November 8th, 2007

Doom & Gloom Update:
Derivatives crisis accelerates as U.S. hordes oil

Posted in Geopolitics, Mideast & Oil, Money by ed

This Doom & Gloom update brought to you by, where the glass is always empty — waiter?!

It’s earnings season and financial companies are reporting their losses and markdowns re structured finance bonds tainted one way or another by the collapse of housing prices and increased mortgage defaults.

Many companies gave estimates of these back in September, when people thought things were stabilizing after an ugly July and panicked August.

Those September estimates are proving to have been much too small. Eg today, a mortgage company:

“IndyMac Bancorp reported a third-quarter loss of $2.77 per share vs. a 50-cent loss expectation that basically was management’s stated best guess from early September.

Boy, that’s badly written — but means that in September the company said they thought they would lose 50 cents, but in the weeks since things have gone so badly so quickly that the loss increased by a factor of five. In four or six weeks.

The same is showing up in the reports and conference calls of the major banks and brokers. Merrill Lynch wrote down about 11 billion — the first big broker to fess up — and the board promptly fired the boss (who happens to be black).

Then this past weekend Citibank announced writedowns of about the same amount, while firing the chairman and CEO there — Chuck Prince — a funny guy. Just weeks before the summer swoon he amused folks by comparing high finance to musical chairs.

This is what happens when the music stops:


Then in September, when asked what he intended to do about Citi’s problems, Prince replied, “I wanna kick ass!”

So the list of top execs who have been embarassed and released to a life of luxurious retirement grows. The first was our old college friend Warren Spector, the erstwhile president and heir apparent at Bear Stearns.

Meanwhile Goldman Sachs reported stellar earnings, shocking everybody — but something like a third of those “earnings” were related to “Level III” assets that have no market and are reported based on nothing but the opinion of management as to what they are worth.

So this week Goldman has been sinking on rumors that they too soon will be announcing horrendous writedowns.

Another way to look at it — from the good folks at equity vs level III assets:


If we look at the major institutions and divide their Level III assets by their equity capital base, we arrive at the following calculations:

  • Citigroup: Equity base: $128 billion, Level III: $135 billion. Ratio: 105%
  • Goldman: $39 billion, Level III: $72 billion. Ratio: 185%.
  • Morgan Stanley: $35 billion. Level III: $88 billion. Ratio: 251%.
  • Bear Stearns: $13 billion. Level III: $20 billion. Ratio: 154%.
  • Merrill Lynch: $42 billion. Level III: $16 billion. Ratio: 38%.


These numbers are astounding — and poor Merrill, taken to the woodshed for fessing up — is actually in much better shape than its peers.

Do you see? Goldman says it has, when all assets and liabilities are accounted for, $39 billion in equity capital underlying its operations and obligations.

But that bottom-line number INCLUDES a management-marked $72 billion in Level III assets (structured finance bonds, for the most part) that cannot be evaluated because no market exists for selling them.

And the big Merrill and Citi markdowns this past week were acknowledgments that management’s prior peg for these illliquid assets was pie in the sky given the mortgage bond failures and attendant problems re ratings methodology (which latter problems affect the entire universe of structured finance instruments, which is measured by trillions).

Here’s a rather comprehensive scan of the Level III business by the great folk at Naked Capitalism.

Another recent sign of disaster is the impending collapse of the bond insurers, which were cruising along until October, when they got cut off at the knees.

Ambac. Ugh …



The PMI Group. Ouch …



MBIA. Argh …

Why should you care?

Many AAA (top) rated bonds ARE rated so highly because they have “credit enhancement” — which often means they are insured for principal and sometimes interest by these bond insurer companies.

But — you probly see this coming.

But because there have been suddenly so many mortgage bond and related failures, the bond insurers are suddenly having their capital stressed. Jersey Jim Cramer at this past weekend declared himself certain they will simply fold — that they don’t have the money to meet their obligations by a long shot.

And if the bond insurers fold or merely begin to default — all those AAA bonds that they insure are going to tumble and get downgraded and perhaps default. The widening gyre, you see. The center cannot hold. Sumpin’ wicked dis way comes.

Meanwhile Turkey’s invading Iraq and Pakistan seems about to blow itself up.

And the U.S. is secretly stockpiling oil, in preparation it would seem for the enlarged mideast war that would crack open should Israel or the U.S. or both attack Iran. A business story last week reported that the USG is accepting payment in kind from the oil distributors — ie, accepting barrels of crude rather than cash for taxes and fees. (This story came and went in a day with no followup — ie was blacked out. Good luck finding it now. I didn’t save a copy, unfortunately. Will try to find one somewhere.)

And today oil set an all time record ($97 and change) and gold closed at $825, just $3 under the all time closing price set in 1980.

And yesterday the triumphant Euro set a new high against the American peso.

Call me Chicken Little but the sky is falling down.

Maybe we don’t really need sky though … Going to be living in caves:


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  1. ed says:

    For a disgraced former chief executive of a money center bank, it’s cold outside.

    QUOTE from

    Former Citigroup CEO Chuck Prince will receive stock options, grants and other benefits worth an estimated $29.5 million when he retires, according to an SEC regulatory filing.

    In addition he will get a cash incentive award similar to the $13.2 million received for 2006, but pro-rated for the months he served as CEO in 2007 and adjusted for shareholder return.

    Prince will be paid his regular salary through the end of the year and will also have the use of an office and driver for five years, or until he gets another job, according to the filing which was made late Thursday.

    Prince was forced out as CEO of Citigroup last weekend after the financial giant said it would have to write down billions of dollars in soured financial positions tied to the subprime mortgage meltdown and subsequent credit crunch.

    Prince’s exit came just days after Merrill Lynch CEO Stan O’Neal was forced to resign following the brokerage’s largest ever quarterly loss.

    O’Neal will reportedly walk away with $160 million in stock and options.

    November 9th, 2007 at 8:29 am

  2. ed says:

    Wells Fargo seems to be the best off of the major banks (Citibank, Bank of America, JPMorgan-Chase and Wachovia). That is, seems to have accumulated the least amount of bad mortgage bonds and related obligations.

    But the word this week from Wells Fargo is grim. Things getting worse in a dramatic way quickly. The housing business the worst it has been since the Great Depression.

    Here’s a report re the Wells comments from Jumpin’ Jersey Jim Cramer, who reads a lot of conference call transcripts:

    November 18th, 2007 at 1:47 pm

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