The Art of the Covenant

There are some nasty SOB’s on Wall Street. The nastiest of the lot are the lawyers who draft Covenants into loan agreements. Second to the lawyers are the corporate finance types who know how to use Covenants to their advantage.

Former Treasury Secretary Paulson knows these matters cold. He dreams Covenants. And while he was running Treasury you can bet that he had top-notch lawyers around him 24/7.

Paulson left a stinky Covenant in the Fannie Mae deal. It is stinky because it is has or will blow up very soon. Fannie Mae will soon be running into a limit on its total debt as a result of the Restrictive Covenant.

In my view Hank Paulson is one of the smartest guys on Wall Street. He understood when he put a plan forward to ‘fix’ Fannie Mae that the plan was flawed. That it would, by it’s own constraints, create problems in the first 100 days after the Inauguration. Sort of like a time bomb.

I cannot figure that out. But it was deliberate. Maybe Paulson set this up so the issue of debt limitations on Fannie Mae would come back on the table with a new Administration. Maybe it was one of those nasty things that drafters of Covenants do. Either way it is an in your face for Paulson’s old pal Timmy Geithner.

I will try to explain.

A Covenant is a promise that a company makes when it borrows money. It is part of the broader terms and conditions. Examples would be “We Promise we will do X, or We promise we won’t do Y”. Normally these are expressed with numbers or ratios. “We will not let our debt exceed Z”, “We will not let our equity to fall below A” are examples.

Paulson’s crew drafted a Covenant in the Fannie Mae deal that limited the amount of indebtedness that Fannie could have. Follows is a link to the Fannie Mae page where this came out last night and a cut and past of their discussion of the problem. (Nice that it comes out on Friday night when folks are not looking at this stuff)

http://www.fanniemae.com/ir/monthly/index.jhtml;jsessionid=V02MGNVHMHMLFJ2FECISFGI?s=Monthly+Summary.

On page one of the November report, the sixth footnote on the right hand side reads:

A covenant in the senior preferred stock purchase agreement with the U.S. Treasury Department prohibits Fannie Mae from exceeding 110 percent of its aggregate indebtedness as of June 30,2008, which the company estimated to be $892 Billion. As of November 2008, Fannie Mae estimated that its aggregate indebtedness under the senior preferred stock purchase agreement totaled $885.6 billion.

If you look at the October report you will see that this is the first time that Fannie has made this disclosure in its monthly public filings. Very convenient.

There was a restriction on the Portfolio size of Fannie as well. The Portfolio limits were swept away by FHA earlier last week. Portfolio limits are easy to adjust. Covenants on debt limits are a much more thorny issue. There were two covenant limitations put on Fannie. One to limit growth, the other to limit debt. Two Ways. The lawyers call this belt and suspenders. Two Ways to hold up your pants. Heaven forbid that their pants fall down.

Paulson laid a stinky and the lawyers are probably laughing about it at Harry’s Bar. However, the new administration is not laughing at this. They are going to have to ‘fix’ this problem. It is going to take time, money and legislative effort to do that.

I have stuff that breaks all the time. My problem is that I try to fix things with duct tape and glue. It always breaks again in a few months. The answer is always the same. If something is broken, fix so that it will stay fixed. Paulson put duct tape on our financial problems. We are leaking again already, and it is only ten days since he left Washington. It sure makes me wonder how many other things are going to start leaking in the near future. ‘They’ used a ton of duct tape in the last three months they were in charge.

Bruce Krasting

brucekrasting.blogspot.com

What's Your House Worth?

What is your house worth? That is a terrible question to ask in 2009.

Let me ask a different question. What is a fair value for our housing stock? That is not so personal. I tried to answer this question for myself recently. It is hard to do these days. There are no buyers. Only properties at distressed prices get attention.

One way to value a property is to look at it as if it were a rental. The results for me were heinous. But interesting.

The foreclosure thing is happening everywhere now. There is another large wave of this coming. The end result will be that a lot of housing will end up being owned by some form of government institution. This could be Fannie Mae of Freddie Mac or it could be the result of foreclosure on toxic waist debt that will have to be absorbed in a Bad Bank. Either way it will be the taxpayer.

