The Fed Is Serving the Wall Street Banks Not the Republic

In times such as these we like to look past the bought and paid for house economists and over-eager-for-an-Undersecretary-of-the-Treasury-appointment academics for serious, seasoned, and meaningful commentary from those who have been in and actually understand the markets.

14 April 2008
The Fed Has Power, but No Will
By MARTIN MAYER
Barron's Online

THERE'S SOMETHING STRANGE ABOUT THE TREASURY DEPARTMENT'S suggestions for the reform of banking regulation and about the cascade of commentary on it. From one end to the other, there's an assumption that the Federal Reserve has somehow lacked the information and authority it could have used to prevent the insanity that has engulfed the credit markets.

The Fed, we are told, had access through its examiners to what the commercial banks were doing, but not to what the investment banks were doing. Yet the investment banks that mattered, including Bear Stearns (and Morgan Stanley, Merrill, Lehman and Goldman, not to mention the mortgage lender Countrywide), were all among the 20-odd primary dealers who help the Fed distribute Treasury bills in the weekly auctions that fund the federal government.

All participants in those auctions were supposed to keep the Fed informed of any significant changes in their balance sheets-on a continuous basis. When Joe Jett's purchase of strips and reconstitution of Treasury bonds led to a weakening of Kidder Peabody's financial position in 1994, there was all hell to pay at the Federal Reserve Bank of New York, because its government-securities division was not promptly informed.

Our present regulatory structure goes back not to the Great Depression, but only to 1999 and the Gramm-Leach-Bliley Act, which undid the Depression-era Glass-Steagall Act.

The great controversy as the repeal bill moved to passage was about responsibility for supervising the banks in their exercise of new powers. If nationally chartered banks were permitted to be brokers and dealers and underwriters and mutual-fund managers, their work would be supervised by the Comptroller of the Currency, whose examiners inspected these banks. But if the law gave the new powers only to the holding companies that owned the banks, everything would be controlled by the Fed, which was to be the umbrella regulator for the new financial-services institutions.

THAT'S WHAT THE FED WANTED. Rep. Jim Leach, who was chairman of the House Banking Committee, was a great admirer of Alan Greenspan and the Federal Reserve, so that's what the Fed got.

Most commentators on the current credit crisis have argued that the banking regulators and supervisors played no role in its inception, because the bad mortgages were written and sold and packaged by unregulated mortgage brokers and mortgage bankers. But all the bank-holding companies had subsidiaries that were active in the mortgage market, and virtually all the mortgages packaged for sale by private entities passed through some subsidiary of some bank-holding company or some bank-controlled investment vehicle at some time between the inking of the contract and its disappearance into a collateralized security.

There was plenty of opportunity for bank examiners checking out the holding companies to notice that some of the paper in the vaults had inadequate or dishonest documentation, and to "classify" it. When the examiner classifies an asset, he forces the bank to reduce its reported profits and discourages further investment in similar assets.

Of course, Fed examiners don't look at individual loans any more; they just ask banks whether they are living up to their own standards of due diligence, and if it's OK with the bank it's OK with the Fed.

MEANWHILE, THE FINANCIAL SECTOR under the Fed's umbrella regulation was building a highly unsafe structure that abandoned many private-sector security features that had been created in the 1970s. With the systems developed then and perfected more recently, the buyers and sellers of stocks or exchange-traded futures or options have no contact with each other once the trade is confirmed by both sides later that day. At that moment of confirmation, the entire market, in the form of the clearinghouse, becomes the counterparty -- the guarantor that the buyer will get his stock or option or future and the seller will get his cash.

Among the useful attributes of this arrangement for the options and futures markets is that most contracts are extinguished by the purchase of an opposing contract: A previous seller buys, or a previous buyer sells, and the contract with the clearinghouse disappears. At the end of every day, the clearinghouse reports trades and "open interest."

But as banks honed the profitability of derivatives trading, they made more and more individual over-the-counter trades that involved payment from buyer to seller, delivery from seller to buyer, no clearinghouse, and a continuing relationship of the two counterparties. This was presented as innovation, and the Fed was committed not to discourage innovation. Now it can be seen as the retrograde development it really was. Like the stock market of the 1960s, this over-the-counter system has blown up, leaving behind gaseous waves of mistrust.

In the OTC derivatives market, people who want to get out of their previous trades have to offset the obligations of that trade by creating a new instrument with a new counterparty. Take a credit-default swap, by which each party guarantees to accept the payout on a debt instrument held by the other party. It's an insurance instrument, with some differences: The holder of the insured instrument can sell it, and the new owner becomes the beneficiary of the insurance. And the insurer may find someone who will accept a lower premium to take the burden of the insurance, allowing him to lay off his risk at an immediate profit.

The one trade thus generates two new instruments, with four new counterparties, and as the daisy chain of reinsurance expands, the numbers become ridiculous: $41 trillion face value of credit-default swaps.

BEAR STEARNS APPARENTLY had created trillions of dollars of positions this way, which is why it had to be kept in business. Once you begin to remove individual flower girls from the daisy chain of credit swaps, you don't know who will wind up with obligations they thought they had insured against and they can't meet. Suddenly, all counterparties for all sorts of trade become suspect. We should note in passing that the big beneficiaries of the Fed's action on Bear Stearns were the sellers of credit derivatives insuring Bear's obligations. The counterparties' paper had been worth very little on Thursday night and quite a lot on Sunday afternoon.

