US FlagApril 1, 2008 Edition


BEAR DEAD, CONTROVERSY ALIVE AND WELL – In a hastily arranged deal that included a Federal Reserve bailout of unprecedented proportions, JPMorgan Chase agreed to acquire Bear Stearns for $240 million or $2 per share.  Just a week earlier, Bear Stearns stock had been trading above $60 a share.  The deal includes Bear Stearns’ midtown Manhattan headquarters building, said to be worth in the neighborhood of $1 billion.  Quite a deal for JPMorgan Chase...a deal that very quickly resulted in a horde of angry Bear Stearns shareholders.  To quell that anger, JPMorgan Chase later offered to increase the purchase price to $10 per share.  To facilitate the deal, the Fed (and we the American taxpayers) assumed $30 billion in illiquid mortgage securities, with JPMorgan Chase assuming the first $1 billion in losses from those securities.  That leaves American taxpayers liable for the remaining $29 billion.  Bloomberg.com provides a good look at the inner workings of this deal, if you’re interested.  Senate investigations are just beginning, with the Senate Banking Committee scheduling a hearing for April and the Senate Finance Committee asking for extensive details of the transaction.

INVESTMENT FIRMS BORROWING FROM FED - The Fed, for the first time, is allowing big investment houses to temporarily get emergency loans directly from the central bank. This mechanism, similar to one available for commercial banks for years, will continue for at least six months. It was the broadest use of the Fed's lending authority since the 1930s. Wall Street investment companies responded with $13.4 billion in daily borrowing in the first week and $32.9 billion in daily borrowing in the second week. 

REMAKING THE FINANCIAL UNIVERSE - The Federal Reserve's decision to bail out Bear Stearns permanently altered the central bank's role. Observers have been saying that the loan sets a precedent that could expand the Fed's mission. Treasury Secretary Henry Paulson proved them right by announcing a sweeping plan to change how Wall Street is regulated.  The plan, which amounts to the biggest regulatory overhaul of Wall Street since the Great Depression, would broadly expand the Federal Reserve’s powers by transforming it into a regulator charged with stabilizing financial markets.  Click here to read more from CNNMoney and here from Bloomberg. 

REGULATION PROBLEM IN A NUTSHELL – “The current system simply has not kept pace with the development of new financial vehicles and the globalization of financial markets.”

CHAOS ON WALL STREET – Check out this article from CNNMoney.com.  While not “fun” reading, the article is a good explanation of the position in which we find ourselves.  An important point made in the article is how the current slowdown is different from other slowdowns.  In a nutshell, a slowdown usually occurs when the economy misfires, dragging down the financial markets.  In our current slowdown, it’s the financial markets dragging down the economy.  The distinction is important because financial markets are harder to fix than the economy.  The last time this happened in the U.S.?  In 1929 and it touched off the Great Depression.  

MORE ON THE FINANCIAL UNIVERSE - Most of us have a tough time understanding black holes, dark matter and all the other wonders of our universe. Of late, many people are finding the financial universe just as complex...derivatives, auction markets, structured products, a billion here and a billion there, $1.2 trillion losses, dark liquidity. We do know this: the “Kings of the Universe” are still making a very good living.

BUT MAYBE NOT QUITE AS GOOD - Bear Stearns chairman James Cayne has sold his entire stake in the company – 5.6 million shares – for a reported $61 million.  Sounds like a lot of money until you learn that his stock was worth in the neighborhood of $1 billion only about a year ago.

GLOBAL LOSSES SET AT $1.2 TRILLION - Goldman Sachs estimates that the market turmoil will result in $1.2 trillion in global credit losses. About $500 billion of that will be on Wall Street. "U.S. leveraged institutions have written off less than half of the losses associated with the bursting of the credit bubble.  There is light at the end of the tunnel, but it is still rather dim.

INSIDER RATING – While we’ve all heard of insider trading, here’s a new phrase for you...insider rating.  Financial columnist Scott Burns and Boston University professor Laurence Kotlikoff coined the term to describe the ratings agencies, whose fees are paid by borrowers, and who the authors blame for much of the subprime mortgage crisis.  To put an end to insider rating, the authors propose creating a new federal agency that would rate financial securities.  Click here for the article. 

HOMEOWNER RESCUE – The White House continues to reject the use of public funds to bailout troubled homeowners, but Democrats, consumer advocates, bankers and economists continue to call for a government-backed rescue. Treasury Secretary Henry Paulson said many of the proposals don't provide significant relief to deserving homeowners who are struggling, but instead are focused on reckless lenders, speculators and investors.  The Federal Reserve’s bailout of Bear Stearns, however, may prove to be the tipping point that leads to some kind of bailout for homeowners (“Why is Washington spending billions to bail out Wall Street Titans while leaving struggling homeowners to fend for themselves?”).  More information is available here. 


