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Friday, May 30, 2008

Ambac MBIA: Junk Rating Caa1

Well, what have we here? Ambac and MBIA should have junk ratings? You don’t say!

Moody's Implied Ratings Lab Reveals Ambac, MBIA Turning to Junk: “Moody's Investors Service has created a new unit that surprises even its own director.

The team from Moody's Analytics, which operates separately from Moody's ratings division, uses credit-default swap prices as an alternative system of grading debt. These so-called implied ratings often differ significantly from Moody's official grades.

The implied ratings frequently show that swap traders think debt is in more danger of defaulting than Moody's credit ratings signify. And here's the kicker: The swaps traders are usually right.

“When I first saw this product, my reaction was, ‘Goodness gracious, Moody's has got a product that is basically publicizing where the market disagrees with Moody's,’” says David Munves, managing director for credit strategy research at Moody's Analytics. The implied-ratings unit works in a corner of Moody's new world headquarters in lower Manhattan, across the street from Ground Zero.

“But these differences are out there,” Munves says. “We might as well capture and learn from it what we can.”

The credit quality of bond insurers, which have been at the center of the subprime storm, differ dramatically. The official ratings of these companies say the insurers are in great shape; the alternative ratings say they're in dire danger of defaulting on their debts.”

The difference is massive and it is captured quite well. The market is quickly learning that Moody’s is nothing but a scam.

“Moody's implied-ratings group paints a completely different picture. Using the CDS market, Munves's unit rates both MBIA and Ambac Caa1. That's seven notches below junk and 15 below the official Moody's rating.

Swap traders see there's a huge risk that Ambac and MBIA will default, hedge fund adviser Tim Backshall says. He says swap traders don't trust S&P's and Moody's investment-grade ratings for the companies.”

Seriously, what good are these ratings agencies? Traders are more accurate in their assessment of credit quality. They would have to be, because they put their own money on the line. Those not accurate enough blow their accounts and fade into the night…

A 15 notch difference? If Moody’s had any credibility left at all, it has to be gone now.

Ambac shares fall after April write-down disclosure: “Shares of bond insurer Ambac Financial Group Inc (ABK) fell sharply to a record low on Wednesday, after it released data showing it took a large write-down on investments last month.

Ambac said it marked down the value of a derivatives portfolio linked to mortgage securities by $228 million in April. Net investment income was $42.2 million, offset by a $53.4 million decline in the market value of other investments.”

ABK has quietly lost the $5 support area and has gone into a soft gentle slide to a low of $2.88.

Away from the media spotlight, MBI has gone into a quiet little swan dive as well. All support levels have been cracked.

Did the computers make you do this too Moody’s? Computer’s seem to be out maneuvering the fools over at Moody’s rather frequently these days… (CIFG, MBI, ABK and Moody’s: The Computer’s Made Us Do It)

Monoline Related Posts:
MBIA Reports Scary Earnings; NEGATIVE Revenues
Quiet, Sneaky Little Downgrades: CFC, MBI
Ambac ‘Bailout’: Why Bother?
Ambac Bailout: The Wheels Come Off
Monoline Bailouts: The Great Circle Jerk

Related Posts:
Fragile Banks: More Bailouts, More Capital
The Race To The Bottom Accelerates
The South Sea Bubble and Today’s Central Banks: FRB, BOE, ECB
Dammit, Why Won’t You Learn?
The TED Spread, LIBOR and EURIBOR = Scary Bad
Mortgage Insurers (Quietly) Downgraded: CDS Spreads Scream Trouble

Thursday, May 29, 2008

LIBOR Liars: UBS, HSBC, Royal Bank of Scotland (UPDATE1)

This post is an update on LIBOR Liars: UBS, HSBC, Royal Bank of Scotland.

UBS (UBS) and Royal Bank of Scotland (RBS) have since been taken out back behind the woodshed and shot. HSBC (HBC) has been hanging tough. Maybe they lied less?