As a public policy matter it would be crazy for the Feds to put all this distressed housing on the market. It will just result in more falling home values and more money being lost on bad real estate loans. It is a vicious circle that will only stop when home prices stabilize. What this will mean is that there will be an increasing supply of rental properties. Either the Fed’s will hang on to the properties, or they will be flipped to landlords. Either way this will but pressure on home prices until they compete with all the rentals that will be out there.

When we look back at all of this mess in a few years the conclusion will be that too many people were encouraged to be “owners” and not “renters”. Reversing that trend will be part of the adjustment process. It is going to be painful.

What this means is that valuing a property based on a rental analysis may not be so far off of what may ultimately happen. Like I said, the numbers did not look good for me. Here is the methodology I used:

-At what monthly rate could I rent my home? Example: $3,000 Per Month

-Multiply the annual rent times 20. $3,000x12x20=$720,000

In this case the property is worth $720,000. Multiplying the rent by 20 is valuing the rental income at a rate of 5%. That is neither high nor low. It is a fair way to look at cash flow from rent.

If you applied this valuation methodology across the country I think you would find that valuing apartments in inner cities would show results where current market values are equal to the discounted rent analysis (“DRA”). This is because rents are high in urban areas. Lucky you.

However, if you applied this same analysis to single family housing in suburban areas you would get a much different result. Single-family housing will have to fall much more in price in order to get to a level where the rent supports the value.

You will really get sick when you apply this methodology (DRA) to vacation homes.

Where is that cyanide?

Watch the Tape This Afternoon

I do not make “Market Calls”. I do not think anyone is smart enough to do that. Some times markets talk. This one may be talking.

We have a very big bounce (6%) in the broad tape since the day after the Inauguration. Today is a pretty big set back. It should not come as a surprise. Some retrenchment is healthy after four good days. And lets face it, the news is terrible.

This is one of those turning points. It is quite possible that the headlines will dominate the markets and stocks are going to roll over and play dead for a while longer. It is equally possible that we will see the market catch a bid. Markets often do not follow headlines.

I will go out on a limb and suggest that we close today and trade tomorrow better then where we are at 2 PM. S&P 847.

The Bad Bank is Coming

I have watched/read financial news most of my life. I am always surprised how actively government officials use the press to manage legislative objectives and public perceptions.

Let’s be clear. Government officials do not accidentally ‘leak’ information. It does not happen that way. Leaks of information about government plans and actions are deliberately leaked. They want to soften the blow of pending announcements. When we read in the paper next week that a Bad Bank is in place we will think, “No big deal. I knew about that last week.”

When the Wall Street Journal, The New York Times and other business press outlets are reporting that there is thinking underway that a “Bad Bank” is a viable option worth considering read that to mean that the decision has already been made and that something is coming and it is going to happen fast.

Bush used the press leak very effectively. It seems that Obama is just as skilled.

The stock market knows this is coming. So far the market likes the idea and a tradeable rally is being formed around the expectations of a Bad Bank. Everybody likes market rallies, so the Bad Bank is going to be warmly received. The loudest voice of opposition will probably be Cody. He is loud, but not loud enough to slow down this significant development.

What could a Bad Bank look like?

Morgan Stanley put out a note on this topic earlier today. They put the total financial loss in a range of $1.5 Trillion to $2.7 Trillion. The Bank’s share of that could total $1.5 Trillion. So far they have realized about $500 Billion. So the Bad Bank could have to absorb losses of as much as $1 Trillion. That humongous number does not include the losses from Fannie and Freddie and TARP losses. That could easily add up to another $500Billion.

Treasury cannot fund this. The numbers are too large. The Bad Bank will be guaranteed by the Full Faith and Credit of the US Government. The guaranty approach is working with Fannie and Freddie so it will be the prototype for the Bad Bank.

This is going to work. For a while at least. This will take some of the sense of panic out of the current American psyche.

But no one is talking about the cost. The cost is being conveniently pushed out for a few decades. There are very few in Congress or the Senate who will vote for this that will be alive when the bills come due.

What surprises me is that there is no large-scale opposition to the plans that are quickly coming. If I were under thirty I would be marching on Washington. You are getting robbed. Big time.

brucekrasting.blogspot.com

Microsoft - S. Heels

Just a few words about Microsoft.

The stock is down by 50% over the past year. Sales growth is falling. They just laid off 5,000 workers!

What is going on here?

This company is doing fine. There is not much to worry about. This is not GM or Citibank. This is Microsoft.

