The Market Ticker

An ugly thought - what if we're not all Madoff, we're all Lehman?  Balance sheet games are the worst, because they encompass all manner of embezzlement.  Join us for a hard-hitting hour focused on the Jenner and Block report and what it means for your money - and the markets.

3:30 today Central Time at http://blogtalkradio.com/marketticker

Now the interesting part of the game begins....

This year, for the first time since the 1980s, when Congress last overhauled Social Security, the retirement program is projected to pay out more in benefits than it collects in taxes -- nearly $29 billion more.

In a world where we talk about trillions, this doesn't sound like much.  But it's not the amount that's the problem - it's the direction.

For decades government has cooked its books by stealing the Social Security taxes you pay.  This was the infamous "lock box" debate had during Gore's campaign.  Too bad Mr. "the world's getting hotter so I have to live in my 20,000 sqft mansion with the AC blasting in all 79 rooms" Gore decided to make a partisan political issue out of something that his boss (that would be Herr Clinton) had practiced himself to make the (false) claim that he had run a surplus!

There was no surplus in the 1990s folks.  Clinton, like the Presidents before and after him (from both sides of the aisle) simply stole the FICA tax receipts, replacing them with non-marketable bonds. 

If you're wondering why we have hinky accounting in our banks, a good part of the reason is that our government cooks the hell out of the books themselves. 

There's little reason for private business to behave ethically when our government won't, and there's little risk of prosecution when the scamming starts at the very top.

In order for the government to redeem these bonds it will have to issue more marketable debt, dollar-for-dollar.  So if you look at the "Debt To The Penny" screen, what will begin to happen is that the "Intragovernmental holdings" (and boy are they mental) will shrink a bit, while the "Debt Held By the Public" line will of course grow.

This is all fine and well provided that (1) the first doesn't run out and (2) the government doesn't have trouble selling the debt in the second.

The NY Times perpetuates the "big lie" about FICA, specifically:

Social Security is financed by payroll taxes -- employers and employees must each pay a 6.2 percent tax on workers' earnings up to $106,800. Retirees can start getting early, reduced benefits at age 62. They get full benefits if they wait until they turn 66. Those born after 1960 will have to wait until they turn 67.

Bull.  Employees pay 12.4%.  Each and every one.  If you're self-employed, you pay it all right up front.  But if you work for someone else, they reduce your salary (or hourly wage) offer by 6.2%.  You pay it, not the employer.  No business ever pays a penny in tax - it is always shifted to the person that it allegedly "benefits" or "costs", and in this case that's you.

The problem with Social Security (and Medicare) is that the boomers number 78 million and comprise the largest block of our demographic.  As they shift from working to retired over time there will be paradigm shifts in both entitlement program funding and private investment.  Boomers, even with the "great recession" dives in their portfolios (before you cheer about the "recovery" in the market, realize that it's still 30% off the recent high in 2007, and the Nasdaq is more than 50% off its all-time high in 2000!) still have considerable wealth in their portfolios.  Those who didn't play ATM machine with their house have wealth there.  All of this will get tapped and dissipated as these people age out of the workforce.  It is inevitable.

During the "salad years" of the boomers, roughly 50 years of age to 60 or thereabouts, they have tremendously added to market values of, well, virtually everything.  These are widely regarded as the peak earnings years for most people.  Starting in 1946 the peak began in 1996 and with the end in 1960 the "tail" of the boomers hit the start of their peak years this year - in 2010.  But the "Great Recession" has truncated many of these people's peak years, as the most expensive employees are often the first to be let go and the last to be rehired during bad times - so it remains an open question whether those born in the early 1960s (of which I am one) will indeed hit our "peak years" as expected, or whether we just had one of our earning hands chopped off.  Time will tell.

In any event in another 10 years that peak will have passed, and the boomer generation will have entered the "Draw It Down" period in their lives.  This is an inexorable process, and one that cannot be prevented.  Nearly 80 million people shifting from squirrels socking away nuts to eating those nuts is going to change many things, and market valuations for various assets will be one of the larger changes that most people are entirely unprepared for.

More than a decade ago I wrote a paper called "Investable Capital" which, unfortunately, I no longer have available for republication.  What's worse is that some of the data set has been lost - at least I think it has.  I expected that the negative FICA draw would begin in 2015, and that this would make a major shift in all market valuations.  We're five yeas ahead of that time, largely due to the bubble-blowing.  The original paper saw the Internet Bubble (because it was nascent at the time) but did not predict what Bush and Greedspan would do to try to arrest the effect of it popping.

