Hey, Wow, the Stock Market is UP 250 Points....

[competentone]

....but I guess that's not surprising considering that the Federal Reserve pumped $670 billion of "liquidity" into the market yesterday afternoon!

The new job of the government is to "prop up everything artificially."

I guess the combined actions of millions of individual actors creating "the markets" are not as smart as people like Ben Bernanke and Henry Paulson -- they will force the markets to work the way they think they should.

In the end, it won't work -- all they are doing, in propping up the markets with more Fed "liquidity," is setting the markets up for an even bigger crash.

[Porsche-O-Phile]

Yep.

Take what you can while you still can.

[beepbeep]

European markets reacted positively on news that bailout plan didn't go trough. They might reacted this way as they saw rejection as a sign of common sense on behalf of US government. Or they just don't care?

[jyl]

Markets continue to believe plan will pass this week. Fed and other central bank liquidity support for global banking also helps.

[Jim Richards]

I'm a bit confused...what's the difference between the Federal Reserve pumping $670 billion of "liquidity" into the market, and the $700 billion bailout plan (besides the obvious $30 billion)??? Where does the money come from in each case? What is the effect on the dollar, our debt, and on inflation?

[competentone]

Originally Posted by Jim Richards

I'm a bit confused...what's the difference between the Federal Reserve pumping $670 billion of "liquidity" into the market, and the $700 billion bailout plan (besides the obvious $30 billion)??? Where does the money come from in each case? What is the effect on the dollar, our debt, and on inflation?

The $670 billion is technically "loans" -- sort of like if you, on a personal level, had run up a credit card to its limit and the credit card company increased your limit letting you borrow more.

The bailout package would involve the government permanently removing selected debt off the balance sheets of financial institutions -- sort of like if you, on a personal level, had run a credit card to the limit, then the credit card company said, "Don't worry, you don't have to pay that money back anymore."

Both are inflationary actions; both work to destroy the value of the U.S. dollar. Neither eliminates any debt; the bailout moves the debt around; the "liquidity injection" puts the financial institutions deeper into debt, creating a situation -- if the proper accounting is applied to the debt -- where the firms are in a worse financial position.

(In reality, few expect those receiving these "liquidity injections" to actually pay the debt back. The net result being price inflation in the economy -- we all pay for the action when our dollars buy less stuff.)

Edit: The money, in both instances, is created "out of thin air" -- the Fed simply increases their balance sheet. It is "madness" and the reason the economy is in a mess. Things get "crazy" when grown men think that they can create wealth "magically" by "creating more money."

[jyl]

Large banks routinely lend and borrow cash with other banks, for short periods - 1 to 30 days - to meet withdrawals, currency exchanges, and similar operational needs.

This inter-bank lending has completely broken down. Banks are no longer willing to lend even to each other. LIBOR has soared to almost 7% but little or no inter-bank lending is actually taking place at that rate. This is dangerous for the banking system, as banks could be forced to dump other assets, fail to meet obligations, or suffer "runs on the bank". It is not helpful that it’s the end of the fiscal quarter.

Central banks around the world, including Fed, are stepping in to increase short-term lending to banks, to temporarily replace the inter-bank lending market. Also central banks are increasing their credit (swap) lines to each other. The central banks normally do this sort of lending, but they're being forced to do it on a much larger scale now. Basically to prevent, potentially, the next step of the global banking crisis..

These are short-term loans, 1 to 30 days, so must be repaid quickly. Secured by bank assets, but those assets stay on the banks' balance sheet, thus the banks remain exposed if those asset values decline. Which is, in large part, why the banks have ceased ending to each other - they don't know which bank is going to fail next.

Different from treasury rescue plan, which is to buy certain assets from the banks, removing them entirely from the banks' balance sheet. Idea is to help stabilize balance sheets.

Incidentally, LIBOR is the rate that determines the interest rate on many adjustable rate loans, including some ARM mortgages, many business credit lines, etc. So When LIBOR goes up from 3% to 7%, that will increase the cost for many businesses and consumers.