The Fed could easily have prevented this ruinous expansion of OTC credit-default swaps by requiring banks to keep extra reserves against such holdings, larger than the margin requirements of the exchanges where derivatives were traded, cleared in a clearinghouse, properly settled and extinguished. Instead, the Fed promoted the false idea that the banks in their own interest would police the gambling of the mortgage bankers and the credit-gobbling quantitative traders and the leveraged-buyout fakirs -- and that the hidden trading of non-standard, bilaterally settled, opaque derivative instruments would improve the stability of markets. Such ridiculous claims are still being made.

Quite apart, then, from the philosophical question of whether bank examination and control of monetary policy fit well together (they don't), the Fed has done nothing to deserve Treasury Secretary Henry Paulson's recommendation that its role in supervising the markets should be expanded by new laws.

The truth is that the Fed had plenty of authority to take the steps that would have avoided today's dangers and its own embarrassments. The problem was that the Fed lacked the will to supervise. Before we can restore the self-confidence of the market, we will need to create a Federal Reserve that believes in its own regulatory mission more than it believes in prudence at the banks.

MARTIN MAYER is a guest scholar at the Brookings Institution and author of numerous books about banking and finance. "If anyone knows more about money, banking, and investments, that individual is keeping the information to himself," wrote James Grant of Grant's Interest Rate Observer in reviewing Martin Mayer's 1991 book Stealing the Market. In 1993, Publisher's Weekly described Mayer's Nightmare on Wall Street as "A landmark treatment of the money world." Martin Mayer has been writing about business and financial subjects for forty years. Mayer's latest book, The Bankers: The Next Generation, was published in January 1997.

Speculation Nation

We have been taking a look at some volume figures with colleagues, and discussing the remarkably low NYSE volumes over the past few days. We were comparing volumes across various exchanges, and wondering about the dark pools of trading that are cleared in off exchange venues. Some wondered if the NYSE volume was primarily the 'retail trade.'

We're not sure just what we think of that yet. But in the course of discussion one of our trader friends brought up the volume of option trades. (Hat tip to George Slezak).

As you know, options are a derivative trade on the future course of a stock or index in a given period of time. Investors normally do not trade in options, unless they are selling covered calls to incrementally increase return, or buying puts to safeguard against downside.

Below are two charts of CBOE volume going back into the 1990's. We were interested to see the spike in volumes of calls in particular around periods of high speculation and important tops.

Another Peak in Speculative Activity?

Are we there again? We're not so sure. But with the data at hand, the overall derivatives volumes including options, and the relative volumes of stocks on transparent exchanges at least, we are concluding that stocks are once again in a speculative bubble, and are "trading like commodities" with less price discovery and only a tenuous connection to the financial fundamentals of individual stocks and the equity markets.

This makes sense. Companies have been spending an inordinate amount of their profits on buybacks of their own stock. This has the putative effect of 'returning value to shareholders' but we suspect it has more to do with washing out the dilution of share floats as management grants themselves enormous amounts of stock options.

However it goes, the current environment is not what might be called 'healthy' by a level-headed economist, especially not one on the pad to a major trading house.

We might add that buying stock option 'calls' is one way to beat the margin requirements and take highly leveraged positions in stocks for periods of time. Despite the recent financial slump we still have roughly 8000 hedge funds out there, in addition to a wave a new retail financial speculation, and 'banks' increasingly dependent on their trading volumes for profits.

This type of wild speculative environment is generally fostered by a loose regulatory environment and even looser credit, and often is the prelude to a serious reversion to the mean of price discovery, aka a stock market crash.

This is the market that has been fostered by the Republican Administration and the Fed. This is hardly what might be called a 'productive economy.' Its an easy money economy. Let's see what happens.

If you have not already done so, please take the time to read The Trillion Dollar Meltdown" which is a couple blog entries below this one. Its worth it.

US Stocks Expected to Fall an Additional 15 percent Near Term - Goldman

Goldman Sachs and Wells Fargo warn 'delusional' investors on stocks
By Ambrose Evans-Pritchard,
International Business Editor
UK Telegraph
Last Updated: 1:58am BST 15/04/2008

Wall Street faces the growing risk of an equities bloodbath in coming months as the credit crunch spreads to the wider economy and earnings crumble, according to a pair of grim reports issued by Goldman Sachs and Wells Fargo.

Goldman Sachs said the key for equities will be the full-year guidance offered by companies.

David Kostin, the chief US investment guru for Goldman Sachs, expects the S&P 500 index of Wall Street equities to plummet a further 15 per cent over the "near term" as companies scramble to lower their outlook for this year.

"Although only a few firms have reported first quarter results, early signs are awful. We expect a swath of lowered profit guidance," he said in a research note published today, entitled 'Fasten Seatbelts'.

Mr Kostin, who replaced the ever-bullish Abby Cohen as chief strategist in December, expects the S&P index to reach 1,160, which would amount to a fall of 27pc from the bull market peak of 1,576 in September and enter the annals as a relatively severe bear market.

