Are you among the legions of pundits, Republican congressmen and Dallas Fed presidents who think it is well past high time for the Fed to stop buying so many bonds? Did you think, with last week’s better-than-expected jobs report and Fed doves running scared left and right, that the tide had finally turned? That at last there would be a beginning of the end to this dreadful program, as soon as next week?
Think again, because St. Louis Fed President James Bullard is making the case that quantitative easing could and possibly should go on for very close to forever. And unlike the increasingly unhinged Richard Fisher, he’s got a vote at the next couple of FOMC meetings. Read more »
And also return capital to investors. Read more »
Richard Fisher is no fan of QE3, and he’s worried that his colleagues at the Fed have developed an unquenchable, $85 billion-a-month habit. Much as he finds their addiction abhorrent, he isn’t ready to abandon them to their fate—runaway inflation and the eventual loss of their teeth. So he’s pushing a 12-step program. First, admit you have a problem. Second, stop buying MBS. Read more »
The Federal Reserve has three options when it comes to QE3. And it is keeping all of them open. Read more »
With just nine months to go in the Beard Era, the time has come for the press to start casting about for a successor. There’s the obvious one: Janet Yellen, Fed vice chairwoman, who has friends and foes, according to the Gray Lady. Apparently, though, she may be a little too worried about getting people jobs, and not worried enough about whipping inflation now. Read more »
AIG is in the news today for two very small numbers in connection with much larger numbers. First: AIG is no longer bailed out! I know, you thought that happened like six months ago, and then again three months ago, but today AIG got rid of the last little bits of government ownership, really this time:
American International Group, Inc. (NYSE: AIG) announced today that it completed the repurchase of warrants issued to the United States Department of the Treasury (U.S. Treasury) in 2008 and 2009. … AIG and the U.S. Treasury agreed upon a repurchase price of approximately $25 million for the warrants. The U.S. Treasury does not have any residual interest in AIG after AIG’s repurchase of these warrants.
“With AIG repurchasing all outstanding warrants issued to the U.S. Treasury, we are turning the final page on America’s assistance to AIG,” said Robert H. Benmosche, AIG President and Chief Executive Officer. “We appreciate the opportunities this support allowed and are proud to have returned to America every cent plus a profit of $22.7 billion.”
Back in December, I speculated baselessly about why AIG didn’t just buy back these warrants in connection with Treasury’s final sale of stock back in December, since they were just rounding error on the $7.6bn offering. I figured waiting would let the government get a better deal, and it seems to have: I ballparked a value of $18,000,000.393 for those warrants in December, so Treasury made an extra $7mm by waiting three months.1 One possible explanation is that AIG and Treasury enjoyed the dynamic of announcing “AIG HAS PAID OFF ITS BAILOUT” every three months, so they milked it for all it was worth. I’m sure someone from Treasury left a pen or something at AIG’s offices, and its return will be announced with great fanfare in a few months.
But this is a distraction from more amazing, less pleasant AIG news: Read more »
If you like or hate financial regulation you might take a quick look at today’s front-page New York Times article about how the art market is unregulated. Apparently this leads to terrible things like “chandelier bidding,” where auctioneers get the ball rolling by calling out a few fake bids, as well as conflicts of interest involved in third-party guarantees where someone writes the auction house a put on an artwork, is paid a variable commission for that put, and in some cases is allowed to credit that commission against his own bid for the artwork.1 One question you might ask is “why is that bad?”; the answer seems to be that some rich people who go to art auctions pay more for art than they would in the absence of these systems, and then feel vaguely uneasy about it. I think the whole thing disappears in the face of one more iteration of “well, why is that bad?,” but perhaps I am wrong.
There are places where you should think “customers should be protected from various sorts of sharp practices by dealers,” and there are places where you should not think that. I guess? Are there only the former?2 I come from a place that believes deeply in the separation between “sharp practices” and “illegal fraud” and works to keep them distinct. One thing the Times article mentions is that there is a law saying that stores have to display the price of their wares, and art dealers ignore that law, and this is bad for some reason. Try that law on derivatives dealers. One of the main driving forces behind financial innovation is finding novel places to hide fees.
The rest of the art-auctioneer tricks also seem pretty familiar. Imagine an M&A banker who couldn’t bluff, to the one serious bidder for an asset, that he had other bidders waiting in the wings. And of course the financial industry is very familiar with the creative use of options and guarantees to allocate value in ways beyond a headline purchase price. One flavor of that is “schmuck insurance.”3 Read more »
Today the Federal Reserve released transcripts of its 2007 FOMC meetings. The Fed has a policy of releasing these transcripts with a five-year lag. This has various advantages in terms of encouraging candor and allowing the FOMC members to discuss material nonpublic information, etc., but it has the singular disadvantage of making them look like idiots, because everyone else is five years smarter than they are. “Hahaha William Dudley thinks that Bear Stearns is fine! Bear disappeared like four years ago! Has he been living under a rock? What a moron!”
