The View from Western Maine

Going Back To Where We Came From

2012-02-01T09:33:00.004-05:00

PIMCO's Bill Gross nails it.

[excerpt:]

"A 30-50 year virtuous cycle of credit expansion which has produced outsize paranormal returns for financial assets--bonds, stocks, real estate and commodities alike--is now delevering because of excessive 'risk' and the 'price' of money at the zero-bound. We are witnessing the death of abundance and the borning of austerity, for what may be a long, long time."

Complete commentary here.

Euro Spring for 2012?

2012-01-30T11:53:00.004-05:00

Telling chart from ZeroHedge.

Picture this: hoards of idle youth roaming the streets of Europe as buds begin to bloom. And there may be more layoffs coming if overnight credit freezes even as the snow melts. Don't think it can happen?

Then read this. European banks will have to hunker down as their collateral loses value, thanks to the European Central Bank's determination to subordinate all distressed sovereign debt held by private-sector lenders. Rates will rise, countries will default, and credit-dependent employers will run out of cash. It will be oog-ly.

Quote for the Week, Jan. 29-Feb. 4, 2012

2012-01-29T09:15:00.000-05:00

In economics, hope and faith coexist with great scientific pretension.
--John Kenneth Galbraith

Dr. Doom Looks Through the Gloom

2012-01-26T07:53:00.006-05:00

Nouriel Roubini thinks he sees a way to avoid the coming collapse of the Eurozone...

...but we may be past the point where Keynesian intervention can work. Deficit spending by sovereign governments can sometimes create a hothouse environment for economic growth, but not after future growth has already been pulled forward through over-borrowing. Fiscal stimulus now would just add to the debt overhang, further damaging long-term prosperity. Doug Casey proposes instead that government spending be drastically curtailed and sovereign debts repudiated. "Those debts," says Casey [interview here], "constitute an unethical mortgage without consent on the next two or three generations of people as yet unborn as a result of the excess consumption of their parents and grandparents."

Meanwhile, the European Central Bank's attempt at monetary stimulus is coming up dry. As Bloomberg reports, cash that might otherwise go for private-sector investment is being used instead to refinance sovereign debt, effectively starving the economy. When companies run out of cash, companies default. Companies default, workers are laid off. Workers are laid off....

You get the picture.

The State of the Union--Unvarnished

2012-01-24T14:34:00.006-05:00

Karl Denninger gives his.

[excerpts:]

"The simple fact of the matter is that we are borrowing more than one third of every dollar the federal government spends. This will double the national debt in less than a decade -- again. We have added more than 50% to our federal debt in three years, and we cannot continue on this path. Eventually, foreign and domestic creditors who have lent the government that money will go on strike, dramatically raising the cost of financing. When this occurs we will be forced to cut the size of government by more than 50% in an afternoon, instantly collapsing all of our federal social programs....

"The tax system at the corporate and personal level favors debt instead of equity, leverage over thrift and industry. This must end. The Fair Tax is one such way to do so; by zeroing the corporate tax and rendering all taxes on consumption it removes the preference for debt over equity, makes lobbying for special preferences impossible and makes the cost of government instantly visible and transparent to everyone in the nation. The Internal Revenue Code should be burned to ash and replaced with The Fair Tax tomorrow morning....

"...today America is not a bastion of capitalism. Many have claimed that we now have 'crony capitalism' but that too is a misnomer. Capitalism is the premise that one succeeds or fails through the wisdom of one's investment, predicated on capital formation (that is, the investment of economic surplus into various economic activities.) While the vestiges of this system remain in America, what has replaced it is a feudalistic system of scams, frauds, allegedly 'lent' funds that do not in fact exist and bribery of various forms, both legal and not."

Complete address here.

Quote for the Week, Jan. 22-28, 2012

2012-01-22T11:43:00.001-05:00

My opinion is that there would never have been an infidel, if there had never been a priest.
Thomas Jefferson, U.S. President [1801-1809]

Be Like Mitt

2012-01-19T07:41:00.009-05:00

"What did I do?"

Republican presidential candidate Mitt Romney came under fire this week for some of the things he had done in a previous life as a venture capitalist with Bain Capital. Let it be noted that his antagonists did not call him a venture capitalist. They said vulture capitalist. According to them, Romney and his fellow raptors made a habit of swooping down on struggling companies, gutting them, and leaving carcasses. It was creative destruction writ large, very large, with "destruction" italicized, capitalized, bolded, underlined, and color-fonted. Pretty coldhearted, but also very American.

Now you, too, can be a vulture capitalist. And you don't even need Mitt's millions. For the price of two cappuccinos, you can buy a share of Bank of America's common stock and rub wings with other shareholders of a similar feather. You see, there is a fire sale going on at BofA, where management is converting to cash anything not nailed down. During 2011's fourth quarter, the company (as we learned from this morning's earnings release) sold an equity stake in China Construction Bank for $2.9 billion and assorted securities for another $2.4 billion. After all that, pre-tax income came to $2.7 billion, which suggests to me that the rest of the business, the part that stays, was losing money.

As Mitt will tell you, timing is everything. If you do decide to fly in for some warm flesh, make sure you are not the last to leave. When they start selling the furniture, you want to be gone already. Just like Mitt.

[update, 01-23-12--]

Go here to see how Mitt and his minions benefit twice from preferential tax treatment.

Quote for the Week, Jan. 15-21, 2012

2012-01-15T10:57:00.001-05:00

Human nature cannot bear prosperity. It invariably intoxicates individuals and nations. Adversity is the great reformer. Affliction is the purifying furnace.
--John Adams, U.S. President [1797-1801]

BAC From the Dead?

2012-01-11T07:00:00.011-05:00

BAC, 6-month chart

You can see it, without squinting even. Bank of America's common stock (ticker symbol: BAC) has risen in price per share by nearly one-third since mid-December. Last Thursday's up-thrust on heavy volume (over a half-billion shares traded out of ten billion outstanding) was a technical signal to just go long, baby. Pension-fund managers and Congress critters everywhere are breathing sighs of relief. The bottom, they hope, is in.

If BofA actually had a viable business model, with neither legacy liabilities nor regulatory repression, I would be buying the shares with both hands myself. But it doesn't, and I won't. Let me suggest instead that this is a heaven-sent opportunity to divest. This is actually the fourth such opportunity in the past thirteen months, starting with the Santa Claus rally of 2010 and running through the Saint Warren rally, the Big Bazooka rally, and now the Dow Dog rally. That's right, traders are piling into the worst performer of the 30 Dow Jones Industrials in 2011 (when BAC was down 58%) according to the knee-jerk, brain-dead theory that such a dog deserves a dead-cat bounce. Although they won't call it a dead-cat bounce. They'll call it a reversion to the mean, as if there were some sort of mathematical inevitability to it.

When I do the math, I still see declining organic revenues, ballooning legal liabilities, and unquantifiable derivatives exposure. BofA may have a random profitable quarter in the near future, but only through divestitures, draconian cost-cutting, and courtroom dallying. One suspects from the power of the recent rally that short-sellers are covering. But the scalloped pattern in the chart above shows that the shorts do re-load, kicking off another scoop down in price. Each rally high is lower than the one prior.

JP Morgan Chase reports Q4 earnings on Friday, and the other banks will follow next week. Let us see if the news is sold. "Friday the 13th will live up to its name when it comes to bank earnings," bank analyst Mike Mayo tells Bloomberg. "You're going to see all sorts of revenue and margin pressure."

Picture of Fear

2012-01-09T07:41:00.007-05:00

Cash in Europe has nowhere else to go.

[chart from ZeroHedge--click to enlarge]

When the economy is running smoothly, banks lend to each other readily and willingly. Conversely, a curtailment in inter-bank lending is a sign that the economy is stalling. Or, in the current instance, seizing. The chart above shows that European banks with money to spare are parking it with the European Central Bank, not lending it out. Deposits at the ECB have reached a record €464 billion, higher than the peaks seen following the Lehman failure of 2008 and the flash crash of 2010.

These deposits have soared by €200 billion since December 21, when the ECB released a flood of fresh three-year loans through its Long-Term Refinancing Operation (LTRO). The operation is a desperate attempt to sop up impaired collateral held by stressed Eurozone banks, such collateral consisting of either discounted sovereign bonds or their own junk-rated debt. Collateral is the grease that makes the whole Rube Goldberg machinery run. When it goes bad, the machinery grinds to a halt. As the Wall Street Journal explains, "banks favor using the ECB as a safe haven for excess cash rather than lend it out to other banks...due to concerns about their counterparties' exposure to risky euro-zone sovereign debt."

Bond expert Marc Chandler, at his niftily named blog (www. marctomarket.com), points out that Eurozone banks need to re-fund, or roll over, €230 billion of their own maturing debt and expects that "the bulk of the ECB's liquidity provision will not be used to buy sovereign bonds, but to address the banks' own needs." Charles Smith, Chief Investment Officer at Fort Pitt Capital Group, uses more colorful language to describe this shell game:

These “refinancings” are nothing more than the (panicked) banks dumping their very worst collateral on the ECB to cover immediate withdrawals/maturities. And these withdrawals/maturities will keep on coming! And if they run out of pledgeable collateral, no worries. They simply issue new bonds, get a government guarantee on those bonds, and then post them as collateral for cash at the ECB. Italian banks issued 40 billion euros worth of such bonds yesterday! There’s a very vulgar term for this sort of behavior…”circle jerk”.

ZeroHedge insists that much of the LTRO liquidity is coming right back to the ECB as overnight deposits. The depositing banks no longer have a sufficient collateral cushion to recycle the 1% LTRO debt into higher-interest loans (e.g. short-term sovereign notes), thereby earning a positive "carry." Instead, they park the cash for 0.25%, effectively earning a negative return. Such is the price of impaired collateral, which itself is the end-product of risky lending.

Negative interest rates are a harbinger of impending deflation. Bloomberg Businessweek reports that earlier today Germany sold a six-month bill yielding -0.01%, "the first time a national money market instrument offered a negative yield" at issuance. Secondary markets have been marking yields on Germany's one-year debt below zero since November 30 [FT]. Before this is all over, we shall hear of many more "first evers."

[update, 11:30 a.m.--]

Reuters has an article just posted on how private-sector non-banks, and not just the ECB, are becoming sources of cash for struggling banks. These non-banks are familiar names--Johnson & Johnson, Pfizer, Peugot, etc. They are cash-rich multinationals looking to put their money to work (but not, it should be pointed out, by investing in their own businesses). They are the "shadow" bankers. They lend to the banks through so-called "repo" transactions, in which they buy collateral from the banks, then sell it back later at a discount, pocketing the "haircut." Lehman Brothers, you'll recall, used repos to hide the firm's leverage from investors and regulators. Remember how that turned out?

Quote for the Week, Jan. 8-14, 2012

2012-01-08T10:54:00.002-05:00

Beyond a critical point within a finite space, freedom diminishes as numbers increase.
Frank Herbert

David Collum's Year in Review

2012-01-01T10:59:00.005-05:00

This chemist gives it to you straight.

David Collum, professor of chemistry and chemical biology at Cornell University, surveys the global economic landscape--and does not like what he sees. In his review of 2011, Collum describes both the trouble in which we find ourselves and the opportunity to set things straight. Included is a list of books and links that will get you up to speed. Here are two nuggets to whet your appetite, the first pertaining to the Federal Reserve, which, you may be surprised to learn, does not exist to serve ordinary taxpayers...

