ACA is downgraded to CCC. Negative watch for a pile of others. Good timely stuff from the rating agencies. Thanks chaps. CalculatedRisk quotes a portfolio manager at American Century Investments:
“It’s a zero-sum game. If you put trades on that worked so well that you bankrupt your counterparty, you will not collect on those trades.”Succinct enough. The NY Times chips in with the story on the inevitable bailout by those owning the ACA insurance. Put another way, if I owe my lender $3,000, it's my problem. If I owe him $3,000,000,000 it's his problem.
Can anyone spot the difference in the following:
(A) In 1999 Enron effects a transaction through an SPV allowing it to get a [Nigerian power-generating barge] off its books allegedly in order to improve its reported numbers for the period. Later the trade has to unwind and the barge must be brought back on the books rendering Enron exposed to its real (somewhat less impressive) value all the time.
(B) In 1999-2007 investment banks effect transactions with SIVs allowing them to get a [lot of credit clag(1)] off the books allegedly in order to improve reported numbers for the period. In 2007 under adverse liquidity conditions [the SIVs with the worst liquidity constraints] fold and the credit clag must be brought back on the books rendering the banks exposed to its real value all the time.
(C) From 1999-2007 investment banks effect transactions with bond insurers allowing them to get a [lot of credit clag] off the books allegedly in order to improve reported numbers for the period. In 2007 under adverse market conditions the [insurer with the worst net exposures] goes bust, the insurance is worthless and the credit clag must be brought back on the books rendering the banks exposed to its real value all the time.
Plus ca change. Here's the one which hasn't happened yet:
(D) From about 2000-2008 many investment banks purchase credit default protection from each other allowing them to get [a lot of credit clag] off the books allegedly in order to improve reported numbers for the period. In 2008 under adverse default conditions the [bank with the worst net exposures] goes bust, its sold protection is worthless and....well, just make up your own forecast of how this pans out. It can't be pretty.
No new news here, I suppose. Yet there's no amount of ISDAs, Credit Support Annexes, netting arrangements or other protection which will help anyone if it occurs. For years the investment banks' internal credit and risk departments have been outwitted by smarter, better paid front office mobsters. These "business prevention officers/BPOs" may have wrested some control back in the last 6 months, but the credit default firework is primed and the fuse is burning faster than they can move. If we are lucky, the firework might not explode when the fuse reaches it, but that will be down only to chance.
(1) claggy ■ adj. Brit dialect tending to form sticky lumps. ORIGIN c16: perh of Scand. origin; cf Dan. klag 'sticky mud'
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Unrelated throwaway #1: if you're a capital strapped bank, would you rather sell influence in 5% and 10% lumps to the Middle East or to China? Or wouldn't you care....."just gimme the cash so I can save my job"
Unrelated throwaway #2: Gotta love hedging the rate risk on a subprime BBB short with a carry-matched subprime AAA long. I thought BPOs knew about short gamma so this couldn't happen. Shorting treasuries as the rate hedge would of course have made Morgan Stanley $2bn but sadly would have cost a few hundred basis points in carry while they were waiting. This used to be known as an "IBG/YBG trade".....if it works, bonus bonanza.....if it doesn't: "I'll be gone and you'll be gone". Presumably they're gone.
1 Comment:
I am not sure I agree. Yes every company "manages" its balance sheet. But relating insurance to the Enron Barge is a bit of a stretch. The Enron Barge transaction, if you believe it happened as generally described, is well known to be illegal (specically booking it as a sale instead of as a loan). Everyone knows that insurance cannot, does not and will not protect against systemic risk. If even 1% of MBIA's bond portfolio simultaneous defaults, then MBIA defaults. However, there is nothing that says banks cannot use insurance for valid purposes. And there appears to be nothing wrong with that other than having been caught on the wrong side of the repricing of risk. As for SIVs, as banks bring them on balance sheet your argument is stronger but again it was never anticipated to be brought back. The barge transaction as described was decidedly different.
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