losses

Goldman Sachs cuts back in prime brokerage

Jim Kim — Thu, 06 Nov 2008 13:07:45 -0500

The prime brokerage business is morphing as we speak. The free flow of leverage has been drastically reduced and that is leading Goldman Sachs--a premier prime broker along with Morgan Stanley--to rationalize its hedge fund client list. The Financial Times reports that Goldman will likely cut a lot of clients loose, especially those that specialize in illiquid securities and statistical arbitrage funds.

Of course, if you're racking up big losses, you're vulnerable no matter what kind of fund you are. You would have to think that other prime brokers are thinking along similar lines. Some note that Goldman took the opportunity to expand its client list when Bear Stearns ran into trouble. But it is a changed world, and a fourth quarter loss seems likely for Goldman now.

For more:
- here's the Financial Times article

Lots of intrigue over AIG

Jim Kim — Thu, 30 Oct 2008 08:08:58 -0400

The New York Times reports that AIG is "rapidly running through" the $123 billion in emergency lending it has received from the Fed. It has drawn down $90 billion so far, which is prompting a lot of head scratching over accounting techniques. There seems to have been an internal conflict over how to value derivatives. An internal accountant hired by the company because of an earlier scandal has been sidelined on this issue and is now said to be in seclusion. But he has been in contact with government officials, who have his account of events. The company's external auditor, PricewaterhouseCoopers, warned of a material weakness before the government bailout. So the fear is that the company had racked up huge losses--that were undisclosed--before being bailed out. AIG has yet to provide information about how the funds have been used, but its first earnings report since the bailout may be released next week.

For more:
- here's the NY Times article

Big mark-to-market meeting on Wednesday

Jim Kim — Tue, 28 Oct 2008 12:24:02 -0400

FAS 157, the controversial fair accounting rule, will be the topic of a roundtable today at the Securities and Exchange Commission. As you know, the rule has become the center of much controversy, with more than a few pundits and experts blaming the rule for the financial meltdown. My guess is that some sort of compromise will eventually be agreed upon, perhaps noting alternative valuations in footnotes.

No one quibbles with marking to market when dealing with deeply traded securities, but for illiquid securities, the critics definitely have a point. Marking to the last trade may not necessarily be the best idea. Obviously, it can instantly cause some shocking losses.

The issue has become somewhat politicized as of late. The TARP reaffirmed that the SEC has the authority to suspend the rule and mandated more study, hence the roundtable. I would be interested to hear comments that argue the recently updated guidance on FAS 157 isn't a reasonable path (from FierceSarbox). Auditors may have placed way too much emphasis on last-sale data, when there were other options available.

For more:
- here's a Fortune overview

Synthetic CDSs starting to creak?

Jim Kim — Thu, 23 Oct 2008 13:08:06 -0400

People aren't sure what to make of the synthetic credit default swaps market. The media has been rife with stories suggesting that the market is creaking and may be the next leg down in the credit crunch. Some think it is inevitable that the same pain felt in CDOs that invested in subprimes will be felt by their counterparts that invested in CDSs.

No doubt, some banks have been really hurt. Susquehanna Bancshares has written off $17.5 million for such CDOs. This is not a market-breaking loss, but the issue is whether larger losses are to come. National Australia Bank has purchased some hedges to the tune of $60 million a year in cash. Do we need to fear another massive meltdown? There's a lot of nervousness as people anticipate credit rating downgrades, but when you stop and think about it, only seven entities have gone into default. Granted, Lehman CDSs were widely traded, but the majority of financial firms, which underlie the most CDSs, are safe from insolvency now. But at a time like this, that doesn't count for as much as we'd like.

For more:
- here's an article

Wachovia's earnings: A shocking loss

Jim Kim — Wed, 22 Oct 2008 13:09:24 -0400

Wachovia's last earnings announcement was a doozy. It reported a massive $24 billion loss. That's $2.23 a share loss versus expectations of a 2 cents a share loss. Ouch! Portfolio wonders if Vikram Pandit was sitting back chuckling. His counterpart at Wells Fargo, John Stumpf, put the right spin on it: "We're more encouraged than ever by what we've seen in their franchise, and we're pleased that Wachovia's team continues to focus on serving customers." But clearly the carnage inflicted by the credit crisis was severe. "While average deposits were up 4 percent during the period, actual deposits at the end of it were down 2 percent over last year, which suggests a bit of a run on the bank during the final weeks of the quarter," Portfolio writes. And here's the shocker: Wachovia said it expects losses of various option ARM-type mortgages to hit $26 billion by the end of next year. Recall that it paid $27 billion for Golden West last year. Wells seems to know what it is getting into. We'll see.