Here's my biggest gripe in a nutshell. The Fed, whether it's a wholly owned subsidiary of the banking cartel or not, is charged with protecting the banking system. Period/full stop. The banking system is global. Period/full stop. Ergo, one does not even know if the Fed's actions are in the best interest of the United States. Period/full stop. What is to prevent them from sending trillions to Europe, Asia, or any faraway place because bankers got themselves in trouble? Absolutely nothing; they do it relentlessly...We keep hearing that we made money on the bailouts, including from General Motors! That's an OMG/LOL/WTF all rolled into one. The $700 billion TARP was put on display for public consumption. It was designed to be paid back in the light of day. The rest of the money [at least ten times as much] entered the system covertly.

...and the federal government, which (now you've got it!) does not exist to serve ordinary taxpayers:

Government is a living, breathing organism that exists to perpetuate itself. There is nothing that says evolution must create a pleasing government better suited to individual liberties. History paints an altogether different picture. Possibly the single largest selection pressure is money. It has always bought political favor. When our government was a few percent of GDP and the industrialists were buying favors while building a nation, government had little power to wield. When money commandeers the machinery of a huge government, however, you have a monstrously expensive and intractable problem.

Quote for the Week, Jan. 1-7, 2012

2012-01-01T10:57:00.002-05:00

Men, it has been well said, think in herds; it will be seen that they go mad in herds, while they only recover their senses slowly, and one by one.
--Charles Mackay

The Devils Are (Still) Here

2011-12-28T08:14:00.013-05:00

Kyle Bass said it was a must read, and that was good enough for me. All the Devils Are Here, by Bethany McLean and Joe Nocera, offers a chronological account of how Wall Street executives created, and then abused, the instruments that led to the global financial crisis of 2008. The whole alphabet soup is explained--ABCP, CDO, RMBS, SIV, etc.--as well as the motivations of the chefs cooking this toxic brew.

The scary part is this. Time and again, smart men and women (O.K., men mostly) suspended their better judgment, allowing risk to metastasize. The dereliction was so pervasive as to appear inevitable. The story told here strongly suggests, furthermore, that the dereliction is ongoing. It comes from human nature. Character breeds success, which then undermines character.

So much for the villains. How 'bout them victims? There was a veritable tsunami of dumb money sloshing through global markets in the mid-aughts. There probably still is. We know that in August 2007 some of that dumb money, about $20 million worth, leaked from the State of Maine's Cash Pool into an SIV-Lite called MainSail II, which was heavily invested in residential mortgage-backed securities (RMBS). Maine bought at the exact top of the market for such securities--the very definition of "dumb money." Within weeks MainSail II was downgraded by Moody's from Prime-1 to junk, and the vehicle's assets were frozen. By the end of August, Maine could not be sure that it would get any of its money back.

According to UMaine's Richard Borgman (who gives the blow-by-blow account here), this was not a prudent investment by the Treasurer's office. For months defaults on home loans had been rising, home prices falling, and subprime lenders failing. In July 2010 (before Maine invested in MainSail II) Standard & Poor's and Moody's had each placed hundreds of tranches of RMBS on review for possible downgrade. The handwriting was on the wall, and Treasurer David Lemoine failed to see it. In Borgman's opinion, "there was a lack of understanding of the investment and an over-reliance on ratings and the broker." One year later Lemoine made a stick-save by putting the investment back to the broker, Merrill Lynch. But for a whole year the $20 million was dead money.

Fair question: if Maine's Treasurer was in over his head in 2007, are MainePERS fund managers, with their "passive" investment style, in over their heads now? If so, a lot more than $20 million is at risk.

Toward the end of their book, the Devils authors lift a trenchant passage from Alan "Ace" Greenberg's The Rise and Fall of Bear Stearns. Greenberg was formerly CEO (until 1993) and Chairman of the Board (until 2001) at Bear Stearns and was 80 years old when the firm that he helped build went belly up in 2008. Reading this, one cannot help but think that the money is getting ready to stop one more time:

The interdependent relationships between banks and brokerages and institutional investors strike most laymen as impenetrably complex, but a simple ingredient lubricates the engine: trust. Without reciprocal trust between the parties to any securities transaction, the money stops. Doubt fills the vacuum, and credit and liquidity are the chief casualties. Bad news, whether it derives from false rumor or verifiable fact, then has an alarming capacity to become contagious and self-perpetuating.

Quote for the Week, Dec. 25-31, 2011

2011-12-25T09:10:00.001-05:00

Credit is suspicion asleep.
--William Gladstone

Queue It Up

2011-12-22T07:21:00.003-05:00

"The Wind That Shakes the Barley"

The Emerald Isle seen shimmering.
And simmering.
Pragmatists debate fanatics in barroom brogues.
Andrea Corr sings the credits.
Trailer here.

Quote for the Week, Dec. 18-24, 2011

2011-12-18T11:01:00.000-05:00

This is how government grows--by claiming to correct the mistakes it earlier created, all the while constantly shaking down the taxpayer.
--Congressman Ron Paul

The Beginning of the End

2011-12-16T06:47:00.005-05:00

If you have not gotten enough of Kyle Bass about the capital flight from Europe, go here for an interview two days ago on CNBC.

Now speaks another voice, Michael Platt, founder of BlueCrest Capital Management, a $30 billion hedge fund. Over the past eleven years, BlueCrest has returned nearly 14% on an average annual basis and has never had a down year. John Paulson, eat your heart out! Platt tells Bloomberg [below] about the sovereign debt crisis and the serial insolvency of most European banks:

Late yesterday one of the Big Three ratings agencies, Fitch, issued downgrades for eight global banks, including our beloved Bank of America. BofA's Viability Rating was dropped from a- ("strong") to bbb ("good") and its long-term Issuer Default Rating from A+ to A, still a couple of notches above Johnny B (Goode). The calls follow similar moves from Standard and Poor's last month and Moody's in September, thus completing a tricky trifecta for BofA. Such downgrades can trigger collateral calls, reducing a firm's liquidity. In extreme cases a downgrade can put a company out of business (witness MF Global).

Go here for a refresher from Gary Shilling on why all these banks are such a miserable investment.

Fed Head MIA

2011-12-14T10:17:00.001-05:00

Hilarious. From ZeroHedge.

Quote for the Week, Dec. 11-17, 2011

2011-12-11T10:44:00.000-05:00

He knows nothing; and he thinks he knows everything. That points clearly to a political career.
--George Bernard Shaw

Now You See It, Now You Don't

2011-12-08T09:36:00.006-05:00

"I simply do not know where the money is."

This is what former MF Global CEO Jon Corzine will tell the House Agriculture Committee on Capitol Hill in his testimony today. Corzine was forced to resign last month amid allegations that his firm improperly commingled clients' funds with its own investment capital. All the money went out the door in some highly leveraged speculation. And never came back.

How can this happen? Reuters correspondent Christopher Elias describes how in a must-read article, MF Global and the Great Wall Street Re-hypothecation Scandal. Now, if "re-hypothecation" sounds to you like something sinister and best not tried at home, you would be absolutely right. But the big banks and brokers do it all the time. In fact MF Global, before it collapsed, warned its customers in its Customer Agreement as follows (and where you see the world "collateral," think anything of yours with cash value):

7. Consent To Loan Or Pledge

You hereby grant us the right, in accordance with Applicable Law, to borrow, pledge, repledge, transfer, hypothecate, rehypothecate, loan, or invest any of the Collateral, including, without limitation, utilizing the Collateral to purchase or sell securities pursuant to repurchase agreements [repos] or reverse repurchase agreements with any party, in each case without notice to you, and we shall have no obligation to retain a like amount of similar Collateral in our possession and control.

In other words, Mr. Client, we are going to pledge to someone else what rightfully belongs to you. And you can't opt out. If you want to do business with us, you have to play along. The problem, explains Elias, is that the same collateral gets pledged over and over, from one counterparty to the next:

With collateral being re-hypothecated to a factor of four (according to IMF estimates), the actual capital backing banks' re-hypothecation transactions may be as little as 25%. This churning of collateral means that re-hypothecation transactions have been creating enormous amounts of liquidity, much of which has no real asset backing...Considering that re-hypothecation may have increased the financial footprint of Eurozone bonds by at least four fold, then a Eurozone sovereign default could be apocalyptic. [emphasis mine]

Expounding on the Elias piece, Zero Hedge uses a familiar metaphor to describe the risk to the global economy:

The collapse of the weakest link in the daisy-chain sets off a house of cards that eventually will crash even the biggest entity due to exponentially soaring counterparty risk: an escalation best comparable to an avalanche - where one simple snowflake can result in a deadly tsunami of snow that wipes out everything in its path. Only this time it is not something as innocuous as snow: it is the compounded effect of trillions and trillions of insolvent banks all collapsing at the same time, and wiping out the developed world and the associated 150 years of the welfare state as we know it.

Hyperbole? We shall see.

What's That Smell?

2011-12-05T08:06:00.007-05:00

I love the smell of napalm in the morning, says Robert Duvall's character in Apocalypse Now. We are getting a whiff of that on the morning after this CBS 60 Minutes piece on alleged fraud at Countrywide Financial (now a division of Bank of America):

Now, none of this is really news. If you have been following this blog, you know that Bank of America is freighted with huge successor liabilities inherited not just from Countrywide, but from Merrill Lynch as well. Consumer fraud, investor fraud, breach of fiduciary duty, obstruction of justice--you name it. That the Obama Administration has done so little to hold these companies accountable is a sure sign of whose shed has the biggest Tool.

Maybe, if the feds don't do it, the states will. The Attorneys General of the fifty states have been trying for a year or more to reach a settlement with BofA and other Wall Street lenders over foreclosure abuses. But the dollar figure being floated around for the industry to buy immunity is, in the eyes of at least one AG, too small. So last week Martha Coakley of Massachusetts announced that her office is striking off on its own and suing BofA, Wells Fargo, JP Morgan Chase, Citigroup, and GMAC. To her chagrin, Martha will be forever remembered as the heavily favored Senatorial candidate who lost Ted Kennedy's seat to a little-known Republican runt, Scott Brown. But she has been a crackerjack AG, going after some of the big banks in 2008 when few others did.

The news flow on Bank of America continues to, um, reek. Aside from this latest legal attack, there was the credit downgrade announced by Standard & Poor's late Tuesday of BofA and 36 other global banks. Indeed, the share price of BAC common was headed for a toilet spin until a gang of central banks injected a stiff dose of monetary heroin the very next morning. And how's business, you ask? BAC's share of mortgage loan originations in the U.S. has declined from about 25% to around 10% in Q3 2011. That's in a market that is expected to soften by 25% in 2012. Hmm, wonder what that combo is going to do to revenues.

But faithful shareholder MainePERS is hanging tough, I tell ya. HANGING TOUGH!

[update, 12-07-11--]

Mississippi PERS just reached a settlement with BofA, recovering $315 million from a soured investment in toxic mortgage-backed securities peddled by Merrill Lynch in 2006 and 2007. The settlement awaits approval by Federal District Judge Jed Rakoff. Yup, that Judge Rakoff.

Quote for the Week, Dec. 4-10, 2011

2011-12-04T10:50:00.000-05:00

Long ago I proposed that unsuccessful candidates for the Presidency be quietly hanged, as a matter of public sanitation and decorum. The sight of their grief must have a very evil effect upon the young.
--H.L. Mencken

Monday, Monday

2011-11-28T07:23:00.011-05:00

can't trust that day...

Oh Monday morning,

you gave me no warning

of what was to be.

--The Mamas and Papas

This morning investors in the Western world are hoping to recoup some of last week's losses. Stock futures are up big in the pre-market. But beware the pop and drop. The credit and currency markets are warning of what is to be:

Sovereign bond yields are rising, even in the Euro core.
Signs of depression and default.

The euro is losing value against the U.S. dollar.
Bad for stocks.

Inter-bank interest rates are rising--exponentially.
Howard Simons explains.

