PrefBlog

The Economist points out that mark-to-market accounting (which is a hallmark of securitization) can be destabilizing; it can turn bankers from rather dry borrow-short-lend-long types into market speculators. I believe we are seeing this effect in the CPDO market where the deleterious effects of spread widening on capital have been observed, but the benefits of realizing on those spreads over the mid-term have not yet materialized.

It is also possible that cooler heads will prevail and avoid rushing for the exits – a possible example is:

Washington Mutual plans to hold more loans for investment, citing potential for strong risk-adjusted returns.

And it would appear that some shops have resolved their funding issues:

Thornburg Mortgage Inc., the home lender that sold $20.5 billion of mortgage bonds at a loss last month to ease a cash shortage, now plans $3 billion to $4 billion of purchases to take advantage of low prices.

The AAA-rated securities could yield 1.25 to 2.25 percentage points over Thornburg’s cost of funds, President Larry Goldstone said in an interview. That compares with an average of 0.5 points for securities now in the Santa Fe, New Mexico-based company’s portfolio. The purchases will occur “over the next month or two,” presuming mortgage markets begin to stabilize, he said.
…
Goldstone said $546 million of fresh capital from a preferred-stock sale last week will help the company pounce on opportunities that cash-starved rivals can’t afford.

Some of my more fanatical readers may remember my post about BSABST 2005-1, in which I attempted to demonstrate that the S&P downgrade of one particular ABS wasn’t as scary as it sounded when one looked at the actual dollar values. I’m a little late reporting this, but I’ve found a S&P press release about subprime that puts a little meat on those bones:

Our July 2007 downgrades affect around 1% (by value) of the US subprime first lien mortgage tranches we rate:
• 85% of the ratings downgraded were BBB and below (ie, the weakest quality subprime securities)
• no AAA ratings on these securities were downgraded
• between July 1 and August 24, 2007, S&P received reports of only three defaults from approximately 15,000 current first lien subprime mortgage tranches rated by S&P globally (two of the defaulted tranches were issued in 2002, the other was issued in 2004).

We’ll see how it all turns out. We’ll probably find that the ratings agencies acted in a less than perfect way – I haven’t yet found an analytical system or an analyst who’s perfect. But I’ll bet a nickel that in ten years we’ll be saying that the pendulum of sentiment swung from “Everything is perfect” to “The world is about to end” and that hedgies as a group are attempting to deflect criticism of their own performance towards the agencies; aided by the regulators, who can’t stand to see anything happen in the capital markets that doesn’t involve a kow-tow to the regulators; abetted by the reporters, who don’t care what they say as long as it sells papers; and encouraged by the politicians, who need to show Concern and Judicious Thought.

Like, for instance, Flaherty:

Finance Minister Jim Flaherty says the summer credit crunch is indisputable proof of the need for a single Canadian securities regulator: one that could better guard against, and fend off, shocks buffeting this country’s capital markets.

Such nonsense – and Flaherty doesn’t do anything but wring his hands at the horrifying idea that something might happen in this country without federal regulation.

Regulation of the securities markets in Canada can clearly be improved – see my summary of sales restrictions applying to my firm, for instance – but not, I believe, in terms of the end product. There will be the same good points and bad points about the effects of the application of regulation whether we have one regulator or five hundred. The effects of regulatory unification will be noticable only in the cost – in terms of actual dollars, time and elimination of basically arbitrary selling restrictions – and should be pursued for that end alone.

There is considerable debate regarding what the Fed should be doing at their September 18 meeting. James Hamilton view is:

They can clearly communicate they’re not panicked by the market or bullied by the politicians by waiting until the scheduled September 18 meeting before announcing a cut, and even then one or two members could cast a dissenting vote. Markets would see a 25-basis-point cut delivered in that manner as a splash of pretty cold water. If next month’s data show the same trends as last week (some comforting and some alarming numbers), the Fed could cut another 25 basis points at the end-of-October meeting, adding another dissenting vote. That would leave them free to move any way they want, up or down, in December.

If we get stronger confirmation that the August employment and LA home sales numbers are not an anomaly, the Fed should be prepared to make that a 50-basis-point cut for October.

I agree; I’d like to see some language in the statement that they’re still worried about inflation, jobs number or no jobs number … monthly data can vary significantly. As JDH notes, the increase in LIBOR has done a lot of the anti-inflation heavy lifting on the Fed’s behalf.

Brad Setser notes that:

At least part of the dollar’s August rally seems – at least to me – to have been tied to deleveraging (including deleveraging by European banks) rather than safe haven flows.  Selling rubles and Asian equities to pay back borrowed dollars isn’t quite the same as seeking out the dollar because you expect it to rally in times of stress.

… and sees interesting times ahead for countries with currencies tied – explicitly or implicitly – to the dollar.

US equities looked like they were going to have a horrible day until Thornburg announced its plans to rebuild a position in some high-grade sub-prime tranches. Then they recovered, followed by Canadian equities.

Treasuries continued to roar, yields falling 6bp in a parallel shift, but it’s not doing the dealers much good and reports of foreign selling into the rally continue to accumulate. Canadas were listless.

There were a few good sized crosses in the preferred market today, but the increase in volume wasn’t very broadly based. PerpetualDiscounts continued to recover; they have had only one (minor) down day since August 16 and are up 2.05% since that date.

There were nine other $25-equivalent index-included issues trading over 10,000 shares today.

This entry was posted on Monday, September 10th, 2007 at 8:29 pm and is filed under Market Action. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.