We talk about ratings agencies downgrading the US Debt - they should have done it a decade ago.  Why?  Because we continually call the debt-to-GDP ratio as $12.57 trillion to ~$14 trillion "right", or 89.8%, while ignoring the claimed amounts of the Social Security and Medicare promises.  But unless you're going to tell Granny that she's not going to get her check (or her health care), along with the 80 million boomers (all of who will instantly vote out anyone who tries to tamper with those programs, whether the money exists or not!) those "promises" are real.

So what's the real debt-to-GDP ratio of the federal government?  About 500%, if one assumes the forward liabilities are on the low end of CBO and private estimates, or $60 trillion.  This makes the total "debt" $72 trillion dollars and the ratio 514%!

No nation has ever managed to pull that off past the point of recognition of these costs.  The reason is simple - interest costs.  Compute the damage that, say, 5% interest imposes on $72 trillion and you blanch immediately (that's $3.6 trillion by the way, or more than our entire federal budget!)  We get away with not paying that by sleight-of-hand, effectively playing "Option ARM" and adding to the principal.  But all Option ARMs have a recast point.  We're just not sure where this one is.

Once the "recognition point" happens the decline in all asset classes becomes both relentless and instantaneous.  The power of self-delusion is powerful, but it cannot overcome the math - not in the long term.

The Government's view?

Good luck to the politician who reneges on that debt, said Barbara Kennelly, a former Democratic congresswoman from Connecticut who is now president of the National Committee to Preserve Social Security and Medicare.

''Those bonds are protected by the full faith and credit of the United States of America,'' Kennelly said. ''They're as solid as what we owe China and Japan.''

China and Japan aren't going to get paid either.

This is unbelievable:

The war over mark-to-market accounting is about to get hot, again. In coming weeks, the Financial Accounting Standards Board is likely to propose that banks expand their use of market values for financial assets such as loans, according to people familiar with the matter. That departs from current practices in which banks hold loans at their original cost and create a reserve based on their own view of potential losses. 

Let's cut the pump-monkey crap and recall for everyone exactly how that "current practice" came to be, shall we?

Back last spring as I have written about more than once, the dishonorable Mr. Kanjorsky, Barney Frank's stooge, held a hearing in which he basically put a gun to FASB's head and informed them that they would allow banks to mark their loans to model - or Congress would introduce a law overriding FASB.

FASB objected, but it didn't matter.  In the end they relented.

This was the catalyst for the huge rally in the stock market.  It was a declaration of legalized accounting fraud from the people who oversee financial accounting matters.

Now, a year later, after Barney Frank comes to realize that it was precisely this "gun up your butt" approach to financial regulation that has made all efforts to modify home loans (including cramdowns) worthless, we see some effort to change things.

Why does it make modifications worthless?  Simple - a second loan behind an underwater first (e.g. a HELOC) is worth zero if the first is underwater and forecloses.  That's because it is a subordinate lien and is only entitled to be paid (at all) if the first is fully recovered.  In a case where the first is underwater, it won't be recovered; ergo, the second is worth exactly nothing.

But "mark to fantasy", otherwise known (by me anyway) as legalized accounting fraud, has these banks carrying the loan on their books at or near 100 cents on the dollar.  That's because "the loss hasn't happened yet", so since they're entitled to "model" a potential outcome 30 years in the future, they can say "well property prices won't stay down for that long, so we don't have to take the loss!"

It's bogus of course as the odds of someone paying on an underwater loan for a decade are close to zero.  Anything that interrupts the borrower's cash flow - a loss of job, a medical problem, or simply being tired of taking it in the cornhole month after month while they could buy a house across town for half the price - results in a foreclosure, because the property isn't worth enough to sell and extinguish the mortgage.

Under mark-to-market rules banks had to price these loans at the current market's appraisal of their worth.  Thus, as home prices declined and people were more and more underwater the market price would fall toward the zero that would be recovered if the foreclosure happened.  This would in turn make the foreclosure no more damaging to the bank balance sheet than not foreclosing, and thus, the market would tend to clear.

But no!  We can't have that!  So instead we have this fantasy.  The consequence is banks letting people live in a house that they haven't made a payment on in a year - and sometimes two.  Nobody cares if the loan is performing or not, because it was probably sold to some poor bastard and the servicer is advancing interest payments anyway!  Moody's, S&P and Fitch keep downgrading these bonds in a furious fusillade, but nobody cares at the bank, because the bank doesn't hold that paper - some fool pension fund does.