This company has $20 billion of cash on the balance sheet. This year they will add another $20 billion to that hoard. Their profits are down with the slowing economy but there are lots of profits still in this beast.

Yet they thought they should lay off 5,000 workers so they could look good to the stockholders. It did not work. The stock took a dump on the news of the layoffs. Mr. Balmer screwed this up.

President Obama said at his inauguration that workers may have to give up hours so that other workers would not be laid off. I liked the sound of that. We are in this together.

So here is my suggestion for Microsoft and Steve Balmer. Either you:

A) Rehire these folks you tossed out. Retrain them. Keep them on the payroll while you do that. Make a positive statement, not a negative one, or
B) Fire them all. But then you have to pay out the $20 billion cash hoard you are sitting on to the investors.

What will it be Steve? A or B? Do the right thing. Please.

Bruce Krasting
brucekrasting.blogspot.com

GE Dividend- The New - New Paradigm

GE’s Dividend – The New - New Paradigm

GE’s stock is down 65% in the past few years. That is a loss of $300billion in market cap. About 6 times what Madoff lost. GE’s boss, Jeff Immelt, has said recently that he is going to insure that GE’s dividend is safe.

Immelt does not get it. He thinks that if he cuts the dividend the stock will go down and the shareholders will revolt against him. Wake up Jeff. You are dead wrong on this one.

GE’s dividend costs them $12 billion of after tax cash a year. They need that money to restore a weak balance sheet. GE is a finance company first and foremost. It is exposed to all sorts of credit losses. From credit cards to mortgages to leases on office space or jet engines.

The market knows all of this. That is why the stock is in the dumpster. It would seem that Immelt is the only one out there that thinks the dividend is ‘safe’.

GE’s long-term dividend rate is close to 2%. At today’s price the 2009 dividend will produce a return of 10.5%. That is ridiculous. It is simply not sustainable.

The funny thing is if GE woke up and cut he dividend to 25 cents the stock would soar. So when Jeff says he is “doing right” by the shareholders by sustaining a dividend the company cannot afford he is just blowing smoke at the shareholders.

There is another side to the GE dividend issue. GE recently completed a $15 billion three-year financing that was guaranteed by the FDIC. In addition they are still issuing Commercial Paper that is guaranteed by the NY Federal Reserve. (Thank you Tim
Geithner for that one).

This is the Moral Hazard issue that was once being discussed about the emerging wave of bailouts. You do not even see that phrase anymore. We have long since passed the stage where there is a debate on Moral Hazard. We have trashed that to pieces by the actions that have been taken over the past three months.

Our country is going hell bent into bailouts of the private sector. I wish that were not the case. But we have to play with cards that are dealt to us. By the end of this year many of America’s largest corporations will have become dependant on the Public Sector for support of one degree or another.

There should be a guiding principal to this. A simple rule. How about this:

If a private company is forced to rely on public sector capital, whether it be in the form of equity investments or debt guarantees by Government Agencies; then that company shall be restricted on paying dividends until that dependency is eliminated.

Shareholders will scream and yell over this. Tough. Returns on capital cannot be distributed while taxpayers are on the hook.

That is the New - New Paradigm. Mr. Imelt should be a leader, not a follower in recognizing these new realities.

The Fed is buying. Let's party.

The Federal Reserve announced this past week that it had acquired nearly $20Billion of mortgage securities in the second week of January. That was down from $23 billion in the first week.

This is right on schedule. The Fed announced that they would do $500Billion of these purchases in the first six months of the year. So expect this to continue.

They have to do this. The Fed is buying these securities in order to keep mortgage interest rates low. If mortgage interest rates were allowed to rise it would kill what is left of the real estate market. The economy is already in freefall. Another downward leg in the real estate market would probably finish us.

Fed President Bernanke has said he will not allow that to happen. It is his plan to purchase these mortgage securities. He refers to this as extraordinary measures. He’s got that right. I think it is without precedent.

Look what is going on here. Fannie Mae and Freddie Mac (two huge mortgage banks owned by the Taxpayers) are issuing IOU’s to the Federal Reserve (who is also the taxpayer).

This is called monetizing the debt. In Economics this is a no no. Monetized debt will turn into gasoline and create a great fire of inflation.

There is no stopping this. The decisions have already been made. In June when this $500B runs out they will do another $500B. A year from now we will have borrowed $1 Trillion. From ourselves. Very bad mojo.

