Sunday, September 21, 2008

Nobody Knows What They Own

Michael Bloomberg appeared on Meet the Press on September 21, 2008 for an interview segment after Treasury Secretary Henry Paulson. During a portion of the discussion, he summarized the key problem that will prevent this crisis from being solved overnight:

Nobody knows what they own.

The chop-shop securitization process creates such a puree of ownership and a blizzard of paperwork that it fundamentally eliminates any transparency that allows any would-be investor / rescuer from making an informed decision about the upside of any assets owned by a firm in trouble. If a firm is caught short holding $20 billion in mortage backed securities, there's no way for an outside party to take the paper for that $20 billion and trace it back to actual HOMES and actual BORROWERS. As a result, it is impossible for an outside party to make their own determination about the credit worthiness of the borrower and the residual value of the asset so they can produce their own conclusion about how much they should pay to acquire the asset.

So if it's impossible for outside parties to untangle the blizzard of paperwork and create sound valuations for these securities, how was it possible for the bankrupt institutions' auditors?

It wasn't.

Yet bond ratings were dutifully produced (all AAA of course). Yearly audits were produced by accounting firms and handsome fees collected for producing those audits. CEOs and CFOs signed off on those audits and misled their investors quarter after quarter. Where are the criminal charges?

The more important point now is that nothing being proposed with the bailout changes any of this. In the best of all scenarios, the government and taxpayers have assumed the roll of holding pen for any (ANY) suspect debt in the financial and housing sectors (autos may be yet to come...) while waiting YEARS for the economy to eventually improve to put these assets back into the black when prices stabilize then begin gaining again. The problem is any assets tied to overbuilt housing stock will be DETERIORATING assets as houses sit vacant and subject to people breaking in and removing all the copper pipe and wiring (it's already happening all over the country) or just vandalizing the house for the fun of it.

In short, we, the new "investors" in this Ponzi scheme, still have no way of knowing exactly which pigs in the poke we've "acquired" but it is very clear many of the assets dropped on our balance sheet will NEVER be worth more than they are right now, whatever that is.

The final irony of the bailout plan is that it proposes to dispense of the securities dumped on the Treasury by chopping them into small portfolios ($50 billion -- a "small portfolio") and handing those portfolios BACK to investment managers from Wall Street to manage. The official party line is that this is the GENIUS of the program because the federal government won't have to actually OWN the underlying housing assets, making the liquidation process faster. Of course, who ARE these portfolio managers? The same managers who devised the entire securitization scheme in the first place so they could make money via a computerized game of musical chairs -- pushing securities to the next sucker and collecting a fee for their effort -- instead of being real bankers and making real decisions about credit worthiness, ability to pay, and actual asset values.