Libor Banks Misstated Rates, Bond at Barclays Says (Update2): “Banks routinely misstated borrowing costs to the British Bankers' Association to avoid the perception they faced difficulty raising funds as credit markets seized up, said Tim Bond, a strategist at Barclays Capital.

“The rates the banks were posting to the BBA became a little bit divorced from reality,” Bond, head of asset- allocation research in London, said in a Bloomberg Television interview. “We had one week in September where our treasurer, who takes his responsibilities pretty seriously, said: ‘right, I've had enough of this, I'm going to quote the right rates.’ All we got for our pains was a series of media articles saying that we were having difficulty financing.”

Discrepancies in the rates that banks quote are creating a crisis of confidence in the London interbank offered rate, the benchmark for 6 million U.S. mortgages and more than $350 trillion of derivatives and corporate bonds. In the first four months of 2007, the difference between the highest and lowest rates for three-month Libor didn't exceed 0.02 percentage point, according to JPMorgan Chase & Co. In the same period this year, it was as wide as 0.17 percentage point.”

Crisis of confidence indeed.

Using Fannie Mae and Freddie Mac As Disaster Insurance

U.K. Home Values Drop Most on Record, Nationwide Says (Update3): “U.K. house prices fell in May by the most since at least 1991 as the shortage of credit starved the property market of buyers, Nationwide Building Society said.

The price of an average home dropped 2.5 percent from April to 173,583 pounds ($344,000), Britain's fourth-biggest mortgage lender said today in a statement. That's the largest decline since the index started in January 1991. From a year earlier, prices fell 4.4 percent.

Bank of England Governor Mervyn King predicted this month that property values are “likely to fall further” and said there is a risk that the U.K. economy may contract. Mortgage approvals dropped in April by 39 percent from a year earlier, the British Bankers' Association said this week.”

Pound Falls After U.K. House Prices Decline Most in 17 Years: “The pound fell to a one-week low against the dollar after an industry report showed U.K. house prices dropped by the most in at least 17 years, adding to the case for a cut in interest rates this year.”

The real estate bubble has burst the world over.

The U.S. obviously led the way with the collapse of the subprime market. Recent data from Existing and New Home Sales to the Case-Shiller price index show no signs of bottoming. The UK and Spain lagged by several months and are now in the process of really catching up. Real estate bubbles in other countries haven’t burst yet. Consequently they haven’t made the news yet, but they will.

The Commercial Real Estate market in the U.S. has now undeniably started to deteriorate. Expect the same from the UK and Spain.

Make no mistake; the worst is yet to come. Market clearing prices on real estate have yet to be reached. We know this because the months of supply of Existing Home Sales continue to accelerate upwards, jumping to 11.2 months in April. The only way the market can clear out this supply of housing is for prices to drop and to drop significantly.

Significant price drops, which CAN’T be avoided, will utterly demolish Fannie Mae (FNM.N) and Freddie Mac (FRE.N). A simple, cheap and low risk way to play out this scenario is with long dated Puts.

The January 2009 Puts on both FNM and FRE have significant open interest (OI). (See table)

First, this means that there is enough liquidity in these strikes for you to get in and out with the least amount of slippage.

Second, this also means others have had the bright idea to either hedge their FNM, FRE positions or their portfolios in general, or to aggressively bet on the annihilation of FNM and FRE. For example, the OI in the really low strikes, say $15 and lower, are really BANKRUPCY bets. OI in the lower strikes spiked in Bear Stearns and we all know what happened there.

Lets talk about the Greeks a bit on these January 2009 Puts.

The Puts are far enough out that Theta is at less than a penny a day. So you have time before time decay becomes a hurdle.

Implied Volatility is high. Vega is high to be sure, but both FNM and FRE have calmed down as they have been range bound for two months. So this is probably as good as it gets.

