'Market Panic After Bear Stearns Reports'
'Hedge Funds Reel From Margin Calls Even On Treasuries'
'Global Unwinding Continues As Banks Demand More Collateral From Hedge Funds'
'Fed Wil Be Buried In Debt'
'How Low Can The Dollar Go? Zero Value'
'Hedge Funds Wither As Banks Call Their Bluff'
"Market conditions are the worst anyone in this industry can ever remember. I don't think anyone has a recollection of a total disappearance in liquidity...There are billion of dollars worth of assets out there for which there is just no market." Alain Grisay, chief executive officer of London-based F&C Asset Management Plc; Bloomberg News
The hurricane that began with subprime mortgages, has swept through the credit markets wreaking havoc on municipal bonds, hedge funds, complex structured investments, and agency debt (Fannie Mae). Now the first gusts from the Force-5 gale are touching down in the real economy where the damage is expected to be widespread. The Labor Department reported on Friday that US employers cut 63,000 jobs in February, the biggest monthly decline in five years. The cut in payrolls added to the 22,000 jobs that were lost in January. 52,000 jobs were cut in manufacturing, while 331,000 have been lost in construction since September 2006.
The Labor Department also reported on Wednesday that worker productivity slowed significantly in the last quarter of 2007. When productivity is off; labor costs go up which adds to inflationary pressures. That makes it harder for the Fed to lower rates to stimulate the economy without inviting the dreaded "stagflation"---slow growth and rising prices.
The news on commercial construction is equally bleak. The Wall Street Journal reports:
"For the second month in a row, the Commerce Department reported a decline in spending on nonresidential construction -- which includes everything from hospitals to office parks to shopping malls....Signs of trouble cropped up at the end of the year. As credit markets tightened, office space sold in the fourth quarter dropped 42% from a year earlier, and sales of large retail properties declined 31%, says Real Capital Analytics, a New York real-estate research group....If spending continues to slow, construction workers, who are reeling from the housing slowdown, face more layoffs." ("Building Slowdown Goes Commercial", Wall Street Journal)
Commercial real estate is the next shoe to drop. There's a tremendous oversupply of retail space nationwide and the bloodletting has just begun. Builders have continued to put up shopping malls and office buildings even though residential real estate has gone off a cliff. Now the battered banks will have to repossess thousands of empty buildings in strip malls with no chance of leasing them out in the near future. It's a disaster . From December 2007 to January 2008 spending on commercial construction took its steepest drop in 14 years. The sudden downturn is adding more and more people to the unemployment lines.
So, what does it all mean? Unemployment is up, productivity is down, inflation is increasing, the dollar is underwater, commercial real estate is in the tank and the country is sliding inexorably into recession.
THE DEEPEST AND MOST RAPID DOWNSWING SINCE THE GREAT DEPRESSION
As for the housing market:
"Housing is in its "deepest, most rapid downswing since the Great Depression," the chief economist for the National Association of Home Builders said Tuesday, and the downward momentum on housing prices appears to be accelerating.
"Housing is in a major contraction mode and will be another major, heavy weight on the economy in the first quarter," said David Seiders, the NAHB's chief economist." ("Rapid Deterioration", MarketWatch)
Home sales are down 65% from their peak in 2005. Inventory is stacked a mile-high. Vacant homes now number about 2 million; an increase of 800,000 since 2005. Demand is weak and prices are plummeting. It's all bad. Meanwhile, the Federal Reserve and the Bush administration are scrambling to devise a plan that will keep homeowners from packing it in altogether and walking away from their mortgages. But what can they do? Will they really write-down the principle on the mortgages like Bernanke recommends and face years of litigation from bond holders who bought mortgage-backed securities under different terms? Or will they simply allow the market to clear and send 2 million homeowners into foreclosure in 2008 alone?
The deflating housing bubble is finally being felt in the broader economy. Home equity is vanishing which is putting downward pressure on consumer spending and shrinking GDP. Also, the dollar is at historic lows, and an intractable credit crunch has left the financial markets in disarray. Experts are now predicting that consumer spending won't rebound until housing prices stop falling which could be late into 2009. When Japan experienced a similar credit/real estate meltdown; it took more than a decade to recover. There's no reason to believe that the present crisis will unwind any faster.
On Friday, banking giant USB estimated that credit woes would end up costing financial institutions $600 billion, three times more than their original estimate of $200 billion. But USB's forecast does not take into account the $6 trillion of lost home equity if housing prices fall 30% in the next two years. (which is very likely) Nor does it account for the potential losses in the structured finance market where $7.8 trillion of loans (which are presently in "pooled securities") have gone into a deep-freeze. There's no way of knowing how much capital will be drained from the system by the time all of this plays out, but if $7 trillion was lost in the dot.com bust, then it should greatly exceed that figure.
