What is good for the goose is good for the...

New Yorker's Andy Borowitz has an interesting take on why he is "too big to fail" and makes his case for a bailout.

This is the first time I have ever asked for a bailout from the Federal Reserve. I know what you’re thinking. Why do I deserve your largesse, and I do mean largesse, since I’m asking for five million big ones? The answer is simple. Like many of our nation’s financial institutions, I am simply too big to fail.

Folkert de Jong's sculptural tableau. The Shooting...At Watou; 1st July 2006 on display at the James Cohan Gallery (between Sept 6 - Oct 4th 2008)

On flipping flopped companies

Looks like the Fed is flipping and flopping a lot like the McCain campaign in its policy pronouncements. “Being for something before being against the same”.

When the financial markets were melting down on Monday with Lehman going under and jobs lost all around, McCain coolly comes up and tells us that the economy is strong. Later he backtracks and says that he was talking about the American people and not the health of the economy actually. Likewise, the Fed initially said that they will not bail out AIG before actually deciding to bail them out late evening yesterday. Yes, it called for an injection of $85 billion of taxpayer money this time. Of course, this is on top of the bail out of Bear, Fannie and Freddie.

The latest bailout might be labeled as the ‘mother of all bailouts’ since it was not just the company (AIG) that was bailed out, but all those toxic assets from companies that AIG had insured. In essence, AIG's clients still got to chew on their toxic mortgage meatballs while the taxpayers stepped in to foot the bill. Of course, many will advance the argument that AIG was 'too big to fail'. Even if one agrees with this theory (yes, this too big to fail thing is fast becoming a theory as more and more banks are signing on the bailout bucket list), the bailout should have come with regulatory conditions that will prevent this mess from happening again. Of course, none of that happened. Taxpayer money was pledged to straighten a large Wall Street firm with minimal guarantees ensuring the survival of the firm, ensuring the people at the top get their regular bonuses and also ensuring that nary a legislation or regulation is passed that would have prevented a meltdown like this from happening in the future. Well, this is free market at its best.

Two things were clear after the latest bailout: The first being that the Fed is absolutely clueless and has just about zero control over the rapidly deteriorating situation in the financial markets. The other being that we have just further slowed down what was essentially an already very slow moving financial train wreck. What is that expression of Chinese torture – death by a thousand cuts – is what we will be subject to….

Of Largesse and oversized executive pay

"If you have a bazooka in your pocket and people know it, you probably won't have to use it." - U.S. Treasury Secretary Hank Paulson said at a July 15 Senate Banking Committee hearing referring to the fact that if he has a blank check for bailing out Freddie and Fannie, people will continue to trust the institutions without him having to resort to writing taxpayer monies on the blank check that was ultimately offered to him.

The Treasury department rescued Fannie Mae and Freddie Mac by placing them into a conservatorship. Paulson was proved spectacularly wrong on his bazooka based thinking when the ever falling markets combined with creditors from Asia demanding fair share for their invested bucks threatened to topple these fair handmaidens of the mortgage industry. It is indeed ironic that the bastion of free market enterprise, the United States has to resort to government backed bailouts at the end of the day. Unclear still is the cost of the bailout - which could either be $25 billion or $100 billion depending on who you talk to. We are not even sure what the exact amounts the taxpayer will have to bear.

If one assumes that a conservative 20% of the holdings of Fannie and Freddie (assets currently at $5.3 trillion) are toxic, the amount that the government will have indirectly committed would be approximately $1030 billion – or about a trillion dollars of taxpayer monies. I feel for our children who will see the effects of this played out in their lifetimes…

All said and done, this might have been the right thing to do to restore needed faith and credit in our local economy and stabilizing the global markets at large.

However, I ran into the following bit of news that smacked of double standards.... Normal wisdom and classic free market principles would allow one to punish stewards of companies by slashing pay and withholding perks for jobs poorly done. Yes, bigger screwups bestow smaller paychecks - or so the saying goes - not so for the CEO's of Freddie Mac and Fannie Mae.

From here:

Daniel H. Mudd, the departing head of Fannie Mae, stands to collect $9.3 million in severance pay, retirement benefits and deferred compensation, provided his dismissal is deemed to be “without cause,”

Richard F. Syron, the departing chief executive of Freddie Mac, could receive an exit package of at least $14.1 million, largely because of a clause added to his employment contract in mid-July as his company’s troubles deepened.

Looks like the chiefs were fattening their pockets for many years…

Mr. Mudd’s predecessor at Fannie Mae, Franklin D. Raines, took home more than $52 million while he was chief executive from 1999 to 2004 while Mr. Syron’s predecessor at Freddie Mac, Leland C. Brendsel, took home more than $28.4 million from 1993 to 2003

The real reason behind the great Freddie Fannie bailout...