There are a number of option strategies you can employ to tackle FNM and FRE, the simplest of which to simply buy some Puts outright at a strike you desire.

FNM has been range bound between $25 and $30. Therefore strikes around here are ‘safest’. They are also more expensive.

FRE has been range bound as well in roughly the same area, so similar strikes could apply.

Some of the strategies available would help offset the cost of these puts, but would also limit some of the upside.

FNM and FRE will never be allowed to completely implode. If Bear Stearns was bailed out, then you can safely assume they will as well. If you assume that a bailout or rescue would occur at some token price you can imply that there will be a floor on the value of the common somewhere around about $5.00. So buying Puts with $30 and $25 strikes and selling the same quantity of $5 Puts to offset would ‘sell off’ the least amount of your upside and therefore efficiently reduce the cost of your position.

Now suppose housing prices immediately stop falling. (Seriously, a ridiculous scenario, but lets play it out.) FNM and FRE are still so impaired and their portfolios have deteriorated to the point where it is safe to assume their earnings will be severely stressed for three to five years. Their stocks are therefore likely to languish and give you the opportunity to exit the Puts at reasonable prices. Even in this scenario, both companies are likely to be forced to raise serious additional capital. The dilutive effects on the common shares should be large enough that the Puts are likely to gain in value even in this ‘best case’ scenario.

Now suppose home prices continue to collapse and that foreclosures continue to rise. This is the likely scenario. Now suppose that FNM and FRE will not be bailed out. Instead the politicians grow a pair and let the market sort the mess out. FNM and FRE will have to furiously raise capital of all kinds. Common. Preferred. Debt. All of it. Just to stay alive. The share price would therefore do a swan dive and the position would pay off.

It would be hard to imagine FNM and FRE breaking OUT and UP from these trading ranges. There simply isn’t any power in the universe that can save these guys or make them EARN money. They are stuck with massive portfolios that just need to be worked off.

For an interactive home price graph click here.

Research on Fannie Mae and Freddie Mac:

Calculated Risk:
Fannie Mae Tightens Guidelines Again
WSJ Repots: Fannie Mae Eliminate “declining market” Rules
Fannie Mae’s 120% Refinances
Fannie Mae on 2/28 Delinquencies
Fannie Mae’s Credit Loss Ratio: Fuzzy Math or Fuzzy Reporter?
On Freddie Mac Accounting Change
Freddie Mac Conference Call
Freddie Mac on Walking Away
Freddie Mac: Project MI Lifeline?
More on Freddie Mac Housing Forecast
Fannie Mae Cumulative Defaults (and other disasters)
New Rules At Fannie Mae Combat Appraisal Fraud
Delinquency Footnote #12
Misinformation From Fannie and Freddie On Walking Away

Excellent Sources of Real Estate Data:
Calculated Risk
Countrywide Foreclosure Blog
Paper Economy
UK Bubble

FNM and FRE Make Me Angry:
Fannie Mae and UBS Miss, Bankruptcy Filings Up Big Time
Sarcastic Rant on Fannie and Freddie.
Fannie Mae, Freddie Mac: The Dumbest Idea Ever
Fannie Mae: Another Shoe Drops

Wednesday, May 28, 2008

High Commodity Prices Are Good

Short post due to time constraints…

I think this is the first article I’ve come across that argues that high commodity prices are good.

Commodities, Oil Bubbles Are Reason to Celebrate: Matthew Lynn: “Anyone filling up the tank of their car right now will be cursing oil speculators. Likewise, anyone loading up a shopping cart with food for a family may feel angry with hedge-fund managers pushing the cost of wheat, rice and other basics through the roof.

Prices of oil, commodities and food have exploded in recent months. Although there are some solid foundations to that, the boom has now turned into a bubble. Prices are starting to race far ahead of anything that can be justified by the fundamentals of supply and demand. Predictably, that is creating a backlash against the financial markets that are pushing prices up.

