The Oil Drum

21 comments on The Round-Up: September 25th 2007

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ilargi on September 25, 2007 - 11:06am

Time for the next step in the financial reality check.

It's not the mortgage that you can't afford, or the foreclosures and walk-away's, that are the core of the problem, our banking system would be able to handle those amounts.

What it is defenseless against is the amounts of money that were borrowed using those shady mortgage deals (and anything else accepted as "assets") as collateral.

The opening article in today Round-Up should be required reading for everyone.

There are few experts in the world in the opaque realm of derivatives, and even fewer that speak out against it. Satyajit Das is a rare exception, and we should heed his words.

Are we headed for an epic bear market?

When you add it all up, according to Das' research, a single dollar of "real" capital supports $20 to $30 of loans.

This spiral of borrowing on an increasingly thin base of real assets, writ large and in nearly infinite variety, ultimately created a world in which derivatives outstanding earlier this year stood at $485 trillion.....

Note: Das still calls the bad mortgages "real capital". When that "capital" decreases by just 10-20% (when home prices decline), everything leveraged against it starts falling, because the "capital" only covers 1/20 or 1/30 of the risk (leverage). 3-5% is covered, the loss is 10-20%. Not good, but it could well be worse. Robert Shiller expects housing price losses of up to 50%.

We're looking at fractional banking on a lethal overdose of steroids.

To understand where that came from , please read the excellent
Bank deregulation fuels abuse.

Central banks might be able to (re-)install some level of market confidence as long as everyone is focused on just the mortgage losses. And everyone outside the financial world is so far.

But a tidal wave at least 20-30 times that size is rolling our way, and no bank, currency or printing press is powerful enough to stop it in its tracks. Not even close. The boys and girls in the know are madly scrambling behind the curtain, trying to find new and more credit that's not there.

As Das states, we're not even in the first inning of the game, we're still singing along to the national anthem. The mortgages are that anthem. The $1 trillion in central bank emergency credit measures so far amount to no more than the ceremonial first pitch.

And soon the puck will be dropped.

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yukondon on September 25, 2007 - 3:18pm

The view never changes unless your the lead dog!
So lets see even if your in a market that is rising like Whitehorse , with 3rd highest family income in canada92,000 and no new lots to supply demand, house that are on the rise. Would it be a smart move to liquidate and rent. My house has went up by double in the last four years to about 320,000 range. The economy is booming , mining driving it as well as many people moving in.Great post stoneleigh...........I heard realestate is very regional.......

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Jenks on September 25, 2007 - 3:20pm

Stoneleigh and Ilargi.
Thanks for all the effort that you put into the Round-Up, this sort of information is dynamite.

Sadly it seems to be dynamite with a burning fuse..

It does keep readers half a step ahead of the news bulletins, for which I am very grateful.

Living in the UK - watching the queues outside Northern Rock and listening to the re-assurance about the company being 'profitable' and 'solvent' - It is good to read about what sits behind the real situation.

Fire up the smoke machine and polish the mirrors..

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cyclosis on September 26, 2007 - 5:02am

I'm a long-time reader of TOD and have registered just to thank you, Stoneleigh and Ilargi, for your extensive coverage of recent developments in the financial world. I'm from Poland, which currently seems unaffected by the crisis but of course it's only a matter of "when", not "if". And it won't be easy, which is made even worse by the fact that our local housing bubble burst this summer.

I've been reading many financial websites recently to get an idea what's going on behind MSM distributed news wall but, thanks to you, now I get all necessary information on TOD.

I imagine you may feel disappointed by the lack of major interest in that topic but I'm sure there are many more who appreciate your contribution!

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Stoneleigh on September 26, 2007 - 8:59am

You're welcome :)

There's so much to our current financial situation that's happening behind the scenes. The information is out there, but it doesn't find its way into the mainstream media. People don't realize that a vital component of our society is unraveling and that the eventual impact will be enormous.

As Mr Das the derivatives expert says in the first article, we are at the very beginning of the process. The cracks can still seem to be papered over for now, but every leveraged asset bubble there ever was has eventually burst, and this one will be no different. It's exceptionality is merely in the scale of the excesses that went into creating it, which I would expect to be reflected in the upheaval its bursting will cause. Fasten your seatbelts...

