Moon of Alabama Brecht quote
October 14, 2007

Citigroup Bailout

"Banks May Pool Billions to Avert Securities Sell-Off" reports the NYT. There is talk about a $75 billion bail out fund for mortgage packages owned by Structured Investment Vehicles (SIVs). The Wall Street Journal puts the possible fund size at $100 billion - some serious money even for a group of mega-banks.

As WSJ explains:

The new fund is designed to stave off what Citigroup and others see as a threat to the financial markets world-wide: the danger that dozens of huge bank-affiliated funds will be forced to unload billions of dollars in mortgage-backed securities and other assets, driving down their prices in a fire sale. That could force big write-offs by banks, brokerages and hedge funds that own similar investments and would have to mark them down to the new, lower market prices.

These bank-affiliated funds are off the bank balance sheets because regulators failed to demand their inclusions. The banks thereby could create more profitable credit than they are officially allowed to grant and their original capital base can support.

While the WSJ and the NYT throw in some paragraphs on how these thankfully unselfish banks led by Citigroup may just rescue small home owners and the economy, in reality the yet to be finalized rescue package has a single major beneficiary:

Citigroup has nearly $100 billion in seven affiliated structured investment vehicles, or SIVs. Globally, SIVs had $400 billion in assets as of Aug. 28, according to Moody's.

Citigroup owns a quarter of the total mess and just by coincidence that's the same amount the total rescue package might have. Indeed:

The plan is encountering resistance from some big banks. They argue that Citigroup is asking others to help bail out its affiliates and an industry-wide bailout isn't needed.

On Monday Citigroup will have to publish its quarterly results. The other banks will use the immidiate time pressure for some very profitable (for them) and costly (for Citigroup) provisions for the bail out. Either Citigroup will agree or go belly up.

In case you wonder why this is happening, don't look further than Congress and the Bush administration.

Because SIVs are off the balance sheet, it is difficult for investors to size up the financial risks they pose. Off-balance-sheet liabilities played a major role in the 2001 collapse of Enron Corp., and the makers of accounting rules have generally sought to get affiliated entities back on the balance sheets of the companies creating them.

Did I tell you that I generally sought to stop taking bribes? Funny how such intentions sometimes just slip away ...

Posted by b on October 14, 2007 at 17:03 UTC | Permalink


Some good postings on this topic at Calculated Risk

Posted by: Other Rouser | Oct 14 2007 17:14 utc | 1

The econ blog Sudden Debt also has a post on the proposed ultra SIV:

Monkeys, Nuts and CDOs

Defaults are rising, ratings are cut, market values keep coming down, but banks and hedge funds are stubbornly hanging on to their nuts. Bernanke cut rates and they took the SIV's onto their own balance sheets - and still there was trouble. The next ploy was to try and set up "separate" entities that would buy the paper from the banks at a slight discount, financed by the self-same banks. They call this an arm's length transaction, but it's their own arm inside the box holding on to the lychee for dear life. Now they are "negotiating" with the Treasury Dept. to find ways to revive the ABCP market.

In the comments section, the blogger adds,
Is the proposed Ultra-SIV a viable solution? Very short-term yes, if they ever agree on it. But past a few months, no.

This is not a mere technical liquidity crunch, i.e. due to some unusual event causing spreads to widen temporarily. Spreads are widening because a lot of the underlying collateral is falling apart as RE defaults increase. And that's why it is so difficult for the banks to agree on the Super-SIV. It's not a solution, and the longer they hang on to the paper, under any arrangement, the more the losses they are going to take. Selling outright is near impossible because THERE IS NO BUYER at the prices they need to maintain their equity capital ratios. The losses would wipe out lots and lots of equity.

Posted by: Alamet | Oct 15 2007 0:15 utc | 2

I have the feeling that the system has come to its end. It was based on price, a property that was based on scarcity but once money is produced ad libitum all scarcity disappears, prices disappear, inequality disappears. The world is being made anew perhaps the world is simply being destroyed because there is no retraint for our individual cupidity.