The good news is that this is going to “feel good”. At least for a while. But if you are under 30 you are getting screwed. Big time.

Secret Conversation between Bernanke and Geithner

Transcript of a phone conversation between Tim Geithner (“TIMMY”) and Ben Bernanke (“BEN”) January 25, 2009


TIMMY: Hi Ben. I just wanted to call and say hello.

BEN: Congratulations on your confirmation. You must have been crapping in your pants over that tax thing.

TIMMY: Yeah. That was close all right. We had the votes going in but they still had to grill me hard and make me apologize, Blah Blah. But it was set up before the hearing. I was not worried. I blamed it all on Turbo Tax. Heh. Heh.

BEN: But how did you get the necessary Republican votes on the panel? I thought they would take you down.

TIMMY: Well. I took care of them. I gave them what they wanted.

BEN: And that was??

TIMMY: They wanted Treasury to take a tough stance on the Chinese. They wanted me to beat up on Chinese over the valuation of the Yuan. So I did. Right there at the hearing. Shelby’s jaw dropped when I said it.

BEN: Let me get this straight. You bought the Treasury seat with a promise to get tough on China??

TIMMY: Right. That’s how it went down. This is Washington. Remember?

BEN: Hold on. I have to do my breathing.

Pause

BEN: Okay. I am better now. I want you to know that what you did was very dangerous. Do you really think you can make tough with China? What stick do you think you are going to hit them with? You set yourself up to lose on this one buddy. We need the Chinese more than they need us.

TIMMY: Please do not call me buddy. We are not buddies. Anyway, if they do not cooperate and allow the Yuan to appreciate I will threaten them with tariffs.

BEN: You do not know anything. I am a Scholar in the matters of the Great Depression. Trade restrictions like tariffs will only make things worse. Remember Smoot Hawley!!

TIMMY: Ben, stop living in the past. This 2009 not 1939.

BEN: It may be 2009 but you still cant’ play tough with the Chinese. They own a TRILLION of our bonds. You keep this up and they are going to drop a $100 bil. on the market one morning and that will create a big stink. I can see the headlines now.

TIMMY: Ben, if they did that, you would have to step up and bid for the whole lot. Just put it on your balance sheet.

BEN: That would be monetizing the debt! It is bad enough that I am buying that crap Fannie and Freddie paper. But no way can I buy Treasuries outright. That would break some basic rules of Economics. No way Jose.

TIMMY: Please do not call me Jose. And that is exactly what you will do if push comes to shove. The Fed is going to have to take all this paper. So just get used to that idea. If you do not like it then you can make plans to go back to Princeton. We are even thinking of putting Volker back in charge if you do not play ball.

BEN: Volker? He must be 80. You cannot fire me. What about my legacy?

TIMMY: Just suck it up and blow up the FED balance sheet. This is Volker’s plan. Nationalize the banks to the point where they have to take Treasury paper. And you buy everything that they cannot take. Including anything the Chinese or the Russians decide to sell. That is the plan.

BEN: That breathing thing is coming back…

TIMMY: One more thing. Maybe we cannot fire you. But we can make your life miserable. It would be easy to blame this all on you. You are the only one still standing. So you either roll over or you go back to academia and study the Great Depression some more.

Ben: (panting) I a have to go.

CLICK

CLICK

Heard from TIMMY: Gotcha!

Heard from BEN: (pant) I’m going get ya! (pant)

Prior posts by me

CITI-Nexus Point

bkrasting

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January 14, 2009 by bkrasting comments (1)

citi, c

Citibank (C) is looking to open right around the $5 mark. That is down almost 15% from yesterday’s close. The pre-market hates the Smith Barney deal. I think the broad market will not like it either.

A lot of stocks that fall below $5 never recover. C got below this mark recently but bounced off of it within 24 hours. I consider this to be the first test of the $5 price.

I am not making a forecast. Just suggesting that this is one to watch if you’re interested in the bigger picture.

I do not understand the numbers. C is getting $2.7 billion for 51%. of SB That implies an enterprise value of about $5.4 Billion. In its statement C said they will book a pre-tax gain of $10 billion. Neat trick on an assets sale worth half that. The 8k will make interesting reading.

Edit Delete

Geithner-Ouch

bkrasting

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January 13, 2009 by bkrasting comments (4)

In my opinion this business about Geithner is bunk.

