Well, on July 29th Merrill traded a bunch of Super Seniors for about 20 cents on the dollar.
I believe there were some others subsequently at around 12 cents.
What you’re talking about already happened. It’s not like anybody’s holding these things at par.
That latter I consider “accurate pricing” for purposes of bailout purchases.
My bear market vision is 20/20.
A friend had a CD with Silverado when they tanked in the 80’s. (at something like 20-25% APR!) It took several months for resolution via FDIC (or TRC, whichever) before he got his money. He didn’t lose anything mind you, but if he had really needed that money NOW it would have been a problem.
So I’d say stay below the FDIC limit, and maybe maintain accounts at more than one institution.
Earlier observations and statements suggest otherwise. However, trying to warn bulls about bears is usually a futile exercise. we’ll compare notes in 2 years.
Your statements that the majority of CDO’s are making their interest payments and will end up at par is severely contradicted by Merrill selling at 20 cents on the dollar.
The root issue remains that no one can value the underlying collateral with any degree of confidence and there is a big question if the bond insurance will be paid in the event of mass defaults.
Thanks.
Is this the Barron’s article that China Guy and Scylla had in mind?
A number of innovations occurred over the past several years in the mortgage market. No documentation loans. Interest only loans. Adjustable-rate mortgages. Combinations of the preceding. With the exception of ARMs, is there sufficient historical data to make a solid estimate of the default rates on these loans, in the face of declining house prices?
Without good default estimates, valuing a CDO seems difficult.
Without good default estimates, valuing the more complicated and layered variants seems even more difficult. (Does the uncertainty compound?)
Or can we insert a reasonable estimate of our uncertainty regarding default rates, then crunch the numbers? Or not?
If firms face actual bankruptcy by selling a thinly traded product and marking similar debt derivatives to market, then I assume that they would hold on to these toxic assets as long as possible. (Right? Or not really?) What they would really like is for some pathetic yet credible (and rich!) schlub to pay a premium for them.
If the government fulfills this role, might it have a multiplier effect on capital levels, via an optimistic revaluation of their stock of assets? Or is this irrelevant since the SEC is now bending mark-to-market rules?
It probably wouldn’t make it go away, just sweep it under the rug. The general argument against mark-to-market is that just because you can’t sell something for more than ten cents on the dollar doesn’t mean it won’t be worth a dollar in five years time. The argument in favour is that if you have something no-one is willing to pay more than ten cents for, it’s a bit sneaky to tell your shareholders and creditors its worth a dollar. The rule encourages fire-sales, but on the other hand it prevents people from polishing turds and calling them diamonds.
Removing that accounting requirement might make life a lot easier because it would stop the desperate need to call in loans and raise cash - but in the current climate adding a layer of obfuscation to asset values might make people even more reluctant to do business with each other. Would you loan a billion dollars to someone who has assets they value at five billion but the market vales at half a million? What about if they value their assets at two billion, but no-one has bought or sold an asset like that in six months?
It’s one of those things where it’s easy for people to point and go ‘fix this’ but no-one can really tell what would happen if you changed it. Accountants argued over it for years before deciding to implement it.
First, thanks for starting this thread, and thanks to Chinaguy for the assistance.
I have a few questions:
If housing prices continue to drop, won’t more people just walk away from their houses, further depressing prices and devaluing CDOs?
Would it be effective to make all mortgages recourse mortgages so that buyers could not walk away as easily? It seems like stabilizing the default rate will be integral in evaluating these bonds,
If the government buys all these CDOs, do they own the collateral, ie. the houses? If so, could they just “rent” them to people already receiving social services, like Section 8 vouchers, in order to have them filled?
What regulatory changes need to be made to prevent this from happening again?
If the government buys enough of the bonds, will they be able to “unravel” the underlying collateral in ways to make them more closely resemble themselves? My question is if they can ever get to a point where the instrument is reflective of a few specific mortgages instead of a bunch of unrelated loans?
Why have they banned short-selling? Is this a good thing?
Yes, I do. This is perhaps grist for another mill, but I can try to make a few quick points.
There are three basic credit card business models, and issuers make money using some combination of the three. Credit filters are created not just to trade off between interest and likelihood of default, but also likely spend and fee revenue. Issuers purchase massive amounts of external data, especially from the credit bureaus, to make loan decisions. In more difficult times, the easiest thing an issuer can do is to flex its credit filters to reduce the risk in the portfolio.
However, this flexing can be seriously misplaced. A wave of defaults takes six months to a year to roll through an issuer’s P&L completely, so flexing credit filters when the P&L is already strained is trying to get the shit back in the horse. It does not really solve the short term problem and it chokes off future portfolio growth when the problem is ultimately resolved.
If there is any interest in the consumer credit issues impacted by this crisis, we can start another thread.
Plaigerised from another board from a person far smarter than I:
*"The problem with Paulson’s fronting for the Wall Street elite is that it was premised on reviving declining (and outrageously inflated) housing prices. That is simply not sustainable in light of the fact that the manner in which housing prices were driven skyward was accomplished in large part due to over-leveraging on the part of the buying populace. It sought to perpetuate the debt-burden=wealth nonsense that got us into this mess int he first place.