Posted by: jlcg | Oct 15 2007 2:33 utc | 3

Numerian at the Agonist has a good extensive explanation of the functioning of SIVs and their relations with banks.

He/she misses the point that this is a Citigroup bailout, not just a general rescue.

Posted by: b | Oct 15 2007 11:38 utc | 4

Ok - the bailout is fixed. Note how the AP headline again shows how unselfish these banks really are: Banks move to help credit markets

A consortium of major financial institutions said Monday they will team up to buy distressed assets from each other and from other companies, in an effort organized by the Treasury Department to prop up the credit markets.

Bank of America Corp., Citigroup Inc. and JPMorgan Chase & Co. are among the companies creating what will be known as the master liquidity enhancement conduit, or M-LEC. They said it could be operating within 90 days. It will fund its operations by issuing short-term debt.

So instead of the SIVs issueing short term debt, the banks will do directly. That will not help! The "assets" backing that short term debt are the same then before. Misrated mortgage packages and credit card receivables, i.e. junk.

It's a credit crunch. Just changing the debtor doesn't change the problem.

Meanwhile gold and oil hit new records today and the Euro is up again.

Posted by: b | Oct 15 2007 13:05 utc | 5

The bail outs are last ditch measures to keep the Ponzi schemes going, ripping off the poor. Anything for business as usual, as it has proved to be, and still is, lucrative.

But then... we are all dependent on this capitalist scheme. Pension funds. Stocks. Bonds. (Even if one doesn’t own any.) House prices. Etc.

Posted by: Tangerine | Oct 15 2007 17:32 utc | 6

The Wall Street Journal deals blog asks the same question, several hours after b's post here (I think - I'm always a bit confused about www time).

A Bailout for Citigroup? at October 14, 2007, 11:02 pm

The comments there surprised me. I'd never have expected that much bitterness, cynicism, in fact alienation from the system on a WSJ site.

Posted by: Alamet | Oct 16 2007 0:26 utc | 7

@Alamet - sometimes I am faster than the WSJ :-)

Roubini was also slower than me, but he of course knows more: Super-Conduit or Super-Bailout Shell Game?

Atrios quick overview of Roubini's piece.

# By itself, the creation of this self-bailout fund isn't really a federal bailout
# But the feds were involved by seriously loosening certain lending regulations, which while not exactly a financial bailout still creates a moral hazard issue.
# While such a fund may marginally help with liquidity issues, the problems aren't simply about liquidity. The problem is that that they bought a bunch of shitty assets.
# None of this is likely to work anyway, so attention should be paid to subsequent action by the feds.
# Rather than providing the needed transparency, this is just adding to the opacity which led to the problems in the first place.

Posted by: b | Oct 16 2007 14:45 utc | 8

BTW - Citigroup needs to refinance its $100 billion mess in November and the rescue operation will only be activated in some 90 days (if at all - still dicey) ...

"Can you lend me 100? Just for a few weeks? Sorry, no collateral ..."

Might get a bit raunchy ...

Posted by: b | Oct 16 2007 14:49 utc | 9

In WSJ this morning, there was a discussion around the ownership of SIV's. I was not very clear on what that meant. I tried looking for ownership information and not much is available on the internet. Can someone comment on this and inform me as to who really owns these SIV's? Second question is around how exactly do banks like Citigroup participate in the SIV's, do they create and manage these structures or are they merely providing the asset backed securities to these SIV's?

Posted by: Eva Shah | Oct 17 2007 3:21 utc | 10

@Eva - Can someone comment on this and inform me as to who really owns these SIV's? Second question is around how exactly do banks like Citigroup participate in the SIV's, do they create and manage these structures or are they merely providing the asset backed securities to these SIV's?

I'll give it a try - not sure I'll get it 100% right, but ...