He failed to pay SS tax for a few years. Trust me, this is an easy mistake to make. It has nothing to do with tax avoidance. It is just an error. Insignificant.

The business about the house keeper/ illegal alien is also a non-issue. There are 12 million illegals living in this country. Half the country is dirty on this. No big deal.

I strongly believe that we need Geithner. He is the absolute ‘best’ candidate for this job.

Having said all that I think he has to go. He will be head of Treasury. The IRS reports to him. The optics are horrible.

Ask the question, “Could a presidential candidate survive if he had a house keeper issue?” “How about a US Senator?” It is silly and wrong but the answer is no.

So Geithner has two strikes against him. That will be one too many.

There was a big rally on Wall Street when Geithner was nominated. We may be shooting ourselves in the foot.

Where is the good news?

Edit Delete

GE-Dividend at risk?

bkrasting

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January 13, 2009 by bkrasting comments (0)

ge

GE’s stock is in the crapper today. Down about 6%. That does not sound like much but this is a big company. A drop in market cap of 6% means a $10 billlion haircut for the investors.

Barclays Capital published a report that was critical. No doubt that weighed on the price, but I think there is more to this.

Yesterday Obama made a comment that he thought that those institutions that got TARP funds should have restrictions on dividends. These are not his exact words, but that was the thrust of it. I could not agree with him more. There should be divided restrictions on companies that accept TARP money. Period. I am willing to bet that that will happen. We should applaud that.

GE has not gotten any TARP money. So maybe they are not affected by the coming restrictions. But look again and you will see that GE sold $15 Billion of bonds guaranteed by the FDIC recently. The have also been issuing a ton of commercial paper that is guaranteed by the FED.

So where is that line drawn? If you take TARP you cannot pay dividends. But if you take guarantees on financings (a clear subsidy) you can pay dividends?

That would be a funny place to draw the line. There are too many people apposed to these bailouts and subsidies. I do not think that is likely. FCB (fat cat bailout).

When I take these two pieces together I get the conclusion that GE is going to be sucked into the debate on dividend restrictions. Just the thought of that will cost the stock. It might be that some others in the market connected these dots.

Edit Delete

Watch Citi

bkrasting

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January 13, 2009 by bkrasting comments (3)

citi, c

Citibank (C) is worth watching for the next few days.

This morning it opened very close to a dangerous low of $5. It since made a nice 10% bounce. The stock went up on rumors (now confirmed) that the deal with Morgan Stanley is not as certain as we were led to believe.

Think about this. The stock gets trashed yesterday on the news that Smith Barney is gone. Then the stock goes up when the deal is in doubt. The market speaks. The market is not happy with this sale.

It is possible that this has a worst-case outcome.

That would be that C does in fact sell SB, but they do it at really stinky price. Morgan Stanley has Japanese cash. Citi has a gun in their heads by the Feds. I would rather be seated on the MS side of the table for this discussion. It is not likely that MS is going to leave much on the table. If this were a truly ‘friendly’ deal it would have been done by now.

I have no idea how this story will work out. There are lawyers and investment bankers all over the globe trying to figure that out right now. But if the market does not like the result it is possible that C will fall below $5. That is a problem. That is a price level where some institutions will become sellers. We do not need C on the front page again.

Let’s hope this gets friendly, fast.

bk

Edit Delete

AIG-Where is the money?

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January 13, 2009 by bkrasting comments (2)

aig bridge loan

I have a question. I am hoping someone out there has an answer.

AIG completed the sale of its Hartford Steam Boiler unit. This was sold to Munich Re on 12/22/08 for Pounds Sterling 500,000,000. That comes to a tidy $742,000,000.

I have been watching this since the closing date. It is now more than three weeks after the closing and there has been no announcement that I have seen that these funds are being used to pay down the emergency loan that the Fed made to AIG in September.

Did I miss something? Did they use these funds to pay down the government debt? I would have thought that there would have been big announcements on this. It would have been a good sign. An indication the ‘bailout’ plan was working.

If they did, fine and dandy. That is what you would expect. This was a short-term bridge loan. The loan documents require AIG to reduce the debt with cash from asset sales.

But what if they did not use these funds to pay down debt? That would be bad. Very bad.

Certainly it would be news worthy if these funds went to other creditors or other general corporate needs. That would mean that the Bridge loan was converted into a Term loan. That is not how it was sold in the first place.