And if that were not enough, in practice–and part of the implicit intent of the bill, imo–the plan would have allowed the very same robber/speculators who have ruined our economic foundations to raid the cookie jar one last time before it all comes tumbling down. Look at how “financial institution” was defined in the bill. Look at how “troubled institution” was defined in the bill. Consider the fact that implicit in the bill was authority to set aside FASB rule 157; Level 3 assets and off-book accounting is part of what got us into this mess, too.
So, if we are going to truly fix the problem, then let’s fix it for all Americans and also those affected world-wide. There are lots of ways to fix liquidity problems without burdening the taxpayer with all the toxic crap that is in the pipeline. You’re a bond trader, you know this is possible. What if Congress passed a few credit authorities to actually rebuild transportation and electric infrastructure in this nation? Ditto to convert auto plants into more energy efficient production lines? There are lots of possibilities and many of them include bonding out the credit to accomplish such things. We are going to have to invest in this stuff anyways and it puts people to work. So why hinder our prospects for such investments by taking on burdens which are sinkholes of debt without any real productive economic activity as the result?
Yes, some shareholders are going to get wiped out. Yes, some folks on Wall Street are going to have to seek honest employment as productive members of society. And yes, there will be some very serious problems along the way. You just don’t reward the fox for destroying the chicken coop by rebuilding the chicken coop and stocking it up again for that same fox.
Furthermore, there will be a new admin in the very near future. Why force it–whether it be Repub or Dem–to enter office with a noose around it’s neck and in handcuffs?
Sorry if this seems a bit harsh. But, fuck it, I’ve been complaining about this crap for a quarter century and it’s about damn time folks woke the poop up! There are no guarentees that we’ll come through this okay without the bailout bill. But I can pretty fairly guarentee that were the bill to be passed, we would be in much worse shape. Deleverage, refocus our resources, put people back to work making stuff and earning some decent money, and rebuild this friggin’ nation. Who loses in that kind of world? Only the parasites. (No slur towards you as I know many folks in the financial industry who perform valuable and necessary service.) But, really, fuck the vultures. Fuck 'em like they’ve been fucking the common man for 40 years. No reach-around bailouts, #@%^dammit." *
Please explain the necessity/benefit of credit
Thanks for this thread. I’m going to have to read it a lot more carefully to clear up even a portion of my considerable ignorance on this topic.
I must say my reaction is along the lines of the folk who seriously question that the gov’t will be buying these things at or below market prices. IME, private industry is generally pretty good at getting the gov’t to pay a premium. If nothing else, it seems the possibility/probability of a gov’t purchase would inflate the prices. This situation resulted from folks/institutions relying on/taking advantage of the market. It seems so often so much investment consists of repackaging and reselling the same thing, and shifting cost around. Doesn’t something like this reveal that that may not be the soundest foundation for an entire economy?
But, like I said, I need to read this more closely when I get the time - which may not be for a day or 2.
Here’s something I posted as a separate thread, but I thought might be better addressed here. Whould someone explain to me why EASY credit is necessarily a desireable thing? Won’t credit always be available - it just may be more expensive than you may wish to pay. The same way you can insure a burning building - you just may not care for the premiums.
I was reading the paper today, and they were talking about the problems when credit got tight. The example they gave was that stores borrow in the summer to buy inventory to sell at Christmas. And consumers get credit to do their Christmas shopping.
I don’t readily understand why this is a good thing. It seems like a vicious circle - a potential house of cards. I know I hold a minority position, but I don’t understand why it is considered inherently desireable aim that the largest percentage of people possess the largest amount of consumer goods. And that, I believe, is a significant criticism of “the American way of life.”
And government policy is set to allow individuals access to consumer goods - instead of, say, more narrowly increasing access to necessities such as affordable medical care. It seems when necessities and luxuries are both dealt with in the market, many many folk opt to go with luxuries first, and then beg assistance when they cannot cover their basic needs. Sure, each of these terms - luxury, necessity, etc. - must be defined. But it seems to me that we have reached a point at which we believe a considerale level of luxury IS a necessity. And I, for one, am not convinced this is necessarily “a good thing.”
But I believe ever-increasing consumption is considered necessary if our economy is to continue to grow. And how do you weigh whether the benefits from a growing economy outweigh the damage from increasing debt - either by individuals or a country?
Yes, it would be painful if our economy were to slow down. But is it really desireable to pursue a policy that MORE is always needed?
The goal isn’t to have the government sell it back at a profit. It is to get the bad loans off the investment banks’ balance sheets .
A big part of what is causing the rise in unemployment and the drop in housing costs is the inability of banks to provide credit to homeowners and businesses. Buyers can’t get financing and businesses can’t get the capital they need for growth.
I don’t think rising fuel costs help much either. You have a saturated real estate market bubble combined with a large number of families who were living on the edge now unable to make their mortgage payments and things escaleted from there.