The Basel rules for bank balance sheets demand that banks only lend X as much as their own capital Y. The Fed essentially says the same. So Citi with a owner capital of 100 may only give 1.000 in credits to other entities.

To get over this rule and make more profitable business banks created "off balance sheet" entities (regulators allow this why? I don't know - graft possibly).

Such entities are owned by some offshore cooperation which is owned by some other limited offshore cooperation ...

These "conduits" buy up mortgages (mortgage backed securities) and other long term debt. To finance such they sell short term debt. If short term interests are lower than long term interests all is fine.

The bank "not owning" the entity does all the buying and selling for it reaping in huge service fees for that. To sell its short term debt the entity usually gets some guarantee from its corporate mother bank - otherwise nobody would buy the stuff. This guarantee is now the problem. While the mother bank doesn't "own" the entity, it has obligations therein anyway.

But when the Fed increased interest rates because too much money was created and inflation was threatening short term yields went higher than long term yields (an "inverted yield curve"). The business of the entities (conduits) went negative, give credit for 30 years for little interest, take on debt short term for high interest doesn't make any profit. The long term mortgages also turned out to be crap because many more will default than officially expected.

While the mother bank is officially not involved through ownership, it has given guarantees and needs to fullfill those or see no business ever again.

Now there are huge losses in these entities and the banks try to get away without taking those losses on their books. If they would have to, they would not fullfill Basel and Fed rules anymore and legally would have to stop doing business.

(I moved all my money away from Citi - technically one could call it bancrupt).

Posted by: b | Oct 17 2007 5:49 utc | 11


Wow. Is there anything you cannot explain ;-)

Great post, comments, links.

Thanks, from Croatia this week.

Posted by: Hamburger | Oct 17 2007 8:45 utc | 12

Wow. Is there anything you cannot explain ;-) LOTS of stuff ... like how to make money :-)

The bailout seems still to be in balance of happening. Looks like no one of the bigger folks besides the original initiative really wants to be part of it. They, like me, think its bullshit.
Behind Banks' Credit Rescue Fund

While some people briefed on the plans say that target is fluid, others say that without the kind of critical mass of that large a fund, "it's unlikely to happen," as one put it. The three lead banks expect to ante up less than half the total, the same person said.
Rick Waddell, the new chief executive of Northern Trust Corp. in Chicago, said in an interview yesterday his company has no interest in participating in the superfund as lender or investor, particularly since it has no exposure to the kind of investment vehicles that hold the mortgage securities in question.

Mr. Waddell also described the creation of the fund as an aid to Citigroup, which has the greatest exposure of any bank to such structured investment vehicles. "It really is J.P. Morgan and Bank of America helping out Citibank," he said.

A spokeswoman for Citigroup's capital-markets division, Danielle Romero-Apsilos, called the characterization "nonsense." She added in a statement, "This is not a bailout of any kind. It is an optional source of liquidity to support this segment of the market."
Despite the symbolic importance of the participation of major Wall Street securities firms, their absence might be less significant to the outcome than would the absence of big European banks, which have greater credit capacity and had been expected to join the group.

European banks such as HSBC Holdings PLC, Barclays PLC, Deutsche Bank AG, UBS AG and Credit Suisse Group are hanging back, according to people on Wall Street. Such banks have both the big balance sheets and track records in structured finance needed to help generate the broad participation.

Citibank - It is an optional source of liquidity to support this segment of the market. "Unfortunatly that is a big market segment in which we have 25% of the assets which are worth about nothing and where we need immediate help or eat the losses."

