhu]

So yeah, sure it all ends up looking like an inexplicable determination that retaining the status quo of financial institutions at any cost is the only solution. But really either way it's clearly just the emergent result of a ridiculous faith in known bad assets or a remarkable (but hardly unprecedented) utterly arrogant looting the economy for the good old boys ethic.

I'm not even sure its retaining the status quo - its just the second tier capital holders.

As for the valuation of the assets: I do agree with the premise that the valuations on the first tranches is way super low, but.. eh. Most of the banks are so leveraged that even if they just take a modest haircut (a likely scenario) they are still fucked, so the valuation of assets is just irrelevant

[Crissa]

As I said before, the idea is to float an actual market solution - this is a market item, so we probably need a market solution for pricing. It's just not plausible in the short-term that 75% of home mortgages will default. So something needs to get done so that banks can loan money again.

And no, the 'general public' totally can get into the deals. As long as you have millions of dollars, since that's the size of the chunks. There's at least one mutual fund creating shares (the smallest is 25K right now) to get into the auction.

And as it goes, the government has actually made a profit backing and then setting right markets gone sour in the past.

-Crissa

[Username17]

A lot of those banks are leveraged 35:1. If those assets get valuated at 90% of their original mark to market the banks are short on their financial obligations by more than three times their own value. No one is buying those assets because everyone can see that the banks are totally insolvent and have been using incredibly shady book keeping practices. Buying up some of those properties is a fool's game because a lot of them don't really even exist. But beyond that, the actual problem is that the entire financial structure was predicated on the market price continuing to rise. Even a static value would leave the banks so far in the hole that they couldn't afford the interest payments on their loans to each other.

There is no market solution. The market has failed.

You can't buy this shit and have it turn into potato salad. That's a one way trip.

-Username17

[Crissa]

No, Frank, these may have been predicated on a rising market... But the law says US banks cannot exceed 17:1 and the assets they're looking at are ones which are supposed to have monthly checks arrive.

Yes, they aren't going up in value... But they do provide steady income for financial instruments. It's just that the geniuses at AIG and elsewise figured out how to mask the tranches that don't get payments in down times with the ones that do - so no one wants to buy them to figure out if they've getting checks or not. And so the banks are holding an income, but can't use it as leverage.

And banks like WAMU, which were in deep, then had depositors pull out billions of dollars - an amount greater than the bank itself was at risk for on the mortgage market, but without the deposits to leverage itself with, it was dead in the water.

So it's a matter of some banks sitting low in the water, so someone decides to come along and take the remainder of the air out of the life-raft, which then dumps all their creditors into the water.

There is a market solution, but right now the solution is 'don't buy any investment' or rather, we're back to 'don't buy any security', which is slightly better... Markets overreact, and that's what they did here. And Governments need to intercede in that position.

Not saying markets solve everything, but using the market to solve its own problems is probably better than doing nothing and letting everything shrivel up like the Republicans would like. You won't get the revolution you want.

-Crissa

[Username17]

But the law says US banks cannot exceed 17:1

Why do you think this means that they weren't leveraged at over 30 times? They double booked their assets. Then they maxed out their lending based on counting all their physical assets both as things and as liquifable currency both. Frankly 30% is generous, because literally half those assets are paper vapor.

-Username17

[Crissa]

While that may have been true for the Icelandic banks, I have to accept that our law enforcement saying it did not happen here.

-Crissa

[cthulhu]

Crissa: The investment banks were not bank holding companies and thus not bound by that particular restriction.

Also, the leverage ratios include senior secured debt as first tier captial for counting leverage ratios. So if you consider equity only, Fannie and Freddie were leveraged 40-1 on equity.

At that ratio it only takes a 2.5% write down on the value of your assets for your equity holders to be completely wiped out, and your bond holders to start losing money.

[Crissa]

I can't find any support for your numbers.

So I'll just have to ignore them and not reality based.

-Crissa

[cthulhu]

The reason that Fannie's stated leverage ratio is less is that lots of things are considered for tier one capital that aren't shareholder equity.

Consider that deferred tax assets made up a significant proportion of Fannie Mae's regulatory capital - http://www.nytimes.com/2008/11/11/busin ... ref=slogin

The 21.4 billion of deferred tax assets were counted towards the regulatory capital ratio.

Evidence of counting deferred tax assets as tier one capital

Besides preferred stock, banks also count in their Tier 1 capital certain hybrid securities that have equity-like characteristics but actually are debt.

These accounted for $18.4 billion of BofA’s $100.3 billion in Tier 1 capital at the end of the third quarter, the last period for which a detailed breakdown of regulatory capital is available.

Losses on certain holdings, mostly mortgage-backed securities, that banks claim are temporary are excluded from Tier 1 capital. That has a flattering effect; Citigroup in the third quarter excluded $6.2 billion of such losses.