The question du jour is whether the Federal Reserve is going to prop up European banks the way it did the biggest U.S. banks three years ago. Remember TARP? Bloomberg reveals how the Congress-approved TARP investments in 2008-09 were just the tip of the iceberg. The Fed also provided under-the-table loans and guarantees totaling $7.77 trillion, or ten times the TARP support. The interest rate charged was as little as .01 percent, boosting net interest margins at recipient banks and allowing them to generate $13 billion in "free" income at a time when they were essentially insolvent. Find out what your favorite bank made in Bloomberg's interactive chart.

The enhanced liquidity also allowed these teetering institutions to merge, becoming Too Bigger To Fail. Total assets at the six biggest U.S. banks amounted to $9.5 trillion as of this past September 30, up 39% in five years. During the near-meltdown, the Big Six--JP Morgan Chase, Bank of America, Citigroup, Goldman Sachs, Wells Fargo, and Morgan Stanley--received $160 billion from the U.S. Treasury and $460 billion from the Fed in emergency relief.

Now, three years later, they're still staggering.

Quote for the Week, Nov. 27-Dec. 3, 2011

2011-11-27T11:24:00.001-05:00

I do not insist upon the special supremacy of rag money or hard money. The great fundamental principle of my life is to take any kind I can get.
--Mark Twain

Ticking Time Bomb

2011-11-21T07:27:00.004-05:00

Investment fund manager Kyle Bass gives a brief, clear explanation of the doomsday outlook in Europe and Japan. Well worth six minutes of your time:

"That is how spring-loaded this debt scenario is. When your debts get to become many multiples of your revenue, any slight movement in the cost of your debt [i.e. in interest rates] causes an enormous crisis right away....

I don't believe the E.U. survives in its current state...The bond market is telling you that it has already exploded."

Quote for the Week, Nov. 20-26, 2011

2011-11-20T07:59:00.002-05:00

The only real purpose of European bank regulators is to make U.S. regulators look conservative and prudent.

--John Mauldin

Closing Up Shop

2011-11-17T14:37:00.019-05:00

Ann Barnhardt ceases operations as a commodity broker:

"The reason for my decision to pull the plug was excruciatingly simple: I could no longer tell my clients that their monies and positions were safe in the futures and options markets – because they are not. And this goes not just for my clients, but for every futures and options account in the United States. The entire system has been utterly destroyed by the MF Global collapse. Given this sad reality, I could not in good conscience take one more step as a commodity broker, soliciting trades that I knew were unsafe or holding funds that I knew to be in jeopardy....

The futures and options markets are no longer viable. It is my recommendation that ALL customers withdraw from all of the markets as soon as possible so that they have the best chance of protecting themselves and their equity. The system is no longer functioning with integrity and is suicidally risk-laden. The rule of law is non-existent, instead replaced with godless, criminal political cronyism."

Here's your money back. Have a nice day.

Complete customer notification here.

[update--]

Karl Denninger weighs in with the following:

"Nothing that has come out of the CME, the SEC or Washington DC has restored my confidence that MF Global is, in fact, a one-off situation. In point of fact The Fed is now requiring margin on certain repo transactions where they never did before, implying that there may well be additional snakes in the grass and additional unrecognized and intentionally hidden risks of this sort.

Read Ann's entire missive. Yes, it's highly partisan, but given what has just happened and Obama's continued insistence that "no crimes were committed" (yet no grand juries have been convened to investigate, so how would he know?) it is entirely justified."

Complete commentary at market-ticker.org.

BAC: Both Sides of the Trade

2011-11-16T08:10:00.017-05:00

Let's see how the world's top hedgies viewed Bank of America as an investment choice for the three months ending September 30.

John Paulson is nibbling again.

After cutting his stake by almost two-thirds in the year ending June 30, 2011, Paulson has added back 3.9 million shares since, despite seeing the value of his BAC holding decrease by over a quarter of a billion dollars in the third quarter alone.

He was buying from...

David Tepper, who sold his remaining 10 million shares.

Tepper at one point had over 30 million shares, but it's all gone now. The fund disclosures came on the same day that BofA announced that it was selling 10.4 billion shares of China Construction Bank for $6.6 billion. This was the second step in a two-stage liquidation. Less than three months earlier BofA had sold 13.1 billion shares of CCB for $8.3 billion. The after-tax gain for this latest transaction was $1.8 billion, or half the net from the earlier sale.

Hedge fund managers are not the only ones who play in the stock-market casino. So do members of Congress. CNBC reports that BAC is the third-most owned stock among that august group, trailing only General Electric and Procter & Gamble. Surely a stock loved by Congress critters is a buy, right? Right?

Yeah, right. I will fade that crowd every time.

[update, late Friday evening, 11-18-11--]

Bank of America is getting sued. Again. Not for mortgage fraud this time, but for underwriting risky bonds issued by the now-defunct MF Global without proper disclosure. Reuters has the story here. The plaintiffs are pension funds which, having bought said bonds, are now seriously underwater. MainePERS should take note and perhaps lawyer up as well. Successful damage suits would be one way to offset portfolio losses (that, plus the tried and true way of dunning taxpayers).

But wait. We own many of these miscreants, thanks to our brain-dead strategy of diversification. So we would be suing ourselves.

[Cue head-slap.]

PIIGS Fly

2011-11-15T11:46:00.011-05:00

Their bond yields, that is. Here they are, in order of increasing risk. [n.b.--Portugal and Ireland have already gotten their bailouts, so they are replaced below by France and Belgium.]

Yields on 10-year sovereign bonds:

France: on the way to 4%, supposedly a triple-A credit.

Belgium: no government, no Med coastline,

now pushing 5%.

Spain: catching up quickly, now over 6%.

Italy: red-lining over 7%.

Greece: in a league of its own.

Quote for the Week, Nov. 13-19, 2011

2011-11-13T11:34:00.002-05:00

All rapidly accumulated wealth is either the result of luck or discovery, or the result of legalized theft.

--Honoré de Balzac

Song for the Day

2011-11-11T11:14:00.005-05:00

Well, how'd you do, Private William McBride?
Do you mind if I sit here down by your graveside?
I'll rest here awhile in the warm summer sun,
I've been walking all day, Lord, and I'm nearly done.
And I see by your gravestone you were only 19
When you joined the glorious fallen in 1916--
Well, I hope you died quick and I hope you died clean,
Or, Willie McBride, was it slow and obscene?

--lyrics from Eric Bogle's "No Man's Land"

The Dropkick Murphys' version.

Queue It Up

2011-11-09T06:46:00.005-05:00

Charles Ferguson strikes once more.

Déjà vu all over again.

Frederic Mishkin speaks in tongues.

See this, then go Occupy somewhere.

Trailer here.

Bank Transfer Day in Greece

2011-11-08T11:17:00.014-05:00

Make that "Bank Transfer YEAR"

as Greeks offshore their savings [above].

[courtesy ZeroHedge]

Meanwhile, how about capital flight from Italy?

Lenders are demanding higher yields to cover default risk.

Or dumping the debt altogether.

Yield on 10-year BTP

[Bloomberg]

As money leaves, Minyanville's Fil Zucchi worries

about what the government will do to stem the tide.

Confiscation, anyone?

From Barclays Capital:

"The higher yields are not compatible with debt sustainability

and therefor require an upward adjustment

of perceived default probabilities,

which makes the debt less, not more attractive."

[Complete report here.]

Quote for the Week, Nov. 6-12, 2011

2011-11-06T11:23:00.001-05:00

If I were to go over my life again I would be a shoemaker rather than an American statesman.
--John Adams (U.S. President, 1797-1801)

Here Comes the Dilution

2011-11-04T06:29:00.014-04:00

BofA's image needs buffing.

One of the risks for owners of Bank of America's common stock (reminder: MainePERS owns 2.6 million shares) is the prospect that the firm will issue new shares, thereby inflating the share count and diluting shareholders (discussed here). Senior management has stated repeatedly that that will never, in a million years, happen. The bank's capital cushion, they have said, is as well padded as their own compensation. Or almost, anyway.

Yesterday's release of the company's most recent 10-Q filing with the SEC reveals that such assurances were so much lip service. Scroll down to page 10 and see this:

The uncertainty in the market evidenced by, among other things, volatility in credit spread movements, makes it economically advantageous at this time to consider retirement of issued junior subordinated debt and preferred stock. As a result of these matters, we intend to explore the issuance of common stock and senior notes in exchange for shares of preferred stock and...certain trust preferred capital debt securities...We will not issue more than 400 million shares of common stock or $3 billion in new senior notes in connection with these exchanges.

That's $2.8 billion of new common equity at $7 a share (the current market price rounded up to the nearest dollar). The move actually makes sense from a business standpoint, as it will add to Tier 1 capital (more on that below) and reduce expenses on interest and dividends. But what makes business sense does not always make money for the common shareholder, the low stakeholder on the totem pole.

Bank of America's debt, downgraded six weeks ago, is trading at a discount, and because of this the firm booked a paper profit for the quarter of $1.7 billion (remember DVA?). The debt and capital exchanges now proposed would lock in some of that gain: "The senior notes and common stock would be recorded at fair value at issuance, which is expected to be less than the par and carrying value of the preferred stock and/or the junior subordinated debt." Management assures existing shareholders that the exchanges would be "accretive to earnings per common share." But how? The gains have already been booked, and the share count (the denominator in earnings-per-share) will be greater. Then again, banksters are quite used to having their cake and eating it too. In any case, it remains to be seen how much of this deal gets done. The exchanges must be negotiated with willing creditors. As we have learned this past week, there is no such thing as a voluntary haircut, the Euro-elite notwithstanding.

Back to Tier 1 capital. Bank of America needs more of this in case their debt gets downgraded again. Look at what happened to MF Global earlier this week. A credit-rating downgrade precipitated a liquidity crunch that put the dealer-broker out of business. Could the same thing happen to BofA? Is the Pope Catholic?

So how is business these days? Not so hot, actually. Earlier this week BofA had to cancel plans to institute a $5-a-month fee for debit-card users. The announcement came too late to retain the customers that just moved their accounts elsewhere, but at least there are fewer outraged customers left. A poll released today shows that the rush to the exits may continue. BofA's remaining customers "are the least satisfied among clients of the biggest U.S. lenders and the most likely to defect to competitors." Nine percent are "not at all likely" to stay. Which begs the question, why would that category of users ever exceed zero percent? I mean, what are they waiting for?

Maybe tomorrow is the day that the 9-percenters become the zero-percenters. November 5 is Bank Transfer Day. Have a nice one.

[update, B.T. Day + 1--]

Credit unions have picked up some new customers. Story here.

Stress Indicators

2011-11-01T12:58:00.010-04:00

Yield on Greek 1-year note:

203 percent!

Now it takes only six months to double your money lending it short-term to Greece (assuming, of course, that Greece decides to pay you back when the note is due). Of course, you already knew that Greece is toast. But did you know that Italy's debt is also shaky? At six times the GDP, that would make Italy Texas toast.

Italy's line in the sand is 6 percent on the ten-year bond. When BTPs hit that level in July, the Euro-elite summited to announce a plan for backstopping the PIIGies' sovereign debt. Confidence returned [see graph below], but only briefly. The latest assault on 6 percent produced another summit last week. This time the powers-that-be have not been able to talk yields down. Italy is simply not growing fast enough to service its debt at these rates. It looks like the European Union's attempt to ring-fence Greece is failing.

Yield on Italian ten-year bond:
6+ percent and rising.

Warns ZeroHedge:

Keep a very, very close eye on the Italian bond spread, because if Italy falls, Europe falls, and with it fall not only all the largely undercapitalized French banks (all of them), but the US banks that have not tens, but hundreds of billions of gross CDS exposure facing them, which at that point will be perfectly unhedged as all their transatlantic counterparties will be in the same boat as MF Global.

