Posts Tagged ‘Wall Street’

QE3 A Boon to CMBS

Tuesday, November 13th, 2012

If history repeats itself, QE3 will be good for commercial mortgage-backed securities (CMBS). The Fed’s third round of quantitative easing – which is purchasing $40 billion of residential mortgage-backed securities (RMBS) each month from Fannie Mae and Freddie Mac – will free up money for the commercial real estate market and lure investors away from other vehicles in their hunt for maximum yield.  QE3 is expected to last at least until 2015.

“The primary difference between 2012 and 2010 is that commercial property prices in healthy markets are stronger than they were just two years ago.  At its peak, CMBS constituted 40 percent of all commercial real estate loans,” said John O’Callahan of CoStar.  O’Callahan notes that “Investment returns of 40 percent or more for riskier assets during QE1 were largely a result of a bounce-back from the lows caused by investor panic in late 2008 through early 2009.  The overall impact of QE becomes clearer upon examining QE2.  Prices of equities and high-yield bonds, including CMBS, gained a respectable 12 to 15 percent.”

Low interest rates mean that returns will narrow to as little as 150 basis points, forcing investors to look elsewhere for respectable yields.  Currently, B-piece CMBS investors are achieving 20 percent and higher yields.  By contrast, the Dow Jones Industrial Average’s yield has remained below three percent each of the last 20 years.

CMBS has “been a boon for us,” said Kenneth Cohen, head of CMBS at UBS Securities.  “You’ve seen a fairly good size increase in loan pipelines.  Our pipeline has increased probably 50 percent over the last six weeks.”  Borrowers also are cashing in on the favorable loan terms.  According to Fitch Ratings, loans in 2012 are averaging 95.7 percent of a stressed property’s estimated value; that’s up from 91.6 percent in 2011.

Despite the good news, industry experts don’t expect the resurgent CMBS market to resolve all financing woes.  For example, the encouraging loan terms are of minimal help to commercial real estate owners who are under water, nor will new issuance be adequate to refinance the $54 billion in CMBS loans coming due this year.  Additionally, some ratings firms warn that the credit quality of CMBS loans could increase risk for some investors.  In response, Moody’s Investor Services’ now requires that senior bonds have expensive credit protection.

Cyber Threats to Our Economy

Monday, August 13th, 2012

All of Wall Street is abuzz about stock brokerage Knight Capital which was brought to the edge of bankruptcy by a software glitch. Seventeen-year old Knight is one of the most trusted trading intermediaries for many of America’s largest mutual-fund companies and retail brokers. It could have all ended when, on August 1st, a software glitch caused a barrage of unintended trades, affecting the opening prices of more than 100 securities, with a particularly large impact on half a dozen shares. Knight was left with a hole in its accounts of $440 million and promptly saw most of its customers flee. Kudos to Knight’s management which did superb damage control, righting technical problems, retaining skittish employees, pacifying regulators and luring back customers while securing a financing package compelling enough to restore confidence — a capital injection of $400 million in equity from a consortium of financial firms, including Jefferies Group, an investment bank; Blackstone, the private-equity giant; GETCO, a Chicago-based competitor; and two brokers, Stifel Financial and TD Ameritrade – in return for 70% of the equity of the firm. Employees with long-term equity incentives saw their stakes wiped out but the company was saved. Knight’s near miss is a reminder of the seriousness of computer malfunctions. We saw glitches on Facebook’s first day of trading on the NASDAQ stock exchange (caused by and upgrade to the Nasdaq OMX platform) and a shaky debut for BATS Global Market on its own electronic exchange.  utside of Wall Street, a software bug caused Southwest Airlines to charge online customers several times over for the same flight.

Computer shutdowns are catastrophic because there are few insurance products to protect businesses from glitch-related losses.  “If they’d had a fire in a server room, then that would have been covered,” says Robert Hartwig, president of the Insurance Information Institute, but such catastrophic losses from a software malfunction go beyond most comprehensive cyber insurance plans, which generally cover first party business interruption losses and costs association with hacking attacks. Part of the reason is that the rising number of costly data breaches is prompting insurance underwriters to re-examine cyber insurance plan coverage and policy rates. An industry study conducted by NetDiligence found insurance payments for data breaches climbed to an average of $3.7 million between 2006-2011, up more than 50 percent from $2.4 million for claims filed between 2000 and 2005.