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FANNIE AND FREDDIE TO THE RESCUE - Freddie Mac and Fannie Mae regulators have eased their capital requirements, which will allow them to pump an additional $200 billion into the mortgage markets. Hopes are that the infusion will avoid recession and stabilize the credit markets.

BUT WHO WILL RESCUE FANNIE AND FREDDIE? - Fannie Mae has reported an almost $3.6 billion fourth-quarter loss and similar results are expected from Freddie Mac soon. The losses reveal there is a limit on what the government-sponsored companies can do to prop up the troubled housing market.

WE WILL! MONEY FOR FANNIE AND FREDDIE – The Office of Federal Housing Enterprise Oversight will allow the government-chartered mortgage companies to raise up to $20 billion by buying additional debt securities. The capital is needed before the regulator will approve additional reductions in the funds the two mortgage giants need to insure against losses on their mortgage investments.

BILLIONS? FROM WHERE? - Despite White House opposition to using public funds for a bailout, actions by the Treasury and the Fed to curb the financial crisis could cost U.S. taxpayers billions of dollars.  If the emergency action to save Bear Stearns and allow government-sponsored enterprises to buy more mortgage bonds doesn’t “pan out,” you and I will pay.

BOA LOAN LOSSES - Bank of America may set aside as much as $6.5 billion for possible loan losses. Some observers do not see the “economy plunging to a level that will substantiate this reserve buildup,” but who knows?

MOST JOB LOSSES SINCE DOT.COM – According to SIFMA, in the last nine months, Wall Street firms have cut 34,000 jobs. That is the biggest payroll slashing since 2001, when 39,800 jobs were eliminated after the Internet bubble burst.
 
INTERNATIONAL DENIAL - The Federal Reserve, Bank of England and the European Central Bank are all working on options to abate the global credit crisis. Despite reports to the contrary, the Fed and BoE are both considering a taxpayer-financed plan to shore up the mortgage-backed securities market.

LEHMAN COULD FOLLOW BEAR - The collapse of Bear Stearns is causing speculation that Lehman Bros. may be next. Lehman Bros. is heavily leveraged and has a big mortgage portfolio. The company's shares lost a third of their value in one day, but have rebounded.

OR COULD IT BE UBS? – The options market may be indicating some tough times ahead for UBS. Option traders are pricing-in about 40% more price risk to UBS shares over the next month.

RUMORS AND RUMORS OF RUMORS - The Bear Stearns debacle has caused some turmoil in financial stocks due, in part, to rumors about other firms. Fear caused by rumors can become a "self-fulfilling prophecy,” leading to a “run on the bank” similar to what happened to Bear Stearns, but dispelling them can be tricky...denying them can set a precedent and being mute can make them seem true. 

CITIGROUP WARNING - Citigroup is warning investors to avoid leveraged companies and countries.  As markets and economies “de-leverage,” investors should steer clear of companies and countries that have relied on borrowed money, especially in the financial-services sector. Does that leave out investing in any U.S. company?

IPO SLUMP – Merrill Lynch reports a record $21 billion worth of initial public offerings have been pulled from global markets in the first two months of 2008. When there is a lot of risk aversion and volatility in markets, demand for IPOs dries up.

HOME SALES LOW - As a result of the housing slump, new home sales dropped 1.8% last month. The drop to 590,000 units marked a 13-year low in new home sales. The average selling price dropped to $244,100...down 2.7%.  Overall, residential real estate posted a 10.7% decline through the 12 months that ended in January.
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OPTIONAL FEDERAL CHARTER – Reports are that the Treasury Department will propose creating an Office of National Insurance within the department, giving insurers and producers the option of choosing between state and federal regulation.

COMPLIANCE AT THE ADVISER LEVEL – This is really a pet peeve of ours. FINRA, the SEC and trial lawyers force broker-dealers to micro-manage their registered reps with many onerous and impractical compliance procedures in an attempt to protect the public. At the same time, it appears that the leaders of big banks, hedge funds, etc. are running unbridled and costing consumers many billions of dollars. Kind of like “straining on a gnat but swallowing a camel.”

SOME GOOD COMPLIANCE NEWS – FINRA has decided to make the use of third party sales support material a lot easier for compliance departments. In the past, each broker-dealer had to review and approve all sales support material used by his or her reps even if that content had been approved for use by FINRA for another B-D. The change will allow compliance departments of one B-D to rely on a clean letter from FINRA obtained by another B-D.

VA TELECONFERENCE – FINRA will hold a free phone-in workshop on the rules governing sales of deferred variable annuities at 2 p.m. on April 18.  More information is available at www.finra.org.  