If in fact they did sand bag the taxpayers on this it would immediately re-shape the debate on the broader issue. There would also be a few folks who had some explaining to do.

Does anyone know the answer?

bk

Edit Delete

Oil futures. What is going on?

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January 12, 2009 by bkrasting comments (6)

crude futures

Crude oil opened this morning at $38.49 a barrel for the near month, February settlement. At the same time the July 09 contract opened at $52.37. Wow!

A little arithmetic. July crude is trading at a premium of $13.88 over the February contract. July is six months away so double the 13.88 and divide that by the July price and you get a premium of more than 50% on an annualized basis.

What the heck is going on here? Answer: the oil market is under tremendous stress.

Some might ague that the July price is at such a large premium because the ‘market’ believes that the price of crude will rise over the next six months. Hogwash. Expectations have very little to do with this.

Behind the futures market is a cash market for crude. In normal times the large participants in the oil market can arbitrage futures markets with the cash market. Assume that you were a big player and you were long the February contract. If you want to stay long beyond the maturity of the contract you have to sell the near month and buy the far month. In our example it would cost you $13.88 to stay long oil for the next six months. Alternative you could accept delivery of the Feb contract. The oil would be delivered to a storage facility in Oklahoma or on the Gulf Coast. You have to pay for the oil. In cash. Then you have to store it for six months. The cost that one has in this is the interest expense for financing the inventory and the storage charges that are today quite high.
But those two charges together are a fraction of the futures near month to six months cost to roll.

There are some conclusions one could reach looking at this phenomenon.

I) There is very little financial liquidity in the oil markets. If there were, normal lenders and position takers would arb this premium.
II) There is a huge overhang of physical crude currently. (The storage costs reflect this)
III) It will take time to eliminate this excess supply in the physical crude market.
IV) As long as the futures are at such a stiff premium there is little hope for a significant recovery in crude.
V) This will work itself out. The resulting ‘balance’ will result in a much lower amount of crude in inventory.
VI) When the inventory has been worked down to the point where the out months are closer in price to the near month then we will find a bottom to the price of crude.
VII) When VI has been achieved, get your seat belts on. The price of crude and all distillates will rise rapidly, regardless of the prevailing economic activity. I think that this will happen later this year. We will be facing shortages.

If I am right, this will weigh heavily on the broad economy sometime in the third and fourth quarter of this year. Something more to worry about.
bk

Edit Delete

My take on Citibank

bkrasting

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January 12, 2009 by bkrasting comments (7)

c, citi, tarp

Citibank is toast. They are a casualty of their own making. They built a financial supermarket with $2 Trillion in assets and 300,000 employees. And now the Feds are forcing them to break it all apart.

Maybe that is the right thing to do. We will have to wait three years and then look at what is left to truly judge whether the breakup of Citi was the ‘right thing to do'.

For those of you out there who are violently apposed to the ‘Bailout’ mentality (I include myself in that group) this is an example of how this mess is unfolding.

Government Regulators are forcing the sale of Smith Barney, and they are going to force changes in Senior Management at the bank. Bob Rubin (a very smart guy) took a walk on Friday.

The talk that I hear is that Morgan Stanley will buy 51% of Smith Barney from Citi as early as today. The price talk is $1-2 Billion. This is an astonishingly low number. Smith Barney is a quality shop. Lots of very productive brokers. Tons of assets under management. This looks like a throw away price. Of course the price has to reflect the fact that UBS has been trying to sell the old Paine Webber group for the last year. There have been no takers.

Just who are these Federal Regulators that are forcing the unwind of this huge company at the very worst time in history? There are no names attached to this. Could Barney Frank be the force behind this? For sure this is happening with his blessing. I suspect that he is directly involved. Congresman Frank has dirty hands in all of this mess. He should not be calling the shots any longer. He is part of the problem. not part of the solution.

So that is it. Federal Regulators are calling the shots. They have usurped the Board of Directors. They are dictating personnel decisions. They are forcing major restructuring of the balance sheet. They are running the show. You can be sure that they will muck this up. They will force Citi to divest assets at bargain basement prices. What will be left is a very big global commercial bank that is filled with bad loans and no way to earn its way out of trouble. Toast.