“These incidents are certainly a wakeup call for software quality at these organizations,” says Eric Baize, senior director of the product security office at RSA, a division of EMC. “Updates now happen frequently on a weekly basis. It needs to be done increasingly in a time-pressured manner,” and developers often don’t get enough time

Could Wall Street Save the Housing Market: Part 2

Thursday, August 2nd, 2012

My recent column on the Huffington Post reported on the advent on Wall Street into the housing market as companies like Blackstone and Colony Capital commit billions of dollars to bulk buying bank-owned (REO) single-family homes.

I agree that there are pros and cons to this program. The clear source of popular resentment is that the equity lost by homeowners as their home values plummet will be recaptured by large investors when they go to flip the assets once asset prices start to stabilize. Given the low cost of leverage and the low acquisition prices, the large-cap investor wouldn’t have to wait for prices to get back to par in order to make their targeted returns. So, is there another way? Well, yes. Homeowners could stay in their homes. That’s why the Obama administration created the Home Affordable Modification Program (HAMP) which has saved approximately 802,000 U.S. homeowners from foreclosure as of April 2012 – a worthy achievement but far from the 4 million expected and not enough to make a dent in the housing problem. HAMP was tempered by the lack of lender participation in the program. Of HAMP’s $30 billion budget, thus far it has only spent $3.23 billion.

To go back to the investment firms, remember that part of the strategy is to avoid evicting people from their homes. In the best of circumstances, these homes would be rented to their former owners who would also have an opportunity to acquire the home as the exit strategy. Each of these firms has their own strategy but I’ve spoken personally to private equity firms that are making a good faith attempt to prevent people being ejected from their homes for a simple reason – it’s preferable and cheaper than having to re-lease these homes. What are the alternatives? We could let the bad loans sit on the books of financial institutions which can cripple the credit system for years or decades (that’s what happened to Japan in the 1990s); or foreclosed homes can end up being acquired piecemeal in one-off or small auctions which isn’t efficacious in bringing back an enormous market. The argument to be made is that the Wall Street may be that critical intermediary step before the consumer sector is ready to take back the housing market.

A good analogy is what happened in commercial real estate. In 1989, the market hit bottom because of the Savings & Loan crisis.  S&L’s made hundreds of billions of dollars worth of loans on commercial real estate and saw asset prices freefall after Black Monday. Between 1989 and mid-1995, the government stepped in under the guise of the Resolution Trust Corporation which closed or otherwise resolved 747 thrifts with total assets of $394 billion. At the peak in early 1990 there were 350 failed savings and loan institutions under the agency’s control. Just like the GSEs today, they organized bulk sales of commercial buildings and loans.  Who bought them? Large Wall Street firms. It was an enormous transfer of wealth, no question,  but it also brought a new professionalism to the industry – portfolio-level strategy, transparency in pricing and underwriting, a new skill in operations, managing supply and demand, and accurate reporting. Our industry was transformed.  By the late 90s, asset prices shot back up and reached record levels. In 2007, when the recession hit, the industry was affected but far less than it would have been had it not been for how it had evolved. We simply didn’t have the levels of overbuilding that we did in previous recessions. And, incidentally, Wall Street allowed the person on the street into the industry.  The level of public ownership of commercial real estate today is unprecedented. For the first time, your 401K and stock broker could invest on your behalf in commercial buildings. And REIT stocks remain one of the strongest in all of the equity markets today. So, there will be struggles but the housing market will certainly benefit from this — the rigor and reporting that Wall Street will bring to the single family sector which will help make it much better prepared to face future recessions.

Median Family Wealth Slid 40 Percent During Recession

Tuesday, June 19th, 2012

While the American public was bailing out Wall Street, those same taxpayers saw their families’ net worth decline by nearly 40 percent. The recession took roughly 20 years of Americans’ wealth, according to government data, with middle-class families faring the worst.  According to the Federal Reserve, the median net worth of families plummeted by 39 percent in just three years, from $126,400 in 2007 to $77,300 in 2010.  That means that American families median worth has reverted to 1992 levels.

The study is one of the most comprehensive examinations of how the economic downturn altered family finances.  Over three short years, Americans watched progress that took a generation to accumulate fade away.  The dream of retirement that relied on the expected rise of the stock market proved deceptive.  Homeownership, once viewed as a source of wealth, became a burden because the market collapsed.  The findings emphasize how deep the wounds of the financial crisis are and how healing is impossible for many families.  If the recession set Americans back 20 years, economists say, the road ahead is certain to be a long one.  And so far, the country has experienced only a halting recovery.  “It’s hard to overstate how serious the collapse in the economy was,” said Mark Zandi, chief economist for Moody’s Analytics.  “We were in free fall.”