Still I think the advantages of delay outweigh the disadvantages, for the Fed. Here is Dudley in August 2007 on Bear, etc.:
As far as the issue of material nonpublic information that shows worse problems than are in the newspapers, I’m not sure exactly how to characterize that because I guess I wouldn’t know how to characterize how bad the newspapers think these problems are. [Laughter] We’ve done quite a bit of work trying to identify some of the funding questions surrounding Bear Stearns, Countrywide, and some of the commercial paper programs. There is some strain, but so far it looks as though nothing is really imminent in those areas. Now, could that change quickly? Absolutely. For example, one question that we’re following with Bear Stearns is what their clients do in terms of continuing to want to do business with them. Obviously, if people start to pull back in their willingness to do business with Bear Stearns, the franchise value of the company goes down, and that exacerbates the problem. One thing that we have heard about Bear Stearns is that they have approached a number of major commercial banks about a secured line of credit. We don’t know what the outcome will be, but they are clearly trying to get even better liquidity backstops than those they have in place today. But as far as we know, they have enough liquidity—and Countrywide as well at this moment.
Laugh if you want, but that’s sort of the thing about banks and liquidity: it’s there one day, and gone the next, and its disappearance is never predictable because as soon as it becomes predictable that your liquidity will disappear, it has already disappeared. However good may be your arguments. Bear, at the time, really was drowning in liquidity.1 Dudley just looks a little wrong in hindsight; the guys at Bear who were working to bail their sinking ship had no choice but to make contemporaneous public statements about their liquidity that were true until they weren’t. And that looked, by virtue of the quick flip between “drowning in liquidity” and just “drowning,” like they weren’t true – in a liability-incurring way – even when they were.
The transcripts don’t seem particularly laughable to me2; the FOMC members seem serious and sensible and earnest and informed and reasonably on top of current events without being all that on top of the future.3 This is called the efficient markets hypothesis. Here is Ryan Avent: Read more »
Once upon a time there was a whale, and he had a synthetic credit portfolio, and one day he did terrible terrible things with that synthetic credit portfolio, and the next day he woke up and realized he had lost $5.8 billion, and he was sad. The question for you is: was that a disaster? I think a sensible answer is:
- Well, for the whale, yes.1
- For, like, the human race, nah.2
Having a sense of proportionality here is a good idea. For one trader, losing six billion dollars, give or take, really is in the far left tail of Worst Things You Can Do, and so the whale himself was fired in infamy, though an infamy mixed with a certain envy. For his direct manager and that manager’s manager, it is probably even worse, since failing to prevent your direct report’s $6 billion loss lacks the “wow-that-takes-balls” element of actually going out there and losing six billion dollars like a whale. So they were fired too. For the bank … meh. For the Second Bank of North-Central Indiana, I’m sure losing six billion dollars would be the sort of existential disaster that would require firing the CEO, tearing down the building, and salting the earth on which it stood, but there’s a reason this didn’t happen at the Second Bank of North-Central Indiana. It happened at JPMorgan. For which it wasn’t all that much of a disaster.3
What about for JPMorgan’s regulators? I go with, like, our financial system is still here, not really any the worse for wear, but others disagree, and regulators don’t have the same “well we were profitable for the quarter” defense that JPM had.4 And so today the Fed and OCC engaged in a well-lawyered barn-door-closing exercise, issuing consent orders to JPMorgan that basically say (1) you done fucked up, but (2) you fixed it, so (3) keep doing what you’re doing. Here is the Fed: Read more »
There are lots of things to worry about in the world and somewhere on the list is the fact that, while yields on agency mortgage-backed securities are really really really low, the rate you’ll pay for a new mortgage is only really low, so a couple of reallys have fallen off a truck somewhere. This worry isn’t at the top of my personal list – my mortgage rate is low enough I guess? – but it seems to make many other people’s list for two intersecting reasons. First, if the primary desire of Fed policy is to get people to buy houses, be rich, etc., and if its primary mechanism for doing so is buying MBS, then the inefficiency in transforming that mechanism into that desire is rather macroeconomically important and bad. Second, if money is coming out of the Fed and not ending up in homeowners’ pockets, that leaves only so many pockets it could be ending up in, and it is easy enough to observe that big banks (1) sit between the Fed and the homeowners and (2) have lots of pockets. So you can see how it might be fun to worry about money going to big multipocketed banks, because if it does, you get to be mad at them.
Anyway the New York Fed is doing a conference on it today; here’s the background paper and it’s really interesting; I recommend it, particularly if, like me, you have a hazy understanding of agency mortgage securitization. Everything in this space is predicated on somewhat fake math but their math is less fake than the simple spread math, which basically assumes that banks make a profit of:1
- Annual Profit = Mortgage Rate – MBS Yield
By that math, as William Dudley points out, the spread was 30-50bps in the ’90s and early 2000s, but rose to 150bps in September and is around 120bps now. The Fed’s paper, on the other hand, walks through the actual securitization process to get cash flows into and out of the mortgage lender, and computes its profit (technically, profit plus non-interest-y costs like underwriting and hedging) as roughly:
- Up-Front Profit = Sale Price Into MBS – Origination Price + 4 x (Mortgage Rate – MBS Coupon – GSE Guarantee Fee
Why 4? I dunno it’s in the paper.2 Anyway by this measure here is what has happened in the world: Read more »