[Dueller]

Originally Posted by competentone

.

The new job of the government is to "prop up everything artificially."

I guess the combined actions of millions of individual actors creating "the markets" are not as smart as people like Ben Bernanke and Henry Paulson -- they will force the markets to work the way they think they should.

In one of Bush's "come to Jesus" three-eleven minute soliloquoys over the past 10 days, he made a very interesting comment...something to the effect "the markets didn't work like they should..."

Pretty strange comment coming from an ardent free marketeer.

[Gogar]

Originally Posted by Jim Richards

I'm a bit confused...what's the difference between the Federal Reserve pumping $670 billion of "liquidity" into the market, and the $700 billion bailout plan (besides the obvious $30 billion)??? Where does the money come from in each case? What is the effect on the dollar, our debt, and on inflation?

It's like - YOU Jim are Wall street, and you have a bunch of crappy loans, disguised as a rusty '75 Targa with 23 bad headstuds.

The $670 Billion is a loan from the government to allow you to hold onto your car and keep it running, until there's a big change in the demand for Mid-Year Targas.

In the $700 billion Plan, the Government BUYS your Mid-Year Targa for whatever YOU think it's worth, even though the actual Market price is about half of what you WISH it was. Then they take your Targa and either part it out, or lease it to some broke teenager who really wants a "Porch" but can't afford one.

[jyl]

Originally Posted by competentone

The bailout package would involve the government permanently removing selected debt off the balance sheets of financial institutions -- sort of like if you, on a personal level, had run a credit card to the limit, then the credit card company said, "Don't worry, you don't have to pay that money back anymore."

That analogy is misleading and inaccurate.

The govt proposes to buy illiquid assets (not debt - these assets are mortgages and mortgage-backed securities) from the banks. The govt is not going to simply hand the banks free money for nothing, or to forgive their debts. (The govt will also take equity warrants in the banks.)

The illiquid assets have value. The exact value won't be known until this all plays out and we see where US house prices go and what percent of Americans have been foreclosed on. The govt will eventually resell those assets, so the net cost of the plan will be $700BN minus whatever the assets are resold for.

[competentone]

Originally Posted by jyl

The illiquid assets have value. The exact value won't be known until this all plays out and we see where US house prices go and what percent of Americans have been foreclosed on. The govt will eventually resell those assets, so the net cost of the plan will be $700BN minus whatever the assets are resold for.

Yea, right. Crap like this has "value":



When it cost more to repair a house than the house can be sold for, or if it costs more to tear down a condemned structure than the resulting vacant lot will be worth, there is no money to be made on the deal!

Don't believe the "fairy tales" about the government "making money" on any bailout!

[RWebb]

you are both right - if the price paid buys assets all of which are worth zip; then the cost is 700B

otherwise 700B - x

unlikely they all are worth nothing - esp. the land value

[RWebb]

if the dow goes below 10,000 then it will start going up again from there

[Jim Richards]

Originally Posted by Gogar

It's like - YOU Jim are Wall street, and you have a bunch of crappy loans, disguised as a rusty '75 Targa with 23 bad headstuds.

The $670 Billion is a loan from the government to allow you to hold onto your car and keep it running, until there's a big change in the demand for Mid-Year Targas.

In the $700 billion Plan, the Government BUYS your Mid-Year Targa for whatever YOU think it's worth, even though the actual Market price is about half of what you WISH it was. Then they take your Targa and either part it out, or lease it to some broke teenager who really wants a "Porch" but can't afford one.

Hmmm, does this mean that I could get enough money for my 73E Coupe to buy my own country?

[Zeke]

Originally Posted by competentone

The $670 billion is technically "loans" -- sort of like if you, on a personal level, had run up a credit card to its limit and the credit card company increased your limit letting you borrow more.