(What's left unsaid there, of course, is that said pension fund might be getting their interest payments now, but they sure as hell will not get the principal at maturity - because it doesn't exist.  What that will do to the pension funds is obvious, but heh, so long as the banks get to lie, it's all ok that pensioners get screwed, right?)

What the bank holds is the HELOC and they are often the servicer as well.  They have a terrible conflict of interest in this regard because if they foreclose then the HELOC is worth nothing, and they take the full dollar hit right here and now.  If that was to be done across the board with these delinquent loans my analysis shows that many banks Tier 1 common equity levels would be forced below regulatory minimums and in some cases would be destroyed altogether.  The latter would force immediate FDIC seizure.   It is thus cheaper to advance the interest payment to the bondholder and pretend, even though the payments aren't coming in, praying that somehow the borrower who hasn't made a payment in a year will suddenly come up with $25,000 to "come current."  (Yeah, right.)

Let me be absolutely crystal-clear - this is an outright scam promulgated by the same jackassery in The Government (SEC, Treasury and Congress) and The Fed that led to the destruction of Lehman.  Instead of forcing these institutions to take their marks and admit to their losses they were allowed to put forward abjectly false and misleading financial statements.  In the case of Lehman it appears the law was broken.  But in the case of the big banks today Congress got the rules changed by shoving a gun up FASB's nose so as to make the INTENTIONAL false reporting of asset values a lawful act.

This should have absolutely never, ever happened and those dishonorable knaves in Congress responsible should resign NOW.

These banks should have been taken into receivership by the FDIC and closed.  We would still have the $3 trillion we have blown trying to prop up the economy - well more than enough to pay off the depositors when the assets were liquidated.  Deposits would have been dispersed to strong community banks, lending them further strength and ability to lend to qualified borrowers.  The scam-meisters on Wall Street would have lost their jobs and been closed down, we would have taken a horrific hit in the market but it would now be over and the economy would truly be on the mend.

Instead we lied and pretended, creating a false dawn and a market rally based on nothing more than a scam.  This cannot hold indefinitely, and yet the conditions for a true recovery in those asset prices will not happen for over a decade - if ever.  If we do not stop this insanity cash flow will force the issue eventually and by then The Government will have blown its wad furiously trying to replace 10% of GDP in the private market, as it has for the last two years, and thus be unable to fund the FDIC deficiency.

The simple fact of the matter is that as I have written about for over three years I absolutely believe that if valued on market prices these banks were insolvent then and are today.  Hiding the fact of that insolvency with bogus accounting fictions does nothing to solve the problems that face us and in chokes off lending, prevents markets (especially housing and commercial real estate) from clearing and will absolutely prevent any durable economic recovery from occurring.

Oh yes, it has pumped the stock market to the moon, but the test is not whether the stock market goes to the moon - it is whether the market price reasonably reflects underlying fundamental value, and there the evidence is clear - it does not.

The danger here from continued obfuscation could not be more grave.  We may have already passed the point where the government is capable of funding the deficiency to come in the FDIC accounts, but if we do not stop this crap, it is a certainty that such will occur, exactly as did in Iceland.

What a load of bull:

March 15 (Bloomberg) -- The U.S. and the U.K. have moved “substantially” closer to losing their AAA credit ratings as the cost of servicing their debt rose, according to Moody’s Investors Service.

The governments of the two economies must balance bringing down their debt burdens without damaging growth by removing fiscal stimulus too quickly, Pierre Cailleteau, managing director of sovereign risk at Moody’s in London, said in a telephone interview.

I can tell you this - while I cannot predict what the UK will do, the US is not going to do jack about its deficits.

The CBO is always wrong - they estimate too positively about fiscal deficits.  They always have and always will, and they're projecting another $9 trillion by 2019 added to the debt.

The fact is this: The United States is borrowing and spending about 10% of GDP right now more than it was during Bush's administration.  This is clearly unsustainable and Moody's is well-aware of both that and the fact that it is not going to do jack.

If Moody's was an honest ratings agency it would take the government at its word.  The government has said (from their own budget!) that they will borrow and spend like mad.  That should be all that is required to take a ratings action - a statement of intent to destroy the sovereign balance sheet.

“The emphasis of the market, and our own, will move increasingly away from public finance developments in 2010, towards medium-term consolidation plans and the credibility thereof,” Moody’s said.

