The next two days could prove to be very interesting – but probably won’t.
Dick Fuld is prepared to later assert:
Lehman’s demise was caused by uncontrollable market forces and the incorrect perception and accompanying rumors that Lehman did not have sufficient capital to support its investments.
Uh huh. It wasn’t caused by 30:1 leverage Dick? You know, leverage you got “enabled” to use by Pauslon? Of course you weren’t forced to use that, but heh, if the music is playing, you had to get up and dance, right?
In 2007, when the U.S. housing market began to show signs of weakening, Lehman Brothers and many of its competitors had already accumulated large positions in what were considered less liquid assets. Many market observers, including government officials charged with oversight of the financial markets, believed that the problems in the subprime residential mortgage market were and would be contained.
You were wrong. But a prudent CEO, and a prudent company, doesn’t “bet the firm” on a premise that their largest-concentration of assets in what is clearly a bubble economic environment, unsupported by the macro level fundamentals, will not only go on forever but will see it’s equivalent of multiple expansion continue forever. That by definition – the belief in expansion of a compound-growth function at ever-increasing rates – is a Ponzi Scheme.
Ponzi schemes are broadly illegal. While it’s not illegal to place bets on asset appreciation, when you claim to be in a position of “systemic risk” you should be held to a higher standard. That standard was not only loosened it was destroyed in the years from 2003-2007. Bear Stearns was a final warning that the Ponzi had collapsed, yet Lehman refused to heed that warning, instead choosing to rely on the premise that a government tit would be proffered to suckle from. When it was not the firm collapsed.
Then there’s Wachovia. I read through Scott Alvarez’s testimony (FRB’s Counsel) which goes through the usual mantra of how Wachovia’s business deteriorated due to macro-level economic developments not under it’s control, along with the seizure of WaMu.
Notably missing from this analysis, along with Steele’s, Wachovia’s former CEO, is any mention of the fact that Wachovia was writing credit-default swaps (CDS) on their own deals in the Option ARM space and bundling them with the lower-rated tranches as a means of being able to sell them!
This is important for two reasons: It is roughly equivalent to you writing fire insurance on your own house, when the entirety of your net worth including all your liquid cash is contained within the house in a shoebox. Should the house burn you will of course be unable to pay off on your self-dealt “insurance.” Second, there is no mention as to where those instruments are now or what they’re actually worth. We know where they are – they’re off-balance sheet at Wells, which now has roughly one trillion dollars of off-balance sheet exposure – with no way to evaluate the “wisdom” (or lack thereof) on the marks on those “assets.”
It is that fact, incidentally, that led myself and many others, including hedge fund managers, to short the stock. That in turn drove the CDS spreads out. But the predicate act that led people like myself to reach this conclusion – that the bank was hiding losses and likely was insolvent – was an act taken by their own hand and enabled by willfully-blind regulators.
Indeed, the bottom line problem here with Wachovia is the same as it has been up and down the line since this mess began – ridiculously over-optimistic asset “values”. This has not abated, as we keep seeing every week with FDIC bank seizures, where banks that are allegedly solvent (by their accounting of “assets” and “liabilities”) are nonetheless seized and huge losses, often as much as 30% of the asset base, are absorbed. This isn’t possible unless the “asset values” are pure works of FICTION.
After the 1929 crash the Pecora Commission was formed to find the causes and prevent it from happening again. What Pecora found was that too much leverage combined with self-dealing and lies about asset valuations led to the collapse of banks and other members of the financial system when the falsehood of those asset “value” claims was exposed to the light of day, and that self-dealing in various forms led to covering up these deficiencies until they reached critical levels (where banks were literally unable to pay the light bill), by which point the entirety of the depositors’ funds were often gone. Just as today, banks often maintained that they were “fine” right up until the fact that their assets were worth pennies was exposed.
Glass-Steagall was an attempt to prevent that from happening again by separating deposit-holding banks from securities activities. Between that and strict leverage limits, along with bank examiners, it was believed that loss-hiding would no longer be possible to a degree where these sorts of panics could develop.
For 40 years it worked.
Then we had the S&Ls, which gamed the system. Bluntly, they broke the law, “trading” assets between themselves with a wink and a nod, thereby “establishing” asset valuations that were false. This “supported” their lending and other activities – right up until, just as with the 1920s (and now) it led to their destruction when the truth began to leak out.
But unlike today Bill Black came in with a mandate and started referring cases to prosecutors, who promptly sent over 1,000 people to prison for their lies and scams.
The FCIC will fail to be effective unless we have another Bill Black. We must reverse those decisions of Congress to extort FASB, as well as exposing and laying bare on the table the inside baseball, hidden caches of alleged “assets” that are not really worth what is being claimed, and other forms of rooking the public while laying off the costs on taxpayers.
Sadly, I see no evidence that the FCIC will do any of this. There is nothing in the hearings I’ve seen to date that suggests that Wachovia’s Steele, for example, nor The Fed, will be called to account on exactly where are those CDS, what are they worth, and why did The Fed and other regulators ignore their existence and lack of public valuation and disclosure?
Nor has the FCIC asked Henry Paulson (or Tim Geithner for that matter) why is it that the former 14:1 leverage limit was removed and why shouldn’t it be put back in force now, since it is now a known fact that had it been in place neither Lehman or Bear would have failed, and if it had applied to AIG they wouldn’t have failed either!
No, instead we have a circle jerk of monkeys, prancing before the cameras, but with no substantive progress and disclosure.
Phil Angelides is no Ferdinand Pecora.
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