Banks can also get credit in Tier 1 capital for a portion of what are called deferred-tax assets. These could one day be used as a tax offset. Their usefulness is far from certain, though, given banks’ greatly reduced profitability. This makes these a pretty airy asset.

http://www.bloomberg.com/apps/news?pid= ... soMGjAySNY

So you can see the nature of problem! I hope you can see what the tier 1 capital (the deferred tax assets) cannot be used to cover losses incurred.

Implications: Fund manager and professor of economics

http://www.hussmanfunds.com/wmc/wmc080714.htm

Anyway, if you want to discuss leverage tangiable common equity is the correct metric to use not tier 1 capital, as the tier 1 capital measurement has been debased by some fairly arbitrary regulatory decisions.

I hope that provides you with the evidence you request, but seriously that took me a good 4-5 seconds with google, so have a deeper look next time before suggesting I have no evidence to support my position

[Crissa]

Not really. In fact, it really doesn't seem at all relevant to your point that non-banks getting bailout monies are leveraged at 40:1.

-Crissa

[Username17]

Not really. In fact, it really doesn't seem at all relevant to your point that non-banks getting bailout monies are leveraged at 40:1.

-Crissa

Who isn't being reality based now?

Bank of America is one of the lesser offenders, and they were leveraging based on a 100 billion tier one capital of which which more than 18 billion dollars were really debts. So while they were leveraging 100 billion, they actually only had 61. That's a leverage ratio of 27:1. And they aren't even the worst. Not by a long shot.

Please, try to keep up. Try to do math when we're talking about fucking addition and multiplication before you spout off about how the market is salvageable.

-Username17

[cthulhu]

Due to the nature of the contracts AIG is in, its leverage ratio is astronomical.

Of course, this is the bit where I dont quite agree with frank. AIG is a zombie sure, but if you split out the book of business and tell the bondholders they've lost all their money (so suck it bitches), you're okay, and this is the bit that the FDIC normally runs through, and the Obama seems dead keen to prevent in the case of AIG (for no obvious reason)

[PhoneLobster]

FDIC does not actually normally do that, not for the nature or scale of institution involved.

As for telling the financial institutions and their backers to eat the debt it certainly wouldn't be all okay suddenly.

There would still be massive damage to the economy due to a sudden and genuinely substantial shrinking.

The point of burning those guys rather than say, the government and tax payers in general is two fold.

1) It's their damn fault and if it isn't done this way they (or more of them anyway) will walk away with all the more spoils.

2) (the more important point) Someone needs to eat this debt. If the government eats it it will cripple government policy and services, AND have a larger depressive effect on the economy.

So you want to make these guys be the ones to suffer because it's a lot like taxing the rich, it's removes less actual capital from the system that is actually being spent and used for things like employment and production and instead raises revenues from capital that is otherwise mostly stagnating.

And you want to use something vaguely ressembling the smaller scale FDIC business because making these guys suffer slowly reduces the impact of the sheer chaos of the economic changes involved.

But ultimately it will still hurt the entire world economy, a lot, the point is that it's a harm reduction strategy. And indeed a fairly desperate last resort that isn't exactly crash hot.

It's just better than trying desperately to breath life back into a burst bubble with trillions of taxpayer dollars.

[cthulhu]

Yeah, FDIC does it for some pretty large banks (10 billion dollars), but AIG is on another level (what, a trillion?)

But yes, someone has to eat the losses, and frankly the fucking bondholders took a risk when they invested in AIG. That is the point.

The customers on the other hand much less so. So the damage containment process for the government, that will limit the ripple effects into the larger economy, because make no mistake, the majority of the larger economic effects are if AIG's customers (or Bear Sterns, or JB Were, or whoever the fuck) customers get screwed.

If the customers get fucked the entire thing is going to turn turtle, so it is vital that the government prevents that. If the bondholders lose a bunch of money thats a problem, but not a super big problem. Sure we'll have a 1984 style recession, but meh.

The other benefit is that if the government actually just winds up all the zombie banks, we'll hopefully remove some of people's perception of risk.

The other thing that I think needs to be done here is some way to let consumers restructure their debt so they can actually make their homeloan payments. My favourite option is if people declare bankrupcy, the judge should be allowed to restructure the banks loan from an interest bearing thing to some sort of equity home ownership, and that share of equity should be able to be onsold. (I;m not suggesting a standard equity ownership, it really should probably be structured as some sort of pool held by some government department which banks can tip foreclosed mortgages into, and they get paid out some share of the proceeds when the houses are sold. I'm relaly not sure how you'd you do it).

In my opinion, thats clearly the best way to proceed - it helps consumers restructure their debt, which is the other half of this crisis that keeps getting overlooked, protects customers of the banks (really key), and restores stability to finacial markets by getting rid of the zombies.