The housing bubble was entirely avoidable. It was the policies of the Federal Reserve which made it inevitable. By fixing interest rates below the rate of inflation for almost 3 years, Greenspan ignited speculation in housing and created a false perception of prosperity. In truth, it was nothing more than asset-inflation through the expansion of debt. The Fed's actions were complimented by repeal of regulatory legislation which prevented the commercial banks from dabbling in securities trading. Once the laws were changed, the banks were free to peddle their mortgage-backed securities to investors around the world. (A-rated mortgage-backed bonds are currently fetching just 13% of their face value!) Now, those sketchy bonds are blowing up everywhere leaving large parts of the financial system dysfunctional.
As investors continue to run away from anything remotely connected to mortgages; the price of risk, as measured by the spread on corporate bonds, has skyrocketed. In fact, investors are even shunning overextended GSEs like Fannie Mae and Freddie Mac. As the number of foreclosures continues to soar, the aversion to risk will intensify triggering a savage unwinding of leveraged bets in the hedge funds as well as a wider paralysis in the financial markets.
There's absolutely no doubt now that the storm that is currently ripping through the financials will soon bring Wall Street to its knees. It may be a good time to remember that on March 24, 2000, the NASDAQ peaked at 5048. On October 9, 2002 it bottomed-out at 1114; a loss of nearly 80%. Could it happen again?
You bet. Expect to see the Dow hugging 7,000 by year end.
The Wall Street Journal ran an article on Tuesday which outlined how the banks changed standards at the Basel meetings in Switzerland to give them greater autonomy in deciding issues that should have been governed by strict regulations:
"Some of the world's top bankers spent nearly a decade designing new rules to help global financial institutions stay out of trouble...Their primary tenet: Banks should be given more freedom to decide for themselves how much risk they should take on, since they are in a better position than regulators to make that call." ("Mortgage Fallout Exposes Holes in New Bank-risk Rules", Wall Street Journal)
It is a classic case of the foxes deciding they should oversee the hen-house.
The Basel Committee on Banking Supervision is an industry-led group comprised of the central bank governors from the G-10 countries; Belgium, Canada, France, Italy, Japan, the Netherlands, Sweden, Switzerland, Britain and the US. Basel is supposed to establish the rules for maintaining sufficient capitalization for banks so that depositors are protected. But it's a sham. It appears to be more focused on maintaining US and European dominance over the developing world and making sure the levers of financial power stay in the manicured paws of western banking mandarins.
Now that the financial system is in terminal distress; many people are questioning the wisdom of handing over so much power to organizations that don't operate in the publics interest. Thomas Jefferson anticipated this scenario and issued a warning about the perils of abdicating sovereignty to unelected, profit-oriented bankers. He said:
"If the American people ever allow private banks to control the issue of our currency, first by inflation, then by deflation, the banks and the corporations that will grow up will deprive the people of all property until their children wake up homeless on the continent their fathers conquered."
Even though the nation is stumbling towards an economic hard-landing; the banks are still only interested in finding a way to save themselves. Last week, the New York Times revealed a "confidential proposal" from Bank of America to members of Congress asking the US government to guarantee $739 billion in mortgages that are at "moderate to high risk" of defaulting to save the banks from potential losses. Yesterday, Rep. Barney Frank--operating in the interests of his banking constituents--made an appeal in the House of Representatives on this very issue, saying that congress should consider buying up some of these sinking mortgages to help struggling homeowners. But why should the taxpayer pay for the mistakes of privately-owned banks; especially when those banks have been bilking the public out of billions of dollars through the sale of worthless subprime securities?
The Fed has already lowered the Fed Funds rate by 2.25 basis points to 3% (more than a full-point below the current rate of inflation) to help the banks recoup some of their losses from their bad bets. Bernanke has also opened a Temporary Auction Facility (TAF), which allows the banks to use mortgage-backed securities (MBS) and other structured investments as collateral at 85% their face-value.(even though the bonds are only worth pennies on the dollar on the open market) So far, the TAF has secretly loaned out $75 billion to capital-depleted banks, which Bernanke thinks is a positive development. By why is the Fed chief encouraged by the fact that the country's largest investment banks need to borrow billions of dollars at bargain rates just to stay solvent? The truth is that many of the banks are just padding their flagging balance sheets so they can scour the planet looking for investors to buy parts of their franchises.