Even uber-Keynesian Paul Krugman is throwing in the towel:

"Eurodämmerung"

BOO!

2011-10-31T09:14:00.005-04:00

When we woke up crying in the wee hours of Thursday morning, Eurozone nannies told us not to be afraid. Reassured, we sold dollars and bought euros in the light of day. Now the scariest of Halloween's goblins, Vampire Debt, is back. Sovereign yields are screaming higher. As for currencies:

Now back under $1.40:

the euro retraces Thursday's "bazooka rally."

[courtesy ZeroHedge]

Quote for the Week, Oct. 30-Nov. 5, 2011

2011-10-30T12:30:00.001-04:00

Tell me what brand of whiskey that Grant drinks. I would like to send a barrel of it to my other generals.
--Abraham Lincoln [U.S. President, 1861-65]

Queue It Up

2011-10-28T07:21:00.003-04:00

Dizzying high-altitude photography.

75-year-old mystery solved.

Because it's there.

Trailer here.

Lizbeth Scott's haunting ode here.

Markets Defer to 'Financial Terrorists'

2011-10-27T13:26:00.011-04:00

Global markets are melting up today upon the perception that the Eurozone has effectively solved its debt problem. Do not be misled, advises Max Kaiser, who in this rant [below] likens the Eurocrats responsible for this latest bailout to "financial terrorists." By proposing to leverage the European Financial Stability Fund, unelected ministers are, in Kaiser's words, "mollycoddling banks," undermining national sovereignty, and "guaranteeing economic collapse"--not bad for a long night's work. China, widely assumed to be a guarantor for the EFSF, is merely buying time, says Max, until it can hoard enough gold to immunize itself against the coming contagion.

You must see this:

Meanwhile, ZeroHedge tells us where to look for clues about the creditworthiness of the "ultimate backstoppers" -- Germany and China.

"Note to EU lackeys: there is no free lunch," writes Charles Hugh Smith, who likens the rescue plan to a plutonium life preserver. Heavy and toxic.

[update, 4 p.m.--]

Note to MainePERS: sell the Bazooka rally. BAC has just closed over 7.

[update, morning after--]

The euro-phoria has worn off. Italian ten-year bonds are back over 6%. The risk has not gone away.

Yield on Italian 10-year debt

Quote for the Week, October 23-29, 2011

2011-10-24T06:53:00.000-04:00

One must bear in mind that the expansion of federal activity is a form of eating for politicians.
--William F. Buckley, Jr.

'A Terminal Short'

2011-10-20T12:13:00.008-04:00

MainePERS, read this:

"Bank of America equity is worthless."

"BAC is the WorldCom of banking."

"...no sustainable competitive advantage."

"BAC deserves more downgrades..."

"...a dishonest accounting mess..."

Read the full Value Investors Club commentary here.

[h/t ZeroHedge]

More below. A pro's pro, Gary Shilling, tells Bloomberg why the big banks are such a rotten investment at this time:

BofA Needs Fed Sanctuary More Than Ever

2011-10-20T08:09:00.006-04:00

To whom does the Fed pledge allegiance?

[courtesy Bloomberg]

Bank of America knows that the Federal Reserve has its back. But getting such favorable treatment from the courts will not be so easy. BofA has spent the past several months trying to fast-track a settlement over home-mortgage abuses in what is called an Article 77 proceeding. The bank is hoping that a New York court will agree to cap all related liabilities, henceforth and forevermore, at $8.5 billion. Aggrieved parties would not be allowed to opt out of such a settlement.

Yesterday federal judge William Pauley III offered relief to one of said aggrieved parties by ordering the case removed to federal court. In his ruling the judge found that the settlement agreement "implicates core federal interests" and touches on "the integrity of nationally chartered banks." [Reuters scrutinizes the nitty-gritty here.] Those of you playing at home will quickly recognize that "integrity" and "Bank of America" are not a match. So any protracted exploration of BofA's integrity is likely to be inimical to the firm's best interests.

If Pauley's ruling is upheld upon appeal, the price tag for a settlement will likely go up. Way up. Multiply by ten and work your way up from there. This is an iceberg-sized number that could sink the ship. But creditors and investors need not worry. The Fed has their backs, too. By engineering the mergers three years ago of Bank of America with both Countrywide Financial and Merrill Lynch and now migrating the toxic assets of those legacy firms to a federally insured subsidiary of BofA, the Fed has made sure that the only ones ultimately paying will be taxpayers.

The looting continues.

Smoke and Mirrors

2011-10-18T08:32:00.013-04:00

Breaking: BAC reports phantom earnings.

Market watchers were introduced to a new acronym last week: DVA, which stands for "debit valuation adjustment." In its third-quarter earnings report on Thursday, JP Morgan Chase disclosed that it was booking $1.9 billion in a pre-tax benefit from DVA gains. Unschooled analysts immediately hit up their Bloombergs for a quick refresher in DVA. Turns out that DVAs are an accountant's way of making lemonade out of lemons. A company doing bad can make it look like it is doing good. How does it do it?

Last we checked, credit spreads on the big banks were widening, indicating an emerging suspicion among speculators that one or more of these babies might actually default. For any bank, that's BAD. Bonds previously issued by an at-risk bank start trading at a discount as investors begin to worry about possibly losing their principal. The debt shows up on the bank's balance sheet as a liability, which must be paid down over time.

Here is where it gets interesting. The Financial Accounting Standards Board (FASB) has given the banks the green light to mark their debt liabilities to market, viz. "at the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date" (ASC 820). For the issuing bank, that is GOOD. It means that the liability on the company's books can be discounted as the bonds lose value. The company is allowed to book a profit commensurate to the difference between the bond's face value and its market price.

The "profit" is pure fantasy. The company has not actually engaged in a real-time transaction to buy back any of its debt. It is still on the hook for full payment of principal plus interest. The debt is still a lemon. But, as Boston Globe sportswriter Bob Ryan points out, "corporations often employ bookkeepers who can do with numbers what Rajon Rondo can do with a basketball." He means something magical. In the bank's case, the debt liability is simply revalued on the shaky assumption that the company could, if it wanted to, buy back all its debt, all at once, at a momentary price in a thin secondary market fraught with huge friction costs. Not gonna happen.

Even JPM's CEO, Jamie Dimon, confesses to the gimmickry. "The DVA gain," explained Dimon on Thursday, "reflects an adjustment for the widening of the Firm's credit spreads which could reverse in future periods and does not relate to the underlying operations of the company" [emphasis mine]. Yesterday another of the mega-banks, Citigroup, showed that it uses the same cookbook, announcing a third-quarter pre-tax DVA gain of, you guessed it, $1.9 billion. What a coinkydink!

Enter Bank of America, a veritable warehouse of lemons. For its quarterly earnings (announced this morning), BofA squeezed out a DVA gain of $1.7 billion, not quite up to JPM and Citi's level of performance, but still not bad for worst-of-breed. BofA did not stop there. It also recorded a "fair value adjustment on structured liabilities" of $4.5 billion, another phantom gain (see page 5 here). Back out those two accounting treatments, and you get zero dollars of net income. Then back out the proceeds ($3.6 billion) from a one-time asset sale. You are left with a core business that is still losing money hand over fist.

So why invest in any of these behemoths? It is a question that I have put to officials at the Maine State Retirement Fund (MainePERS), which continues to hold substantial stakes in both BAC and JPM, top-ten holdings as recently as fifteen months ago. The reason they fell out of the top ten is not because portfolio managers sold when the selling was good, but because the share prices have collapsed. As of September 30, we (i.e. MainePERS beneficiaries and guarantors) still hold over 2.6 million shares of BAC and over a million shares of JPM. In the third quarter alone, those BAC shares were down 44%, or more than $12.6 million.

I advised to sell the Santa Claus rally, which raised the stock to over $13 a share. Then, eight months later, I said sell the Saint Warren rally, which saw $8 a share. Today BAC has a six-handle, and it is difficult to see from the company's latest earnings report any possible catalyst for a rally from here. Rather, looming bank failures in Europe could be the catalyst for further downside.

[update, 2 p.m.--]

Bloomberg is just out with the explosive revelation that Bank of America has shifted derivatives from its Merrill Lynch unit to a federally insured subsidiary. This has essentially exposed U.S. taxpayers to the risk that these derivatives might blow up, in which event counterparties would have first claims to the firm's assets (including $1.04 trillion in cash deposits) prior to any bankruptcy resolution. William Black, a federal bank regulator during the Savings & Loan crisis of the early '90s, is quoted as saying that BofA has succumbed to the "enormous temptation to dump the losers on the insured institution. We should have fairly tight restrictions on that."

The safe harbor for derivatives counterparties is a legacy of the George W. Bush Administration, which in 2005 championed passage by Congress of the Bankruptcy Abuse Prevention and Consumer Protection Act (BAPCPA), a misnomer if ever there was one, as the ones being protected were reckless lenders and speculators. Consumers, far from being protected, were further subjugated.

Yves Smith at nakedcapitalism.com explains BofA's move this way:

Remember the effect of the 2005 bankruptcy law revisions: derivatives counterparties are first in line, they get to grab assets first and leave everyone else to scramble for crumbs. So this move amounts to a direct transfer from derivatives counterparties of Merrill to the taxpayer, via the FDIC, which would have to make depositors whole after derivatives counterparties grabbed collateral. It’s well nigh impossible to have an orderly wind down in this scenario. You have a derivatives counterparty land grab and an abrupt insolvency...This move paves the way for another TARP-style shakedown of taxpayers, this time to save depositors. No Congressman would dare vote against that. This move is Machiavellian, and just plain evil.

Maybe this is why MainePERS considers BAC a safe investment. If the bank should fail, taxpayers will be picking up the tab.

[update, 9 p.m.--]

Karl Denninger at market-ticker.org uses italics, bolding, AND underlining to reinforce his view:

[T]his sort of movement of liabilities should be flatly prohibited...That the firm's ratings have deteriorated and thus it may be required to post additional capital against these positions by those counterparties does not justify shifting the risk to depositors simply so the bank can avoid posting collateral against a deteriorating credit picture, which for all intents and purposes shifts the risk to the taxpayer since the FDIC has a line of credit at Treasury.

And John Hussman, in his weekly market commentary, has this:

[T]he transfer is clearly driven by the intent to get around capital adequacy regulations, and runs precisely opposite to the right way to create a good bank and a bad bank. It saddles the good bank - the taxpayer insured one - with the questionable liabilities, while "giving relief" to the holding company. This is really preposterous.

Quote for the Week, Oct. 16-22, 2011

2011-10-17T06:55:00.000-04:00

If you want to know what God thinks of money, just look at the people he gave it to.
--Dorothy Parker

Queue It Up

2011-10-14T09:52:00.004-04:00

Georgian earth-tones in autumn.

Robert Duvall sticks it.

And Alison Krauss too?

Trailer here.

Be There Or Be Square

2011-10-13T10:13:00.002-04:00

Red Sox Nation Reeling

2011-10-13T06:36:00.005-04:00

Dan Shaughnessy: "Chaos"

[excerpt from today's Boston Globe:]

"There are so many things wrong with the Sox at this hour, it’s difficult to know where to start. The manager is gone, the general manager is gone, the owners are in hiding, and the players are a loathsome lot totally unworthy of the money and adulation they receive...

Put down the long-necks and the Double Down sandwiches and tell the fans you are sorry."

Quote for the Week, Oct. 9-15, 2011

2011-10-09T08:52:00.003-04:00

In many years I have come to the conclusion that one useless man is a shame, two is a law firm and three or more is a congress.