Goldman Sachs was the only major investment bank on Wall Street to turn a profit from the credit crunch, taking out huge "short" positions on sub-prime mortgage bonds before they went into a tailspin.

The firm's daily trading notes are one of the most closely watched sources in global finance.

Scott Anderson, chief economist at Wells Fargo, is equally pessimistic, describing the bullish views of some market players as "bordering on delusional".

"The equity markets have not yet priced in a prolonged downturn in economic growth in my opinion. We are still in the early stages of the credit crunch. Earnings estimates for the second half of the year are likely still far too high," he said.

Mr Anderson said investors should pay attention when the International Monetary Fund cuts its global growth forecast for 2008 three times in less than five months. The Fund has put the odds of a world recession at 25pc and predicted $945bn in losses from the credit debacle spread across banks, hedge funds, pension funds, and insurers.

"Even more alarming, the IMF estimates that only a quarter of these potential losses have been recognized," he said.

"Rarely do we ever see such uncertainty surrounding the economic and financial outlook. The forecasts for GDP growth in the second quarter of 2008 are currently all over the map. If you feel you must wade into equities at the present time, I would suggest spreading your bets widely," he said.

Goldman Sachs said the key for equities will be the full-year guidance offered by companies rather than first quarter profits. It cited the example of Bed Bath & Beyond, where the stock fell sharply last week after the firm said the earnings prospects for 2008 would be around 16pc below consensus estimates.

Mr Kostin said investors often "look through" downturns, preparing for the sunny uplands that lie on the other side as the cycle recovers. But the pattern in this bear market has been a series of earnings shocks precipitating sudden share price falls.

The implication is that investment funds have been caught badly off guard by the severity of the economic slump and are scrambling to catch up with reality.

Goldman Sachs and Wells Fargo warn 'delusional' investors on stocks

The Trillion Dollar Meltdown

We have not read the book yet, but are reasonably informed that it is on the way via(we'll pay for it with what's left of the stimulus check after buying Silver eagles).

In the meanwhile, here is a brief synopsis of the author's hypothesis as it appeared online recently at Foreign Policy.

8 Steps to a Trillion-Dollar Meltdown
By Charles R. Morris
April 2008

How did the U.S. financial crisis happen? A review of the road to ruin reveals a course littered with more villains than heroes.

No, it’s not the Great Depression, but the United States is facing a nasty economy-wide retrenchment following the excesses of the 2000s, with no easy way to dance through it. Think 1979 to 1982, when then U.S. Federal Reserve Chairman Paul Volcker exorcised consumer price inflation from the economy. The difference today is that the inflationary explosion has been absorbed by prices of assets—houses, stocks and bonds, office buildings—rather than by the prices of things you buy at the store. Here’s how it happened.

1. The Fed spikes the punch bowl. In the wake of the dot-com bust and 9/11, the Fed lowers interest rates to 1 percent, the lowest since 1958. For more than 2½ years, long after the economy has resumed growing, the Fed funds rate remains lower than the rate of inflation. For banks, in effect, money is free.

2. Leverage soars. Financial sector debt, household debt, and home prices all double. Big banks shift their business models away from executing transactions for customers to “principal trading”— or gambling from their own accounts with borrowed money. In 2007, the principal-trading accounts at Citigroup, JPMorgan Chase, Goldman Sachs, and Merrill Lynch balloon to $1.3 trillion.

3. Consumers throw a toga party. Soaring home prices convert houses into ATMs. In the 2000s, consumers extract more than $4 trillion from their homes in net free cash (excluding financing costs and housing investment). From 2004 through 2006, such extractions exceed 7 percent of disposable personal income. Personal consumption surges from its traditional 66 to 67 percent of GDP to 72 percent by 2007, the highest rate on record.

4. A dollar tsunami. The United States’ current-account deficits exceed $4.9 trillion from 2000 through 2007, almost all for oil or consumer goods. (The current account is the most complete measure of U.S. trade, as it encompasses goods, services, and capital and financial flows.) Economists, including one Ben S. Bernanke, argue that a “global savings glut” will force the world to absorb dollars for another 10 or 20 years. They’re wrong.

5. Yields plummet. The cash flood sweeps across all risky assets. With so many people taking advantage of cheap loans, the most risky mortgage-backed securities carry only slightly higher interest rates than ultra-safe government bonds. The leverage, or level of borrowing, on private-equity company buyout deals jumps by 50 percent. Takeover funds load even more debt onto their portfolio companies to finance big cash dividends for themselves.

6. Hedge funds peddle crystal meth. Aggressive investors pour money into hedge funds generating artificially high returns by betting with borrowed money. To maximize yields, hedge funds also gravitate to the riskiest mortgages, like subprime, and to the riskiest bonds, which absorb losses on complex pools of lower-quality mortgages known as collateralized debt obligations or CDOs. The profits from selling bonds based on very risky underlying securities override bankers’ traditional risk aversion. By 2006, high-risk lending becomes the norm in the home-mortgage industry.

7. A ratings antigravity machine. Pension funds cannot generally invest in very risky paper as a mainstream asset class. So, banks and investment banks, with the acquiescence of the ratings agencies, create “structured” bonds with an illusion of safety. Eighty million dollars of “senior” CDO bonds backed by a $100 million pool of subprime mortgages will not incur losses until the defaults in the pool exceed 20 percent. The ratings agencies confer triple-A ratings on such bonds; investors assume they are equivalent to default-proof U.S. Treasury bonds or blue-chip corporates. To their shock, investors around the world discover that as pool defaults start rising, their senior CDO bonds rapidly lose trading value long before they suffer actual defaults.