Citi was a ward of the State when it took the TARP money. Now Citi jumps when the Regulators whistle. For sure Citi screwed up. But their screw-ups will look small by way of comparison to what the Regulators will do to destroy what is left of this important institution.

The long-suffering Citi shareholders should take some heart. The good news today is that Citi stock is not going to zero. The Regulators will see to it that that will not happen. The bad news for Citi shareholders is that there is no upside. It is time to move on. Sorry.

bk

Edit Delete

Secret conversation between Paulson and Geitner

bkrasting

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January 11, 2009 by bkrasting comments (3)

politics

Transcript of a phone conversation between Treasury Secretary Paulson (“Hank”) and Treasury Secretary designee Timothy Geitner (“Timmy”)
1/11/2009

Hank:
Ah, ah. Hello?

Timmy:
Good evening Mr. Secretary. I am sorry to bother you at home. The inauguration is in eight days. There a few things I would like to discuss before I take over your job.

Hank:
Eight days. Man, I cannot wait to be outta here.

Timmy:
What will you do when you leave public life?

Hank:
Well I, I, well I am not sure yet. One thing though, I am going to Jackson Hole for a while. Hide out there for a bit. I am thinking that the blame game is going to start in earnest on the 21st. So I am laying low.

Timmy:
I see, I think. What will you do with your spare time?

Hank:
Oh, oh, goodness. Well my plan is to buy up busted mortgages on open land all over the West. Then I will foreclose on the mortgages and get hold of the land. I am going to raise elk. A lot of them. More elk then Turner has bison.

Timmy:
I see, I think. Well I have a specific issue that I would like to discuss.

Hank:
Well, well, you see, there is a really good Bonanza coming on soon and I really like to watch them from the start.

Timmy:
I see, I think. This will just take a few minutes. I want to know, from you personally, one on one with me, if you really think that the new administration can pull this off.

Hank:
Well. I don’t know, you see, well, no. Actually no. I do not think you can pull it off. But you might. There is a chance. So does that answer your question?

Timmy:
What do you mean a chance? How bad are things? Is there something that you know that I do not?

Hank:
Well, ah, well sure. I mean, you know I ran Goldman. They know everything in advance. So yeah, I still got a few friends in town. And yeah, it does not look so good.

Timmy:
What is our biggest issue?

Hank:
You have to sell three Large of mis-priced paper in the next eighteen months. If you can do that, well you just might make it. But that is a big If.

Timmy:
What? I did not get that. What did you say about large things?

Hank:
Ok. Right. Ok. What I meant was that the deficit will be two Trillion over the next eighteen months. Right, Okay, so add to that another one Trillion that you have to come up with to refi Fannie and Freddie. Their whole book is coming due. That is why we pulled the plug on them when we did. So the total is three trillion. Three large. Got it?

Timmy:
Is that not possible? America will always be able to sell its bonds. Right?

Hank:
Not in these numbers. No way. That has never been done before. And keep in mind that you cannot let interest rates rise. If that happened it would kill what is left of the economy. So you got two strikes against you. You have gagillion bonds to sell and they are priced for saps only.

Timmy:
What can I do? Is there any chance for me? I do not want to go down as the Treasury Secretary who was in charge when the lights go out.

Hank:
Boy, I know that feeling. I woke up every day for a month with that in my mind. Anyway, Do not worry so much. There is a way out of this. And you can do it. You have to stuff all the short date stuff on the Banks. The long dated crap you have to cram down Bernake’s throat. The rest you can lay off to the money funds. But you have to get the Banks and Ben too. That will be the trick. You can forget about the Foreign Central banks. They are all sellers.

Timmy:
But why would the commercial banks be willing to buy such huge amounts of low yielding Treasury paper? It would blow up their balance sheets and reduce earnings. They would never do that. It would hurt the shareholders.

Hank:
That was what TARP was for. Didn’t you get that? We spent a crummy $250 billion buying stock in banks. So now we own them. They will do anything we tell them to do. All you have to do is eliminate all reserve requirements. Then put a gun to their heads and tell them to pony up for some Tnotes. I am thinking you could get them to take close to half. At least one Trillion. It would be ugly. But it could be done. Oh, about the shareholders. Well, that is nothing to worry about. The banks have been stiffing the shareholders for years. So this is nothing new. Not a problem there.

Timmy:
Okay. I got that. I wrote that down. That was good. Cram the banks. Screw the shareholders. But what was it you said about Benanke. What do I do there?