--John Adams (U.S. President, 1797-1801)

Visionary Passes

2011-10-06T09:51:00.001-04:00

Steve Jobs

1955-2011

"Your time is limited, so don't waste it living someone else's life. Don't be trapped by dogma -- which is living with the results of other people's thinking. Don't let the noise of others' opinions drown out your own inner voice. And most important, have the courage to follow your heart and intuition. They somehow already know what you truly want to become. Everything else is secondary." [Stanford Commencement Address, 2005]

Something's Up with the Banks

2011-10-04T12:19:00.008-04:00

BAC, 5-year CDS spread

Default insurance for Bank of America debt continues to get more expensive. We'll know shortly whether MainePERS continued to hold BAC bonds and stock through the third quarter.

Meanwhile, BofA further endeared itself to its customers by announcing last week that it would charge debit-card users $5 a month just because. Ever since the announcement, the firm's online banking site has been overwhelmed by traffic. Those attempting to log on to do business are greeted with this:

[click to enlarge]

Could it be that the run on deposits has finally started?

CDS spreads for Morgan Stanley are even wider (by over 100 bps) because of that bank's perceived exposure to European banks, which in turn have heavy exposure to the shaky sovereign debt of countries like Greece. The whole system is stacked like dominoes. When they start falling....

Today's Markets Are Seized, Not Free

2011-10-03T07:03:00.007-04:00

"Recession, Recovery, and the Ring Fence"

by John Hussman, Ph.D.

[excerpt:]

"We are headed toward a new recession because our policy makers never addressed the underlying problem in the first place, which was, and remains, the need for debt restructuring...'[F]ailing' institutions can be restructured without any loss to depositors or counterparties...[B]ondholder and shareholder capital of these institutions are more than sufficient to absorb any losses without the need for public funds, provided that the objective of government policy is to protect the people and the long-term viability of the economy, rather than defending the existing owners, bondholders, and managements of these institutions....

We shouldn't blame what is happening here on capitalism or free markets. We really have only a caricature of those here. We have a system that is constantly eager to abandon the proper role of government in the markets - which is effective regulation of risk - and to substitute it with the worst role of government in the markets - which is absorbing losses for those whose losses should not be absorbed, and pursuing policies tilted toward the constant creation of speculative bubbles and the avoidance of required economic adjustments, rather than the productive allocation of capital.

Free markets work - provided that they operate within a framework of government policy that enforces property rights, provides reasonable regulation, coordinates objectives that cannot be achieved privately (e.g. certain infrastructure, insurance coverage for pre-existing conditions - which otherwise creates an adverse selection problem even for companies that would like to offer it), and maintains reasonable consumer protection...."

Complete commentary viewable here.

Quote for the Week, Oct. 2-8, 2011

2011-10-02T09:07:00.002-04:00

Violence results from policies that create black markets, not from the characteristics of the good or activity in question.
--Jeffrey Miron

Meltdown, Part Deux

2011-09-30T10:03:00.009-04:00

Three charts that have caught my eye in the last 24 hours:

History rhymes: world stocks are sliding...again.

[theme song: "The Tracks of My Tears" by Smokey Robinson]

And this:

Banks in trouble: Morgan Stanley default swaps are blowing out.
Again.

[theme song: "Pressure" by Billy Joel]

And it's not just Morgan Stanley [blue line, below]. Check out the 5-year CDS spreads for Citigroup, Goldman Sachs, and, my favorite, Bank of America [green], which is now kissing 400 bps:

Look out above!

[theme song: "Up, Up and Away" by Fifth Dimension]

Queue It Up

2011-09-28T08:16:00.005-04:00

Dolphin Tale, the rest of the story.

Real-life clandestine op for adrenaline junkies.

You are what you eat.

Trailer here.

Quote for the Week, Sept. 25-Oct. 1, 2011

2011-09-25T12:19:00.002-04:00

It takes a PhD in economics not to be able to understand the obvious.
--Irving Kristol

BAC to the Lows

2011-09-22T06:23:00.006-04:00

BAC, 3-month chart

With yesterday's downward spike in the price of Bank of America's common stock, the "Buffett effect" of one month ago has been repealed, leaving shares near the low for the year.

Why would Warren worry? Super-gazillionaire Warren Buffett, remember, sold all of his Bank of America common in 2010 and replaced it with preferred stock purchased last month. So he would appear insulated from yesterday's slide. But check out the reason for the slide: a downgrade by Moody's Investment Service of its ratings of Bank of America bonds. While preferred shares are senior to common, they are subordinate to bonds. So if bonds are at risk, so too are dividends owed to the preferred shareholders (in Buffett's case, a fat $300 million annually).

Moody's lowered its rating of BofA's long-term senior debt from A2 to Baa1 and, what's more, warned that a further downgrade may be in the cards. From Moody's website:

"Moody's decision to assign a negative rating outlook reflects the possibility it may further reduce its systemic support assumptions in the future as a consequence of the process set in motion by the enactment of the Dodd-Frank Act. Under the rules recently finalized by the FDIC, the orderly liquidation authority included in Dodd-Frank demonstrates a clear intent to impose losses on bondholders in the event that a systemically important bank such as BAC was nearing failure. If fully implemented, the provisions of Dodd-Frank could further lower systemic risk by reducing interconnectedness among large institutions and could further strengthen regulators' abilities to resolve such firms....

if the economic environment were to deteriorate and the bank were to receive adverse legal rulings on the claims pending against it related to its mortgage business, it could have a significant impact on BAC's capital position. Moody's also believes the variability around potential negative outcomes is substantial, and their resolution is not entirely within the direct control of management. The resulting uncertainty is a constraining factor on BAC's baseline credit assessment, especially in light of the bank's still relatively modest capital position compared to its major peers."

BofA's cash flows will be further constrained by the Federal Open Market Committee's decision, announced yesterday, to begin "Operation Twist," whereby the yield curve for U.S. Treasury bonds will be effectively flattened. Banks print money on the difference between short-term rates and longer-term rates, borrowing short and lending long. The steeper the curve (the bigger the difference in rates), the more money they make. That arbitrage is now being squeezed by the Fed in a desperate attempt to goose the economy.

The cost for default insurance for BAC debt remains alarmingly high:

BAC, 5-year CDS spread

Monetary Heroin

2011-09-21T09:51:00.004-04:00

via ZeroHedge [click to enlarge]

Yields on PIIGS debt are surging higher, despite the intervention of the European Central Bank to suppress them. The ECB's liquidity injections are short-term "fixes," nothing more.

As the drugs lose their effect, what happens next? Anybody? Anybody?

Quote for the Week, Sept. 18-24, 2011

2011-09-18T20:19:00.001-04:00

After each war there is a little less democracy to save.

--Brooks Atkinson

Double Your Money

2011-09-12T07:59:00.008-04:00

The yield on Greek 1-year debt passed 100% this a.m.

Step right up. Getchy'ur Greek one-year bonds for half price. Double your money in just one year!

The only catch: Greece must avoid defaulting on its sovereign debt before the bonds mature. Wanna bet?

[update 09-14-11:]

The yield on the same debt touched 148% hours ago. Can you hear me NOW?

Two days later.

Quote for the Week, Sept. 11-17, 2011

2011-09-11T17:51:00.003-04:00

An independent is a guy who wants to take the politics out of politics.

--Adlai Stevenson

2011-09-08T09:07:00.005-04:00

[click to enlarge]

"Eurozone Fixed-Income Stresses Worsen"

by Howard Simons, Minyanville

[excerpt:]

"Another indicator flashing red is the term structure of zero-coupon implied volatility. These levels have blown so far past the 2008-2009 highs that those readings look perfectly normal on the chart [above]. The two-year Schatz’ (German note) volatility has increased furthest and fastest as the market is convinced the present levels and very steep German yield curve are unstable.

Higher volatility means markets are less liquid and all parties involved have to pay higher costs to fix and hedge their credit commitments. Maybe someone, somewhere, believes paying high insurance costs on two-year money at levels considered untenably low is conducive to economic growth. I do not and have not, and the macroeconomic track record since 2008 supports my skepticism.

Most of the time entrance into a new war prompts people to ask a question along the lines of, 'Is this another Vietnam?' We have been asking whether the current markets are another 2008. No; it is different in many ways but it is worse in others. Until these eurozone credit market stresses are reduced, we are still in trouble."

Complete article viewable here.

Queue It Up

2011-09-06T09:50:00.004-04:00

Shot in Maine.

Dazzling photography.

Trailer here.

A Silver Bullet for the Ailing U.S. Economy?

2011-09-05T09:34:00.009-04:00

[click to enlarge]

Home refinancings have not responded to lower interest rates.

"Streamlined Refinancings for Up to 30 Million Borrowers"

by Alan Boyce, Glenn Hubbard, and Chris Mayer

[excerpt:]

"[T]hese mortgage-market frictions are slowing the economic recovery by limiting the benefits of low interest rates for household spending. Unable to refinance their mortgages the way corporations have been able to refinance their debt, consumers are left with weak balance sheets and mortgage payments often above of the cost of renting, contributing to excessive delinquencies and foreclosures. These constraints on refinancing have a disproportionate impact on middle-class borrowers with origination balances under $200,000 and poorer credit and whose employment opportunities have been hit especially hard by the recession....

[Under our plan] we expect mortgage payments to fall by about $70 billion, benefitting about 25 million borrowers...This plan would function like a long-lasting tax cut for these families. Empirical evidence suggests that consumers spend a larger portion of permanent increases in income than temporary increases....

The housing market benefits in many ways. Lower mortgage payments reduce future defaults, helping to stabilize house prices for all homeowners, whether or not they have a GSE/FHA/VA mortgage. The good new about refinancing may help improve consumer confidence, further benefitting the housing market. House prices may start to go up, leaving fewer borrowers underwater, starting a virtuous cycle."

We see who will benefit, but who will pay? That would be investors in vintage residential mortgage-backed securities (RMBS), who would have to accept massive prepayments of loans made during the height of the housing bubble. But shed no tears for those investors, who, according to Boyce et al., "understood and accepted the callable nature of mortgage interest-rate risk...[and] have received an unanticipated windfall from the extremely slow refinancing rates...at the expense of existing homeowners."

Complete paper viewable here.

Quote for the Week, Sept. 4-10, 2011

2011-09-04T07:51:00.002-04:00

When a man's best friend is his dog, that dog has a problem.
Edward Abbey

Island in the Stream

2011-09-02T18:07:00.007-04:00

BAC, 3-month chart

For those long Bank of America stock, today's price action was troubling. BAC gapped down without retracing to Thursday's price range, creating an ominous chart pattern known to technical traders as an "island reversal." Such a reversal typically ushers in further downside. Notice in the chart above that there is a six-bar plateau to the far right that is completely detached from prices both before and after. That is the island.

The original gap up came on the news that Warren Buffett is lending $5 billion to Bank of America. Interpreting the infusion as a signal that it was safe to get back in the pool, investors did cannonballs, bidding the common stock up by 20%. So how has the news flow on BofA been since? Funny you should ask. First, the firm continued its fire sale of non-core assets, liquidating half its stake in China Construction Bank for $8.3 billion. So much for the CEO's earlier protestations that BofA already had plenty of cash.

Then it was announced that the FDIC is objecting to the pending BNY Mellon settlement, which, if approved by the courts, would obligate BofA to disgorge $8.5 billion for toxic mortgage-backed securities sold by its Countrywide division years ago. The FDIC's intervention may delay or even scuttle the deal. Or it may raise the price tag. While the CCB sale was sized just right for now, it won't be enough to cover a more expensive settlement.

Want more bad news? You got it. U.S. Bancorp is suing BofA over $1.75 billion worth of sour Countrywide mortgages. But that's chicken feed compared to the $58 billion sought by the Federal Housing Finance Agency for mortgage securities peddled to Fannie Mae and Freddie Mac by Bank of America and its no-good stepsons, Countrywide Financial and Merrill Lynch (both taken over during the last global financial crisis). The FHFA, playing no favorites, is going after other banks as well for a total of $200 billion. Today's stunning announcement may be the two-by-four that breaks the camel's back. At the very least it caused BAC to gap down, putting the finishing touch on the "island."