Net worth is defined as the value of assets like homes, bank accounts and stocks, minus mortgage and credit card debt. The Fed found that median home equity declined from $95,300 in 2007 to $55,000 in 2010, a 42.3 percent drop.  Home equity is defined as the home’s value minus how much is owed on the mortgage.  According to the Fed, median incomes fell from $49,600 in 2007 to $45,800 in 2010, a 7.7 percent drop.

Additionally incomes fell the most among middle-class families.  The wealthiest 10 percent saw their median income decline 1.4 percent over the three years, while families in the second and third quartiles experienced a drop of 12.1 percent and 7.7 percent.  The lowest-income Americans saw their paychecks fall by 3.7 percent.  Families were less confident about how much income they could expect in the future.  In 2010, slightly more than 35 percent said they did not “have a good idea of what their income would be for the next year,” an increase over the 31.4 percent reported in 2007.

Although declines in the values of financial assets or business were important factors for some families, the decreases in median net worth appear to have been driven most strongly by a broad collapse in house prices,” according to the Fed.  The survey’s findings cast a harsh light on the damage done to the economy by the recession and which helps to explain the exasperatingly slow pace of recovery.  The housing market’s collapse was at the core of the recession, during which the economy contracted approximately 5.1 percent between the 3rd quarter of 2007 and the 2nd quarter of 2009, and the unemployment rate soared 4.5 percent to 9.5 percent.  “Housing was of greater importance than financial assets for the wealth position of most families,” the Fed said.  “A substantial part of the declines observed in net worth over the 2007-10 period can be associated with decreases in the level of unrealized capital gains on families’ assets.”

Incomes improved in late 2011 but have begun falling again this year,  said Gordon Green, cofounder of Sentier Research.  The decline is larger and more unrelenting than in the recovery after the 2000 recession, when family incomes returned to previous levels within 18 months, Green said.  “Incomes went down more during two years of this recovery than during the recession itself,” he said.  “I don’t think we’ve seen anything like this.”

The impact a given family felt depended on where they live, how much they earn and what kind of investments they had, said Scott Hoyt, an economist at Moody’s.  “Richer people owned more bonds that didn’t get killed,” Hoyt said.  “For middle-income households, their primary asset is their house at the low end and the government stimulus backstopped incomes.”

Household net worth reached a high point of $66 trillion before the recession hit in December 2007 and sank to just $54 trillion in 2008, according to the Fed.  It was $63 trillion in the 1st quarter this year, but that doesn’t reflect the stock market’s volatility since then.  The Fed estimates Americans lost $7 trillion in home equity because of the housing bust that followed a significant increase in mortgage defaults after 2006.

Beware: Double Dip Ahead?

Thursday, May 31st, 2012

The 17-nation Eurozone is at risk of falling into a “severe recession,” the Organization for Economic Cooperation and Development (OECD) warned, as it called on governments and the European Central Bank to act quickly to keep the slowdown from becoming a drag on the global economy.  OECD Chief Economist Pier Carlo Padoan warned the euro-zone economy has the potential to shrink as much as two percent in 2012, a figure that the think tank had described as its worst-case scenario last November.  The OECD -which comprises the world’s most developed economies — said its average forecast was that the Euro-zone economy will shrink 0.1 percent in 2012 and grow a mere 0.9 percent next year.  “Today we see the situation in the Euro area close to the possible downside scenario” in the OECD’s November report, “which if materializing could lead to a severe recession in the Euro area and with spillovers in the rest of the world,” Padoan said.

The report believes that Europe will lag behind other countries, especially the United States, where the economy is expected to grow 2.4 percent this year and 2.6 percent in 2013.  “There is now a diverging trend between the euro area and the U.S., where the U.S. is picking up more strongly while the euro area is lagging behind,” Padoan said.  Europe is split between a wealthier north that is growing and the southern nations that are falling into recession, according to OECD statistics.

The global economic outlook is still cloudy,” said Angel Gurria, OECD Secretary General. “At first sight the prospects for the global economy are somewhat brighter than six months ago.  At closer inspection, the global economic recovery is weak, considerable downside risks remain and sizable imbalances remain to be addressed.”

Germany, Europe’s largest economy, will grow two percent next year after expanding 1.2 percent in 2012.  France, the Eurozone’s second-biggest economy, will grow 1.2 percent next year after expanding 0.6 percent this year, the OECD said.  By contrast, Italy’s economy is expected to shrink 1.7 percent this year and 0.4 percent in 2013.  Spain will remain mired in recession, with contraction of 1.6 percent this year and 0.8 percent in 2013.  Padoan has asked Eurozone leaders to enter into a “growth compact” to promote expansion while cutting deficits.  French President Francois Hollande has made achieving this type of pact the focus of his European diplomacy.