On Tuesday, Bernanke addressed the Independent Community of Bankers of America exhorting them to take whatever steps are required to keep homeowners with negative equity from walking away from their mortgages. Along with the proposed "rate freeze" on adjustable rate mortgages (ARMs); the Fed chief also suggested that the lenders lower the principle on the mortgages to entice homeowners to keep making nominal payments on their loans. But, clearly, foreclosure is the wisest choice for many homeowners who may otherwise be chained to an asset of steadily declining value for the rest of their lives. Homeowners should base their decisions on what is in their best long-term financial interests, just as the bankers would do. If that means walking-away, then that is what they should do. The homeowner is in no way responsible for the problems deriving from the subprime/securitization scam. That was entirely the work of the bankers.
The FDIC has begun to increase staff at many of its regional offices to deal with the anticipated rash of bank failures in states hardest hit by the housing bust. California, Florida and parts of the southwest will definitely need the most attention. These states are undergoing a housing depression and many of the smaller banks which issued the mortgages and commercial real estate loans are bound to get hammered. They simply do not have the capital cushion to withstand the tsunami of defaults and foreclosures that are coming. Depositors should make sure that all their savings are covered under FDIC rules; no more than $100,000 per account. Money markets are not insured.
Also, the G-7 nations announced last week that if "irrational" price movements persist, they would "collectively take suitable measures to calm the financial markets". The group added that they would conduct their activities secretively for maximum effect. Consider how desperate the situation must really be for G-7 finance ministers to issue a public warning that they are planning to intervene in the market to prevent a calamity. This is stunning. The group did not specify whether they were talking about propping up the stumbling greenback or buying up futures in the equities markets like a global Plunge Protection Team. Nevertheless, their comments add to the growing perception that things are out of control and deteriorating quickly.
INFLATION vs. DEFLATION
With oil, gold and food prices soaring, the Fed has been roundly criticized for cutting rates and risking further erosion to the value of the dollar. (This morning the dollar fell to $1.53 on the euro!) But Bernanke is right; the real danger is deflation. We are at the beginning of a consumer-led recession; characterized by weakening demand, lack of personal savings, declining asset-values (particularly homes) and over-indebtedness. The Fed's increases to the money supply via low interest rates will not effect the dramatic economic slowdown that will be evident within the year. Trillions of dollars of derivatives, over-leveraged subprime assets and otherwise bad bets are all unwinding at the same time draining an ocean of virtual capital from the economy. If credit keeps getting destroyed at the present pace, the country will be in the grips of a depression-like slump by 2009.
The Wall Street Journal's Greg Ip puts it like this in his article "For the Fed, a Recession - Not Inflation - Poses Greater Threat":
"So why is the Fed more worried about growth than inflation? First, it thinks run-ups in commodity prices explain the increases, not only in overall inflation but also in core inflation: higher energy costs have "passed through" to other goods and services. Core inflation rose and fell with energy inflation between early 2006 and mid-2007, and the Fed thinks the same thing is probably happening now. If energy and food prices stop rising -- they don't have to actually fall -- both overall and core inflation should recede.
Ip continues: "Fed officials don't think the latest jump (in food and energy) can be justified by fundamental supply and demand....A more likely explanation, investors perhaps alarmed by the Fed's dovish stance, are pouring money into commodity funds and foreign currencies as a hedge against inflation. ...But speculative price gains can't be sustained if the fundamentals don't support them. If the Fed and the futures markets are right, prices will be lower, not higher, a year from now."
Bernanke is right on this point. Temporary price increases are not the result of shortages, increased production costs, or fundamentals, but speculation. In fact, demand for petroleum products has been down by 3.4% over the last four weeks compared to the same time last year, which means that prices will probably drop steeply once the commodities frenzy runs out of steam. Investors are simply looking for somewhere to put their money rather than in shaky corporate bonds or overpriced equities. Commodities are the logical alternative. But as soon as consumer spending stalls; all asset-classes will fall accordingly, including gold and oil. (And, yes, the dollar should recover some lost-ground, however temporary)
Many analysts believe oil's rally will be short-lived. Falling demand for overall petroleum products, which was down 3.4 percent over the last four weeks compared to the same time last year, suggest prices could drop steeply once the dollar-driven oil investment frenzy runs out of steam, analysts said.
THE RECESSION AHEAD: Cyclical downturn or post-bubble recession?