Uncle Warren could care less. He will get his six percent annually as long as BofA's lawyers can drag things out. Owners of the common need to realize that his interests are not aligned with theirs. Once a common shareholder himself, Buffett sold his stake, only to come back as a vampire with first claim on the company's earnings.

Small comfort: BofA is not alone.

Jobs Initiative Coming--Just In Time!

2011-09-02T09:10:00.009-04:00

Thanks, as always, to Calculated Risk for this one.

President Barack Obama will be speechifying before Congress next Thursday night on how to create more jobs in the United States. He had originally asked for Wednesday, but Republicans said that an intramural debate scheduled for that night was more important. Barry typically deferred. Anyway, what's the rush? Over 8 million workers have lost their jobs since the Greater Depression started in 2008. They have waited almost four years. They can wait one more day.

Data released by the Bureau of Labor Statistics this morning could hardly have been less encouraging for the disemployed. According to the Establishment Survey, zero non-farm jobs were created in August. That is bad news for Obama, who will be out of a job himself if he keeps putting up goose eggs. Moreover, 58,000 jobs thought to have been created in June and July were, oops, canceled, dropping the three-month total to +105,000. Which means few employers besides McDonalds were hiring.

Numbers, numbers, who's got the numbers? The Household Survey says that non-agricultural jobs increased by 309,000 in August. But then again, the number of part-time jobs increased by 430,000. Do the math with me: the number of FULL-time jobs decreased by 121,000. Back to the Establishment Survey. Month over month, the average work week decreased by 0.1 hour, and average hourly earnings decreased (for the first time since January 2008) by three cents. Anyone else seeing workers getting squeezed?

Whatever plan the President has for unsqueezing, why has he waited two-and-a-half years into his term to reveal it?

'Dangerous for Society'

2011-08-28T13:02:00.006-04:00

Paul Woolley,

interviewed by Der Spiegel:

"...the markets don't function properly.

Things are spinning out of control..."

[excerpt:]

"Only a fraternity of academic high priests connected to the finance markets is still speaking of efficient markets. Still each market participant is pursuing their own selfish interests. The market isn't reaching equilibrium -- it's falling into chaos....

The finance sector can -- and is -- growing until it overwhelms the economy. In good years the US finance industry cashes in on more than 40 percent of all corporate profits. In bad years they are saved by the taxpayers. The agents are doing a devilishly good job of developing innovative, complicated new products that people can't understand. It gives them the opportunity to earn excess returns and attract the best talent. While they are acting rationally, the result is a catastrophe."

Complete interview here.

Quote for the Week, August 28-Sept. 3, 2011

2011-08-28T13:01:00.001-04:00

It is inaccurate to say that I hate everything. I am strongly in favor of common sense, common honesty, and common decency. This makes me forever ineligible for public office.
--H.L. Mencken

Loan Shark Descends on Bank of America

2011-08-25T09:55:00.011-04:00

Berkshire Hathaway's Warren Buffett

The big news on Wall Street this morning is that gazillionaire Warren Buffett is investing $5 billion dollars in Bank of America. Like lemmings, pre-market traders are bidding up BAC's share price on the presumption that Buffett's blessing means the bottom is in. I remain on the other side of that trade and in fact view the momentary hype as one last opportunity for MainePERS to exit the stock before it crashes for good.

How quickly they forget. Just six months ago came the disclosure, through a filing with the SEC, that Buffett had sold all of his common stock in BofA by the end of 2010. It was a good thing for him that he did, as he was able to side-step a 48% slide in the stock price since January 1. Now Buffett is back for discounted merchandise. But why? The company is even more troubled now than it was on New Year's Eve, having just recorded a 20 billion-dollar hit to its balance sheet.

It turns out that it is not common stock that Buffett is buying, but preferred instead, which gives him seniority over common stockholders in the company's capital structure. Buffett will be getting a guaranteed 6% annual dividend (x $5 billion = $300 million from pre-tax profits) before common shareholders get their measly penny-a-share quarterly dividend, which is not guaranteed. As a sweetener, Buffett also gets warrants to buy up to 700 million shares of common stock at $7.14 a share at any time during the next ten years. Fully exercised, those options would give him 6.5 percent of the company.

This is a bad deal for Bank of America, which assumes a burdensome cost of capital in a zero-interest-rate environment. Management's credibility is now seriously undermined in the wake of assurances during a July 19 conference call with investment analysts that the company needed no additional capital. The usurious Buffett deal means that BofA not only needs capital, but cannot get it from public debt and equity markets. Concludes ZeroHedge: "The bank's only recourse was a private raise with a crony capitalist who is once again doubling down on the global ponzi."

Worst part is, the $5 billion is not nearly enough. The company's unmet liabilities are estimated in the tens of billions and may approach $200 billion. Buffett's intervention is like seeing a distressed swimmer being swept out to sea by a riptide and throwing him a...rubber duckie. And if Wily Warren loses his rubber duckie? No problem. Barack Obama, who worships the Oracle of Omaha, will buy him another one. Which, if that happens, will make me really mad.

It has happened before. In 2008 Buffett bought preferred stakes in both Goldman Sachs and General Electric, after which the stocks crashed 67% and 42% respectively. It took the TARP bailout to rescue Buffett's investment then. "If history repeats," notes EuroPacific Capital's Peter Schiff wryly, "it's more likely the banking stocks are about to get hammered."

The story is going around that Buffett concocted the BofA scheme while sitting in the bathtub Wednesday morning. Would it not be fitting if he ended up taking a bath on this latest flyer?

[update 08-30-11:]

David Weidner at Marketwatch explains here how the Buffett deal gouges holders of BAC common.

And John Hussman has this to say:

Warren Buffett's $5 billion investment in Bank of America preferred stock last week was essentially a defense of the old guard. Buffet observed, "It's a vote of confidence, not only in Bank of America, but also in the country." Yes - to be specific, it's a vote of confidence that the country will bail out Bank of America in any future crisis. We should all hope that Buffett's investment is successful - provided there is no future crisis - and we should equally hope that Buffett loses the entire investment otherwise.

Bank of America Swaps Go Through the Roof

2011-08-24T08:19:00.008-04:00

[click to enlarge]

Quick primer:

A credit default swap (CDS) is insurance bought by a lender to protect against a loan default. Say the CDS buyer is holding some sketchy corporate debt issued by a distressed company such as, oh, let's just pick one out of a hat, Bank of America! If said company goes down, the CDS holder can "swap" the defaulted bonds for their face value in cash. The price of the CDS is called the "spread." The higher the spread, the greater the perceived likelihood that a default will take place.

Earlier this morning Bank of America's five-year CDS spread, which has been steadily rising over the past several weeks, suddenly blew wider by another 25% (see chart above). Ominous for unprotected lenders. And shareholders.

If MainePERS portfolio managers have not dumped the stock by now, you may be seeing them soon at a pharmacy near you. Will there be meds enough for BAC's collapse?

From Yves Smith at www.nakedcapitalism.com:

"We are now seeing the downside to extend and pretend. Years of regulatory forbearance mean that investors know the marks on the balance sheet of a beast like Bank of America (and frankly all the other big banks) have a ton of air in them. And now that the economy is looking seriously wobbly and the odds of son of Credit Anstalt are well above zero, it means big banks are at real risk of getting seriously whacked in a major stress event. Worse, with Dodd Frank (supposedly) barring bailouts and Tea Partiers on an anti-bank, anti-Fed, anti-spending warpath, it might not be so easy for the authorities to rescue a big bank if a run started (not that I’m advocating a rescue, mind you, I’m looking at this from the vantage of a bank shareholder)....

Now normally, investors accept the unknowability of bank equity because they have some faith in the system. Does anyone have any confidence in the system now? Financial regulators have shown themselves to be incompetent and/or badly captured by banks. Earth to base: letting off bank management easy is bad for investors in the long run. Being an investor in an overly risky bank looks swell until it suddenly isn’t."

Complete commentary viewable here.

(B)ungee (A)ction (C)ontinues

2011-08-22T17:14:00.006-04:00

Bank of America's stock price (4-day chart)

[click to enlarge]

So THAT'S what the ticker symbol stands for!

And now for the 4-year chart:

Down 88% and not done yet.

Same As the Old Boss

2011-08-22T07:58:00.003-04:00

"George W. Obama?"

by David Bromwich

"The record shows impressive continuities between the two administrations, and nowhere more than in the policy of “force projection” in the Arab world. With one war half-ended in Iraq, but another doubled in size and stretching across borders in Afghanistan; with an expanded program of drone killings and black-ops assassinations,the latter glorified in special ceremonies of thanksgiving (as they never were under Bush); with the number of prisoners at Guantanamo having decreased, but some now slated for permanent detention; with the repeated invocation of “state secrets” to protect the government from charges of war crimes; with the Patriot Act renewed and its most dubious provisions left intact -- the Bush-Obama presidency has sufficient self-coherence to be considered a historical entity with a life of its own."

Complete article viewable here.

Quote for the Week, August 21-27, 2011

2011-08-21T09:15:00.001-04:00

I don't want to achieve immortality through my work. I want to achieve it through not dying.
--Woody Allen

You're Outta Here!

2011-08-16T08:20:00.010-04:00

BofA CEO Brian Moynihan gives Canadian cards the thumb.

Bank of America announced yesterday the sale of its MBNA-branded Canadian credit-card portfolio to TD Bank Group for $8.5 billion. This is the latest in a series of divestitures as the firm exits its entire international credit-card business. It must have been a painful decision for BofA's CEO, Brian Moynihan. Credit-card lending has been a relative bright spot for the company, which has suffered staggering losses in recent quarters. But regulators must be satisfied, and the move will help the company comply with enhanced capital requirements being phased in over the remainder of the decade.

Investors are running, not walking, from Bank of America. Recent filings with the SEC have revealed that two of the world's best-known hedge-fund managers, David Tepper and John Paulson, shed substantial stakes in BofA during the second quarter. Tepper's Appaloosa Management L.P. sold 7.2 million shares in Q2, this after ditching 8 million shares in Q1. The 10 million shares remaining are less than a third of what Tepper held at the beginning of 2010. Paulson's axe was even heavier. He sold 63.2 million shares in Q2, or more than half of what he held when the quarter began. That is some serious dumpage.

So who was on the other side bidding? Why, MainePERS, of course, scooping up 63,358 shares during the same three months. They must know something that the rest of us do not.

[update 08-21-11:]

Christopher Whalen suggests that Bank of America should be headed toward receivership. Owners of the company's common stock would be at the bottom of the food chain in any subsequent workout. The conversion of debt to equity would severely dilute shareholders:

"Once the FDIC is in control of BAC, the process will then proceed like a typical bankruptcy, with the operating units continuing to do business in the normal course. For consumers and business customers, the situation at BAC will be mostly the same. But for investors and especially creditors, the situation will be far from normal.

In a Dodd-Frank resolution, the creditors of BAC will have an opportunity to file claims, much as with any failed bank. Unlike a bankruptcy, however, the FDIC will make all depositors of the subsidiary banks whole before considering claims of creditors of the parent, a significant difference investors ought to consider. Most important, however, will be the process of converting debt to equity in the restructured BAC, providing the resources to absorb losses, fund continuing operations and restructure."

[update 08-23-11:]

Henry Blodget estimates that Bank of America will need to raise at least $100 billion, and perhaps as much as $200 billion, of new capital to survive. If true, existing shareholders will get hosed. With a water cannon. Memo to MainePERS: an umbrella will do no good.

Grief To Those Who Deserve It

2011-08-15T09:32:00.008-04:00

"Two One-Way Lanes on the Road to Ruin"

by John Hussman, Ph.D.