Achieving the fiscal consolidation necessary to avert a downgrade will test “social cohesion” and may involve rewriting the “social contract” between governments and their people, Cailleteau said. “People have to decide what level of pain they are willing to accept to have a healthy economy.”

Answer from our government: NONE.

This is nothing more than a jawbone as Moody's lacks the balls to do the right thing - which is to take action based on the printed and published budget of the Obama Administration - a budget that the CBO projects will more than double the public float over the next nine years, while at the same time Social Security will be trying to redeem their "special T-Bills" as they will be in deficit as well.

This line of BS reminds me of this (thanks to Widgeon on the forum for finding and sticking it in my face!)

The Jenner and Block report on Lehman just keeps on giving.

Today I am going to focus on FRBNY's culpability in the apparent Lehman fraud - that is, the role that FRBNY (and thus Tim Geithner) played in keeping an insolvent institution afloat through the use of fraudulent artifices.

We must look first to what the PDCF, or "primary dealer credit facility" was created to be.  The report does this for us:

Under the PDCF, the FRBNY would make collateralized loans to broker‐dealers, such as LBI, and in effect, act as a repo counterparty. Unlike a typical counterparty, though, with the creation of the PDCF, the FRBNY was generally understood by market participants to be the “lender of last resort to the broker‐dealers.”5332 Reflecting the fact that broker‐dealer liquidity had become increasingly dependent on overnight repos to obtain short‐term secured financing,5333 the PDCF was structured as an overnight facility.

Pursuant to the Federal Reserve Act’s requirement that a Federal Reserve Bank lend only on a secured basis, and according to the convention in repo lending, the FRBNY advanced funds against a schedule of collateral. Collateral accepted by the PDCF initially consisted of: Treasuries, government agency securities, mortgage‐backed securities issued or guaranteed by government agencies, and investment grade corporate, municipal, mortgage‐ and asset‐backed securities priced by clearing banks.5334

The FRBNY set the lending rate for PDCF advances equal to the rate charged by the Federal Reserve’s discount window, available to depository institutions.5335 In fact, the PDCF was frequently analogized to the traditional discount window, or viewed as expanding the discount window to securities broker-dealers.

In short, the PDCF was essentially an extension of the overnight repo market set up to deal with a very-specific circumstance - Bear Stearn's near collapse, despite having valid and good, market-recognized marginable collateral that could be posted for overnight repos.

The problem is, as I noted at the time, that broker/dealers used the PDCF not as it was intended and announced but rather as a scheme to post illiquid or even trash collateral that nobody else would take in exchange for liquidity - that is, cash.

Indeed, at the time I said:

These banks could take dogsqueeze, put it in a box and slap a $1 million price tag on it, and given the utter lack of prosecutorial supervision of the law - existing law - they'd get away with it literally forever.

They could then make loans against this "value" and yet what they actually hold is worth zero.

When they ran low on cash they'd then tender that dogcrap to The Fed for a TAF or PDCF loan, and that's ok too - our Congress simply doesn't give a damn as the hundred million dollars in bribes, er, "campaign contributions", insure that blatant violations of The Federal Reserve Act are not only tolerated but cheered whenever Wall Street needs more "slop" for its pigtrough - at your expense.

This was, at the time, an educated guess.  Now we know it was much more - it was fact:

It gets better.  Not only was Lehman aware that it was gaming the system it gamed public disclosure and FRBNY was aware what was going on:

So we have the company intentionally avoiding public disclosure of "a material event."  Securities laws are supposed to prevent this sort of thing - if they're enforced.

Did FRBNY know of this?  It sure looks that way:

But wait a second - that's not what the PDCF was intended to be.  So here's a clear statement that FRBNY knew that Lehman (and perhaps others) were in fact gaming the system and yet they did nothing about it.

Who ran FRBNY at the time?  None other than Tim Geithner.

It gets better.

Remember the "tests" of the PDCF from that time?  Those were lies too:

Lehman drew on the PDCF facility sparingly prior to its bankruptcy. Lehman accessed the PDCF seven times in the liquidity stress period that followed the Fed brokered sale of Bear Stearns to JPMorgan.5368 Both internally, and to third parties, Lehman characterized these draws as “tests,”5369 although witnesses from the FRBNY have stated that these were not strictly “tests,” but instances in which Lehman drew upon the facility for liquidity purposes.

And again, FRBNY and Tim Geithner allowed to be promulgated to the market false information about the character of the use of this facility.