8. The Wile E. Coyote moment arrives. Suddenly last summer, all the pretenses start to come undone, and the market is caught frantically spinning its legs in vacant space. The federal government responds with more than $1 trillion in new mortgage lending and lending authorizations in multiple guises from Fannie Mae, Freddie Mac, the Federal Housing Finance Board, and the Federal Reserve. Home prices still drop relentlessly; signs of recession proliferate; risky assets plummet.

What now?

The collapse of Wall Street investment bank Bear Stearns may be a watershed moment. Participant reports suggest that JPMorgan Chase came into weekend negotiations last month prepared to do a deal without Fed support. But after examining Bear’s balance sheet, which looks completely conventional, except for $46 billion of hard-to-value mortgage assets, Morgan apparently said, “Hell no!”

The $30 billion backup line of credit Morgan got from the Fed implies that they expect mortgage portfolio losses of some 70 cents on the dollar. Had Morgan recognized those losses, they could have forced comparable write-downs on a string of other banks. Bear’s default, in addition, could have triggered huge cash liabilities by thinly capitalized “bond insurers” and hedge funds that had guaranteed Bear’s debt. Many of the guarantors might have failed to have made good their guarantees. The Fed chose to pay up.

Analysts at Goldman Sachs recently estimated the total losses from this mess at $1.2 trillion, including nearly $500 billion at the banks. The cleanest solution would be for regulators to force banks to revalue their assets down to realistic levels in one fell swoop. (If the Fed and the Securities and Exchange Commission drive such a process, it might be accomplished within a single quarter.) The revaluations would almost certainly wipe out all or most equity capital at a number of the larger banks. Since it is unlikely that new private, nongovernmental capital could supply the entire shortfall, the federal government would have to act as the equity supplier of last resort.

But what about the homeowners who are stuck with mortgages they can no longer pay? Helping them will be simpler once their problems are untangled from the banks’ goal of protecting overpriced assets. A change in the bankruptcy laws, for example, could empower judges to convert excessive mortgages into market-rate rentals, which are usually much cheaper.

All current rescue proposals being floated in the U.S. Congress have the taxpayer buying up the loans the banks no longer want, absorbing the losses just as taxpayers did in the savings and loan crisis of the late 1980s. As an equity investor, however, the U.S. government would get the same terms as other private investors, leaving the losses to fall on the shareholders and executives who either caused the debacle or allowed it to happen. Concerns about the government’s holding bank stock directly could be allayed by depositing the shares in the Social Security trust funds. As the banks return to normal operations, they would become quite valuable securities and probably greatly improve the system’s returns.

Bank shareholders and executives made extraordinary financial gains during the 2000s. Now that their Ponzi scheme has been exposed, they are demanding that the public absorb much of their losses, and the Federal government has been responding with huge showers of money.

The Bear Stearns rescue demonstrates the need to draw a line. From now on, the banks, their shareholders, and their executives should eat their own losses. If that wipes out the capital of essential depositary institutions, the federal government should step in. Save the banks and help struggling homeowners, yes. But no more largesse for bank executives and shareholders.

Charles R. Morris, a lawyer and former banker, is the author of The Trillion Dollar Meltdown: Easy Money, High Rollers, and the Great Credit Crash (New York: PublicAffairs, 2008).

The Madness of Ben Bernanke - Der Spiegel

There are certain parts of this article from Der Spiegel with which we simply do not agree. But its interesting to see the American financial crisis as viewed through the eyes of others.

We are not sure of course, but we suspect strongly that history will view the last 20 years as a period of collective madness in the United States.

It is a madness brought on by the gods to the proud: ὕβρις hubris, and those who would be as gods, but stumble and fall through a tragic flaw, an error in judgement: ἁμαρτία hamartia. Often that flaw is related to the strength that had made them great.

The US can fall from greatness through pride and imbalanced judgement, and therein lies the recipe for tragedy and disaster.  But we see few Hamlets or King Lears on the stage.


The Madness of Ben Bernanke
By Gabor Steingart

WAHSINGTON - Der Spiegel - The dollar is in a tailspin, the trade deficit is growing and a recession is on the horizon. The American way of life is in serious danger. But the head of the Federal Reserve keeps on pumping easy credit into the system -- a crazy policy that will worsen the crisis.

Alan Greenspan and Ben Bernanke have more in common with the big cat entertainers Siegfried & Roy than any of us can be comfortable with.

The Las Vegas magicians call themselves "Masters of the Impossible" and have been fascinating audiences for decades by getting snow-white tigers to leap through burning rings.

The legendary Federal Reserve Chairman and his successor were equally adept at fascinating their audiences -- with a policy of miraculous monetary growth that gave America one of the longest periods of economic expansion in modern times. Many saw them as "Masters of the Universe." It seemed as if the central bankers had tamed predatory capitalism with their constant interest rate cuts.

Siegfried & Roy at times seemed at one with their cats, until the day everything went out of control. A tiger bit Roy in the neck during a show and looked as though it were about to devour him alive.

