Finance Matters

Archive for April 11th, 2010

From Bloomberg:

New York Times Co.’s namesake newspaper will open bureaus this year in Phoenix and Kansas City, Missouri, according to an internal memo sent to staff today.

Read more at Bloomberg >

Join the conversation about this story »

See Also:

• New York Times Health Care Blogger Secretly Holds Shares Worth $5 Million Of Health-Related Companies
• Play New York Times Roulette!
• Wall Street Journal Elbows Into New York Times’ Starbucks Turf

ProPublica’s report on the hedge fund Magnetar — which had a hand in stuffing CDOs with crap mortgages and then shorting said CDOs — is attracting a fair amount of predictable outrage. On the surface the details make the fund look scummy.

(For a quick refresher, read Courtney Comstock’s bulleted version here.)

Casually, it sounds like their strategy was: Put together a stacked deck, and then find some sucker to play cards with.

The story is told as though they saw this big crisis coming, and that it was just a matter of finding the most efficient way to take advantage of everyone else’s misery.

But Magnetar (like Paulson, etc.) didn’t see a huge crisis coming. What the story shows is that they thought a very specific, and ultimately narrow, slice of mortgage-related assets would go very bad.

After all, if they’d actually seen this crisis coming, all they’d have to have done was short Citigroup or something like that, a bet that would have required far less work or salesmanship. (This is a point Holman Jenkins made in his Hoover Institute report published last summer.)

Again, the reason they didn’t put on a wholesale short of the financial system is that it didn’t occur to them this would prove very profitable.

Basically, they were looking for a leveraged way to bet against housing, and so they figured that the best way to do that was to bet against the very riskiest slices of this market. Obviously such bets weren’t readily available. Fortunately for funds like Magnetar, there were yield-hungry buyers (thank you demographics and Alan Greenspan) willing to make the opposite bet (plus ratings agencies that weren’t very forward looking).

It’s easy to think in retrospect that a bet against subprime was implicitly a bet on the entire system collapsing, but that’s ex-post facto thinking. Well after folks became aware of the subprime issue, the general thinking was that subprime itself was too small to cause major waves.

Take for example this post from Yves Smith written on July 10, 2007, responding to Chuck Prince’s lack of major concern about subprime. And bear in mind that Yves is now known as someone who was critical of Wall Street before it was cool:

[The] subprime meltdown in and of itself isn’t an event of sufficient magnitude to cause a full blown credit contraction. But there are events on other fronts that are pointing to lessening liquidity: the Japanese finally showing some concern about the carry trade; India, another liquidity provider, going through several rounds of interest rate rises to staunch domestic inflation that has resulted from buying US dollars (buying dollars increases the domestic money supply unless the government “sterilizes” it by issuing domestic bonds to soak up liquidity); the Chinese and Gulf states showing signs of domestic inflation and reluctance to keep buying more dollars.

So even someone like Yves, a leading critic, figured that subprime issue was too small, but that the undoing of Wall Street could come from Japan, India, or possibly the Gulf states.

As we know now, subprime turned out to be the seed of a massive crisis that’s still with us, but that just obvious even as late as the summer of 2007 (and arguably it wasn’t obvious even in the summer of 2008).

Had Magnetar known of the huge crisis coming, it would have just bet against Citi (or certainly Countrywide). Instead, it saw a narrow problem unfolding and sought the proper security for that. And that’s all.

Join the conversation about this story »

See Also:

• Don’t Want To Read That Gigantic Report About The Hedge Fund Magnetar? Here’s The Condensed Version
• Required Reading Right Now: Magnetar, The Hedge Fund That Created Assets Designed To Fail
• Holman Jenkins Explodes Key Financial Crisis Myths

The European Commission has done a very weird thing.

It has explicitly announced that Greece has an implicit guarantee of all its debt.

Despite what you may have read, Greece hasn’t technically been bailed out yet. Instead, EU finance ministers, along with the IMF have announced most of the terms of a bail out, should a bail out be needed.