The bailout package would involve the government permanently removing selected debt off the balance sheets of financial institutions -- sort of like if you, on a personal level, had run a credit card to the limit, then the credit card company said, "Don't worry, you don't have to pay that money back anymore."

I'm sure you know what you're talking about, but that's not what they're selling the public. I've heard more than one jerk (Bush hisownself amongst) saying the money would get paid back. Apparently the House and I agree that was never to be.

I believe that none of the pundits know what to do. And, I don't think there is much they can do that is worthwhile in the long run.

[jyl]

Originally Posted by RWebb

you are both right - if the price paid buys assets all of which are worth zip; then the cost is 700B

otherwise 700B - x

unlikely they all are worth nothing - esp. the land value

Here is something that might be interestng - scenarios for these illiquid assets' values.

Here's a very rough model (image pasted in below) for US subprime mortgages, by vintage (year the loan was written). Appx $390BN of subprime mortgages (measured by principal) was written in 2006. There is only appx $6BN that was written in 2001, partly because there was less subprime lending then and partly because of all the subsequent refinancing.

For each vintage, make an assumption for foreclosure rate (percent of homes that will ultimately be foreclosed on) and loss rate (when the foreclosed homes sell at auction, what percent of the loan principal the bank will lose). E.g. if the home sold in 2006 for $350K with no down payment, then the principal is still roughly $350K today, if the house sells at foreclosure auction for $200K net of costs, the bank loses $150K = $350K - $200K and the loss rate is 150/350 = 42%. Given those assumptions, you can estimate the "hold-to-maturity" fair value of all existing US subprime mortgages, using loss = principal x foreclosure rate x loss rate, and fair value = principal - loss.

What are some possible scenarios?

The "GOOD" scenario is roughly what JP Morgan is using to value the mortgages and similar assets it acquired with WaMu. Suggests subprime mortgages may be worth 80 cents on the dollar. I'm calling this a reasonable scenario, but you have to make your own judgment.

The "REALLY BAD" scenario is, what I'm calling the Great Depression scenario, but you can use an even worse scenario if you want. 80% of 2006-vintage subprimes are foreclosed, and the houses sell for 10% of their original price - so that formerly $350K house sells for $35K. Here, suggests subprime mortgages may be worth 40 cents on the dollar.

In the in-between "BAD" scenario, suggests 65-70 cents.

By the way, I focus on the 2006 vintage, which is the "worst" as that was the peak of the housing bubble. Then I assumed earlier vintages get gradually "better" (lower foreclosure and loss rates). But, since the bulk of existing subprime mortgages were written in 2004-2007, shouldn't make that much difference how the earlier vintages perform.

Right now, I've read some senior subprime MBS are quoted around 60 cents on the dollar, although hardly any are actually trading. Possibly banks may have marked those assets to 85-95 cents on the dollar. If a desperate bank had to sell a large quantity of such assets into the frozen markets right now, it would take a huge bath, might only get 20-30 cents on the dollar. Suppose govt buys the asset for, let's say, 90 cents. And suppose the "BAD" scenario turns out to be correct, and the govt eventually recovers 65 cents for the asset for a net cost/loss of 35 cents. Scale that up to $700BN of assets purchased, then you'd get about $195BN of ultimate net cost/loss for the govt.

No-one knows for sure what the outcome will be, or exactly what assets will be purchased, but I find it interesting to think about the range of potential outcomes. Your conclusion will depend on your own assumptions of course. Maybe I am too optimistic, or too pessimistic.



Disclaimer - not investment advice. Simply some "thinking out loud".

[jyl]

Some interesting anecdotes. This is from someone who runs a private bank, a solid one with affluent clients:
- One customer withdrew all his money, in cash. The bank had to hire an armoured car and deliver $1 million in cash to the customer's house.
- Another customer withdrew all his money, in cash, and placed the physical bills in his safety deposit account.
- He has top-quality loan applications covering his desk. They would allow him to double the size of his bank in a year. But he cannot, because he does not have the deposits to lend.
- He's never seen anything like this. Nor have the oldest guys at his bank.

