Bear Stearns Shares Fall on Liquidity Speculation

March 10 (Bloomberg) -- Bear Stearns Cos. fell 11 percent in New York trading, the most since the 1987 stock market crash, on speculation the company lacks sufficient access to capital.

(...)

``There's an insolvency rumor and concerns on liquidity, that they just have no cash,'' said Michael Mainwald, head of equity trading at Lek Securities Corp. in New York. ``There's been rumors of this for the past week or two.''

(...)

Credit-default swaps protecting against a default by Bear Stearns for the next two years soared to 900 basis points, according to broker Phoenix Partners Group in New York. That's up from 514 basis points last week, CMA Datavision prices show [and from the low double digits a year ago - JaP]

Markets are pricing in a serious probability that some of the largest investment banks in the world will go bankrupt in the near futur.

Hedge Funds Reel From Margin Calls Even on Treasuries

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.

Banks are so scared of lending right now, and so wary of market gyrations, that US Treasuries are no longer considered to be safe enough collateral, and require a risk premium. That inflates lending costs considerably for a whole lot of players, in particular highly leveraged investment funds (ie a whole lot of them) - and that's precisely the point: banks want these funds to stop using so much borrowed money.

Which means, ofcourse, that these funds have to sell whatever financial assets they were playing with using that borrowed money, thus causing the prices for such assets to go down.

Carlyle Capital seeks standstill pact

Carlyle Capital Corporation said on Monday it had requested a standstill agreement with its lenders after some of them liquidated almost a quarter of the Amsterdam-listed fund's $21bn of residential mortgage-backed securities.

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The implosion of CCC, caused by the unexpected drop in the value of securities issued by US government agencies Fannie Mae and Freddie Mac, threatens to leave a stain on the reputation of Carlyle, one of the world's biggest private equity groups.

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Analysts at Citigroup warned that unless Carlyle pumped more money into CCC it "could be forced into significant asset sales into a weak market or could face bankruptcy". Carlyle has already extended a $150m loan to help its stricken fund.

Carlyle, like many other funds, is locked in a showdown with banks who are reducing their financing lines to funds with big investments in mortgage and corporate securities. But the banks' attempt to manage their exposure, which makes sense on an individual basis, risks precipitating a systemic crisis.

By cutting back on their lending, the banks are forcing funds to unload securities. At the same time they are increasing the likelihood of a death spiral in the market as funds such as Carlyle's are selling those debts into a falling market, causing the prices to plunge further, which in turn brings on additional margin calls.

And this is claiming high profile victims already. No need to introduce Carlyle, is there? That CCC fund, floated at $19 per share just last July, is now worth around $6 per share. Of course, one could consider that the Carlyle people sold at the right moment, and have left suckers/investors holding the (deflating) bag. But these investors are probably not too happy, and might reconsider working with Carlyle in the future... if there is a Carlyle.

``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.''

(from the Bloomberg article above)

Yeah, everybody in the financial world is rushing for the exits, crowding the way, and elbowing others out. The exits being, in this case, cash, as opposed to holding securities or loans to financial players deemed unsafe - whose numbers grow by the day...

Repurchase agreements and covert nationalization

The Fed has gotten into an entirely new line of business, and on a massive scale. Prior to the introduction of TAF, direct loans from the Fed to banks, including the discount window lending and repos, amounted to less than $40B, the majority of which were repos collateralized by Treasury securities. By the end of this month, the Federal Reserve will have more than $200B of exposure in its new role as Wall Street's genial pawnbroker. Assuming the liability side of the Fed's balance sheet is held roughly constant, more than a fifth of the Fed's balance sheet will be direct loans to banks, almost certainly against collateral not backed by the full faith and credit of the US government (and beyond that we just don't know).

As the article above, which circulated widely over the week-end, and was quoted by Krugman today, suggests, the Fed is desperately trying to solve the mess by de facto taking over financial "toxic waste."

Some observers worry that the Fed is taking over the banks' financial risk. But what worries me more is that the move seems trivial compared with the size of the problem: $200 billion may sound like a lot of money, but when you compare it with the size of the markets that are melting down -- there are $11 trillion in U.S. mortgages outstanding -- it's a drop in the bucket.

The only way the Fed's action could work is through the slap-in-the-face effect: by creating a pause in the selling frenzy, the Fed could give hysterical markets a chance to regain their sense of perspective. And to be fair, that has worked in the past.

But slap-in-the-face only works if the market's problems are mainly a matter of psychology. And given that the Fed has already slapped the market in the face twice, only to see the financial crisis come roaring back, that's hard to believe.

The third time could be the charm. But I doubt it. Soon, we'll probably have to do something real about reducing the risks investors face.

The markets were unhappy in the 80s with all the regulations imposed in the 30s to smooth out the economic cycle, because thye limited their opportunities to make money during the good times. They got their way, and the good times were indeed jolly good for those that could ride the big bull market of the past 20 years.

But, by dismantling the safeties painstakingly put in place after the last big financial crisis, we've simply re-invented the good ol' boom'n'bust of the 19th century. And with a turbo-charged boom built on the biggest bubble ever, we're going to have to deal with the mother of all busts - the biggest one ever, in all likelihood.

New York, New York...