Why would Greece need a bail out? That’s not clear, but presumably it would require some kind of failed auction or default.

Why would Greece have a failed auction? That’s not clear either — after all, why would you not lend to Greece, knowing that the terms of its bailout have already been announced.

Basically the EU and the IMF hope they can jawbone a bailout without actually having to pay anything out.

It might work.

It’s not wildly different than what the Treasury did the dark days of our financial crisis, except that in addition to implicitly promising that there would never be a nationalization of any major bank — that, not default was the big fear — the US central bank printed mad amounts of money so that it could brute force return the banks to financial health.

The ECB has no such brute force mechanism at its disposal. Greece’s only path to health will involve an economic rebound, slashing spending and raising taxes (painful).

As for the details themselves, the country will get about $40 billion, two-thirds of which will come from the ECB, and one-third from the IMF.

If it’s needed.

Join the conversation about this story »

A 7-month long investigative report into the hedge fund Magnetar’s role in the housing crisis was published by ProPublica on Friday.

Here’s what you need to know about it.

1. Magnetar asked banks (for example, JPMorgan, Merrill Lynch) to create CDOs that were bundles of bonds made up of people’s home insurance mortgages. If the people paid off their mortgages, the bonds made money. They named most of these CDO packages using astronomical terms: Orion, Libra, Scorpius, etc…. Read more here.

2. The banks used CDO managers to select which mortgages actually went into these bundles. Magnetar requested that the managers put the most risky mortgages, the mortgages least likely to be paid off, inside Orion, Libra, etc. Read more here.

3. Magnetar bet that the bonds in these CDOs (Orion, Libra…) would be worthless because the mortgages would default. In other words, they shorted the CDOs they asked the banks to create. Read more here.

4. Magnetar then found (through the banks) investors that were willing to go long on the CDOs, to bet that the mortgages would be paid off. One of those investors was Mizuho, one of Japan’s biggest banks. Those investors, like Mizuho, actually “bought” Orion, Libra, or just parts of them. They were basically buying very risky debt obligations that offered a big pay off if the mortgages did not default. Read more here.

5. The Magnetar Constellation Fund, the fund investing in these CDO “shorts,” returned +76% in 2007 because the mortgages defaulted. The investors on the other side of the trade, like Mizuho, lost money.

Two sets of documents in this report are interesting: the emails between Magnetar and the CDO managers and the graphs that show the (estimated) proportion of the number of CDOs Magnetar created to the number of the CDOs everyone else created (most famously, Goldman Sachs, although they were by no means the only ones).

The emails clearly show Magnetar’s wanting the riskiest, most unlikely-to-be-paid-off mortgages inside their CDOs.

Here are the graphs. Magnetar’s CDOs (black) make up a huge portion of the total market’s CDOs (blue). This is why the report claims Magnetar “kept the bubble going.” Because they created a large portion of what would become worthless CDOs and found buyers that would lose tons of money by investing in them.

You can see a list of the CDOs Magnetar asked the banks to create here. The list shows the name and value (price) of the CDO, which bank created it, and which CDO manager selected the mortgages to be put inside of it.

That’s basically it.

Magnetar did nothing illegal, but they did create huge bundles of risky mortgages (their astronomy-named CDOs) and find investors willing to buy them. Had the mortgages not defaulted, the payoff for those investors would have been huge. The investors should have known the enormous risk they were taking on, though they probably didn’t, in part because the ratings agencies were over-relied upon, and also because lots of players were wildly ignorant.

There is nothing to say that if Magnetar had not created these mortgage CDOs, they would never have existed. They very well may have been created by someone else, sold, and become worthless just the same.

Join the conversation about this story »

See Also:

• Required Reading Right Now: Magnetar, The Hedge Fund That Created Assets Designed To Fail

A report by accountancy firm Ernst & Young has found that the number of profit warnings fell in the first quarter of 2010.
According to E&Y, profit warnings by UK companies fell to a decade low in the first three months and will boost hopes that the economy is recovering.
The accountancy group said the number [...]