An article in the New York Times by Morgan Stanley's Asia chairman, Stephen Roach, states that the country is not in a cyclical downturn, but post-bubble recession. There is a big difference. The Fed's interest rate cuts and Bush's "Stimulus Plan" are unlikely to stop housing prices from continuing to fall nor will they miraculously fix the problems in the credit markets. The massive expansion of credit in the last 6 years has created a $45 trillion derivatives balloon that could implode or just partially unwind. No one really knows. And no one really knows how much damage it will cause to the global financial system. Stay tuned. Roach notes that the recession of 2000 to 2001 was a collapse of business spending which only represented a 13% of GDP. Compare that to the current recession which "has been set off by the simultaneous bursting of property and credit bubbles.... Those two economic sectors collectively peaked at 78 percent of gross domestic product, or fully six times the share of the sector that pushed the country into recession seven years ago."
Not only will the impending recession be six times more severe; it will also be the death-knell for America's consumer-based society. Attitudes towards spending have already changed dramatically since prices on food and fuel have increased. That trend will only grow as hard times set in.
Roach adds: "For asset-dependent, bubble-prone economies, a cyclical recovery - even when assisted by aggressive monetary and fiscal accommodation - isn’t a given....Washington policymakers may not be able to arrest this post-bubble downturn. Interest rate cuts are unlikely to halt the decline in nationwide home prices...Aggressive interest rate cuts have not done much to contain the lethal contagion spreading in credit and capital markets.
A more effective strategy would be to try to tilt the economy away from consumption and toward exports and long-needed investments in infrastructure...Fiscal initiatives should be directed at laying the groundwork for future growth, especially by upgrading the nation’s antiquated highways, bridges and ports." ("Double, Bubble Trouble" Stephen Roach, New York Times)
The Federal Reserve and Washington policymakers are still stuck in the past trying to revive consumer spending by creating another equity bubble with low interest rates and their $600 per person "stimulus" giveaways. This is the wrong approach and its bound to fail. The Greenspan era is over. Let's put it to rest once and for all. No more bubbles. No more phony debt-generated prosperity. No more over-leveraged, complex Ponzi-scams that end in tragedy. Roach points the way forward; invest in infrastructure and environmentally-friendly technologies, rebuild the economy from the ground up, reestablish fiscal sanity and minimize deficit spending, put America back to work making things that people use and that improve society, and (as Roach says) "help the innocent victims of the bubble’s aftermath - especially lower- and middle-income families". And, most importantly, abolish the Federal Reserve and give the control of our money back to our elected representatives in Congress. That is the only way to put America's economic future back in the hands of the people.
That's a plan we can all get behind. It's time to split the new wood and start fresh.
Bravo, Stephen
Panic swept the credit markets on reports of an insolvency crunch at both the US investment bank Bear Stearns and the mortgage giant Fannie Mae, triggering a dramatic surge in default insurance and rumours of yet another emergency rate cut by the US Federal Reserve.
Financial shares plummeted on Wall Street in another day of wild trading as the markets began to fear that the $200bn (£100bn) life-line pledged by the Fed last Friday would not be enough to halt a vicious downward spiral.
The Dow Jones index fell 153.54 to close at 11,740.15, breaking through the crucial support line of its January lows.
Credit default swaps (CDS) measuring bankruptcy risk on Bear Stearns debt rocketed from 246 points to 792 on fears that it had been unable to raise capital to cover mortgage losses and was preparing to invoke Chapter 11 bankruptcy protection.
The company denied the reports, insisting that it had $8bn of ready credit lines and enough funds to meet its debt obligations for the next year without having to sell assets or take out fresh debt. "There is no truth to the liquidity rumours," said a spokesman.
The bank's share price ended down 11pc at $62.30.
Lehman Brothers, the biggest mortgage underwriter, was also mauled on leaked reports that it planned to slash its worldwide workforce by 5pc. Lehman CDS contracts leaped 60 points to 395.
Almost every indicator of credit stress was flashing warning signals. The CDX index measuring default risk on US investment grade bonds rose to 190 and the iTraxxx Europe touched 150.
Bank of America said the Fed would have to cut rates to 1.5pc by the middle of the year. The futures markets have begun to price in the serious possibility of a 100 basis point drop next week.
Goldman Sachs said the Fed chairman, Ben Bernanke, might push through an emergency cut even sooner.
March 10 (Bloomberg) -- The hedge-fund industry is reeling from its worst crisis in a decade as banks are now demanding more money pledged to support outstanding loans even when the investment is backed by the full faith and credit of the United States.
Since Feb. 15, at least six hedge funds, totaling more than $5.4 billion, have been forced to liquidate or sell holdings because their lenders -- staggered by almost $190 billion of asset writedowns and credit losses caused by the collapse of the subprime-mortgage market -- raised borrowing rates by as much as 10-fold with new claims for extra collateral.
While lenders are most unsettled by credit consisting of real estate and consumer debt, bankers are now attempting to raise the rates they charge on Treasuries, considered the world's safest securities, because of the price fluctuations in the bond market.