[excerpt:]

"Presently, we should not judge policy actions by their ability to punish saving, indiscriminately promote spending, relieve fear by making bad debt whole, or promote credit for its own sake. Instead, we should judge each policy action by its ability to reallocate resources toward productive uses, and to accelerate the restructuring of hopelessly bad debt that was carelessly extended in the first place. Many "standard" elements of economic policy can be crafted toward these ends, including infrastructure spending, R&D credits, unemployment compensation, funding of NIH and other basic research, and so on. Restructuring mortgage debt by using Treasury to administer, but not subsidize, property appreciation rights would also be helpful. By contrast, it is disastrously misguided to defend holders of bad debt, to distort financial markets, and to obstruct rather than facilitate the restructuring of excessive debt burdens.

...[the nation's economic] policies operate primarily for the benefit of banks and bondholders who made reckless and unproductive loans. To use Schumpeter's words, our public policy now operates 'in their interest and for their purposes.' It is the insistence of policy makers on making these bad loans whole, instead of restructuring the obligations, that is at the heart of our prolonged economic slump.

Undoubtedly, borrowers are also responsible for the losses, but it is always the lender and the investor who is responsible for judging the risk and character of the businesses and individuals to whom they extend credit. As Schumpeter noted 'The entrepreneur is never the risk bearer. The one who gives credit comes to grief if the undertaking fails.' When investors and lenders stop being mindful of risk, believing that somebody else will bail out the loss, the misallocation of resources does violence to the entire economic system."

Entire commentary viewable here.

Quote for the Week, August 14-20, 2011

2011-08-14T20:53:00.003-04:00

Owners of capital will stimulate the working class to buy more and more expensive goods, houses and technology, pushing them to take more and more expensive credits, until their debt becomes unbearable. The unpaid debt will lead to bankruptcy of banks, which will have to be nationalized, and the State will have to take the road which will eventually lead to communism.
--Karl Marx, 1867

Bank(ruptcy) of America

2011-08-08T08:40:00.020-04:00

From ZeroHedge:

Bank of America Defaults Risk Soars To Highest Since June 2009,

Jumps By 10% Overnight

posted here.

Also in the news this morning, AIG is suing Bank of America for $10 billion. Bank of America's stock is off another 7+% in pre-market trading. Reminder: Maine state employees and taxpayers are invested to the tune of 2.6 million shares.

Scroll down for more on the BofA disaster.

[update, noon:]

Here Comes TARP 2:

Bank Of America Implodes, At $6.87,

BAC CDS Up 20% To 260 bps As Bankruptcy Contemplated

More at ZeroHedge.

[update, 4 p.m.:]

BAC gaps down,
MainePERS loses another $4.3 M.

U.S. Loses an 'A'

2011-08-07T13:53:00.011-04:00

U.S. Treasury bonds: triple-A no more

"America Makes the Cut:

So What Happens Next?"

Brandon Smith, Alt-Market.com

[excerpt:]

"Ratings agencies were not alone in the creation of the derivatives bubble. The private Federal Reserve artificially lowered interest rates and flooded the markets with cheap fiat. International banks used this fast money to create the easy mortgage groundswell and the derivatives poison that was fed it into the system. Ratings agencies went along with the scam and graded the worthless securities as AAA. The federal government and the SEC allowed all of this to take place by purposely ignoring the crime and refusing to apply existing regulations in investigating the fraud.

The Bottom line? You CANNOT create an economic crisis like the one we face today without collusion between big business, government, regulatory bodies, and ratings agencies. The Obama Administration is well aware of this, and the attacks on S&P are nothing more than a show. S&P is not to blame for the downgrade this past weekend. They are ALL to blame."

Complete article viewable here.

Quote for the Week, August 7-13, 2011

2011-08-07T08:41:00.000-04:00

It is when power is wedded to chronic fear that it becomes formidable.

--Eric Hoffer

Ticket To Ride

2011-08-04T16:11:00.018-04:00

Bank of America stock sinks to a new 52-week low.

(08-04-11)

[graph from ZeroHedge]

MainePERS beneficiaries took a piggyBAC ride down today, along with all other pensioners long the stock market. The Dow was down 500 points, or over 4%. Bank of America's common stock slid even faster, off over 7%.

Let's do the math, shall we? MainePERS holds 2.6 million shares (after adding to its stake in Q2). Multiply that times 73 cents per share, today's price chop. That gives us $1.9 million lost since 9:30 this morning. Gone. Vaporized.

And we pay the portfolio managers how much?

[update 08-05-11:]

Another day, another $1.7 million. Look (out) below:

BAC, 3-month chart

The nosedive comes after the company's latest 10-Q filing with the Securities & Exchange Commission late yesterday. If you click on the link, you will find over 200 pages, most of it repetitive boilerplate. Of particular interest is management's discussion of future risks to the company and, by extension, to investors (yeah, YOU, MainePERS), risks that were neither eliminated by prior settlements nor fully provisioned in the company's Q2 financial disclosure. Some choice nuggets:

The company's experience with the GSEs (e.g. Fannie Mae, Freddie Mac) "continues to evolve," which, fully and precisely translated, means they have our nuts in a vise and they are tightening. "The recent FNMA announcement regarding mortgage insurance rescissions, cancellations and claim denials could result in increased repurchase requests from FNMA that exceed the repurchase requests contemplated by the estimated liability" [emphasis added]. The company's exposure? "It is not possible to reasonably estimate..." yada-yada. In other words, the sky's the limit. Page 179.
Non-GSE exposure keeps growing as well. "We currently estimate that the range of possible loss related to non-GSE representations and warranties could be up to $5 billion over existing accruals at June 30, 2011." At least they put a number to this one, subject of course to later revision. Page 219.
The so-called BNY Mellon settlement for $8.5 billion announced at the end of June is not a done deal. Court approval is still pending, and some of the parties want out. Or want more. "The Corporation's future representations and warranties losses could be substantially different than existing accruals...and consequently could have a materially adverse effect..." etc. etc. [company's emphasis]. Page 220.
I especially like this one: "A downgrade in the U.S. Government's sovereign credit rating...could result in risks to the Corporation...[and] could impact our ability to obtain funding that is collateralized by affected instruments, as well as affecting the pricing of that funding...[Such action] could result in a significant adverse impact to the Corporation" [company's emphasis]. Right on cue, Standard & Poor's tonight downgraded its triple-A rating for U.S. debt to AA+ and attached a negative outlook warning of further cuts. First time in history. The cost of banking business just went up. Page 221.
Market risk in the mortgage sector: "For each one percent change in home prices, the liability for representations and warranties on unsettled GSE originations is estimated to be impacted by $125 million based on projected collateral losses and defect rates." Home prices are still declining. So the company's liability keeps on growing. Page 123.

Bottom line: hold the stock at your own risk.

Quote for the Week, July 31-August 6, 2011

2011-07-31T21:48:00.005-04:00

Paranoia means having all the facts.

--William S. Burroughs

How To Liberate America

2011-07-28T14:16:00.006-04:00

David Korten:

"Wall Street’s mega-banks lost interest in real investment and developed a new business model. They now specialize in charging excessive fees and usurious interest rates, providing leverage to speculators, speculating for their own accounts, luring the unwary into mortgages they cannot afford, bundling junk mortgages to sell them as triple-A securities, betting against the clients to whom they sell the overrated securities, extracting subsidies and bailouts from government, laundering money from drug and arms traders, and offshoring their profits to avoid taxes."

PDF report here.

Quote for the Week, July 24-30, 2011

2011-07-24T10:49:00.001-04:00

We would rather be ruined than changed.
--W.H. Auden

The Sinkhole That Is Bank of America

2011-07-21T07:37:00.004-04:00

Jonathan Weil,

"Curse the Geniuses Who Gave Us Bank of America"

[Bloomberg]

[update 07-22-11:]

From ZeroHedge:

Instead of $8.5 billion, Bank of America is actually on the hook for an amount that is at least 3 times greater if one uses proper impaired security valuation protocols...
Should the true extent of deterioration of Bank of America's books be revealed, then its market cap would be not $100 billion but some modest fraction thereof. In fact, even John Paulson, formerly the biggest believer in BAC has now washed his hands. And he doesn't give up (read: look foolish to the investment community) easily. Our advice is to have a chat with Jon Weil: after all he is the man who said to "Curse the geniuses who brought us this madness."

MainePERS Can't Get Enough

2011-07-19T07:35:00.022-04:00

Bank of America earlier this morning released its latest quarterly earnings report. "Earnings" may be a misnomer, as the company lost $8.8 billion in its second quarter. In case you just drove through a dead zone, let me repeat. Eight-point-eight BILLION. The company's earnings presentation appears here.

The slide to which we should pay particular attention is this one:

[click to enlarge]

The company is required by regulators to accumulate capital as a cushion against any future liquidity crisis similar to what occurred in 2008. As a "a systemically important financial institution" (SIFI), Bank of America must achieve a 9.5 percent ratio of capital to risk-weighted assets between 2013 and 2019. But as the chart above shows, the Tangible Common Equity Ratio actually contracted in Q2 to less than 5.9 percent. The company now expects a ratio of no more than 7 percent in 2013, which would still leave it $50 billion short of the Basel requirement.

According to Bloomberg, Oppenheimer & Co. analyst Chris Kotowski believes that Bank of America will be hoarding cash until at least 2016 to reach the 9.5 percent goal. That means no dividend increases for shareholders. In fact Kotowski does not rule out a share offering, which typically depresses the share price. “Bank of America’s capital position relative to peers creates dilution risk,” wrote Kotowski in a June 30 research note. “While we aren’t certain that an equity raise will actually happen, the risk is certainly there.”

The company's stock, which trades under the ticker symbol BAC, has been getting crushed. The stock price slid from $13.33 per share at the beginning of April to $10.96 at the end of June, a drop of 17.8 percent during the quarter. Managers of the MainePERS investment portfolio fell for the value trap and bought 63,358 more shares during that same period. As the quarter drew to a close, MainePERS held over 2.6 million shares. That's when Bank of America announced a $20.4-billion hit to its balance sheet. Talk about buyer's remorse.

The rout has continued into the third quarter. On Friday BAC traded briefly under $10, triggering the following playful headline at Zero Hedge:

Goodbye Teenage Wasteland: Bank Of America Pulls A Benjamin Button, Reenters Single Digits

By the close of trading on Friday, the stock recovered to precisely $10.00. With options expiration now out of the way, price support has vanished. Yesterday, the stock closed at $9.72, a level last seen in May 2009.

BAC, one-day chart (07-18-11)

This morning's earnings release did nothing to revive the stock, which has lost another 15 cents on the day. That means that BAC has lost 12.7 percent of its value just in the twelve trading days of July. For MainePERS, that is a loss of over $3.6 million, or $300,000 every day the market has been open this month. Does anyone know what KA-CHING sounds like when played backwards?

BAC, 6-month chart

Even the Vampire Squid, Goldman Sachs, is struggling. The investment bank's quarterly earnings report, also today, was not much better than Bank of America's. The Lex column at Financial Times sums up the industry's challenges this way:

If an interminable period of declining asset prices is the first Japan-like problem for US banks, the second is the effect of deleveraging on economic activity. Goldman Sachs, like any business, needs enthusiastic clients to make money. That underwriting revenues fell by a 10th versus last quarter, equities trading by a third, and fixed income, currency and commodity trading by twice that, suggests an increasingly nervous client base. Likewise, reversing the downward trend in net interest income at BofA (almost a $1bn less this quarter) and other banks will only be possible if an improving economy causes interest rates to start rising again.

