Commentaries

from Rolfe Winkler:

BlogArt: Socialism vs. Capitalism

from Rolfe Winkler:

Lunchtime Links 7-18

CIT's Peek may be paid ahead of Treasury in case of bankruptcy (Bloomberg)  TARP money came in the form of preferred stock, which is junior in the capital structure to both employees and creditors.  Those folks get paid out before others when bankruptcy divides up the pie of assets.  Peek is owed $14.7 million if terminated or there's a change in control.  He's likely to get that money before taxpayers get a dime of their $2.3 billion of TARP preferred, which is now effectively worthless.  Not bad pay for having driven a company into the groun

What went wrong with economics (Economist)  and On the Unwillingness of Economists to recant (Naked Capitalism)  I'm linking to the Economist piece b/c it's a decent take-down of the economics profession.  The glaring omission is that Austrians, especially those who focus on Minsky's Financial Instability Hypothesis instead of Keynesianism and/or efficient market theory, most certainly got it right.  What this article should say is that the crisis demonstrates not only the bankruptcy of neo-classical economics, but the superiority of the Austrian school.  The Naked Capitalism link has a good anecdote that demonstrates how far up their own behinds most economists' heads remain.

Foreigners still buy U.S. assets, but only the most liquid ones (CFR)  Lots of great data.

Satyajit Das weighs in on derivatives regulation (Naked Capitalism)  Another great one from Yves, she analyzes and links to this piece.  The takeaway is that the Obama administration isn't coming down nearly hard enough on the OTC derivatives market, not if it wants to eliminate systemic risk.

Security Savings Bank: not so solid ground (Bank-Implode)  More evidence that OTS is totally feckless.

Another Goldman appointment in the Obama administration (WSJ)

New pictures of moon landing site (Discover Mag)  Pretty cool.

from Rolfe Winkler:

Bank failure Friday + odd CIT factoid

(Updated 9:45PM) Four bank failures tonight, including two with over $1 billion of assets.  There have now been 57 bank failures so far in 2009.  Tonight's damage to the Deposit Insurance Fund is estimated at $1.1 billion.

#54 -- This is the 15th bank failure in Georgia.

• Bank:  First Piedmont Bank, Windsor, GA
• Acquirer: First American Bank & Trust, Athens, GA
• Vitals:  As of July 6th ... assets $115 million,  deposits $109 million
• DIF Damage:  $29 million

#55

• Bank:  BankFirst, Sioux Falls, SD
• Acquirer: Alerus Financial, grand Forks, ND
• Vitals:  As of April 30th ... assets $275 million,  deposits $254 million
• DIF Damage:  $91 million

#56

• Bank: Vineyard Bank, Rancho Cucamonga, CA
• Acquirer: California Bank & Trust, San Diego, CA
• Vitals:  As of March 31st ... assets $1.9 billion,  deposits $1.6 billion
• DIF Damage:  $579 million

Resuscitating real estate

Bring out the defibrillators for commercial real estate.

The commercial real estate market is still dead — at least the part the Federal Reserve has targeted to resuscitate lending for developers and owners of office buildings, hotels and other commercial property.

It’s time for the government to come up with a faster, simpler plan to revitalize lending before “CRE” becomes the next dreaded financial acronym.

Two months after the Fed announced it would try to stoke lending in the commercial real estate sector, there are still no new deals in the commercial mortgage-backed securities market. Even interest in using the program for purchases of older bonds backed by commercial loans has been lukewarm — it didn’t even break the $1 billion mark this week.

This isn’t reassuring, given the drought of financing available for developers and owners of hotels, office buildings and other commercial property that need to refinance maturing debt.

Big banks and real estate industry lobbyists are already starting to draft proposals for the government to consider.

Here’s my two cents: Adopt a straight-forward government guarantee facility, much like the Federal Deposit Insurance Corp’s program. Then make sure to earmark the funding specifically for the refinancing of commercial loans that would stand up under conventional lending standards — not those based on rosy projections common during the real estate boom.

from Rolfe Winkler:

CreditSights: CDS put recoveries under pressure

In a CreditSights report published today, analyst Atish Kakodkar notes that recoveries on defaulted debt are "proving to be extremely low" in this latest cycle (no link).  He blames...

• lack of debtor-in-possession (DIP) financing, which forces more debt workouts via straight Chapter 7 Liquidation instead of Chapter 11 Reorganization.
• weak debt covenants, which allow busted debtors to operate longer than during previous cycles.  This means they burn through more cash before their creditors have a chance for recovery.
• "empty creditors," who've a bigger incentive to force borrowers into bankruptcy than to workout debts in a way that might keep companies operating.