Greenspan and Bernanke too have lost their magic touch, and their image has been shredded by the real estate crisis and the dollar slide. The ravages of the financial markets aren't doing them any personal harm. But devalued stocks, bad mortgage loans and the diving dollar are damaging millions of small investors and savers.

It's as if the tiger has leapt of the stage and is mauling the audience. We can't blame wild cats or financial markets for being ruthless. It's in their nature to be brutal. Their unmistakeable message is: you can take things this far and no further.

In the case of the real estate crisis which reached the banks and is now unsettling the stock markets, the markets are now showing what G7 finance ministers and central bank governors meeting last weekend in Washington for their annual spring get-together declined yet again to admit publicly: Americans must change their lives -- or it will be changed for them by force.

American Way of Life Under Threat

The credit-financed consumer boom of recent years is coming to a painful end. Today's American Way of Life has no chance of surviving the coming years undamaged. The virus will continue to ravage its way through the financial system.

The property crisis is likely to spread to credit card providers soon and will then probably infect car manufacturers, furniture makers and all the other firms that owe their sales increases to the growth in credit finance. "The virus will keep on infecting the system," one management board member from a large bank said, requesting anonymity in return for the candour of his analysis.

His argument is that banks that grant mortgages to home buyers virtually unable to pay their bills are unlikely to be especially scrutinizing when it comes to lending cash to the buyers of fridges, cars and furniture. Indeed, a furniture store in Miami recently tried to lure consumers with the following offer: buy now, pay your first credit installment in three years, and no need for a down-payment.

The credit-financed way of life is typical of the US these days. Many people resort to credit to plug the gap between the lifestyle they have become accustomed to and their declining wages.

Dulling the Pain With Credit

The borrowed cash is like an anaesthetic against the painful impact of globalisation. Private household debt has been growing by $4 billion each business day for years.

All this wouldn't be so bad if the US economy were at least doing well in foreign markets. But it isn't, and hasn't been for a long time. Despite the depreciation of the dollar, which makes imports into the US far more expensive while making US exports cheaper in foreign markets, US manufacturers are finding it hard to sell their products.

Contrary to forecasts by both the Federal Reserve and the Treasury, the trade deficit has continued to grow, by 6 percent in February alone. America imported $62 billion worth of goods more than they exported in February, including a disturbingly large number of cars, computers and pharmaceutical products. Try as they might, most private households in America can't keep up this consumer miracle. The savings behavior of many Americans means that many of them now live from hand to mouth.

But Bernanke is doing nothing to dampen this hunger for credit. The former advisor to President George W. Bush is even trying to whip up credit-financed consumption by lowering interest rates. This is helping to fuel inflation because the monetary growth isn't being matched by growth in real economic output. Inflation in the US currently stands at 4 percent.

It's a paradox. The private commercial banks which have just had to make billions of dollars in write downs have become more cautious. They're scared of further risks. The management resignations at Citigroup and Bear Stearns have had a sobering impact.

Patriotic Madness

Meanwhile the Federal Reserve is urging the banks to go on taking risks. It has been injecting cash into the banking system for the past half-year while urging bank CEOs in confidential chats to offer more credit. The aim is to keep on financing consumer spending and even to stimulate it further -- for reasons of patriotism.

There's a word for this policy -- madness.

But because there is method in this madness, the meeting of mighty central bank governors and finance ministers in Washington over the weekend remained silent about it, at least officially. Outside the meeting rooms, though, there were murmurings about the poisoned legacy of Alan Greenspan and Bernanke's irresponsible behavior.

One participant told me: "There's an unwritten code of honor that says central bank governors should refrain from criticizing each other." Not least out of respect for the independence of central banks.

But the US is unlikely to realize the error of its ways on its own. "The Americans will always do the right thing," British Prime Minister Winston Churchill once said, "after they've exhausted all the alternatives."

Central bankers and tiger tamers have something else in common -- obstinacy. Roy has recovered from his wounds and wants to return to the stage in Las Vegas. "The magic is back," came the defiant announcement.

Alan Greenspan cut a similarly indestructible figure at the weekend. Even though criticism of his cheap money policy was only murmured privately, the 82-year-old legend of central banking said: "I was praised for things I didn't do. I am now being blamed for things I didn't do."

Not that he ever complained about getting false praise.

The Madness of Ben Bernanke - Der Spiegel

Housing Madness

This is the legacy of Greenspan and his chairmanship at the Federal Reserve.

Yes, the borrowers are also at fault, and 'no one made them borrow' as the Wall Streeters and their sock puppets like to say at bubble-bust times like these (remember the tech bubble: 'no one made them buy stocks' - CNBC).

But let's not allow the spin to muddy the waters.

It was fraud. Fraud on a massive and pre-meditated scale. Not unprecedented unfortunately.

It had its core in the Clinton-Bush administrations and the chairmanship of Alan Greenspan. It was aided and abetted by a host of enablers in the media and the universities. And at the heart of it all was the Wall Street Banks.

There is a madness in crowds.  But the genesis of the madness is in those who assemble the crowds, give them weapons, and walk among them whispering.... madness.