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CrystalRadio on September 25, 2007 - 5:23pm

Thanks ilargi for speaking about the first article Stoneleigh posted as I wouldn't have come across this from the link you give above: Bank deregulation fuels abuse.

Today, key market participants who dominate the credit market with unprecedented high levels of securitized debt operate beyond the purview of the Fed in the non-bank financial system, and these market participants do not have direct access to a lender of last resort when a liquidity crisis develops except through the narrow window of the banking system

I wonder how much the amount totals in those without access to that 'lender of last resort'?

And this about drawing wealth to the tip top few:

The trouble with the financial sector making the bulk of the profit in the debt economy is that when newly created wealth is unevenly distributed to favor return on capital rather than through rising wages, it exacerbates the supply-demand imbalance, which can only be sustained by a consumer debt bubble. The public have insufficient income to consume all that the debt economy can produce from over-investment except by taking on consumer debt and home-equity debt.

Sounds like someone hijacking an aeroplane, robbing the passengers and plans to bail out with a carpet bag before hitting mount doom.

-----
BTW anyone catch that 'right on' speech by Ahmadinejad at the UN?

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ilargi on September 25, 2007 - 7:44pm

CR,,

Thanks for picking up on that Henry Liu piece, Bank deregulation fuels abuse. Some things should truly be required reading, I think, both the top link/article and that piece, if someone really wants to get a grip on what's happening.

If you still have gusto for another 10 pages, in part 1 of that piece (posted here a few weeks ago), he analyzes Enron, same story, same players.

The rise of the non-bank financial system

I posted an almost identical comment on the Drumbeat today, and the only guy who reacts says that all has already been said at financial sites. Of course they always do that without providing any proof or even quotes, but that's no surprise. I wish they would, though, so I could stop reading all this stuff. In the meantime, I read the same as them, and it's never there. Still got to read a thousand pages to find ten that teach me something.

I wonder how much the amount totals in those without access to that 'lender of last resort'?

Nobody knows, that's all we know for sure.

Since you read the article, you do know, however, that's it's most likely a vast majority of all commercial paper and other derivatives. The repeal of Glass-Steagall enabled banks to underwrite commercial paper, and there's no way they would have volunteered to keep it on their books. It resides with mutual funds, pension funds, governments, and other investors, both domestic and abroad. None have access to last resort, not for that paper.

Look at this gem, today's Bloomberg:

Subprime Panic Freezes $40 Billion of Canadian Commercial Paper

On Baffin Island in the Arctic Circle, Baffinland Iron Mines Corp. almost missed its window to ship provisions to workers before winter arrives. The delay came not from the weather, but from a sudden freeze in the market for short-term debt 2,000 miles south in Toronto.

Baffinland ran short of funds to pay for food, fuel and drilling equipment after investing in commercial paper that borrowers couldn't repay. Without the money, the company had to arrange an emergency line of credit before shipping lanes froze over.

``We have 200 people to keep alive,'' Chief Executive Officer Gordon McCreary said in an interview in Toronto. ``Our lifeline to getting critical materials to the north'' was the C$43.8 million ($43.8 million) invested in commercial paper, he said.

The Canadian cash crunch that started with defaults on subprime mortgages in Southern California and Florida has hurt more than 25 companies that invested in commercial paper, including Sun-Times Media Group Inc. and Canada Post, the nation's mail service. Baffinland has 95 percent of its cash in Canadian commercial paper, debt that is due in 364 days or less.

And don't you for a moment believe that $40 billion is all they're about to lose, the official total (see link) is $120 billion, but there's much much more hidden in dark vaults that no fund manager who bought the waste is very eager to open at this particular point in time, that's just the CANADIAN commercial paper outstanding.

Québec's Caisee is riddled with foreign paper of the same quality, and we could go on here for a long time. Canada Post (?!); that one was new for me.

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GreyZone on September 25, 2007 - 11:37pm

Ilargi,

The reaction you are getting is people filtering based on information overload. There is this massive swath of financial information coming at people right now and it is very bad and very large in scope. Eventually people throw up their hands and simply give up rather than continue trying to deal with it. Shortly after they give up, unless something even worse demands their attention, they relegate the bad news to some drawer inside the old skull and then act surprised when another wave of the same sort of nonsense pops up a few weeks, months, or years later.

"The greatest shortcoming of the human race is our inability to understand the exponential function." -- Dr. Albert Bartlett
Into the Grey Zone