The OECD is chiefly concerned that problems with European sovereign debt are a significant threat to growth around the world. “The crisis in the Eurozone remains the single biggest downside risk facing the global outlook,” Padoan said.  “This is a global crisis which is largely a debt crisis.  It is a result of excessive debt accumulation in both the private and public sectors.  One can not safely say we’re out of the crisis until debt comes down to more manageable levels.”

To protect its economic recovery, the OECD urged the American government to move very gradually to tighten its budget.  A wave of U.S. spending cuts and tax hikes – known as the “fiscal cliff” — are set to take effect in January unless politicians agree to delay at least some of them.  Bush-era tax cuts and benefits for the long-term jobless are both expected to expire.  Another $1.2 trillion in spending cuts on federal programs would take effect as a result of Congress’ failure last year to find a comprehensive deal to cut the budget deficit.  The OECD said these actions would be the wrong fiscal policy given the still-fragile condition of world’s largest economy.  “The programmed expiration of tax cuts and emergency unemployment benefits, together with automatic federal spending cuts, would result in a sharp fiscal retrenchment in 2013 that might derail the recovery,” according to the OECD.

Wall Street economists say that fiscal policy could tighten by about $600 billion in 2013, or about four percent of GDP, if lawmakers cannot agree on what programs to cut.  Goldman Sachs estimates the “fiscal cliff” could trim approximately four percent from GDP in the first half of 2013.  The majority of economists, however, expect lawmakers to act before that particular hammer has an opportunity to fall.

Existing-House Sales Spike in April

Tuesday, May 29th, 2012

If you want to sell a product, price it correctly. That theory at long last appears to be working in the U.S. housing market.  The National Association of Realtors (NAR) reported that sales of existing homes rose 3.4 percent in April when compared with March.  One reason is that asking prices were remarkably affordable.  The interest rate on a 30-year fixed-rate mortgage was 3.79 percent, the lowest since record-keeping began in 1971, according to Freddie Mac.  The Realtors’ index of affordability hit a record high in the 1st quarter and factors in sales prices of existing homes, mortgage rates, and household income, which is gradually strengthening as the labor market improves.

The average sales price was 10.1 percent higher when compared with one year ago.  That has the potential to lure buyers who decide they can’t wait for even cheaper prices.  “Today’s data provide further evidence that the housing sector is turning the corner,” said economist Joseph Lavorgna of Deutsche Bank Securities.  The numbers could see more improvement in coming months.  Action Economics Chief Economist Michael Englund said that “The existing home sales data generally continue to underperform the recovery in the new home market and other indicators of real estate market activity.”  But, he added, “the trend is upward.”

Owner-occupied houses and condominiums dominated the market, a change from all-cash deals by investors snapping up distressed properties.  Employment gains and record-low mortgage rates may make houses affordable Americans, eliminating a source of weakness for the world’s largest economy just as risks from the European debt crisis rise.  “We are making incremental progress,” said Millan Mulraine, a senior U.S. strategist at TD Securities, Inc., who correctly forecast the sales pace.  “People are becoming more confident about job prospects and about taking on mortgages.  This is all positive for the economy.”

Even with this uptick, sales are well below the nearly six million per year that economists equate with healthy markets.  The mild winter encouraged some people to buy homes, which drove up sales in January and February, while making March weaker.

First-time buyers, a key segment critical to residential recovery, rose in April and accounted for 35 percent of sales, up from 32 percent in March.  “First-time homebuyers are slowly making their way back,” said Jennifer Lee, an economist at BMO Capital Markets.  “That is still below the 40-to-45 percent range during healthy times, but the highest in almost half a year.”  Homes at risk of foreclosure accounted for 28 percent of sales.  That’s approximately the same as was seen in March sales statistics, but down from 37 percent of sales in April 2011.

Wall Street analysts expressed caution about seeing the increase as a sign that home values are about to make a big comeback.  NAR’s price calculations may have been skewed by larger homes coming onto the market, analysts said.  According to NAR economist Lawrence Yun, seasonal factors might have played a role in the price increase because families tend to buy in the spring, which means bigger homes comprise a larger share of total sales.  “It does echo the message sent by most other related measures that have shown house prices stabilizing or firming,” said Daniel Silver, an economist at JPMorgan.  Home prices, according to the S&P/Case Shiller composite index, have fallen by approximately one-third since the middle of 2006.  “Although the data seem to imply that there is a relative good balance between buyers and sellers, it is unlikely that home prices can recover on a sustained basis until the number of distressed properties is more significantly reduced,” said Steven Wood, chief economist at Insight Economics.