Let there be no doubt. The housing bubble was a financially engineered Ponzi scheme with the Wall Street Banks at the center. And its not over yet. They will not, and probably cannot, stop on their own. The banks must be restrained.

"If the American people ever allow private banks to control the issue of their currency...the banks and the corporations that will grow up around them will deprive the people of all property until their children wake up homeless on the continent their fathers conquered. The issuing power should be taken from the banks and restored to the people, to whom it properly belongs." Thomas Jefferson, 1802

U.S. Foreclosures Jump 57% as Homeowners Walk Away
By Dan Levy

April 15 (Bloomberg) -- U.S. foreclosure filings jumped 57 percent and bank repossessions more than doubled in March from a year earlier as adjustable mortgages increased and more owners gave up their homes to lenders.

More than 234,000 properties were in some stage of foreclosure, or one in every 538 U.S. households, Irvine, California-based RealtyTrac Inc., a seller of default data, said today in a statement. Nevada, California and Florida had the highest foreclosure rates. Filings rose 5 percent from February.

About $460 billion of adjustable-rate loans are scheduled to reset this year, according to New York-based analysts at Citigroup Inc. Auction notices rose 32 percent from a year ago, a sign that more defaulting homeowners are ``simply walking away and deeding their properties back to the foreclosing lender'' rather than letting the home be auctioned, RealtyTrac Chief Executive Officer James Saccacio said in the statement.

``We're not near the bottom of this at all,'' said Kenneth Rosen, chairman of Rosen Real Estate Securities LLC, a hedge fund in Berkeley, California and chairman of the Fisher Center for Real Estate at the University of California at Berkeley. ``The foreclosure process will accelerate throughout the year.''

Rising foreclosures will add more inventory to an already glutted market, keep home prices down through at least next year and thwart efforts by Congress and President George W. Bush to help homeowners avoid default, Rosen said in an interview.

`Drag' on Prices

About 2.5 million foreclosed properties will be on the market this year and in 2009, Lehman Brothers Holdings Inc. analysts led by Michelle Meyer said in an April 10 report. U.S. home price declines will probably double to a national average of 20 percent by next year, with lower values most likely in metropolitan areas in California, Florida, Arizona and Nevada, mortgage insurer PMI Group Inc. said last week in a report.

Borrowers who owe more on their mortgages than their homes are worth may be buffeted by increasing job losses in a ``very substantial recession,'' Rosen said. About 8.8 million borrowers had home mortgages that exceeded the value of their property, Moody's Economy.com said last week.

``At least 2 million jobs will be lost because of this recession, so we'll get a cumulative negative spiral,'' Rosen said. ``A normal recession is 10 months. We think this one may be twice as long.''

Bank seizures climbed 129 percent from a year earlier, according to RealtyTrac, which has a database of more than 1 million properties and monitors foreclosure filings including defaults notices, auction sale notices and bank repossessions. March was the 27th consecutive month of year-on-year monthly foreclosure increases. In February, foreclosure filings rose 60 percent.

Nevada Leads

A surge in defaults among subprime borrowers, those with poor or limited credit, spurred the collapse of the U.S. home loan market and has led more than 100 mortgage companies to stop lending, close or sell themselves. As the value of securities tied to mortgages plummeted, lenders and securities firms have reported writedowns and credit losses of at least $245 billion since the beginning of 2007, according to data compiled by Bloomberg.

Nevada had the highest U.S. foreclosure rate in March at one for every 139 households, almost four times the national rate, RealtyTrac said. Filings there increased almost 62 percent from a year earlier to 7,659.

California had the second-highest rate at one filing for every 204 households, and the most filings for the 15th consecutive month at 64,711. Foreclosure filings more than doubled from a year earlier and were up about 21 percent from February.

Florida, Ohio

Florida had the third-highest rate, one filing for every 282 households, and ranked second in total filings at 30,254. Foreclosures increased 112 percent from a year earlier and decreased almost 7 percent from February, RealtyTrac said.

Ohio ranked third in filings at 11,273 and had the seventh- highest foreclosure rate, one for every 448 households. Georgia, Texas, Michigan, Arizona, Illinois, Nevada and Colorado also ranked among the top 10 states with the most filings, RealtyTrac said.

``The continued increase in new foreclosures implies an even larger drag on prices in 2008,'' Goldman Sachs Chief U.S. Economist Jan Hatzius wrote April 8. Home prices fell 8.9 percent in the fourth quarter, the biggest decline in 20 years as measured by the S&P/Case-Shiller home price index.

Some borrowers are ``hanging on at the margins'' in the face of resets, said Mark Goldman, a loan officer at Windsor Capital Mortgage Corp. in San Diego.

Goldman said one of his clients is a self-employed contractor whose adjustable-rate mortgage rose by two percentage points two months ago. His mortgage payment has increased to $7,200 from $4,900.

``I've had people sitting in my office in tears because there are no loans available,'' said Goldman. ``There are no loans for someone who's upside down on their house.''

To contact the reporter on this story: Dan Levy in San Francisco at dlevy13@bloomberg.net.

Last Updated: April 15, 2008 05:25 EDT

The Fed Failed As Regulator - It Was in Good Company

Wall Street veteran Henry Kaufman says in an interview with the Financial Times this week: “Certainly the Federal Reserve should shoulder a substantial part of this responsibility. . . it allowed the expansion of credit in huge magnitudes."

