Merrill Fire Sale Just Another Ponzi Scheme
By - August 01, 2008

Media reports say that big global banks like Citigroup and UBS will be under renewed pressure to write down or sell billions of dollars in so-called toxic assets. This the result of Merrill Lynch's decision recently to dump $30 billion in mortgage-related securities at a huge discount. Merrill is getting rid of collateralized debt obligations (known as CDOs) for $6.7 billion, roughly 22 cents on the dollar. The buyer is Lone Star Funds. We all know that today the secondary market for CDOs is extremely illiquid. Investors need to keep in mind that Merrill will provide financing for 75 percent of the heavily discounted (78 percent off) purchase price. But does even that discount wash? Not really. The financing will amount to $5 billion. This implies that these CDOs are worth much less than 22 cents on the dollar. It's nothing new. These kind of "sales" transactions, that is, broker-dealers "selling," is a way of liquidating toxic waste at a discount while providing hedge funds and private equity funds heavily subsidized financing for it. … Many other firms will now have to use this benchmark. So, the ongoing farce of pretending to "mark down to market" the value of this junk will continue for a few quarters with continued bleeding of earnings. It would be more honest for the financial firms to write down to zero the value of these assets and leave open a possible positive revaluation if they turn out being worth more than zero. They should also keep them on the balance sheet rather than pretending to "sell" them via greater debt, which only massively adds to the credit risk that these firms are taking at the time when they should be de-leveraging rather than re-leveraging further. The investor should really put into question if this is sound financial balance sheet restructuring or another Ponzi scheme of a house of debt-upon-debt cards. To me, when you sell your worthless junk and provide financing for it, this cannot be considered a "sale" but rather another accounting scam whose purpose is hiding the full extent of the losses. If this is the way to run finances today, then it is no wonder that the system is totally broken. – News Max

Dominant Social Theme: Wall Street! More bad apples than you can count.

Free-Market Analysis: We are well into the "bunch of crooks" part of the business cycle. This is where most top-flight financial writers and analysts begin to tear into Wall Street with a vengeance. This is also the part of the cycle where topnotch journalists make their money on book deals, selling proposals to look into this or that "scam" and write big books that purport to show how Wall Streeters started with big dreams and ended up enmeshed in big crimes.

Of course it is all highly hypocritical, especially the book part. One can almost guarantee that books will be written about mortgage fraud and hedge fraud by hyper-talented reporters who are able to combine financial knowledge with first-rate journalism. The books are there for taking in part because the regulatory authorities will cooperate as big best-selling books about Wall Street crime cast them as heroes and make it easier to expand regulatory authority.

Wall Street pretends not to like these books; yet more regulation (the inevitable outcome) only eases Wall Street's job. Wall Street has tens and even hundreds of billions at its disposal. The regulatory process inevitably aids Wall Street as smaller firms simply can't compete with the blizzard of regulations and expanded best-practices that Congress and financial regulators continue to demand.

None of this regulation does much for the people it is supposed to protect, however. If it did, would the problems keep reoccurring?

The problem with the West's financial system has to do in large part with central banking money stimulation. But the chances of some hotshot reporter writing a "big book" expose about Alan Greenspan and how he may have conspired with Bill Clinton and other powerful people inside and outside of Congress to keep rates artificially low in order to keep the economy humming along (if that was the real reason) are fairly slim. It might be a big bestseller, for that matter, but the big publishers are as aligned with the current system, for the most part, as anyone else. They'd likely not touch it. Or they would publish it but not give it any publicity or push.

So the books that come out about this mess, the really good ones that get made into movies, will tend to point the finger at Wall Street rather than the larger, wretched system of finance and regulation that casts up horrible economic times as regularly as the tide casts up dead things out of the sea.

After Thoughts

Once upon a time, someone long ago came up with the bright idea of providing investors, and even anyone who wanted to take a look, with voluntary company financial statements. This went on for a long while before the crash of 1929 and the deflationary depression of the 1930s. But then, when Wall Street was at its lowest and sentiment to regulate was at its highest, the SEC began to demand that "public" companies provide investors with annual reports that included company financial statements. While this sounded like a good idea, in practice it turned into a wretched one.

Before the regulators got involved, any company that voluntarily put out a financial statement probably had nothing to hide. After all, why go to the trouble of generating a report when you didn't need to? But once such statements were mandatory, companies began looking for loopholes. What was a great idea and a terrific investment service turned into an increasingly lousy charade.

Today, many would have to agree that forcing companies to provide financial documents to the public has not proven a shield from fraud. Quite the contrary, as even the Merrill transactions above show, there are plenty of ways for financial professionals to fudge the truth at any time.

One thing you can be sure of: The next spate of regulations that will be aimed at so-called private hedge funds will do nothing to stop the next eruption of defaults, bankruptcies and downright scams once the money supply heats up the market in a few years. And you can be just as sure, this time round, as before, that the dramatic books, Wall Street exposes, magazine post mortems, financial judicial actions and trials and additional regulations will skirt round the issue of central-banking created money manias – and the people who create them. These people won't be put in the dock, or even forced to take responsibility. In some cases, they'll be rewarded with even more responsibility!

The real problem is, as always, that of trusting other people with your hard-earned cash. Probably the best way to invest in a fiat money world is to watch the business cycle and try anticipate what assets are going to get the most over-inflated and then buy in and wait. The trouble is choosing the assets and knowing when to buy or sell. It can get complicated. Everyone who mattered on Wall Street probably knew that subprime loans were "toxic" and they were only buying them to hold them and then unload them. Trouble is, the game of musical chairs inevitably leaves someone holding the bag. It could be you. Too much trouble? You can always buy gold.

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