"If you have leverage, you're stuffed,'' said Alex Allen, chief investment officer of London-based Eddington Capital Management Ltd., which has $195 million invested in hedge funds for clients. He likens the crisis to a bank panic turned upside down with bankers, not depositors, concerned they won't get their money back.
The lending crackdown is the worst to hit the $1.9 trillion hedge-fund industry since Russia's debt default in 1998 roiled global credit markets and required the U.S. Federal Reserve to pressure the securities industry to arrange a $3.6 billion bailout of Greenwich, Connecticut-based Long-Term Capital Management LP. Today, hedge funds are being forced to sell assets to meet banks' margin calls, resulting in the dissolution of the funds.
"There has to be more in the next weeks,'' Allen said. "There are people who have been hanging on by their fingernails who can't hold on much, much longer.''
'Mercy of Counterparties'
Ivan Ross, founder of Westport, Connecticut-based hedge fund Tequesta Capital Advisors, received a call from his bankers on Feb. 22 demanding he put up more money or risk losing his loans. Ross was unable to meet the margin call as the market for mortgage- backed debt seized up, preventing him from selling securities to raise the cash. Four days later, lenders liquidated his $150 million fund.
"Because it's impossible in this environment to move among dealers, you're at the mercy of counterparties,'' said the 45-year- old Ross, who has managed hedge funds for 13 years, including a stint handling mortgage-backed debt for billionaire George Soros. "To the extent they want to shut you down, they can.''
The demise of Tequesta revealed the deathtrap for hedge funds caught in the credit maelstrom of banks selling mortgage-backed bonds as fast as they can while demanding more collateral from clients who use the securities to back loans.
Carlyle Fund
On Feb. 24, London-based Peloton Partners LLP gave up a "night and day'' effort to stave off demands from banks, including Goldman Sachs Group Inc. and UBS AG, for as much as 25 percent collateral for securities that once required 10 percent, according to investors in the fund. Peloton, run by former Goldman partners Ron Beller and Geoff Grant, liquidated the $1.8 billion ABS Fund, its largest.
The same day, about 5,000 miles (7,770 kilometers) away in Santa Fe, New Mexico, JPMorgan Chase & Co. told Thornburg Mortgage Inc. that it had defaulted on a $320 million loan because it couldn't meet a $28 million margin call, according to U.S. regulatory filings.
Thornburg, the home lender that lost 93 percent of its market value in the past year, was near collapse March 7 after it failed to meet $610 million of margin calls. Chief Executive Officer Larry Goldstone said in a statement the company fell victim to a "panic that has gripped the mortgage financing industry.''
Repo Agreements
Carlyle Capital Corp., the debt-investment fund started by private-equity firm Carlyle Group of Washington, was suspended from trading in Amsterdam on March 7 after it couldn't meet margin calls, and its banks seized and sold assets.
"Banks are reducing exposure anywhere they can and the shortest way to do that is to cut leverage,'' said John Godden, chief executive officer of London-based hedge-fund consultant IGS AIS LLP.
Hedge funds are mostly private pools of capital whose managers participate substantially in the profits from their speculation on whether the price of assets will rise or fall.
The managers that trade fixed-income securities generally borrow money through repurchase agreements, or repos. In a repo, the security itself is used as collateral, just as a homeowner puts up the house as collateral for a mortgage.
Collateral 'Haircuts'
Banks usually limit their risk on repos by lending less than the value of the securities used as collateral. Tequesta was able to borrow $95 on $100 worth of AAA rated jumbo prime mortgages in early 2007, meaning the bank took a $5, or 5 percent so-called haircut. By last month, the amount required had risen to as much as 30 percent, Ross said. Jumbo mortgages are loans of more than $417,000, typically used to finance more expensive homes.
The losses started in mid-2007, when prices of subprime loans, those to homeowners with bad credit histories, started tumbling because of a surge in delinquencies. The contagion spread to other credit markets, including bonds backed by student loans and credit cards and now mortgages backed by federal agencies, which have an implied guarantee from the U.S. government.
Prices keep falling, with yields on mortgage-backed debt issued by agencies such as Fannie Mae rising last week to the highest level relative to U.S. Treasuries since 1986. Costs to protect corporate bonds from default are close to a record high.
Under such circumstances, lenders have no choice but to ask clients to put up more cash. For AAA rated residential mortgage backed securities, banks have raised haircuts 10-fold in the past year to 20 percent, according to estimates from Citigroup credit analyst Hans Peter Lorenzen in London.