In the Fed's defense, a significant feature of their failure was the chairmanship of Alan Greenspan, who is probably most personally responsible of all the Fed governors for failing to safeguard the US financial system. As the long term chairman he had a significant power and influence over the rest of the board.

Also in the Fed's defense, their failure was no worse than the failure of the SEC and the CFTC, the Bush Administration and the Republican Congress in acting in the public's best interests. However, Chairman Greenspan is a personal standout culprit to anyone who follows the markets closely.

We find it ironic indeed that the plans to 'reform' the markets include giving more power to the Fed, since they are most certainly culpable in the current fiasco, not a public agency, still opaque and unaudited, apparently lacking sufficient checks and balances and public oversight.

Kaufman says Fed failed as regulator
By Aline van Duyn in New York

Published: April 14 2008 03:39 Last updated: April 14 2008 03:39

Henry Kaufman, the distinguished Wall Street economist, has added his voice to the debate about the Federal Reserve’s role in the credit crisis, saying the central bank failed to give enough importance to its role as a regulator.

In a video interview with the Financial Times, Mr Kaufman criticised the Fed’s monetary policy. He said it allowed too much credit expansion over the past 15 years and that this contributed to the market turmoil.

“Certainly the Federal Reserve should shoulder a substantial part of this responsibility. . . it allowed the expansion of credit in huge magnitudes,” Mr Kaufman said.

“Besides its monetary policy approach, [the Fed] really indicated very clearly that it was performing its role as a supervisor . . . in a minute fashion, not in an encompassing fashion. Monetary policy had a high priority, supervision and regulation within the Fed had a smaller priority.”

Mr Kaufman, who is on the board at Lehman Brothers, has long advocated tougher regulation of the biggest financial firms, arguing that they need to be made “too good to fail”, rather than remain “too large to fail”.

The near-collapse of Bear Stearns last month, and the Fed’s intervention which resulted in a purchase of the Wall Street firm by JPMorgan Chase, has triggered a renewed debate about whether banks can regulate themselves, or whether regulators need to impose tougher rules.

The credit crisis, which stems from losses on securities backed by risky mortgages made during the height of the housing bubble, could lead to total losses and writedowns of nearly $1,000bn for banks and investors around the world, according to the International Monetary Fund.

Mr Kaufman said a distinctive feature of the financial crisis was “much greater lapses in official supervision and regulation than in earlier periods”.

He said there should be a new federal regulator appointed who would work with the Federal Reserve but who would have responsibility for “intensively” regulating the 30 or 40 biggest financial firms. Failure to do so could lead to a “crisis that’s bigger than the one which we have today”.

“The supervision of major financial institutions requires deep skills in credit, deep skills in risk analysis techniques and it requires within that organisation, very skilled, trained professional people,” Mr Kaufman said. “That is lacking in the supervisory area in the United States.”

He added that recent proposals from Hank Paulson, secretary of the US Treasury, to overhaul US regulation “lack focus”. “There is going to be some reform of financial supervision and regulation; hopefully it will be along my lines rather than the big compendium of suggestions that came out of the US Treasury”, he said.

Henry Kaufman Video Interview at Financial Times Online

Earnings Lower, Stocks to Follow?

The remedy being prescribed by economic thinkers at the Fed and at the academy is to 'bury the problem in liquidity.' They had better be prepared to pile it high and deep.

In the short term remember this is April stock options expiry week and the Bowery Boys are flush with hot money, so anything can happen.

Goldman Strategists Say U.S. Earnings Are `Awful'
By Alexis Xydias

April 14 (Bloomberg) -- An ``awful'' start to the first- quarter U.S. earnings season is a ``harbinger of things to come'' that will push stocks lower, according to Goldman Sachs Group Inc.

``Early signs are awful,'' a team led by New York-based David Kostin, Goldman's U.S. investment strategist, wrote in a note today. ``We expect generally disappointing results and a swath of lowered profit guidance that will drive the Standard & Poor's 500 Index lower in coming weeks.''

The S&P 500, the benchmark index for American equities, dropped 2.7 percent last week after General Electric Co. said the credit-market crisis caused an unexpected earnings decline, while slowing economic growth and rising energy prices eroded profit at United Parcel Service Inc. and Alcoa Inc. Futures on the S&P 500 lost 0.1 percent at 10:50 a.m. in London.

Analysts surveyed by Bloomberg have cut their projections for first-quarter earnings at S&P 500 companies every week since Jan. 4. They now predict a 12.3 percent drop, compared with an estimate for an increase of 4.7 percent at the start of 2008.

Alcoa marked the start of the earnings reporting season on April 7 when it became the first company in the Dow Jones Industrial Average to post results.

Johnson & Johnson, the world's largest maker of consumer health-care products, is scheduled to report earnings tomorrow, while International Business Machines Corp., the biggest computer-services company, will follow a day later. Merrill Lynch & Co. will report April 17, while Citigroup Inc. will post results April 18.

Merrill and Citigroup will reveal at least $15 billion more of subprime mortgage writedowns this week, the Sunday Times of London reported yesterday, citing analysts it didn't identify...

To contact the reporter on this story: Alexis Xydias in London at axydias@bloomberg.net.

