Thursday, March 4, 2010

Let's hope Bernanke pulled a Casablanca moment in Congress

Ben Bernanke is supposed to be a smart guy. A respected academic with enough political skill to be appointed (and reappointed) to head the Federal Reserve. In addition, he is supposed to understand basic financial products as well as banks. Having this in mind, I am still unsure of whether he was pulling a page of Casablanca ("I am shocked! shocked...") or he really didn't know that swaps are routinely used to change the look of one's balance sheet.

On the one hand he seems to be surprised that Greece would enter a transaction to get cash upfront in exchange for future cash receipts (NY Times story). After all, politicians live in the now and this is routinely done in Washington as well as in all 50 states and other public entities. In essence, you can argue that the Fed entered into such an arrangement by taking illiquid assets (Maiden Lane, for example) in exchange for cash. California is currently issuing IOUs in order to "defer cash payments into the next fiscal year" (a forced bond issuance or swap of sorts).

Then again, Bernanke was genuinely surprised by the sup-prime problem which according to him was "...small and contained..." (the quote is now too famous to require a source). So it strikes me that it is possible that the people at the Fed don't really know that convertible bonds are routinely pitched to "fixed income only" funds/entities. Maybe the also do not know that "access products" (a very lucrative area in Wall Street) involves nothing more sophisticated than packaging options, foreign currencies, and/or futures contracts into "principal protected notes" for sale to investors who are not legally allowed to buy the products directly.

In fact, CDOs were designed for investors who wanted to "own a leveraged portfolio without risking a margin call" (which of course meant the principal could go to zero). What are the odds that Greenspan, Bernanke or Chris Dodd knew this?

I'd bet if I stopped our esteemed Chairman somewhere in Washington DC and asked him what is the size of Citibank (one of our largest and most bailed out banks) he would reply: "about $2Trillion". Yet, as shown at the bottom of page 129 on their 10-Q report as of Sep2009, they held almost another Trillion in off-balance sheet liabilities.

Maybe that is why Bernanke and Geithner (and Greenspan) are so friendly with Wall Street. They know they are way over the heads when it comes to understanding the complexity of these institutions and the risks they take.


1 comment:

  1. Hello Mr. Tuttle.

    mg again here.

    How did you find that stat on page 129? How in the world... I read an article citing this exact thing, but, like everything else in the BS media, the real truth takes weeks to uncover. So I have a few reactions and a few questions.

    First of all, reading about C, seeing Soros etc. over positioned in this, there can't be any real way C comes to face any real danger with these mortages. I mean, Obama's foreclosure plan amounts to a C-bailout, right? The USA has *got* to bail these people out, you can't put a million people out in the cold.
    Next, I'm looking at those numbers, and I am wondering -- the ABCP stuff that makes up the bulk of their non-mortgage off-balance sheet exposure has got to be profitable, no? If it isn't profitable, can you explain why it isn't? They aren't investing in freaking toilet seats, and there hasn't been anything seriously wrong with the markets (or anything else they could have possibly sunk that kind of money into) over the last twelve months.

    Hey I'm still trying to wrap my head around all this stuff and thanks alot for helping me.