Hank:
Well, well. You know. Ah, ah. Someone has to take the fall for this. So if your smart, if you think like you were an Investment Banker instead of a Central Banker you would be looking for someone to lay this all off on. And Bernanke is the perfect target.

Timmy:
How do I do that?

Hank:
Get him to buy all the ten and thirty year paper you have. Give him two Trillion of average life 20 year paper. Get him to take all of that crap at a yield under 3%. Ben is very pregnant on this. He teed this up. So he cannot back off now. He has to take this paper on his balance sheet. There is no other solution. And he knows it. So he is in a corner already. You just have to close the door on him.

Three years from now yields will be back up to 6%. Probably they will be closer to 8% the way we are pumping up the money supply. When that happens all of the paper that Ben bought will be trading in the crapper. He will have a huge paper loss. Probably close to $700 billion. So. There you have it. There is your scape goat. He will have to fall on the sword. Too bad. He is a nice guy.

Timmy:
Okay. I am starting to see the plan. We stuff the banks and screw the Fed. Right? Is that the plan?

Hank:
Oh! Oh boy! You hear that? Bumpity, bumpity, dah dah. Bumpity, bumpity, dah dah. That’s Bonanza! I gotta go.

Click.

Edit Delete

Letter to Ben Stein

bkrasting

Friends

Friends of

January 11, 2009 by bkrasting comments (3)

nytimes article

I am not sure what you were writing about today. It seemed as if you were trying to impress us with your history of rubbing elbows with former big shots. But then you acknowledge that they were not so 'big' after all.

You went on to reaffirm to this reader that you got trapped and lost money in the Lehman disaster and you are mad about that. I do not blame you for being bitter. We have all lost money. But that is the game you chose to play. Do not blame the players, it was your choice to come to their party.

I have been reading you for years. Face it Ben, you are are Bull. How old are you? You know the rule on that. You take your age and subtract it from 100. The result is the percentage of equities you should own in portfolio. So say you are 60. That means that you should have owned no more than 40% of your portfolio in common stocks. Did you break that golden rule and get hurt? Sorry if you did. I do not like to see anyone take a loss. But, if you were over invested then you could say the mistake was yours. Sort of like all those smart guys you mentioned who also missed the signs and made bad choices.

I hated it when people spoke of a New Paradigm in the late 90's. You were one of those that thought that earnings and real values did not mean much. When that went poof you were surprised. And now you are surprised that the credit crisis is so severe.

Eighteen months ago I looked at the world and concluded that owning any financial stock was a mistake. I even shorted a few of the bigger names. It was that obvious. But you believed in that system. A system that said that debt was good and high growth was better. A world where we as a nation could fight a very expensive war and at the same time promote tax cuts for high income types. Ben, we learned that lesson with Vietnam and the Great Society. That nearly killed us 30 years ago. But the same mistakes were made in the Bush years. And you applauded them.

The cat is out of the bag now. There is no one out there now who believes that the debt society you were so happy with can be sustained any longer. That is the real New Paradigm. We now know, beyond a shadow of doubt, that the debt road we were on was simply not sustainable.

I am sorry that you did not see this coming. For me it was written on the wall in red letters. That you, Bush, and his Treasury Secretaries did not see it coming is not a good basis to make the claim that Obama and his Advisers do not see things for what they are. Have a little faith Ben. For sure it will be hard for Obama to address the problems that have taken 20 years to boil to the surface. But do not assume that that they are not aware of the history of the current economic problems. It really is not that hard. We were living way beyond our means. Now we are paying for it. Did you ever object to the deficit that was building? Did you object when stocks were going up because companies were using borrowed money to buy up their stock in a silly effort to improve quarterly earnings? I recall you writing about the real estate build out of Southern California as a great and wonderful thing. You were wrong there too.

We Americans have believed our own hype for too long. You have played a small role in that. You cheered for the status quo of growth at any cost. I am sure that you have children and grandchildren Ben. You should spend more time thinking of their future rather than yours. We need to spend the next decade repairing what has been broken so that our children and our grandchildren have have a shot at the prosperity that we have seen. Those 'smart' guys you referred to in your piece today did not miss the signs that we were on an unsustainable path. They just chose to ignore those signs.

We simply can not bury our heads in the sand any longer.

Bruce Krasting