DARK-LIQUIDITY POOLS - Volatile markets add to the use of so-called dark pools...internal systems for trading stocks privately, off of public exchanges and out of the public eye.  Celent estimates that on a daily basis as much as 20% of equities in the U.S. are traded through dark pools. Sounds like a plot for a Harry Potter book.

SIFMA AND FINRA TIPS – SIFMA and FINRA have prepared "Keeping Your Account Secure," an up-to-date, free, downloadable pdf describing the critical steps investors can take to safeguard their financial accounts and help prevent identity theft.  Click to view the tip sheet.

CRIMINAL PROBE OF MORTGAGE LENDERS - Reuters reports that the FBI's criminal probe of the mortgage lending industry has grown to 17 firms, involves large companies, and could take years to complete. An FBI spokesman declined to comment when asked if the FBI was looking into the collapse of Bear Stearns, but added "common sense would indicate that we would look at something that big."

CLASS C FUND FEES - The SEC's proposed rule relating to 12(b)-1 fees will likely include a limit on fees charged on Class C mutual fund shares to no more than fees paid on Class A shares.

HEDGE FUNDS TO BUY MORTGAGES – Bloomberg reports that 70 or more hedge funds are looking to buy distressed mortgages and securities from banks trying to recover from the meltdown in the subprime-mortgage market. 

FINANCIAL LITERACY – What do you think the state of financial knowledge is in the United States?  The President’s Advisory Council on Financial Literacy wants to hear from you.  More information is available here.  

TAX FREEDOM DAY – The Tax Foundation says it will take 113 days (30.8% of the year) to pay the nation's total expected taxes for the year. That makes “Tax Freedom” day April 23...enjoy!

BRIGHT SIDE - The economy stinks, the housing market is in the dumps, and auto sales are down. Looks like a great time to go car and/or home shopping. Car dealers are dealing and housing gets cheaper every month.

LIMIT TO SHAREHOLDER LAWSUITS PRAISED - SIFMA applauded the U.S. Supreme Court’s recent ruling that shareholders cannot sue third-party firms that may have abetted in a company's fraudulent practices. "The decision is good for both investors and business. It lends a degree of certainty to the law in this area." Rumors are that the Trial Lawyers Association intends on suing the Supreme Court over the decision.

SUCH A SHAME! – A couple of “class action kings” are having their days in court.  Richard “Dickie” Scruggs, who made millions from tobacco, asbestos and insurance litigation, pleaded guilty to conspiring to bribe a judge $50,000 in return for a favorable ruling in a dispute over $26.5 million in legal fees from a mass settlement of Hurricane Katrina litigation.  Then we have Melvyn Weiss, the long-reigning king of class-action litigation, who has agreed to plead guilty to a federal racketeering charge that accused his firm of paying secret kickbacks to plaintiffs.

MEDICARE BROKE IN 11 YEARS - The Federal Hospital Insurance Trust Fund (Medicare) will be bankrupt by early 2019. The “good news” is that the federal Old-Age and Survivors Insurance Trust Fund (Social Security) might not run out of cash until 2041. These cheery facts are from the trustees of the Social Security and Medicare programs in their 2008 program trust fund reports. Social Security is about $4.3 trillion in the hole, but the government could close the gap by increasing the payroll tax rate to 15.6%, from 12.4%, or by reducing benefits immediately by about 20%. Medicare, on the other hand, would require increasing the 2.9% payroll tax that funds the program to 6.44% or by immediately cutting program expenditures by about 51%. Do you think we have a problem?  The American Academy of Actuaries does and has issued a report recommending that the only way to control Medicare spending is to address spending in the health care system as a whole.

RETIREE HEALTH COVERAGE – The Supreme Court refused to hear an appeal, so employers will continue to have a right to reduce retiree health benefits when retirees become eligible for Medicare. The suit was brought by AARP against the Equal Employment Opportunity Commission position that believes employers can coordinate retiree health benefits with Medicare.

LIMRA LAPSE STUDY - Researchers at LIMRA have quantified lapse rates for consumers of all ages based on 2003 and 2004 data. Key findings are: individual life insurance products early policy-year lapses have dropped to a 10-year low, lapse rates have dropped even faster for policies with bigger death benefits than they dropped for all policies, the lapse rate was only 2% for policies issued to consumers ages 70 and older and the highest lapse rate for UL coverage was 24%, for policyholders who were ages 30 to 39 at the time a policy was issued.

TRAVEL AND LIFE INSURANCE – The NAIC is revising its Unfair Trade Practices Model Act to prevent life insurers from denying coverage based on a prospective insured’s future travel plans.  More information is available at www.naic.org.