The housing inventory climbed 9.5 percent to 2.54 million, representing a 6 ½-month supply.  CoreLogic estimates that the shadow inventory — homes that aren’t on multiple listing services that are either seriously delinquent, in foreclosure or real-estate-owned — totaled 1.6 million units as of January.

CNBC’s Diana Olick is unimpressed with the price spike.  “The median price of an existing home that sold in April of this year was $177,400, an increase of just over 10 percent from a year ago.  That is the biggest price jump since January of 2006.  The difference between now and then, though, is the 2006 price jump was real, this latest spike is not.  As we reported here on the Realty Check last month, a lack of distressed supply, that is foreclosures and short sales, is pushing overall home sales lower.  That’s because the majority of the sales action for the past few years has been on the low end of the market.  Now, as banks try to modify more delinquent loans to comply with the recent $25 billion mortgage servicing settlement, and as investors rush in to buy distressed properties and take advantage of the hot rental market, the distressed market is drying up.  The share of home sales in the $0 — 250,000 price range made up over 73 percent of all sales in February; that has already dropped to 67 percent in April.  If you look at sales by price category, you see the most startling evidence of this shift in what’s selling on the low end out west.  Sales of homes $0 — 100,000 dropped over 26 percent out west in April, but rose 21 percent in the $250 — 500,000 price range.”

JP Morgan Chase’s $2 Billion Loss Under Investigation

Monday, May 21st, 2012

As the Department of Justice and the FBI open their investigation into how JP Morgan Chase lost $2 billion, the government is investigating to determine if any criminal wrongdoing occurred.  The inquiry is in the preliminary stages.  Additionally, the Securities and Exchange Commission (SEC) and the Commodity Futures Trading Commission (CFTC), which regulates derivatives trading, are also looking into JPMorgan’s trading activities.  JPMorgan CEO Jamie Dimon said that the bank made “egregious” mistakes and that the losses tied to synthetic credit securities were “self-inflicted.”

The probe is perceived as necessary, given the ongoing debate about bank regulation and reform, and one expert said it raised the level of concern around what happened.  “The FBI looks for evidence of crimes and goes after people who it alleges are criminals.  They want to send people to jail.  The SEC pursues all sorts of wrongdoing, imposes fines and is half as scary as the FBI,” said Erik Gordon, a professor in the law and business schools at the University of Michigan.

According to Treasury Secretary Timothy Geithner, the trading loss “helps make the case” for tougher rules on financial institutions, as regulators implement the Dodd-Frank law aimed at reining in Wall Street.  Geithner said the Federal Reserve, the SEC and the Obama administration are “going to take a very careful look” at the JPMorgan incident as they implement new regulations like the “Volcker Rule,” which bans banks from making bets with customers’ money.  “The Fed and the SEC and the other regulators — and we’ll be part of this process — are going to take a very careful look at this incident and make sure that we review the implications of what that means for the design of these remaining rules,” Geithner said.  Under review will be “not just the Volker Rule, which is important in this context, but the broader set of safeguards and reforms,” Geithner said, noting that regulators will also scrutinize capital requirements, limits on leverage and derivatives markets reforms.  “I’m very confident that we’re going to be able to make sure those come out as tough and effective as they need to be,” Geithner said.  “And I think this episode helps make the case, frankly.”

Geithner said that Dodd-Frank wasn’t intended “to prevent the unpreventable in terms of mistakes in judgment, but to make sure when those mistakes happen — and they’re inevitable — that they’re modest enough in size, and the system as a whole can handle them.”  The loss “points out how important it is that these reforms are strong enough and effective enough,” he said.

With the passage of Dodd-Frank, banks are required to hold more capital, reduce their leverage and assure better cushions across the financial system to accommodate losses.  Geithner’s comments are similar to those made by other White House officials, who have avoided blasting the bank for its bad judgment, and instead used the event to bolster the case for the financial overhaul.

“We are aware of the matter and are looking into it,” a Justice Department official said “This is a preliminary look at what if anything might have taken place.”  The inquiry by the FBI’s financial crimes squad is in a “preliminary infancy stage,” the official said, and federal law enforcement agents are pursuing the matter “because of the company and the dollar amounts involved here.”