We should all leave the speculators alone. The world needs a massive change in the way it uses raw materials. Politicians are too timid to bring that about. The markets are doing the job for them, and if it takes a bubble to change people's energy consumption, then so be it.

First, oil production needs to expand. The International Energy Agency estimates global oil consumption will rise to 98.5 million barrels a day by 2015 from 84.6 million in 2006. By 2030, it will be up to 116.3 million. To get that out of the ground and into the pumps is going to involve more exploration, production, refining and distribution. There is only one way that scale of investment will be mobilized: by causing a price increase that starts a buying frenzy in oil assets.

Next, the developed world has to start making itself more fuel-efficient. If China and India begin using as much oil as Europe and the U.S., we won't just need more supply -- we'll need lower consumption in rich countries. And if we are to combat climate change, we'll need to cut down on pollution as well.

Lastly, agricultural policies need to change. Again, if India and China are to become as wealthy as Europe and the U.S., the world will need a lot more food. That means modifying the way we run agriculture, which, in Europe at least, has been more about preserving farming jobs, and caring for the landscape, than maximizing output. Countries such as Germany with lots of fertile land and falling populations should be turning themselves into major food exporters. But, again, it's not going to happen unless a massive price increase forces it.”

I would have to agree. The cure for high prices is high prices.

Tuesday, May 27, 2008

LIBOR Liars: UBS, HSBC, Royal Bank of Scotland

Yesterday's post was about EURIBOR (This Bear Market Rally is Over: EURIBOR Rises Again). Today’s is about LIBOR. When I start writing about interbank rates back to back like this, there is only one thing equities in general are likely to do in the short term...

... and that is TANK.

UBS (UBS.N), HSBC Holdings (HBC.N) and Royal Bank of Scotland (RBS.N) were all caught lying about LIBOR.

Libor Cracks Widen as Bankers Struggle With Reforms (Update2): “Few companies have suffered from the subprime mortgage collapse more than UBS AG, which has taken $38 billion of writedowns and losses, replaced its chief executive officer and chairman and saw its stock tumble 60 percent.

Yet on 85 percent of the days between July and mid-April, the Zurich-based bank told the British Bankers' Association that it could borrow in the money markets at lower interest rates than its rivals. Not even the U.K.'s Lloyds TSB Group Plc, which only wrote down $1.4 billion, could obtain the rates UBS said it was able to get, according to data compiled by Bloomberg.”

UBS would appear to be one hell of a dirty bank. Now LIBOR is going to have to move higher. This will up Eurodollar rates… and all of this will feed into the financial system forcing up everything from swap rates to mortgages. Bravo!

“Such discrepancies are creating a crisis of confidence in the London interbank offered rate published daily by the London- based BBA and taken from the contributions of UBS, Lloyds TSB and 14 other banks. Rates on corporate bonds, leveraged buyouts loans, derivatives and even U.S. mortgages are pegged to Libor.”

Trading volume in Eurodollars slid 7.5 percent in April from the prior month and open interest has declined by 17.6 percent in the past two months. The value of the contract at expiration is determined by the interest rate on three-month Libor, and its yield in the meantime represents the market's forecast. The Eurodollar becomes useless if LIBOR is nothing but a scam.

The greatest offenders are listed below:

“UBS's three-month offered rate in dollars averaged 1.3 basis points less than Libor from July through April 15. By contrast, Lloyds TSB quoted rates that were 0.04 basis point above Libor on average. A basis point is 0.01 percentage point.

HSBC Holdings Plc, Europe's largest bank by market value, gave rates that averaged 1.4 basis points less than Libor. The London-based bank has taken $19.5 billion in writedowns and charges.

Royal Bank of Scotland Group Plc, the U.K.'s second- biggest bank, submitted rates that averaged 0.9 basis point below Libor. It has reported $15.3 billion in losses and writedowns.”