[Jim Richards]

We've witnessed a lot of fear mongering, and more people are buying into this fear. It's the flip-side to "irrational exhuberance."

[nostatic]

extremist behavior exacerbated by digital communication. Part of the unforseen consequences of the analog to digital transition. I gotta finish writing my book...

[competentone]

Originally Posted by jyl

Here is something that might be interestng - scenarios for these illiquid assets' values.

Here's a very rough model (image pasted in below) for US subprime mortgages, by vintage (year the loan was written). Appx $390BN of subprime mortgages (measured by principal) was written in 2006. There is only appx $6BN that was written in 2001, partly because there was less subprime lending then and partly because of all the subsequent refinancing.

For each vintage, make an assumption for foreclosure rate (percent of homes that will ultimately be foreclosed on) and loss rate (when the foreclosed homes sell at auction, what percent of the loan principal the bank will lose). E.g. if the home sold in 2006 for $350K with no down payment, then the principal is still roughly $350K today, if the house sells at foreclosure auction for $200K net of costs, the bank loses $150K = $350K - $200K and the loss rate is 150/350 = 42%. Given those assumptions, you can estimate the "hold-to-maturity" fair value of all existing US subprime mortgages, using loss = principal x foreclosure rate x loss rate, and fair value = principal - loss.

What are some possible scenarios?

The "GOOD" scenario is roughly what JP Morgan is using to value the mortgages and similar assets it acquired with WaMu. Suggests subprime mortgages may be worth 80 cents on the dollar. I'm calling this a reasonable scenario, but you have to make your own judgment.

The "REALLY BAD" scenario is, what I'm calling the Great Depression scenario, but you can use an even worse scenario if you want. 80% of 2006-vintage subprimes are foreclosed, and the houses sell for 10% of their original price - so that formerly $350K house sells for $35K. Here, suggests subprime mortgages may be worth 40 cents on the dollar.

In the in-between "BAD" scenario, suggests 65-70 cents.

By the way, I focus on the 2006 vintage, which is the "worst" as that was the peak of the housing bubble. Then I assumed earlier vintages get gradually "better" (lower foreclosure and loss rates). But, since the bulk of existing subprime mortgages were written in 2004-2007, shouldn't make that much difference how the earlier vintages perform.

Right now, I've read some senior subprime MBS are quoted around 60 cents on the dollar, although hardly any are actually trading. Possibly banks may have marked those assets to 85-95 cents on the dollar. If a desperate bank had to sell a large quantity of such assets into the frozen markets right now, it would take a huge bath, might only get 20-30 cents on the dollar. Suppose govt buys the asset for, let's say, 90 cents. And suppose the "BAD" scenario turns out to be correct, and the govt eventually recovers 65 cents for the asset for a net cost/loss of 35 cents. Scale that up to $700BN of assets purchased, then you'd get about $195BN of ultimate net cost/loss for the govt.

No-one knows for sure what the outcome will be, or exactly what assets will be purchased, but I find it interesting to think about the range of potential outcomes. Your conclusion will depend on your own assumptions of course. Maybe I am too optimistic, or too pessimistic.

And if there is value, then why don't those who have "marketed" the "bundled mortgage backed securities," in the first place, buy them and "re-market" them after they have been re-valued?

The private sector was "smart enough" to create these things, but those who are arguing for the bailout are saying that the private sector isn't "smart enough" to see and profit from the "undervaluation" now. We supposedly need "the government," with its "infinite wisdom" to step into private markets and buy assets that the private sector is somehow "too stupid" to understand what value really exists in them?

Or maybe you are just horribly wrong with the "guestimations" you are making about the valuations of certain mortgage backed instruments?

Again, I present the "plain and simple" explanation of the financial crisis at its core:
http://www.suburbanhousehunters.com/about/mortgage-crisis/

Crap is crap.