JPMorgan’s and the financial system’s ability to survive a loss that large showed that reforms put in place after the 2008 financial crisis have succeeded.  Nevertheless, the loss by the nation’s largest bank highlights the need for tough implementation of the Volcker Rule on proprietary trading and other rules that regulators are still finalizing.  “The whole point was, even if you’re smart, you can make mistakes, and since these banks are insured backed up by taxpayers, we don’t want you taking risks where eventually we might end up having to bail you out again, because we’ve done that, been there, didn’t like it,” according to President Obama.

Mark A. Calabria, Director of Financial Regulation Studies for the Cato Institute, takes a contrarian view.  Writing in the Huffington Post, Calabria says that “Unsurprisingly, President Obama and others have used the recent $2 billion loss by JPMorgan Chase as a call for more regulation. Obviously, our existing regulations have worked so well that more can only be better!  What the president and his allies miss is that recent events at JPMorgan illustrate how the system should — and does — work.  The losses at JPMorgan were borne not by the American taxpayer, but by JPMorgan.  The losses also appear to have been offset by gains so that in the last quarter JPMorgan still turned a profit.  This is the way the system should work.  Those who take the risk, take the loss (or gain).  It is a far better alignment of incentives than allowing Washington to gamble trillions, leaving someone else holding the bag.  The losses at JPMorgan have also resulted in the quick dismissal of the responsible employees.  Show me the list of regulators who lost their jobs, despite the massive regulatory failures that occurred before and during the crisis.

According to Calabria, “President Obama has warned that ‘you could have a bank that isn’t as strong, isn’t as profitable making those same bets and we might have had to step in.’  Had to step in?  What the recent JPMorgan losses actually prove is that a major investment bank can take billions of losses, and the financial system continues to function even without an injection of taxpayer dollars.  It is no accident that many of those now advocating more regulation are the same people who advocated the bailouts.  Banks need to be allowed to take losses.  The president also sets up a ridiculous standard of error-free financial markets.  All human institutions, including banks and even the White House, are characterized by error and mistake.  Zero mistakes is an unattainable goal in any system in which human beings are involved.  What we need is not a system free of errors, but one that is robust enough to withstand them.  And the truth is that the more small errors we have, the fewer big errors we will have.  I am far more concerned over long periods of calm and profit than I am with periods of loss.  The recent JPMorgan losses remind market participants that risk is omnipresent.  It encourages due diligence on the part of investors and other market participants, something that was sorely lacking before the crisis.”

Treasury Makes $25 Billion in Successful MBS Sale

Wednesday, April 4th, 2012

The Treasury Department just raked in a cool $25 billion for the American taxpayer. It sold the agency-backed mortgage-backed securities (MBS) that it bought during the financial crisis.  “The successful sale of these securities marks another important milestone in the wind-down of the government’s emergency financial crisis response efforts,” said Mary Miller, Treasury assistant secretary for financial markets.  The Treasury’s mortgage purchases were one part of the government’s support for banks and the financial markets.  The associated takeover of Fannie Mae and Freddie Mac cost another $151 billion.

Treasury bought the mortgage debt in an attempt to stabilize the housing industry, with funds approved by the Housing and Recovery Act of 2008.  Critics claim that it did more to prop up Wall Street than Main Street.  Anti-bailout anger fueled both the conservative Tea Party movement and Occupy Wall Street on the left.  Treasury Secretary Timothy Geithner argues that the government’s action helped prevent a deeper economic downturn.  TARP funds enabled the government to purchase preferred stock in banks, other financial firms and some automakers in return for the public investment.  Some of the preferred stock ultimately was converted to common stock.  According to a Treasury official, to date $331 billion has been repaid, including dividends and interest earned on the preferred shares.  While TARP currently is $83 billion in debt, Treasury projects losses will eventually number about $68 billion.  The nonpartisan Congressional Budget Office forecasts a lower loss of just $34 billion.

The Obama administration has stressed the TARP bank program’s performance, which has returned about $259 billion, more than the $245 billion lenders received.  At present. there are 361 banks remaining in TARP.

In all, Treasury bought $225 billion worth of mortgage-backed securities during the depths of the financial crisis between October of 2008 and December of 2009.  Some of those securities were backing loans believed to be worthless, according to some financial analysts at the time.  Treasury’s portfolio, however, was comprised mostly of 30-year fixed-rate mortgage-backed securities and were guaranteed by Fannie Mae or Freddie Mac, enhancing their value.  Congress authorized $700 billion for TARP, but Treasury only paid out $414 billion.  Of that, $331 billion has been paid back, including profits, interest and dividends made from investments.

