Brent Nyitray
Fairlington Blade
Let the mutherfuker burn!
jnc4p
Kevin S. Willis
Michigoose
lmsinca
markinaustin
Arcanaut
novahockey
quarterback
ScottC
yellojktVital Statistics:
| Last | Change | Percent | |
| S&P Futures | 1397.6 | 0.8 | 0.06% |
| Eurostoxx Index | 2339.0 | 16.3 | 0.70% |
| Oil (WTI) | 104.3 | -0.2 | -0.20% |
| LIBOR | 0.466 | 0.000 | 0.00% |
| US Dollar Index (DXY) | 78.87 | -0.046 | -0.06% |
| 10 Year Govt Bond Yield | 1.92% | -0.02% | |
| RPX Composite Real Estate Index | 173.4 | 0.1 |
Markets are generally flat this morning after the release of Q1 GDP, which came in light. The economy expanded at a 2.2% annual rate in Q1 vs expectations of 2.5% and lower than the 3% number in Q4. This more or less confirms the slowdown we have been seeing in other data as well. Yesterday, initial jobless claims came in at 388k.
Yesterday, the National Association of Realtors released their March Pending Home Sales Index, which is a forward-looking index of housing activity based on contract signings. The first quarter’s activity was the highest in five years. Supply and demand are becoming more balanced. It will be interesting to see whether the banks start letting more REO go to meet the increased demand of if they continue to drip out inventory gradually.
Bill Gross continues to bet that Operation Twist continues as a mortgage play. Further, he believes that QEIII is a possibility, especially if the employment numbers weaken. Interestingly, he is also looking at this trade as a volatility bet – if you are long mortgages, you are short bond volatility – and is betting that the 10 year has more or less found its level for the next couple of years.
A pet peeve of mine is this whole idea that the repeal of Glass-Steagall somehow caused the financial crisis. It turns out that Tim Geithner agrees with me that GS didn’t play a material role. No other country in the world (EU, Japan, UK, Canada) separates commercial and investment banking, or even draws a distinction between the two for that matter. Glass-Steagall was instituted because investment banks were stuffing their sister commercial banks with poorly underwritten bonds after the market crashed in 1929. If the investment bank couldn’t sell the paper to public at par (or close to it), they sold it to their captive banks who bought it at par and marked it there until bank runs exposed the fact that these bonds were worthless. The investment banks did the same thing with the insurance companies, which is why insurance companies were included. The point of G-S was to prevent this sort of thing and to ensure that these transactions would be arm’s length.
The financial crisis didn’t occur because JP Morgan was selling suspect bonds to Chase at the end of a gun barrel. Or Citi selling worthless paper to Travelers for that matter. The cause of the financial crisis was a deflating real estate bubble, which hit banks with large derivatives exposure (Bank of America and Citi) as well as small community banks that were in the very ordinary business of making mortgages, car loans, and business loans. It turns out that the smaller banks are the ones who can’t repay TARP. If we didn’t have a real estate bubble, we wouldn’t be having this conversation.Why did we have a real estate bubble? There were a lot of contributing factors, but the biggest was the Fed and a psychological belief on the part of the public that real estate was a one-way bet.
People forget the reason why we repealed Glass-Steagall in the first place. The main reason was that the big international investment banks like UBS and Deutsche Bank were able to undercut the US investment banks because they were able to borrow at zero, while Goldman and Merrill had to fund their balance sheets at LIBOR. “Wall Street” was turning into Nomura, Barclay’s, Credit Suisse, and ING. Second, there were a couple of commercial banks who had become hybrids – JP Morgan and Bankers Trust – with Citi and Bank of America close behind. Glass-Steagall was becoming irrelevant anyway and the repeal was more or less an acknowledgment what had already happened.
Filed under: Morning Report |
All Things in Moderation 
Gold silver oil and platinum making moves in unisom this morning, seem to indicate the betting is that QE3 is back on.
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Thanks, Brent. That was informative.
I’ve read that QE3 is inevitable and it is only the timing that is in question. Does that make any sense?
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Inevitable is only for the rise in heath care and college tuition. I would say that this means the Bernank will be scrounging for votes just as hard as Obama will.
I should say though that I was wrong about this in the fall.
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i’m fairly convinced there are only two ways to control costs in health care. total price setting and rationing — the single payer route — or a shifting of costs and control to patients and a reduction of the barriers to entry for practitioners and facilities.
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Nova, a third way perhaps. Give Medicare recipients cash to use on anything the want rather than have govt pay providers.
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No politician will allow rationing.
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Cut off my own reply. Look how just slowing the rate of increase is demagogued.
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“Look how just slowing the rate of increase is demagogued”
Which is why we are screwed.
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See my above, eminently doable. I think either having the cash allotment be less than average current benefit or at least not allow increase for inflation. It will invariably pull money out of medecine.
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Do you mean cash in the HSA sense? or a voucher to purchase coverage? either way, that puts control in the hands of the patient. and we can’t have that. need them dependent to ensure votes.
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Politicians love giving out cash and people tend to shop with their own money. Also, seniors vote. A lot.