Wachovia Posts Loss, Plans $7 Billion Capital Raising
By David Mildenberg

April 14 (Bloomberg) -- Wachovia Corp., the fourth-largest U.S. bank, reported an unexpected loss because of subprime- infected mortgage holdings, cut its dividend and said it will raise about $7 billion in a share sale to replenish capital.

The first-quarter loss of $393 million, or 20 cents a share, compared with earnings of $2.3 billion, or $1.20, a year earlier, the Charlotte, North Carolina-based company said in a statement today. Analysts had been estimating Wachovia would earn about 40 cents a share, according to a survey by Bloomberg. Wachovia fell 8.4 percent to $25.66 in German trading.

Chief Executive Officer Kennedy Thompson said he was ``deeply disappointed'' after Wachovia posted its first quarterly loss since 2001 and reduced the dividend to preserve $2 billion of funds. The company's market value has dropped 50 percent since its ill-timed $24.6 billion takeover of Golden West Financial Corp. in 2006 at the peak of the housing market.

``The most painful decision was to reduce the dividend because it adversely affects our shareholders,'' Thompson said in the statement. ``But we believe the long-term benefit to shareholder value outweighs the disadvantage of the dividend reduction as we fortify our balance sheet against continued instability in the housing and capital markets.''

Wachovia also said today it will cut 500 investment banking jobs, without providing specifics. The planned capital raising, comprising common stock and convertible preferred shares, has attracted strong interest from investors and will ``enhance our ongoing financial flexibility,'' Thompson said. The bank listed a Tier 1 capital ratio of 7.5 percent.

Fed Says the Credit Crisis Is Not Over

From The Times
April 14, 2008

US Federal Reserve says that credit crisis is not over yet
Suzy Jagger in Washington

The credit crisis engulfing the banking system on both sides of the Atlantic has further to run, said the vice-chairman of the US Federal Reserve. As the US Treasury Secretary and central bankers gave warning that proposed financial reforms would not prevent a repeat of the biggest shock to the world economy since the Great Depression, Donald Kohn, of the Fed, said of the present trouble: “It is not over yet.”

His gloomy forecast about the duration of the credit crisis, delivered at the annual spring meeting in Washington of the Group of Seven leading economies, came after the International Monetary Fund had estimated that the market turmoil would trigger losses of almost $1 trillion (£507 billion) among banks, hedge funds and pension groups since last summer. Mr Kohn said: “The market is still adjusting. The turmoil has not settled down yet. It is still a very fragile situation.”

Finance ministers from the United States, Britain, Canada, Japan, France, Germany and Italy endorsed a set of wide-ranging financial reforms to address the credit crisis, but they also said that none of the measures would prevent a similar crisis in the future.

Among the ideas being considered are changes to the way that banks reward staff with huge annual bonuses. Officials are concerned that bonuses encourage risk taking and have proposed an alternative remuneration system that would pay out over a longer time period. Henry Paulson, the US Treasury Secretary, said: “No silver bullet exists to prevent the excesses of the past from re-occurring. It took time to build up recent excesses and it will take time to work through the consequences. We must expect more bumps in the road: 2008 will be a more difficult year.”

Mr Kohn said: “All we can do is to try to make the system more resilient. To make the effects more muted, absorbed by liquidity. Enhanced information and transparency will be greater and will, hopefully, make markets and economies more resilient.”

Mr Kohn was speaking as part of the executive team running the Financial Stability Forum, whose recommendations have been endorsed by the G7 group of nations in a bid to strengthen regulation. The G7 wants to force banks to adopt new crisis prevention measures, such as eventually raising the amount of capital that they hold on their books to act as a cash cushion during difficult market conditions. (The banks do everything they can to circumvent this, as in SIVs in response to the Basel II requirements. So what will change? This is a bandaid on an infected wound. - Jesse)

They have also issued more immediate demands for financial institutions to quickly declare their losses from the crisis. They want to make banks increase the level of transparency to shareholders and regulators about the strength of assets on their balance sheets and to urge regulatory bodies to co-operate better and to share information. They also threatened to introduce legislation that would compel credit rating agencies to admit to conflicts of interest when they rate securities. (Oooooh. Everything they do is a conflicted under the current system. - Jesse)

The G7 finance ministers and bankers agreed to implement reforms within a 100-day timetable, which would make banks set out “fully and promptly” losses and exposures to illiquid mortgage-backed securities blamed for the seizure of credit markets.

However, the policymakers were also keen to say that it was unrealistic to expect regulators to devise an early warning system that would identify the start of a financial crisis or a banking institution that was in difficulties. (Bring back Glass-Steagall. Firewall the guaranteed banking system from reckless speculation and conflicts of interest - Jesse)

Timothy Geithner, of the Federal Reserve Bank of New York, said: “If we could figure out a way to have on our desks a screen with the capacity to predict financial crises it would be terrific, but it is very hard to do. What we can do is make the system more resilient.”

(What we need to do is make the system accountable, credible, and honest. Bring back Glass-Steagall and close the loopholes as we saw with the S&L's. The banks spent hundreds of millions of dollars lobbying to repeal it. Firewall the banking system while they try to reform the speculative arenas. Let them steal from each other and not dip into the public's pockets. - Jesse)