Margin Calls Mount

The Times Online is reporting Carlyle bails out its $20bn Dutch fund

Carlyle, the private equity group, has been forced to double the size of a loan to its Dutch-listed investment vehicle after the struggling fund embarked on a string of asset sales and admitted it had been unable to meet recent margin calls.

Carlyle has now provided Carlyle Capital Corporation with credit facilities worth $200 million over just one week. Last Tuesday, Carlyle Capital said it had drawn only $10 million of a $100 million loan offered by the private equity group.

Today, it said that loan was fully drawn and Carlyle had made a further $100 million available – for one year, at an interest rate of 7 per cent.

Carlyle also bought an unspecified amount of debt securities from the fund and released it from a $75 million funding commitment relating to a distressed debt investment fund.

Carlyle Capital added that it had sold assets worth about $900 million, including four sets of structured credit products known as collateralised loan obligations. It said the sales represented less than 5 per cent of its assets, estimated at about $20 billion.

It said losses on the sales will be $30 million to $40 million, roughly equivalent to its post-tax profits over the past six months of $33.4 million. Although net interest income would offset some of the losses, it means Carlyle Capital will fall into the red in the third quarter. The fund said it was "unlikely" to pay a dividend for the period.

Carlyle Letter of Apology

Here is the Carlyle Capital Corp. CEO Letter to Shareholders.

Recently, several of our shareholders have asked us for information about the current status of CCC's investment portfolio. Because CCC has publicly traded securities and is subject to various rules and regulations pertaining to selective disclosure, we relied on our press releases and our website instead of communicating directly with individual shareholders. We understand these efforts have been unsatisfactory and frustrating to many of you. We sincerely apologize for this lapse in communication. In an attempt to better communicate with our shareholders, I offer this brief view of the state of the credit markets and the impact of recent events on CCC.

We designed CCC's business model to withstand a liquidity event equal to the events of October 1998 when the demise of Long Term Capital Management threatened the financial markets. We believe the recent liquidity disruption is significantly worse than the events of 1998.

This environment produced two adverse consequences for CCC: (i) a modest decline in the fair value of AAA rated US Government agency issued mortgage-backed securities, and (ii) an increase in collateral (margin) required by our lenders. As the fair value of our MBS portfolio declined, our lenders made margin calls to ensure that the amount of CCC's indebtedness did not exceed the fair value of the underlying collateral.In addition, some of our lenders have recently decreased the amount they were willing to lend CCC to 97% of the fair value of the underlying securities, from the historical lending rate of 98% of fair value. Consequently, CCC's liquidity cushion has not been sufficient to meet recent margin calls.
...

John C. Stomber

CEO, President and CIO

The above apology misses the mark by a mile. The apology should be about the need to apologize rather then the delay in communications. Carlyle took on excessive risk. One has to be greedy to put 100% of 97% at risk. In simple terms, Carlyle borrowed money and bet it all. When one does that it's only a matter of time before one blows up no matter how good the "quality" of those investments.

The very same mistakes that sunk Long Term Capital Management in 1998 have been repeated by many others recently, except in far bigger size. For a recap of those mistakes and the size of those mistakes please see Genius Fails Again.

Basis Yield Alpha Fund Now Bankrupt

Reuters is reporting Basis Yield Alpha Fund files for bankruptcy.

Basis Yield Alpha Fund, a hedge fund specializing in corporate and structured credit, on Wednesday filed for bankruptcy protection in the United States amid mounting losses from U.S. subprime mortgage assets, court papers show.

The Cayman Islands-registered fund, run by the Australian firm Basis Capital, listed more than $100 million of assets and more than $100 million of liabilities in its filing with the U.S. bankruptcy court in Manhattan.

The fund firm managed nearly $1 billion earlier this year.

In court papers, Basis Yield said it had in June begun to suffer a "significant devaluation" in its asset portfolio, following market volatility related to U.S. subprime lending defaults.