Todd Harrison at Minyanville offers the chart below to illustrate how the banks (reflected in the BKX index, white line) are lagging the broader market (SPX in orange):

[click to enlarge]

Finally, just one more picture to show Bank of America (blue line) lagging its peers:

[click to enlarge]

BofA is the worst of a bad breed, and we Mainers own more of it now than we did three months ago. Let's raise our Shipyard Summer Ales to celebrate. Bottoms up.

Quote for the Week, July 17-23, 2011

2011-07-17T06:06:00.003-04:00

Foreign aid might be defined as a transfer from poor people in rich countries to rich people in poor countries.
--Doug Casey

But Who's Counting?

2011-07-16T11:48:00.008-04:00

Peru--Eight volunteers at Worthley Pond fanned out early this morning to count loons, part of Maine Audubon's annual statewide survey. Comparing notes after the observation period (7 to 7:30 a.m.), the counters determined that they had seen seven different loons--three in the upper bay, two in the narrows, and two in the lower bay.

By coincidence, at the same time that the Worthley eight were conducting their Loon Count, the resident loons were doing a Stupid Human Count. It got to be a contest, and the loons were winning. They dove here and resurfaced, seconds later, way over there. They congregated, then dispersed. They did everything in their considerable power to be double- and triple-counted. Something about fish-stocking benefits from the government. The soaring call of one, reverberating off the hillsides, sounded like more-than-one. The humans were doing head spins straight out of The Exorcist.

In the end, the humans are the ones who mail in the results. So what they say goes. And they say that Worthley Pond had its highest count ever, one more than last year. (Two days before the survey, the Associated Press ran this story about the loon census.)

As for loon habitat, what could be better than Trout Lake?

Quote for the Week, July 10-16, 2011

2011-07-10T09:25:00.000-04:00

If a politician found he had cannibals among his constituents, he would promise them missionaries for dinner.
--H.L. Mencken

Roll Over, Beethoven

2011-07-08T13:50:00.010-04:00

Abysmal.

Is there a better word to describe today's job numbers from the Bureau of Labor Statistics? Only 43,000 nonfarm payrolls (according to the Establishment Survey) have been added in the U.S. economy in the last two months, a number insufficient to accommodate all the new entrants to the workforce, never mind the 8 million-plus who lost jobs since December 2007.

If you prefer the Household Survey for your employment data, put on your seat belt. The number of people employed nationwide in June plunged either by 445,000 (Table A-1 here) or by 542,000 (Table A-8 here, ag plus non-ag) depending on which table you peruse. The so-called Adjusted Household Survey, which tries to dovetail the establishment and household methodologies, comes in at minus 401,000. Pick a number, any number, it's all the same. Upchuck city.

Mike Mish Shedlock points out that there has been no progress in upgrading part-time jobs in the past year:

Dave Rosenberg has a chart showing the difficulty the unemployed are having trying to get back to work:

Lee Adler shows how payroll withholdings (hence wages and salaries) are flatlining:

The stock market looked primed for major pukage at the open today. But hours after the BLS release came a report that consumer credit expanded in May. Traders jumped on that slim reed as evidence that the economy is picking up steam. Karl Denninger cautions, however, that any growth in non-revolving credit (red line, below) is purely the result of federally guaranteed student loans. Absent indentured college graduates, non-revolving credit is still contracting (green line). Revolving credit (blue line--think credit cards) is not rebounding meaningfully.

Look at these charts carefully, then invest accordingly.

Loon Count 2011

2011-07-03T17:23:00.004-04:00

Saturday, July 16th, is the date for Maine Audubon's annual statewide survey of the loon population on Maine's lakes and ponds.

Check out this stunning slide show from last year's photo contest.

Quote for the Week, July 3-9, 2011

2011-07-03T11:04:00.003-04:00

Politics, n.--A strife of interests masquerading as a contest of principles.
--Ambrose Bierce, The Devil's Dictionary

Message for MainePERS

2011-06-29T05:58:00.016-04:00

Dial 1-800-GET-ME-OUT

Late yesterday came word that Bank of America was close to a settlement whereby a whopping $8.5 billion will be paid out to institutional investors holding toxic mortgage-backed securities peddled by Countrywide Financial, which BofA took over in 2008. This is the biggest settlement to date over claims arising from the subprime mortgage boom that helped precipitate the near-meltdown of financial markets three years ago.

[update 07-05-11: The price tag may go higher. Today a court filing on behalf of an investor group called Walnut Place challenged the proposed settlement for "the secret, non-adversarial and conflicted way in which [it] was negotiated." The Walnut Place investors want to opt out and pursue recourse separately, feeling that the $8.5 billion for a class-action suit is not enough.]

The deal follows the bank's settlements earlier this year with Fannie Mae and Freddie Mac (for $2.8 billion) and Assured Guaranty Ltd. ($1.1 billion). As of March 31, Bank of America was seriously under-reserved for an outcome of this magnitude, with a provision for representations and warranties of just $1 billion (scroll to page 22 here). The latest settlement wipes that away, plus all year-do-date earnings as well. In addition to the $8.5 billion payout, the company will set aside $5.5 billion to rebuild the aforementioned reps-and-warranties reserve (because yes, Mathilda, there are more claims coming). And it doesn't stop there. According to a statement:

The company also expects to record $6.4 billion in other mortgage-related charges in the second quarter of 2011, including a non-cash, non-tax deductible impairment charge of $2.6 billion to write off the balance of goodwill in the Consumer Real Estate Services business, as well as charges related to additional litigation costs, a write-down in the value of mortgage servicing rights, and additional assessment and waiver costs for compensatory fees associated with foreclosure delays.

Add all those items together, and the total damage to the company's balance sheet is over $20 billion. Not even Jamie Dimon makes that much.

Karl Denninger points out that $20 billion is a hefty 12% of BofA's market capitalization (share price multiplied by share count). And the litigation is not over. BofA and other lenders are currently negotiating with the 50 state attorneys general and the feds regarding shoddy lending practices and abusive foreclosures. The bill for those transgressions may add up to as much as $20 billion industry-wide. The MainePERS investment portfolio continues to hold 2.5 million shares of Bank of America common stock and almost a million shares of another highly exposed bank, Dimon's own JP Morgan Chase (see below). The share prices of those two are in serious downward trajectories as the hedgies are fleeing in droves.

While MainePERS portfolio managers sit on their hands.

[update 07-06-11:]

Maine Treasurer Bruce Poliquin referred my letter of June 18th to MainePERS, from whom I have received the following reply:

Thank you for your email inquiring about the MainePERS investments. Treasurer Poliquin requested that we respond. I apologize for the delay in my response. It was very busy closing up the fiscal year.

Hopefully we can ease your concern about LD 1524. MainePERS is committed to transparency because we are a public fund. Our investments are fully disclosed in a number of venues, our website and investment reports being two. Also, our investment process has multiple layers of checks and balances to ensure ethical investing including regular reviews by both internal and external auditor who have access to all confidential data.

LD 1524 is not intended to limit any information that assures the public about the propriety of our investments. Its’ primary purpose is to limit other investors (e.g. competitors of MainePERS, hedge funds, money managers) from using the public disclosure process to obtain competitive information, sensitive financial information, and trade secrets which may disadvantage MainePERS and the funds with which we are investing.

The exemptions in LD 1524 were drafted to be as limited as possible to provide the public with a clear view of our investments and to allow MainePERS to make the solid investments on behalf of its beneficiaries. These exemptions are similar to exemptions provided to the Finance Authority of Maine (FAME) and Small Enterprise Growth Fund of Maine (SEGF) for their private party transactions. Similar exemptions are also found at numerous other state pension funds and university systems.

Your second concern is one that is most appropriately directed to the Legislature, the sponsor of state pension plans. The Legislature has created a work group to develop a new plan based on Social Security participation for all new hires after 2015.

Managing a $10.5 billion dollar portfolio takes a significant amount of work to develop an asset allocation strategy. We always welcome thoughts and perspectives such as yours when we are going through the allocation process.

I know I can’t directly answer some of your concerns, but I hope this information is helpful.

Sandy Matheson, Executive Director

Maine Public Employees Retirement System

Mainer Saves Garden Patch

2011-06-26T11:12:00.002-04:00

The weeds were...

...outta control, I tell ya, OUTTA CONTROL!

Gould Farm

Monterey, MA

June 2011

Quote for the Week, June 26-July 2, 2011

2011-06-26T09:02:00.002-04:00

Let us live so that when we come to die even the undertaker will be sorry.
--Mark Twain

E-Street Sax Man Passes

2011-06-19T07:32:00.004-04:00

Clarence Clemons

1942-2011

Quote for the Week, June 19-25, 2011

2011-06-19T07:30:00.002-04:00

A countryman between two lawyers is like a fish between two cats.

--Benjamin Franklin

Dear Bruce

2011-06-18T07:39:00.003-04:00

Open Letter to Maine's State Treasurer:

Treasurer Poliquin--

I am dismayed to read in this morning's Lewiston Sun Journal about the progress of LD 1524, a bill that, if implemented, would pull a veil over some of the state's investments on behalf of MainePERS beneficiaries. If I were a state employee coerced into mandatory pension contributions, I would sure as hell want to know where my money was.

I have already communicated to you that I believe the state should be out of the retirement-planning business altogether. The projected returns of 7+% per annum are totally unrealistic given the current trends of an aging population, growing structural unemployment, and collapsing credit. Liquidate MainePERS. Let beneficiaries get their money back (with a reasonable return and, if necessary, a cash-out bonus) while they can, before the looting runs its course.

And if we're going to continue playing the markets, let's dispense with the "passive" management approach. There will be more losers than winners in the next 5-7 years, so buying the indices practically guarantees poor performance. A good place to start would be culling the zombie banks from the MainePERS portfolio. Every hedge-fund manager on the planet worth his salt is doing exactly that. The financial sector can only shrink from here.

Sincerely--

Bill Hine, Peru, ME

[update 07-06-11:]

Treasurer Poliquin referred my letter to MainePERS, from whom I have received the following reply:

Thank you for your email inquiring about the MainePERS investments. Treasurer Poliquin requested that we respond. I apologize for the delay in my response. It was very busy closing up the fiscal year.

Hopefully we can ease your concern about LD 1524. MainePERS is committed to transparency because we are a public fund. Our investments are fully disclosed in a number of venues, our website and investment reports being two. Also, our investment process has multiple layers of checks and balances to ensure ethical investing including regular reviews by both internal and external auditor who have access to all confidential data.

LD 1524 is not intended to limit any information that assures the public about the propriety of our investments. Its’ primary purpose is to limit other investors (e.g. competitors of MainePERS, hedge funds, money managers) from using the public disclosure process to obtain competitive information, sensitive financial information, and trade secrets which may disadvantage MainePERS and the funds with which we are investing.

The exemptions in LD 1524 were drafted to be as limited as possible to provide the public with a clear view of our investments and to allow MainePERS to make the solid investments on behalf of its beneficiaries. These exemptions are similar to exemptions provided to the Finance Authority of Maine (FAME) and Small Enterprise Growth Fund of Maine (SEGF) for their private party transactions. Similar exemptions are also found at numerous other state pension funds and university systems.

Your second concern is one that is most appropriately directed to the Legislature, the sponsor of state pension plans. The Legislature has created a work group to develop a new plan based on Social Security participation for all new hires after 2015.

Managing a $10.5 billion dollar portfolio takes a significant amount of work to develop an asset allocation strategy. We always welcome thoughts and perspectives such as yours when we are going through the allocation process.

I know I can’t directly answer some of your concerns, but I hope this information is helpful.

Sandy Matheson, Executive Director
Maine Public Employees Retirement System

Greeks Refuse To Go Along

2011-06-15T12:33:00.003-04:00

Tension outside the Greek Parliament,

Athens

June 15, 2011

Remember what this means for the U.S. financial sector.