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Sunday, November 11, 2007 6:22 PM


Paulson Announces Super-SIV Failure Already


The New York Times is reporting Banks Said to Agree on Credit Backup Fund.

Officials from Bank of America, Citigroup and JPMorgan Chase reached agreement late Friday, settling on a more simplified structure than had been proposed, said this person, granted anonymity because he was not authorized to talk for the group.

“We cleared all the big hurdles,” this person said. “We agreed to a much simpler structure that we think can get done rather than optimize it for everyone.”

Debt market conditions are rapidly deteriorating, leading some analysts to declare them worse than nearly a decade ago, when the Long-Term Capital Management hedge fund collapsed. Investors’ appetite for pools of assets — from mortgages to auto and credit card loans, more recently — has all but dried up. And virtually all structured investment vehicles, commonly called SIVs, are trying to unload the securities they hold, on the assumption that the proposed backup fund will not work.
My comment: Debt market are indeed deteriorating but comparisons to Long Term Capital management do not do this problem justice. This problem is orders of magnitude worse. See What's Really On the Fed's Mind? and Genius Fails Again for more on LTCM.
Now, Henry M. Paulson Jr., the Treasury secretary, is describing the proposal’s benefits as helping “at the margin.” In an interview on Thursday, before the latest agreement was made, he acknowledged that the proposed backup fund would not rescue troubled SIVs, only lead to a longer and more orderly demise.

“This is something that is not a savior,” Mr. Paulson said, noting that he expected the fund to begin operating by the end of the year. “Anything at the margin that will speed up liquidity is worth trying.”
My comment: This is an amazing admission of failure right as the agreement has been reached.
The agreement reached Friday makes several changes that simplify earlier proposals. SIVs will no longer have to get the approval of at least 75 percent of their investors if they want to participate in the backup fund. And the backup fund will not distinguish between the assets it buys from each SIV; instead, it will assign the same risk level to all their troubled securities.
My comment: This is absolutely hilarious. We had pools of mortgage backed securities sliced and diced into CDO tranches to segregate risk into buckets (See Commercial Real Estate Heads South for how tranches work). Then to top that off the financial engineers came out with CDOs squared which is a basket of CDOs. Now the proposal is to unslice and undice this mess back into a single pool and say it's all worth the same.

Well actually it is. It's all worthless. If everything is worth the same the only thing anyone is going to throw into this pool of garbage is what is worthless or close to it. Paulson knows this, which is why he made the statement he made.
Of course, participants have been overly optimistic about their previous efforts, only to see them struggle to take flight. The backup fund still needs the blessing of the major credit rating agencies. A fee structure from 75 to 100 basis points, higher than initially proposed, is also being worked out. And several crucial tax, legal and regulatory issues await approval.
My comment: Anyone that is worried about the blessing of the credit rating agencies is from another planet. There is no backbone in Moody's, Fitch, or the S&P. See Any Credibility Left At Fitch? for more on rating agencies.

The one thing this plan does is that it allows a pool of worthless garbage to be kept off bank balance sheets. That is the "help at the margin" Paulson is talking about.

We are following closely the footpath of Japan. That footpath is called deflation.

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