Nor does it end there.  FRBNY and Tim Geithner appear to have countenanced and sat silent while Lehman deliberately and intentionally was counting assets that were encumbered in its liquidity numbers!  Specifically:

FRBNY, however, is both a regulator and a lender.  In addition the distinction may be immaterial; if you are a party to a violation of the law and do nothing about it, you can be held accountable as an accessory before or after the fact.  In this case these false statements by Lehman appear to be nothing more than a garden-variety fraud, and it certainly appears that Tim Geithner and FRBNY were both fully-aware of what was going on and intentionally said nothing.

The report makes clear that the market was misled, and relied on the misleading statements.  Specifically:

On the basis of Lehman’s reported liquidity pool, specifically its reported size and composition of easy‐to‐monetize assets, market participants formed positive opinions of Lehman’s liquidity profile. Certain influential participants, and rating agencies in particular, cited Lehman’s liquidity pool as the basis for concluding that Lehman’s liquidity position was sound.

...

“The basis for Moody’s assessment of Lehman’s liquidity,” the report continues, “is the strength of their overall funding framework, which includes an ample liquidity cushion of high-quality unencumbered assets."

While private parties may have no obligation to "rat out" misperceptions of the market, it is my position that a government agency or actor, irrespective of what other hats they wear, DOES have such an affirmative obligation.

The SEC has concluded:

Post earnings announcement on September 9[, 2008], Holdings’ liquidity decreased . . . from $41 billion to $25 billion – $16 billion of which was required by clearing banks at the start of the day and approximately $7 billion of which was in liquid securities that became near impossible to monetize immediately in this extremely stressed market environment -primarily because of a loss of repo capacity.

As a result, . . . ”free cash” available intra day was less than $2 billion.

With LBIE facing a projected cash shortage of $4.5 billion on September 15, Lehman had no choice but to place LBIE into administration because of potential director liability. This resulted in a cross‐default of and triggered the filing [of LBHI] on September 15.

In other words, essentially the entire liquidity pool was tied up in security agreements with various firms, and this was the proximate cause of the bankruptcy filing.

The paper makes a clear case that FRBNY was aware of both the encumbrance and Lehman's lack of disclosure of this fact to the investment community and did nothing about it.

Here is the bottom line folks: Tim Geithner, then-head of FRBNY, is responsible as the chief executive for everything that went on there.  Whether he had personal knowledge or not is immaterial, although it is extremely difficult to believe that he would not know about the most-important issue facing the markets in the summer and early fall of 2008.

The record is clear, however, that while the NY Fed knew that (1) Lehman was gaming the PDCF with assets that other banks refused to repo against (in fact Citi called one of them "garbage") and (2) it was encumbering its so-called "liquidity pool" with security agreements and as a consequence there was in fact no liquidity available FRBNY did nothing to alert the SEC or investors of this fact.

This paper appears to set forth several prima-facie cases of violations of Securities Laws, both on a civil and criminal level.

The further question, however, is whether culpability extends to both FRBNY and the banks with which Lehman was doing business with.  The paper also makes a prima-facie case that both FRBNY and these other banks were fully-aware of what Lehman was up to and intentionally looked the other way, deeming it "not their problem."

This, I believe, is false. 

I cannot have constructive or actual knowledge that you have the intention of robbing a bank (breaking the law) and yet drive you to the bank.  If I continue with assisting you in the furtherance of your scheme once I become aware of it I am subject to being charged as an accessory or even as a primary criminal actor in the case.

How is this different?

Further, how is it that we can have a Treasury Secretary who, it appears, had either full or constructive knowledge of the gaming that Lehman was undertaking and yet did nothing about it, leading directly and proximately to the market meltdown in 2008.

Literal trillions of dollars were lost due to this malfeasance and misfeasance, along with millions of jobs.  Yet one of the "watchdog" agencies involved in banking clearing and regulation knew about it, did nothing, and the head of that organization now runs Treasury.

It has been my contention that Geithner was largely responsible for willful blindness in the lead-up to this mess since it began.  We now have a "smoking gun" making a clear and nearly-impossible to refute case.

I call upon prosecutors both at a State and Federal level to look into this for potential prosecution under both civil and criminal Racketeering statutes, including their counterparty banks and FRBNY.

Tim Geithner must be fired by The President.  If he refuses, then following the election in November, when I fully expect that Republicans will re-take both the House and Senate, impeachment proceedings must be brought against President Obama for his willful and intentional refusal to remove the person who this paper makes clear could have put a stop to the collapse for nearly six months and yet failed to do so.