This also means these clowns have something to hide. Their balance sheets must be stuffed with bad Level 3 assets.

Related Posts:
ZEW Hits Record Lows, LIBOR Woes Hurting Eurodollar
Libor Poised For Shake-Up, Credibility GONE
RISE Dark Lord Libor! RISE!
The Race To The Bottom Accelerates
The South Sea Bubble and Today’s Central Banks: FRB, BOE, ECB
The TED Spread, LIBOR and EURIBOR = Scary Bad

Monday, May 26, 2008

This Bear Market Rally is Over: EURIBOR Rises Again

I’m telling you (again), central bank measures to inject liquidity aren’t working…

Euro Money-Market Rate Holds at Highest Level in Five Months: “The cost of borrowing in euros for three months stayed at the highest level since Dec. 18, according to the European Banking Federation.

The euro interbank offered rate, or Euribor, was at 4.86 percent today, unchanged since April 29, EBF data showed. The one-week rate held at 4.22 percent today, the highest level since May 13.”

It gets worse the further out you go on the curve…

12-month Euribor rate goes through 5.00%: “The 12-month Euribor rate, used as a benchmark for most Finnish housing loans, rose on Thursday to the psychological level of 5.000%, for the first time since December 2000.

Two factors have been pushing Euribor rates upwards.

On the one hand, accelerating inflation and the European Central Bank's anti-inflation statements have reduced investors' expectations of any cuts in ECB benchmark rates, and on money markets there is already an anticipation of a rate hike.

A second factor is the banks' common sense of caution as a result of the credit crunch in the international lending market. Banks are demanding a risk premium in their interbank borrowing, which lifts the market rate.

On Friday the 12-month Euribor jumped upwards once again to reach 5.028%, further increasing the borrowing burden of home-owners, although according to the Bank of Finland, an increasing number of Finnish borrowers are turning to the banks' own prime rates.

The 6-month Euribor rate was also up appreciably on Friday, from 4.906% to 4.915%.

The longer-denominated Euribor rates have been heading inexorably upwards since February of this year, in company with burgeoning prices for crude oil, which surged again on Thursday, peaking at around USD 135 a barrel.

The 12-month Euribor was at its highest level, 5.341%, in late August 2000.”

This is a disaster in slow motion. Even as central banks coordinate to cut rates to prevent the implosion of the largest debt and real estate bubbles ever, the market is driving rates higher whenever and wherever it can.

The most desperate and innovative of measures implemented by the Fed, such as the TAF, TSLF and PDCF, have done little to help (TAF, TSLF and PDCF Explained). Even coordinated reductions in the quality of collateral by all central banks have failed to help (The Race to the Bottom Accelerates).

There really isn’t that much more that can be done with rates this low, inflation this high and central bank balance sheets already heavily committed.

How bad is it, and how little maneuver room do the central banks really have? Well, that is still being debated, but it does not look good. In Really Scary Fed Chart: MAY, False Alarm? I present the arguments put forth by Market Ticker and Calculated Risk and find myself more in the pessimistic than optimistic camp.

Euribor is likely to spike further and faster as risky assets, such as equities, now begin their next leg down.

The rising Bear Wedge on the S&P 500 has definitely broken DOWN and OUT. Prices are currently entangled by the 50 day EMA after slicing through the 200 day EMA like a hot knife through butter. A pause is probable and a bounce to 1400 possible, but believe it: This Bear Market Rally is OVER. (Bear Wedge Breaks, Goldman, Lehman, Merril, Morgan: Cut to SELL)

What is the Euribor?

Related Posts:
ZEW Hits Record Low, LIBOR Woes Hurting Eurodollar
Libor Poised For Shake-Up, Credibility GONE
RISE Dark Lord Libor! RISE!
The Race to the Bottom Accelerates
The South Sea Bubble and Today’s Central Banks: FRB, BOE, ECB
The TED Spread, LIBOR and EURIBOR = Scary Bad