Other way around. In order to maintain our standard of living, our economy must grow at least as fast as our population. People needs jobs and such.
Some. Mostly speculators. Some people actually live in their homes though and they would have a hard time getting a new mortgage in this environment with a foreclosure on their credit report. Basically if you use your house for what it was designed for - to live in - as opposed to an investment vehicle and you can make your payments, there’s no real reason to walk away.
I’ll focus on the business side of the question. The reason that credit is so important is that it makes it much easier for businesses to expand. Take the example of the store. If the store could not buy inventory on credit, they would have less inventory to sell and make less money. The unavailability of credit means that less economic activity has taken place, which means that the economy has shrunk. You see similar examples on the business side everywhere. Companies borrow money to build new factories. Without the loan, they can’t build the new factory and can’t expand their production capacity. The availability of credit is critical to allow businesses to expand(and in the case of the store, it allows the store to continue to do business at the same level).
All right - stupid question - why must businesses expand (at least greater than the population)? It seems like “expansion” generally means - everybody gets more stuff. Which I’m not sure is all that great.
In addition to the excellent summaries posted above, you can read a few articles like this which illustrate the immediate economic pain caused by lack of credit. It’s not just credit cards and loans, however. Every invoice or statement with a ‘payment due by X’ represents the supplier extending credit to their customer. For me the real doomsday scenario is if things get so tight that companies start demanding immediate payment from their customers so they can meet payroll and pay their suppliers, who are demanding immediate payment from their customers so they can meet payroll etc. etc. - it could just turn into a death spiral.
Extending easy credit to consumers who piss it away on shit they can’t afford and don’t need is bad - but so is overeating. That doesn’t mean you can do without credit, or food.
It does mean everybody gets more stuff. Healthcare, education, tennis shoes, housing, food, more of everything for us all to share. Just imagine if there had been no economic growth since 1900 or so - everyone would be, on average, stuck in a 1900 standard of living. Of course, some people would be more prosperous, and would have colour TVs, airconditioned cars,etc. but they would only have achieved that at the expense of others - who would be even poorer than a 1900s level of wealth.
Growing the pie really fast is a good thing, because it stops us all fighting too much over how big our slices are. If I can expect that my slice (and my kids slices, and my grandkids slices) will be steadily bigger each year, it doesn’t bother me too much that yours is a bit bigger. If we’re stuck forever with today’s pie slices, then fuck it, I’m gonna get together with my neighbour, kill you, and we’ll split your slice - it’s the only way we’re ever going to be better off.
Yeah, but what the market seems not to address is the fact that, left to their own devices, it seems many folks will choose hookers and booze today (well, wide screen TVs and cellphones) instead of health care, saving for retirement, or even housing payments within their means.
Where did we get the idea that every American should be able to afford a detached single-family home? With ready access to distant jobs and services via car? Why should our system be designed towards that goal? Why not nice apartments or rowhouses, as are so common in so much of the rest of the developed worls.
So is there any way to stimulate “good” spending on what I am calling necessities, without subsidizing luxuries? Because I could imagine favoring a government program that said, “Look, we will assist every family in supporting a certain, slightly above the poverty-level subsistence. Anything above that, you’ve gotta work for, and if you gamble and loose, you’re SOL.” And to the extent the markets implode because they were based upon people buying evermore and more stuff that they cannot afford now (or - as it turns out - in the future) tough luck.
You want a raise or a promotion next year, don’t you?
All industries go through a lifecycle. I forget what they call each phase, but the general idea is that new industries start in a highly competetive market with lots of small players. Competetion for marketshare and economies of scale will cause these businesses to merge or go out of business until there are only a few large payers left.
As a general rule, having more stuff is better than having less stuff.
I blame the industrial revolution. 
Actually, I think this has been driven by American culture. To expand on what slaphead says:
Allowing people to have an inflated sense of “prosperity” keeps them content. Being able to sport “conspicuous consumption” keeps them entertained. A downside is that portions of the populace need ever more flashy-sparkly to stay happy.
Isn’t this the goal of entitlement programs, already? I think many people don’t like this because it smacks of socialism.
Regarding one of your previous questions - IMO consumer spending is considered important because it’s a large percentage of our economy (some sources say 2/3rds, but I’m not clear about that). Example from thisarticle.
This certainly has been the rule, but I’ve been noticing a shift away from it.
Because we’re rich and they’re not! 
(Sorry, I couldn’t resist myself).
As others have said, this is American Culture. Shouldn’t people be free to choose to live how they want to live? If they want hookers and blow, what’s to stop them? At the same time, why is anyone a better decider of what to do with my life than me? Our comments get to libertarian ideals, though I’m not advocating such, since I realize a need for government and certain social engineering.
Isn’t that what’s done nowadays? (Except for the bailout part). However, I recognize (though not always agree with) the need for bailouts (of which I don’t think this plan will be). Government distorts the market with its social engineering and unintended consequences, they should be the ones to turn to when things don’t work out.