For more:
- here's the article

Short-term future of banking bleak?

Jim Kim — Thu, 16 Oct 2008 08:18:19 -0400

What will it take for banks to recover? Third-quarter earnings are coming in, and in the case of Wells Fargo, JPMorgan Chase, and State Street, they weren't as bad as expected, which isn't exactly something to write home about in this environment. Merrill Lynch just reported its fifth quarterly loss in a row. Now that the fear of financial meltdown is easing, banks can confront, head on, the economic crisis that looms. It's fair to say that banks will have a tough time growing out of the malaise, especially the ones that are faced with the dual task of integrating big purchases. So we can expect slow growth, some losses and plenty of job action. There's plenty of worry that more action will be needed to writeoff credit cards, home equity and mortgage debt of all stripes.

For more:
- here's a New York Times article

Hedge fund losses continue in September

Jim Kim — Tue, 07 Oct 2008 13:28:19 -0400

The news is uniformly bad for many hedge funds right now. Sure, there are exceptions, like John Paulson's fund, which has been on a tear. But for most, the combination of short selling restrictions, a severe cutback in leverage ability, consternation about prime brokers, and newly empowered investors has made for a rough month. Oh yeah, performance has been awful. In fact, it's been the worst month in a decade, according to FINalternatives. A great example noted by the Financial Times: Citadel's main fund, which fell 15 percent in September, its worst month since 1994. But there are many others. In some ways, shifting trading rules are merely a convenient excuse. Hedge funds were supposed to do well in volatile conditions. For whatever reason, that's not happening now.

For more:
- here's the FT article
- here's the FINalternatives article

Related Articles:
Navigating the Hedge Fund Maze - September 2008

Citigroup to buy Wachovia

Jim Kim — Mon, 29 Sep 2008 12:06:24 -0400

Another day, another bank "failure." Citigroup will buy Wachovia for $1 a share, in a deal that was brought about by regulators. Citigroup's shareholders may not be applauding, seeing as the bank took an immediate loss of $30 billion. It has agreed to absorb up to $42 billion in losses. The government will absorb additional losses that stem from the $312 billion portfolio of Wachovia's most troubled loans. To shore up its position, Citigroup will sell $10 billion worth of common stock and slash its quarterly dividend to 8 cents from 16 cents. This is essentially a non-failure failure in a sense--yet another. True, bank branches will remain open. Depositors are protected. But let's face it, the bank was tottering. Were it not for deal-making intervention, it would have really ended ugly. Really ugly. So who's next?

For more:
- here's a Washington Post article

No deal yet, tough vote expected

Jim Kim — Mon, 29 Sep 2008 08:07:35 -0400

After a frenzied weekend of haggling and posturing, the administration and Congress hacked out a 110 page document that will be voted on today in the House. Passage is by no means guaranteed. There were a few features thrown in to buy votes: curbs on exec pay and, most importantly, a mechanism to recover capital losses. But not everyone was appeased. Some Dems wanted more relief for individual mortgage holders. Some Republicans wanted a radical new approach that focused on insuring debts rather than buying them. But basically, when you get right down to it, this is an unprecedented bailout package, a massive government intervention for a politically charged industry. It's so easy to portray this as a fat cat bill. We'll see if it can get past the House.

For more:
- here's the article

Valuations are the big issue in bailout

Jim Kim — Thu, 25 Sep 2008 11:58:25 -0400

Let's say that the government agrees to some sort of bailout. At some point, the RTC-like entity will use taxpayer money to buy distressed securities. And therein lies the big challenge. How do you value the securities? It's a bit like an IPO. Price it too high--and the buyers (taxpayers in our case) lose. Price it too low--and the sellers (banks) lose, especially if they are carrying them at a higher value on their books. You pretty much have to go on a security-by-security basis, looking deep into the underlying mortgages, the basic building blocks. The New York Times notes a wide range of valuations, from the 22 cents on the dollar implied by the Merrill Lynch-Lone Star deal, to the 60 events at which Citigroup carries some assets. It all depends on the specific securities. Bill Gross's offer to use PIMCO's bond analysts is starting to sound better. But let's face it, trying to pick prices is like picking stocks. Taxpayers could really get killed on some deals. So this may make the idea of equity more logical. Inevitably, some deals will sour for taxpayers. But equity stakes in aggregate would offset the losses.

For more:
- here's a New York Times article on valuations