So far in 2009 there have been 46 default auctions, 25 for senior unsecured CDS and 21 for LCDS.  That compares to 11 and 2 respectively for all of last year....

Average recoveries in 2009 "have dropped precipitously in 2009 compared to prior years and should face continued downward pressure as defaults proliferate."

In 2009, senior unsecured CDS recovery has averaged just over 13% [i.e. 13¢ on the dollar], ranging from a low of 1.5% to a high of 32%.  June was a particularly harsh month with the five CDS auction recoveries averaging only 9.5%.  This compares to an average recovery of about 40% observed in prior years...

...the 19 (first lien) LCDS auction recoveries in 2009 have averaged about 48% with relatively large standard deviation of about 33%...

With average recoveries touching new lows in 2009, we believe recovery assumptions in trading and risk management models are likely to be seriously questioned in coming months.

Also interesting are his comments regarding "empty creditors," holders of troubled bonds who are hedged with CDS.

from Rolfe Winkler:

CIT’s dead reckoning

NEW YORK, July 17 (Reuters) - Three cheers for progress. After the government refused to back CIT debt, the firm's bondholders got on the phone to discuss a debt for equity swap. Now it appears that JPMorgan Chase and Goldman Sachs may still ride to the rescue with emergency financing.

But whatever happens, with no prospect for a bailout, the CIT situation will be resolved privately, at no additional cost to the taxpayer. It's unfortunate that the Obama administration hasn't been this unforgiving with the housing market and banking sector. That's the only way for the economy to find solid footing.

CIT is presumably insolvent. The company lacks sufficient cash flow to meet lending commitments and future debt maturities. Now as customers race to draw down credit lines, the company faces a liquidity squeeze. The government could continue lending -- CIT has already blown through $2.3 billion of TARP cash -- but to what end?

Those arguing for a bailout say that small businesses dependent on CIT credit lines may themselves be forced into bankruptcy. But this misses the point. CIT no longer has sufficient capital to lend. A government lifeline thrown their way would just make Uncle Sam the lender of last resort to yet another sick segment of the economy, putting taxpayers on the hook for more credit losses.

Taxpayers are already stretched to the breaking point. We are borrowing fantastical sums of money to finance previous bailouts, stimulus and, presumably, a new national healthcare plan. We should try to borrow more from China so that Dunkin' Donuts franchisees don't lose their credit lines?

Obama can't rescue everyone. If he tries, the bond market will cut him off. We'll be in far worse shape than if we had let lenders like CIT fail in the first place.

In the aggregate, the U.S. economy is insolvent. That was noted by the "Black Swan" author, Nassim Nicholas Taleb, who earlier this week recommended "immediate, forcible and systematic conversion of debt to equity."

Who will be CIT’s Buffett?

The behind-the-scene negotiations surrounding CIT Group’s threatened bankruptcy filing is bringing to mind the 2001 collapse of Finova, another sizeable mid-market lender.

 On the eve of Finova’s bankruptcy filing in March 2001, Warren Buffett seemingly came to the rescue with a $6 billion loan package to help keep the financial firm running in bankruptcy and payoff creditors. The financial package, which Buffett put together with Leucadia National Corporation, came from a new company called Berkadia.

The offer from Buffett set-off an usual bidding war for the right to provide rescue money to the bankupt company. Rival bids soon emerged from GE Capital and Goldman Sachs.

Ultimately, the Buffett and Leucadia partnership prevailed. Finova, which did a lot of factoring for mid-sized companies like CIT, emerged from bankruptcy and the loan was paid off several years ago.

Finova shareholders, of course, lost out in the bankruptcy. But the firm’s creditors were treated rather well and the firm was able to continue running some of its lending business.

Right now, Reuters and others are reporting that Goldman Sachs and JPMorgan Chase are talking about providing some short-term financing of up to $3 billion to CIT. But CNBC is also reporting that the banks may be talking about providing CIT with bankruptcy financing to continue operating.

If I had to place a bet, it’s looking like a Finova all over again.

Can the Great Recession save Doha?

Christopher Swann is a Reuters columnist. The views expressed are his own –

NEW YORK, July 17 (Reuters) – At times the talks aimed at a new global trade agreement have seemed about as likely to succeed as the Arab-Israeli peace process. The Great Recession should have made the outlook still bleaker. History is replete with examples of governments shielding home-grown enterprise from foreign competitors during economic emergencies.

But this recession looks different. The mini-miracle of the downturn has been the relative paucity of protectionism. A hopeful case can be made that the headlong plunge of the global economy may actually strengthen the global trading system — exactly the opposite of the experience of the 1930s and 1980s. We may even be seeing fresh signs of life in the once moribund talks known as the Doha Round.