Writing for The Hill, Peter Schroeder notes that “Now, with markets surging and the financial crisis in the rearview mirror — and with the presidential campaign rapidly approaching — the government is backing away from its outsized presence in the markets.  The move marks the latest in a series of steps by the government to exit its crisis-driven investments.  In July, the Treasury announced it was no longer invested in Chrysler, ending with a roughly $1.3 billion loss.  However, the government has fared better with investments in the banking sector.  The Treasury announced roughly one year ago that it had officially turned a profit on that portion of the bailout, and ultimately estimates it will turn a $20 billion profit on the $245 billion that was pumped into banks.”

All industry analysts are not as optimistic. Economist Douglas Lee, of the advisory firm Economics from Washington, said it is inevitable that the government will end up with “substantial losses” on the bailout, but that it was appropriate to try to reap gains where possible.  “A lot of these assets that were acquired were distressed at the time that they were bought so the chance of coming out ahead in selected areas is quite good,” Lee said.  For the long term, however, the effort to rebuild a reliable housing finance system means that costs for subsidizing operations of firms like Fannie Mae and Freddie Mac will continue to be expensive.  Investments in insurer AIG and in automakers might prove hard to recoup 100 percent.  Recently, Treasury said it was selling 206.9 million shares of AIG, which would reduce the government’s stake in the company to 70 percent from 77 percent.  “You have to say that these programs have worked in the sense that it’s restored a sense of stability that we sought,” Lee said, “but now it is right to have the government back out and let the private sector get on with their job.”

CFTC Gives Tentative Green Light to Volcker Rule

Wednesday, February 1st, 2012

The federal Commodity Futures Trading Commission (CFTC) proposed limiting banks’  proprietary trading and hedge fund investments under the Dodd-Frank Act’s Volcker rule. The CFTC  3-2 vote makes it the last of five regulators to seek public comment on the proposal. This vote opens the measure to 60 days of public comment.  The rule, named for former Federal Reserve Chairman Paul Volcker, was included in Dodd-Frank to rein in risky trading at banks that benefit from federal deposit insurance and Fed discount window borrowing privileges.

The CFTC stayed mum when the Fed, Federal Deposit Insurance Corporation, Securities and Exchange Commission and Office of Comptroller of the Currency released their joint proposal last year. The four agencies extended the comment period on their proposal until February 13 after financial-industry groups and lawmakers cited the complexity of the rule and the lack of coordination with the CFTC in requesting an extension.

The CFTC may soften Dodd-Frank a bit, granting Wall Street banks exceptions to rules requiring dealers to sensibly believe their derivatives are suitable for clients and in the best interests of endowments and other so-called special entities.  The rules “implement requirements for swap dealers and major swap participants to deal fairly with customers, provide balanced communications, and disclose material risks, conflicts of interest and material incentives before entering into a swap,” CFTC Chairman Gary Gensler said.

Opponents say the CFTC proposal would cause “severe market disruption” by transforming the relationship between swap dealers and clients such as pensions and municipalities, according to Sifma and the International Swaps and Derivatives Association, Inc.. Under the final rule, dealers must disclose material risks and daily mid-market values of contracts to their clients. The CFTC may also complete rules designed to protect swap traders’ collateral that is used to reduce risk in trades. The rule insulates the collateral if the broker defaults, while allowing the customer funds to be pooled before a bankruptcy, according to a CFTC summary of the regulation.

Commissioner Scott O’Malia voted in favor or the rule, but said he did not want to give market participants “a misleading sense of comfort” that it would have prevented the loss of customer money at the brokerage giant.  “This rulemaking does not address MF Global,” O’Malia said. “This rulemaking would not have prevented a shortfall in the customer funds of the ranchers and farmers that transact daily in the futures market. Nor would it have expedited the transfer of positions and collateral belonging to such customers in the event of a collapse similar to that of MF Global.”

Commissioner Jill Sommers, who voted against the rule, criticized the rule for doing nothing to protect a futures commission merchant’s futures customers.  “Given recent events, we need to re-think this approach so we can provide adequate protections, in a comprehensive and coherent way, to swaps customers and to futures customers,” Sommers said. “I do not favor a piecemeal approach to customer protection.”