Treasury Swings
On AAA asset-backed securities, banks are demanding a 15 percent haircut, up from 3 percent last summer. Corporate bond haircuts have gone to 10 percent from 5 percent, bankers said.
At least one bank has raised Treasury haircuts, which range from 0.25 percent to 3 percent, depending on the length of the loan and the creditworthiness of the borrower, said bankers, who declined to be identified. They said they wouldn't be surprised if the practice becomes more widespread, not because they expect the U.S. government to default, but rather because there have been bigger price swings in the Treasury market, which affects value.
Some banks may have been late to raise haircuts for their biggest hedge funds because they are lucrative clients, said Jochen Felsenheimer, head of credit strategy at Milan-based UniCredit SpA, Italy's biggest bank.
"Until now, hedge funds have been the big winners of the crisis and this could be as well due to banks not having yet drawn down their margin,'' Felsenheimer said.
Survival of Fittest
Carlyle said in a March 6 statement that margin prices requested for securities weren't "representative of the underlying recoverable value'' of its securities. Lenders started to liquidate its portfolio of $22 billion of AAA rated mortgage debt issued by Fannie Mae and Freddie Mac.
"It's not a question of prime brokers deciding which firms live and which don't,'' said Odi Lahav, head of the European Alternate Investment Group at Moody's Investors Service in London. "They're trying to manage their own risk. There's a Darwinian aspect to survivorship in this industry.''
Some managers set themselves up for a stumble by taking on too much leverage and not anticipating that terms could change, said Christopher Cruden, CEO of Lugano, Switzerland-based Insch Capital Management, which oversees $150 million for clients.
"If you're going to dance with the devil, there comes a time when your toes are going to be stepped on,'' Cruden said. "Prime brokers are there to do business, not be your friend.''
Banks are demanding more capital from hedge funds to support outstanding loans resulting in the dissolution of some funds forced to liquidate assets, Bloomberg News reported Monday.
"If you have leverage, you're stuffed,'' Alex Allen, chief investment officer of London-based Eddington Capital Management Ltd., which has $195 million invested in hedge funds for clients, told Bloomberg News. Allen said the crisis is like a bank panic turned upside down with bankers, not depositors, concerned they won't get their money back. He added there are likely to be more collateral /margin-related liquidations of hedge funds in the weeks ahead.
The $2 trillion hedge fund industry is in the throes of its worst capital crunch since the Federal Reserve successfully encouraged the securities industry to provide $3.6 billion to bail-out Long Term Capital Management L.P. in 1998. Amplified by leverage and aided by innovative investment formulas, many hedge funds generated outstanding returns for much of this decade, often aided by high-performing asset-backed securities. However, as the housing market slowed and mortgage-backed securities began to fail, hedge funds started to experience the down side of their deployed leverage: banks and other counterparties who lent money for these investments had the right to and initiated requests that hedge funds put up more capital. Hedge funds that could not meet the capital requirement have been liquidated.
For example, on February 22 Tequesta Capital Advisors received a call from bankers for more capital. When Tequesta could not meet the call for more money, lenders liquidated the $150 million fund, Bloomberg News reported. At least six other funds have been forced to liquidate holdings.
Further, the hedge fund sector, while in many cases deploying capital via more-sophisticated - - and specialized - - investment techniques, nevertheless represents another data point regarding a problematic investment pattern that's occurred across the financial spectrum - - by consumers, corporations, and hedge funds alike - - namely, "recklessly deployed debt" economist Glen Langan told BloggingStocks Monday. Langan said that after the September 11, 2001 terrorist attacks monetary policy was eased to stimulate U.S. economic growth - - it brought real interest rates for banks to near zero - - and created "large lending margins and enormous incentives for banks to lend."
And lend, the banks did. To homebuyers, corporations, private equity buy-out firms, and to hedge funds, among others. In the houing sector, dozens of new mortgage products were added - - some of which contained very high-risk amortization plans. The hedge fund sector was similar, Langan said. The market is currently dealing with the effects of the subprime mortgage sector's defaults, he added, and is beginning to encounter - - as was the case with housing - - "problematic loans to the hedge fund sector." The main difference, Langan carefully noted, being that banks can often require more capital from a hedge fund if asset values depreciate, whereas that is not the case with typical home mortgages.
The above would seem to place most of the responsibility for the liquidations on lenders. Not so, in Langan's interpretation, who likened the loans as "giving a pair of ice skates to a new skater." You can train the skater, but ultimately it's the skater's responsibility to decide when to skate, watch for ice ruts, and not skate too fast for conditions. "Many hedge funds have been skating too fast for a long time, and now we're seeing the result," he said.