Trade itself has been among the biggest casualties of the downturn. In the first three months of this year, trade volumes fell by almost a third — the fastest contraction since the 1930s. Remarkably the global trading system, however, is holding up extremely well. Backsliding on global trade rules has been surprisingly rare.

A few brave souls have even been liberalizing. Close to the peak of financial panic in January, the Mexican government unilaterally reduced tariffs on 8,000 items from 20 different industrial sectors. A month later Brazil suspended tariffs entirely on some capital goods and cut duties on machinery, capital equipment and information technology. The Association of Southeast Asian Nations has agreed to reduce and eliminate tariffs on 96 percent of all goods by 2020.

It is often forgotten that most developing countries have plenty of legal room for protectionism. Since the Uruguay Trade Round, most countries have liberalized trade — leaving their tariffs far below the legally permissible “bound” rate monitored by the World Trade Organization. India, for example, could more than triple its tariffs to 50 percent before it risked breaching international trade rules. Thankfully, they have chosen not to do so. Such restraint should not be totally taken for granted.

What protectionism we have seen has been surreptitious, rarely flouting WTO rules. A World Bank report in March chastised G20 nations for covert protectionism. Much of this, however, consisted of subsidies to ailing industries — certainly regrettable but perhaps a more venial sin in a steep downturn. Global trade rules have proved remarkably robust, says Gary Hufbauer, a trade specialist at the Peterson Institute. “About 98 percent of protectionism has been WTO legal,” he told me in a recent telephone conversation.

The Citi dump

City landfills aren’t pretty places. Much the same can be said for Citi Holdings, the newly formed dumping ground for Citigroup’s most ailing and malodorous assets.

Earlier this year, the de facto government-owned bank created Citi Holdings as a repository for assets that it either planned on selling or would simply have a hard time giving away. In truth, Citi Holdings really isn’t a distinct company. It’s merely part of a PR strategy to get investors to focus on the businesses that are going well at Citi and which are housed in a so-called good bank called Citicorp.

But Citi Holdings holds the key to gauging just how long the bank will remain a ward of the state.

Now technically, things looked good at Citi Holdings in the second quarter, according to the results released today. But that’s only because Citi Holdings benefited from the closing of the Smith Barney joint venture with Morgan Stanley.

Strip away the $11.1 billion in pre-tax dollars from that deal and you get a good look at the problems that persist at Citi.

One of the biggest lines of business dumped into Citi Holding is the bank’s North American consumer lending operation, which includes homes, auto, student and personal loans. And the numbers for consumer lending are plain ugly. The group accounts for 83 percent of the $9.85 billion that Citi Holdings has set aside to cover losses on all credit and loan losses.

Particularly troubling is that the percentage of home loans to North American borrowers that are now delinquent is up to 6.52 percent. At the end of the first quarter the percentage of home loans past due was 5.9 percent and a year ago it was a little over 3 percent. Those numbers don’t suggest much improvement in the housing market and raise the prospect of ever higher delinquency rates as the unemployment rate creeps higher and higher.

The hollow ring of tech earnings reports: Eric Auchard

By Eric Auchard

LONDON, July 17 (Reuters) – For technology investors looking for clues to how the sector is faring, Intel Corp sent a false positive signal with its upbeat quarterly report this week. Subsequent reports from IBM, Nokia and Google show how hollow any recovery for growth stocks is proving to be. Even though the growth sector has defied the broader market sell-off in recent weeks, all the signs point to weak trading in months ahead.

Nokia, the world’s largest mobile phone maker, offered a harrowing reminder of what life is like for companies exposed to the wider vicissitudes of consumer demand. It is struggling in a handset market set to decline around 10 percent this year, even though Nokia signalled the industry may be stabilising.   

Intent on keeping its dominant handset market share, the company said it was prepared to sacrifice profit margins in the second half of the year as it engaged in a price war with rivals. Meanwhile, its networks joint venture, Nokia Siemens, will lose market share instead of remaining flat as previously expected.

Adding to its woes is a shortage of components for its phones that will hurt its third quarter performance. Revenues are likely to fall a massive 25 percent for the full year. Any recovery in margins next year will depend on it showing improvement in the competitiveness of phone designs.

Or take IBM. Second-quarter revenues slumped 13 percent from a year ago, but record improvements in margins helped it top earnings expectations thanks to years of financial engineering efforts in which it has exited PCs, storage and memory chips.

Once the world’s largest computer maker, IBM has transformed itself into a supplier of technical services and niche software, from which it derives 90 percent of its profits and massive operating leverage. What is missing is much improvement in demand.