Today, the revamped housing bill will be signed into law and included in the sops are huge giveaways to Fannie and Freddie Mac. Martin Mayer in his column 'Mortgaged to the World' in today's Times gets it exactly right on why we had/need to bail out Fannie and Freddie Mac. Yep, it is to finance the budget deficit and our wars fought in faraway lands (the deficit by the way is set to top off at half a trillion dollars next year).

Historically, foreign central banks that found themselves with excess dollars as the result of the American trade deficit invested that money exclusively in Treasury notes and bills. As a service, the New York Fed made those investments for them, guaranteeing them the best current price and retaining legal custody of the paper as their agent.However, by the mid-1990s the countries that had large trade surpluses with the United States — primarily in East Asia and the Persian Gulf — began to demand a better return on investment than that offered by Treasury paper.

In response, the New York Fed began to buy them “federal agency” paper — including large amounts of obligations from Fannie and Freddie. This paid somewhat better interest, and while it was not officially guaranteed by the government in the way Treasury bills were — well, you know, if push came to shove, Washington could be counted on to do the right thing.
But the truth is that nobody knows. Fannie and Freddie have financed several hundred billion dollars of doubtful mortgage paper that may or may not pay off enough to meet their debts, and they cannot predict whether they will have gains or losses from their gigantic exposures in the derivatives markets.

If the government had not guaranteed the full payments of principal and interest on their paper, the foreign governments that own so much of it might have had to show losses on their dollar-denominated accounts. To say the least, this would make them reluctant to continue to finance our trade deficit, our wars and the strength (such as it is) of our dollar.

Death by illogically exuberant consensus in the markets

Many of us over the last few days have seen prices for a barrel of oil see-sawing between 140 and 130 dollars a barrel and Fannie and Freddie Mac stocks taking wild rides in the stock market rollercoaster. Not to mention the frequent up and downswings of the DOW above and below the 11,000 mark. It often leads one to think that we may be overreacting to the information glut which may be completely useless half the time. In fact, I heard a joke on NPR yesterday telling us that the price of oil fell by nine dollars because there were NO bellicose pronouncements by the leader of Venezuela who shakes his sabers every couple of days rattling the world oil markets. Of course, not to be outdone, another take on the oil prices per barrel dropping was attributed to the clarion call of the current President of the United States exhorting the congress to pass legislation to drill for little known deposits of oil in the continental United States. Maybe the reason for such wild rides in prices could be that we have too much information on our hands and little know on how best to use and process the same. What if we suddenly stopped the flow of information to the markets and instead fed the markets global news at the end of every day - in a capsule format. Or, lock up the traders in the pit of the stock exchange, let them mull over the analysts reports, mull over company quarterlies and then figure out the best positions on take on any stock or fixed income instrument after a proper analysis. Would this be a good idea or just another crazy socialist pitch to controlling the markets? Apparently it does not seem like a crazy idea if one extrapolates from a study done by a Harvard psychologist.

In a Harvard study by psychologist Paul Andreassen, two groups of investors were given information necessary to value a stock and then asked to trade it. The only difference was that one group received frequent news about every development at the company, whereas the other received only quarterly earnings releases. The result? The latter group traded far less and ended up with twice the profits of those fed frequent news. (from here)

If one takes the sad decline of Freddie Mac and Fannie Mae, I think a comparatively small number of people might have responded to bad news in the mortgage market by selling their holdings thus causing the prices to initially fall. This fall in prices might have led others to follow the initial herd and additional selling ensued. Add to the mix the news media huffing and puffing to report on a minute by minute basis reinforcing and goading peripheral observers to sell their small holdings leading to a 'death by illogical consensus' for the stock that thus gets clobbered.

Then there are stocks that tend to act as 'stunners' grabbing so much of one's attention that focus on anything else is seems impossible. Kind of like billboards on Times Square.

A study by professors Brad Barber (UC Davis) and Terrance Odean (UC Berkeley) found that individual investors disproportionately buy “attention-grabbing” stocks, which they defined as those heavily in the news, those experiencing high, abnormal trading volume or those having just had extreme one-day returns. The authors argued that investors behave this way because of the difficulty in winnowing out good investment ideas – focusing on companies making the news helps limit the choices.(from here)

This does not go to say that one pays no attention to the news and one starts to sit down and parse financial statements and analyst fine print before making a decision to go wild with their holdings (and I think it will be stupid to do so)... On the contrary, what this points to is a sad fact of our lives - having access to more information than ever before and not knowing what to do with - worse - being actually harmed by the very information that surges to us from all sides. Corrective steps will include a more pragmatic approach to the market events that include letting the people who want to ride their ill advised Pamplonas complete their bloody course and then betting ones options calmly over the resulting carcasses of ill thought decisions. As always, the calm after the initial storm helps.

Carl Rungius (1969 - 1959), 'Alaskan Brown Bear - Out of the Shadows', oil on canvas, 60" X 75"