The Fed’s Secret Bank Loans Revealed

Wednesday, December 7th, 2011

In a stunning revelation, Bloomberg has obtained 29,000 pages of Federal Reserve documents detailing the largest bailout in American history.  According to an article that will appear in the January issue of Bloomberg Markets magazine, the “Fed didn’t tell anyone which banks were in trouble so deep they required a combined $1.2 trillion on December 5, 2008, their single neediest day.  Bankers didn’t mention that they took tens of billions of dollars in emergency loans at the same time they were assuring investors their firms were healthy.  And no one calculated until now that banks reaped an estimated $13 billion of income by taking advantage of the Fed’s below-market rates.”

The $7.77 trillion that the central bank made available stunned even Gary H. Stern, president of the Federal Reserve Bank of Minneapolis from 1985 to 2009.  According to Stern, he “wasn’t aware of the magnitude.”  It overshadows the Treasury Department’s better-known $700 billion Troubled Asset Relief Program (TARP) program.  When you add up guarantees and lending limits, it becomes clear that the Fed had committed $7.77 trillion as of March, 2009 to rescuing the financial system. That is more than half the value of the U.S. GDP that year.  “TARP at least had some strings attached,” said Representative Brad Miller (D-NC), a member of the House Financial Services Committee.  “With the Fed programs, there was nothing.”

According to Bloomberg’s editors, “Even as they were tapping the Fed for emergency loans at rates as low as 0.01 percent, the banks that were the biggest beneficiaries of the program were assuring investors that their firms were healthy.  Moreover, these banks used money they had received in the bailout to lobby Congress against reforms aimed at preventing the next collapse.  By keeping the details of its activities under wraps, the Fed deprived lawmakers of the essential information they needed to draft those rules. The Dodd-Frank Wall Street Reform and Consumer Protection Act, for example, was debated and passed by Congress in 2010 without a full understanding of how deeply the banks had depended on the Fed for survival.  Similarly, lawmakers approved the Treasury Department’s $700 billion Troubled Asset Relief Program to rescue the banks without knowing the details of the far larger bailout being run by the Fed.

“The central bank justified its approach by saying that disclosing the information would have signaled to the markets that the financial institutions that received help were in trouble.  That, in turn, would make needy institutions reluctant to use the Fed as a lender of last resort in the next crisis.  Fed officials argue, with some justification, that the program helped avert a much bigger economic cataclysm and that all the loans have now been repaid.”

Derek Thompson, a senior editor at The Atlantic, argues that the Fed’s secret bailout is a sign that it was doing its job.  According to Thompson, “First, you can be furious that the Federal Reserve ‘committed’ $7.7 trillion — a sum of money equal to half of the U.S. economy — to save the financial system.  I understand the shock, but we were at the precipice of catastrophe and that money wasn’t ‘spent’ so much as it was put at risk and subsequently recouped.  The economy has struggled in the three years since, but we avoided meltdown.  The trillions worked.

“Second, you can be furious that the banks made a profit off of their own mistakes — but $13 billion is a small price to pay for staving off Armageddon.  Third, you can be furious that the Federal Reserve went to court to keep this information out of the hands of journalists.  There, I’d agree.  It’s Congress’s job (not the Federal Reserve’s job) to pass laws that govern the banking sector, but Congress needs information to make good decisions about regulating banks and it’s disappointing that the Federal Reserve withheld details about its bailouts while the commission and the Dodd-Frank debate were ongoing.  Fourth, you can be furious that our central bank basically did the right thing when it had to, and its counterpart in Europe won’t — at the risk of a continental meltdown.”

Times’ Massimo Calabresi agrees. According to Calabresi, “But the Fed saved the world economy through all this lending without losing a penny in the process.  And after its initial heavy breathing, the article does give the Fed an opportunity to explain itself.  ‘Supporting financial-market stability in times of extreme stress is a core function of central banks,’ said William B. English, director of the Fed’s Division of Monetary Affairs.  “Our lending programs served to prevent a collapse of the financial system and to keep credit flowing to American families and businesses.’  In other words, lending money to banks in a crisis is the whole point of the Fed:  saving the world economy by flooding the system with money when it is about to freeze up is exactly what the central bank was created to do.”

The Fed has been lending money to banks since just after it was established in 1913. By the end of 2008, the Fed had created or expanded 11 lending facilities catering to financial firms that were unable to obtain short-term loans from their usual sources.  “Supporting financial-market stability in times of extreme market stress is a core function of central banks,” said William English, director of the Fed’s Division of Monetary Affairs.  “Our lending programs served to prevent a collapse of the financial system and to keep credit flowing to American families and businesses.”