It said the devaluation led to margin calls, which it was unable to meet, and the issuance of several default notices by counterparties seeking to close out trades or seize assets.

Basis said JP Morgan Chase Bank NA, Goldman Sachs International, Citigroup Global Markets Limited, Morgan Stanley, Lehman Brothers International (Europe) and Merrill Lynch International all issued default notices.

Poof. Basis Yield went from $1 billion to bankruptcy just like that. The who's who of who's likely to be charging off default notices includes JPM, GS, C, LEH, MER, and MS.

Cheyne Finance To Shut Down

The Financial Times is reporting Cheyne Finance to wind down after breach of funding clause.

A $6.6bn (£3.3bn) investment vehicle run by Cheyne Capital, a London hedge fund, yesterday became the latest victim of the crisis in short-term lending markets when it told investors it had breached funding restrictions, forcing an eventual wind-down.

The breach of valuation conditions by Cheyne Finance, a two year-old structured investment vehicle (SIV), triggers limits on its ability to invest or raise new debt.

Capital Fund Management

MSNBC is reporting CFM aims to recoup funds lost in Sentinel.

Capital Fund Management, the French hedge fund that has been caught up in the collapse of the US investment management firm, Sentinel, believes it could recoup up to half of the $407m believed lost as a result of an alleged fraud.

The good news: CFM is only expected to lose $203.5 million, not $407 million.

The "More Guts Than Brains" Department

Alphaville has an article on The Real Deal: The best risk arbitrage trading strategy is guts.

The best risk arbitrage trading strategy to use during this credit crunch is guts.For the first time in years, merger arbs have a chance of making money.

Before the market turmoil, it wasn’t worth placing a bet on a leveraged buy-out. Spreads were so tight that returns weren’t much better than banking the money.

Traders can now make a high double-digit return in a couple of months. Goldman Sachs estimates that buying 22 pending LBOs could generate an average annualised return of 36 per cent - if those deals go through. That’s alpha.

Take the battle for ABN Amro - the biggest deal going. Almost every hedge fund is playing it and some of the sums invested are staggering. One well-known City fund has at least $800m tied up in the deal. If it fails, hedge funds will be crucified.

But if the deal completes, it will be the biggest opportunity for arbs to profit since Vodafone’s hostile takeover of Mannesmann in 1999.

The spread on ABN - which widened to 20 per cent at the start of the crisis - is now about 11 per cent.

So why isn’t everyone doing it? Because they are terrified that three things could happen if credit markets become worse: a black hole in ABN; one of the investment banks underwriting the financing invokes a material adverse change clause; and regulatory intervention.

ABN was trading at about €34.50 on Friday - if these fears materialise and the bank bid collapses, the stock could halve. Losses would be catastrophic and the managers responsible will be pedalling to work on push bikes.

The genius that wrote that thinks all it takes is "guts" while stating "Losses would be catastrophic and the managers responsible will be pedalling to work on push bikes." Amazing thought processes are in play here.

The "What Are We Doing?" Department

Reuters is reporting Trading losses eat into Bank of Montreal profit.

Bank of Montreal (BMO.TO) reported a 7 percent drop in third-quarter earnings on Tuesday after it took further commodities trading losses, and its share price fell amid a broad market decline.

Canada's fourth-biggest bank said it earned C$660 million ($623 million), or C$1.28 a share, in the three months ended July 31, as its capital markets unit booked commodities trading losses of C$97 million, or 19 Canadian cents a share.

With three quarters completed in fiscal 2007, the bank has posted year-to-date commodities losses totaling C$424 million after tax, or 83 Canadian cents a share.

Is trading commodity futures now a core business function of banks? Let's hope not, especially with those losses. But then again why should it be any part of banking operations? At least it hasn't resulted in margin calls yet.

Mike Shedlock / Mish
http://globaleconomicanalysis.blogspot.com/