The Fed is taking up mortgage debt, bad paper. But the Fed (and foreign Central banks) cannot possibly absorb all the bad or deteriorating debts in the world onto their own balance sheets. These debts grew at very high rates for a long time, and their amount is huge. To take them up by creating money will unleash an enormous inflation.
The Central banks can at best hold them at preferentially low interest rates in order to bail out banks. These banks then will face a prolonged credit crunch and be reluctant to make other loans. The financial system will seize up over a long period. Better to have a brief and purging panic now, as in the 1800s.
There is news today that rates on credit default swaps are jumping in Asia. That signals increased risk premiums on corporate and other bonds overseas. Central banks cannot absorb all the many credits that are faltering worldwide.
Instead of trying to keep rates down and asset prices up, the Central banks need to step aside so that asset prices can decline far enough that their returns become attractive to those who can supply real capital. Let the Panic of 2008 proceed to its end. Then a recovery can begin that is built on real capital, not market manipulation.
The false theory that the Fed can stave off recessions and control the economy (wasn't fine-tune the term?) is once again being put to the test. Greenspan thought it could, and seemed amazed at how easy it was. But one swallow does not make a summer.
The corporate controlled media is finally starting to talk about the economic problems that the alternative media and assorted precious metals advocates have been talking about for years now. We are facing a potential inflationary depression. Independent estimates of the M3 money supply show that we are seeing an annual increase in the M3 money supply by around 16 to 17 percent. The Federal Reserve chose to stop producing this report right around the time when these figures began going parabolic on their chart showing a massive increase in the money supply. An increase in the money supply results in a devalued currency and that's one of the primary reasons why we are seeing the price of gold flirt with the $1,000 an ounce mark and silver explode past the $20 an ounce mark. The U.S. Dollar Index is now treading water around the 72 to 73 mark and it is becoming increasingly clear that the role of the world's reserve currency is shifting from the U.S. Dollar to the Euro. Some ask how low the U.S. Dollar could go and that answer is simple. The U.S. Dollar could go to zero because it is a fiat currency with no real tangible backing. Every fiat currency in the history of man has been replaced or collapsed and there is nothing fundamentally different between the U.S. Dollar and these other fiat monetary systems of the past.
The people who are in control of the private central banks that fix the value of the U.S. Dollar through their policies are monopoly men. The Federal Reserve consolidated much wealth during the Great Depression by intentionally making money scarce following the excesses of the roaring 1920s. Prior to the Great Depression there were many local community banks. Following the Great Depression the vast majority of banks were under the Federal Reserve's umbrella. The Federal Reserve was assisted by FDR who had the nerve to blame gold hoarders for the economic problems even though the gold hoarders were only attempting to protect their hard earned wealth. As FDR used the gold hoarders as a scapegoat for the economic problems that were created by the Federal Reserve's policies, he issued Executive Order 6102 which made any significant amount of gold ownership illegal. The government confiscated a large portion of the American people's gold and in return issued them paper notes. Following the confiscation, the price of gold was revalued from $20 an ounce to $35 an ounce. The confiscated gold was melted down and hauled off to Fort Knox, KY. Bluntly, what took place during the Great Depression was a giant scam by FDR and the assorted controllers of the Federal Reserve to consolidate more wealth and power under this criminal banking system.
History is repeating itself. Instead of destroying the economy and consolidating wealth through monetary deflation, it looks as if the bankers have decided that they will use monetary inflation as their weapon of choice. Alan Greenspan encouraged member banks to loan out large quantities of money and encouraged individuals to get these loans by setting interest rates at absurdly low levels in the early part of this decade. By making money cheaper, more people went out and got loans and the bankers accommodated the increased demand for loans by providing all sorts of creative financing packages. These packages included adjustable rate mortgages, interest only loans and other risky financial instruments. The bankers knew that this would eventually create a major financial calamity later when interest rates moved higher. The Federal Reserve's policies is what primarily created the crash in the U.S. housing market and it is disgusting that people are looking to this same institution for a solution to the mess they created in the first place.
There is no doubt that the Federal Reserve is the culprit behind the current housing market collapse. Instead of questioning Alan Greenspan for his mishandling of interest rates in the early part of the decade, Congress decided to hold hearings with mortgage company CEOs. These hearings were nothing more than a dog and pony show designed to place the blame of the housing crisis on these mortgage companies. Although these CEOs do have some responsibility in this mess, the primary responsibility rests with Greenspan because his policies encouraged this market behavior. Greenspan should have been at these hearings especially after he encouraged Arab nations to drop their pegs to the U.S. Dollar. Greenspan actually had the nerve to tell these Arab states that they are having inflation because they are pegged to the U.S. Dollar. This is a criminal act on the part of Greenspan and has undoubtedly played a role in the sharp decline of the U.S. Dollar.