Posted by: b | Oct 17 2007 12:07 utc | 13

My understanding of this is: US banks realize they are holding a bunch of fundamentally lousy assets. The market realized this, and now these crappy assets are stuck in the hands of the banks' puppets, with effectively no functioning market (huge bid/ask spreads). If the puppets are stuck with the assets, it will destroy them, and blowback will hit their masters. So the assets need to be unloaded by getting third parties back in the market. This is to be accomplished by the banks' selling this crap back and forth to each other, making a market appear to exist, with agreements to make sure that no bank suddenly defects and leaves their poker buddies holding more than their fair share. The super-SIV is the funding and organization for this. Onlookers will then hopefully dip their toes in, buy into what appears to be a functioning market, and over time the lousy assets will be dispersed.

Posted by: boxcar mike | Oct 17 2007 13:06 utc | 14

@baxcar mike - over time the lousy assets will be dispersed. Right - that is exactly what the Japanese banking system thought in 1990s - it only took some 15 years to bet their balance sheets back into balance.

The right thing to do right now would be to value the junk at its real price and take the losses. Banking stocks would fall some 30-50% and there would be a bit of collateral damage but banks would be healthy after that again.

The now planed ponzi scheme will only prolong the pain and make the inevitable desaster bigger. Maybe the bank owners hope for a bailout - sozializing losses is always a welcome solution. Worked with the S&L crisis but I doubt it will come this time. Just to few players there and lots of banks who do not have big problemes and would fight a government bailout for their competitor.

Posted by: b | Oct 17 2007 13:45 utc | 15

JPMorgan Chase reports record 3rd quarter earnings and revenues, despite the fact that its credit/loss provision for the first 9mos of 2007 are double that of 2006.

Maybe someone at MOA can explain how this happens?

JPMorgan Chase & Co., the nation's third-largest bank, on Wednesday managed to turn out a 2 percent profit rise in the third quarter, beating Wall Street expectations despite rocky market conditions and a rough lending climate.

After taking writedowns of $1.3 billion on leveraged loans and padding credit-loss provisions by about $2 billion, JPMorgan said net income totaled $3.37 billion in the July to September period. That's up from $3.30 billion in the same period last year.
Both earnings and revenue were the highest the New York-based bank has seen during a third quarter.

Though JPMorgan saw declines in its investment banking and retail financial services businesses, it reported record earnings in asset management, which rose 51 percent, and in Treasury and security services, which rose 41 percent.
JPMorgan's credit-loss provisions between January and September this year have totaled $4.32 billion, more than double the $2.14 billion in provisions it made in the first nine months of 2006.

Posted by: small coke | Oct 17 2007 18:34 utc | 16

Maybe someone at MOA can explain how this happens?
Hmm - that was only the press conference. We'll need to wait until someone does real forensic of the balance sheets involved (nearly impossible even for professionals). Banks have all means to hide profits and losses. Maybe they made the profits a year ago and "popped" them up now as they needed them to display positive numbers? Maybe they have deferred losses into the next decade? That's all possible and quite usual. Let's wait and watch the reports that will come over the next days ...

Posted by: b | Oct 17 2007 18:55 utc | 17

Latest news on the issue - the super-fund seem less unlikely to happen - Citigroup has found financing for its junk assets for the next three month (that will cost) - PIMCO's Gross agrees with my Japan comparison in 15

Banks’ Plan to Help May Itself Need Help

“This is just taking money from one pocket and putting it another, with admittedly slightly stronger credit backing,” said William H. Gross, the chief investment officer of Pimco, the huge bond manager.

Mr. Gross, whose firm manages about $700 billion in assets but does not hold asset-backed commercial paper issued by S.I.V.’s, said the situation reminded him of Japanese banks that refused to sell or write off troubled loans at distressed prices in the 1990s. Then, United States Treasury officials advised their counterparts in Japan to move swiftly to clear their portfolios of problem debts. Today, Treasury officials are doing the opposite, he added.

“They are refusing to liquidate assets at market levels, so the problem continues,” Mr. Gross said in a telephone interview yesterday. “Let’s get this stuff out in the open and find out what the assets are worth.”

Posted by: b | Oct 19 2007 11:29 utc | 18

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