It is entirely insane that we continue to put up with a private central bank that manipulates the value of our money. It is absurd to believe that we have a free market if there is a monolithic private bank fixing the price of our money. The free market should dictate what money is and what money isn't and if the government issues legal tender it should be gold or silver as the Constitution demands.
As a result of the housing market crash created by the Federal Reserve, smaller banks are failing and being bought out by larger financial institutions. Ben Bernanke has even stated that there will be bank failures as this crisis continues to unfold. This engineered crisis will be used to consolidate more wealth and power amongst fewer corporations. The crisis is also destroying the American middle class financially as an increase in the supply of homes coming on to the market has resulted in a deflationary environment. This has made it more difficult for home owners to use their homes as piggy banks.
The collapse of the U.S. Dollar in the past couple of weeks has been spectacular. In fact, each day this week we saw the U.S. Dollar reach new consecutive new lows. At this point, global confidence in the U.S. Dollar is eroding and it cannot be considered a tangible investment vehicle. Many highly respected economists are predicting further problems for the U.S. Dollar with some predicting that an inflationary depression is right around the corner.
Weakness in the U.S. Dollar has further accelerated due to poor economic data. Generally statistics from the Federal Reserve and the U.S. government understate economic problems so some of this new data that is coming out is fairly disturbing. According to data released by these two institutions, home owner equity is at its lowest levels since 1945, consumer debt has grown to $2.52 trillion and employers slashed more jobs in February than in any other since 2003. These are not good signs at all and the figures are likely understating how bad it really is.
The Federal Reserve and the U.S. government will never be honest about what's really happening in an economic downturn because these are the two institutions that people look to first when there are economic problems. The U.S. economy has conservatively been in a recession since 2006 and it has taken George W. Bush and Ben Bernanke until now to finally admit that we are having difficulties. These guys are a little late to the party. Of course, if these two men actually told the truth about the monetary system, the U.S. Dollar would likely collapse and millions of folks would descend on Washington DC demanding their heads on a platter. Either way, you aren't going to get the truth from the Federal Reserve or the U.S. government on the economy. It isn't in their interest to provide the truth.
In terms of gold and silver, we are likely going to see an increasing amount of price volatility with these two metals on a day to day basis. Short term, central banks are likely going to dump more gold into the marketplace in order to prevent gold from hitting the $1,000 an ounce mark. This is exactly what happened on Friday when a slew of bad economic data came out that would normally be bullish for gold. Instead, gold dropped sharply. The $1,000 an ounce mark represents a key psychological barrier that will likely be broken in the very near future. The central banks want to keep it under this mark as long as they can, because once it goes over this mark it is likely to move much higher. Long term, these two metals will see substantial gains in U.S. Dollar denominated terms. It is not out of the question to see a $5,000 an ounce gold price or a $100 an ounce silver price in the next several years.
The Federal Reserve is stuck between a rock and a hard place. If they raise interest rates to the point where holding U.S. Dollars can outpace inflation they would need to raise them to around 20%. This would hurt not only the American people but the elite financial interests as well. As a result, the Federal Reserve is attempting to manage a slow inflationary decline of the U.S. Dollar which will allow the financial elite to more easily reposition themselves. Inflation hurts the poor and the middle class far more than the financial elite where as a deflation like what we saw during the Great Depression would hurt everybody across the board.
As this financial calamity continues, the corporate controlled media will likely say we are in a recession even though it will resemble more of a depression. Gold and silver remain good hedges against inflation and their price will rise in U.S. Dollar denominated terms. There continues to be more upside to silver but there will also be more short term volatility in silver. There is no doubt that an inflationary depression is a very likely scenario and there is always the chance that the U.S. Dollar could go to zero. This is why having physical gold and silver is always a smart move.
Welcome to the next installment of the credit crunch. Remember how the investment banks recently wrote off $140bn in loans linked to the sub- prime mortgage debacle? Well you ain't seen nothing yet, if last week's margin calls on hedge funds are anything to go by.
For the uninitiated, margin calls are when banks demand extra collateral as security in a falling market. Hedge funds have borrowed billions to fund investments, which have plummeted in value in the past few weeks. Now banks want the hedgies to stump up hard cash.
Last week, margin calls triggered the implosion of London hedge fund Peloton Partners, while in the US, a fund owned by Carlyle group had its shares suspended after it failed to furnish lenders with sufficient collateral.
Again, banks will be forced to take a bath as they discover that some hedge funds are what Warren Buffett said they were two years ago: financial weapons of mass destruction.