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If I’m able to shop for my own plan that covers what I want at the level I want, I’m no longer crowding town halls, hat in hand, asking members to “protect” an entitlement.
Same reason I’m doubtful that social security will ever be reformed. if we provided them the means to amass assets over time, we wouldn’t be able to scare seniors into ensuring their votes.
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In response to Brokaw’s book The Greatest Generation, my 90 year old father called them the luckiest generation, in the ironic sense of the word, because you needed a great deal of luck to live through both the Depression and then WWII, unscathed.
We, their children and grandchildren however are the non-ironic luckiest generation but we don’t understand that. We take for granted the very unique economic conditions of the post WWII era that made the US the world leader in literally everything over a prostrate fallen world.
That these economic conditions lasted a good 20-25 years is in and of itself a statement of how devastating the period before was, but the essential point is that they were completely unique both in our own history, and in the time fragment that they were available to us.
Just as first time buyers find out that they cannot live in a house comparable to their parents, so we should understand that as a nation we cannot reproduce an economy that is essentially our parents’ house.
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“o we should understand that as a nation we cannot reproduce an economy that is essentially our parents’ house.”
sure we can. we’re going to regulate our way to prosperity.
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nova:
sure we can. we’re going to regulate our way to prosperity.
Speaking of which, the CFTC has today finally issued a final definition for the term “swaps dealer” as it relates to Dodd-Frank. The definition is over 600 pages long. And while we may now know (sort of) who qualifies as a swaps dealer, we still are none the wiser on the definition of what it is they are actually dealing.
Don’t you feel more prosperous already?
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Brent:
A pet peeve of mine is this whole idea that the repeal of Glass-Steagall somehow caused the financial crisis….It turns out that the smaller banks are the ones who can’t repay TARP. If we didn’t have a real estate bubble, we wouldn’t be having this conversation.
I absolutely agree with this.
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I hereby decline to be a swaps dealer!
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banned:
You may be one anyway, since we don’t even know what a swap is yet.
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call me when the contracts referenced are in the thousands, not the millions.
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Heh. I guess you will be exempted under the de minimus clause.
I am just starting to get truly acquainted with this monstrosity that is Dodd-Frank. It is truly unbelievable in its idiocy. For example, speaking of the de minimus exemption, one metric is if your total notional amount of swaps (still to be defined) in some given time period (still to be defined) falls under some threshold (still to be defined), you will be exempted from registering as a dealer. This means that, for the purposes of establishing whether someone is a dealer or not, a single period forward rate agreement (FRA) with a notional of $200mm would be weighted equally to a 30yr interest rate swap with a notional of $200mm, despite the fact that the value at risk on a $200mm FRA is about $1,800 per basis point, while the value at risk on a $200mm 30yr swap is about $415,000 per basis point.
Good work, guys.
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This means that, for the purposes of establishing whether someone is a dealer or not, a single period forward rate agreement (FRA) with a notional of $200mm would be weighted equally to a 30yr interest rate swap with a notional of $200mm, despite the fact that the value at risk on a $200mm FRA is about $1,800 per basis point, while the value at risk on a $200mm 30yr swap is about $415,000 per basis point.
I am perfectly willing to take your word on the risk valuations.
Only out of curiosity do I ask how these are calculated. I am assuming an FRA pays once, at maturity, but the swap you posit pays annual interest differential, but then, this stuff is only academic to me and is lifeblood to you, so if you would start from my base of [mis]information, and help me out of the hole, I could perhaps have a better understanding of this.
*********
On an apparently unrelated note, The Economist really does not like Hollande as France’s next Prez.
http://www.economist.com/node/21553446
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Mark:
You are basically correct. A FRA pays once, while a swap has regular payments, usually quarterly or semi-annually, throughout its life. For all intents and purposes, an interest rate swap is essentially just a series of FRA’s strung together as a single contract.
The risk calculation simply represents the change in value of the contract due to a one basis point move in the yield curve. For example, if I sell you a $200mm 3 month FRA out of, say, June 15, and the market rate is, say, .25%, this means that you agree to pay me .25% on $200mm from June 15 to September 15, and I agree to pay you the 3m libor set on June 15 for the same period. Or, reduced to the simple math formula, the payment will be (.25% – 3ml)*$200,000,000*92/360, where 92=number of days between June 15 and September 15. If the payment is negative (ie 3ml is greater than .25) I pay you and if the payment is positive (ie 3ml is less than .25%) you pay me.
So the risk to me is that market rates move up. So for each basis point that the yield curve moves up, the value of our contract changes by: .01% X 200,000,000 X 92/360 = $5,111. Since the payment is in the future, it needs to be discounted, so the actual risk would be something a little less than $5,111. (The $1800 represented risk for a 1 month FRA).
Since a swap is essentially a series of FRAs combined together, the risk of a swap is essentially just a mulitple. A 30 year swap would have 4 3 month rate sets per year, so a total of 120 rate sets over the life, at $5000 of risk per set, for a total of $600,000 of risk. But since all of those cashflows are in the future, they need to be discounted (you need the curve to actual do the discounting) resulting in real risk of less than $600k, or about $415,000.
[edited slightly to fix who pays who if rate is higher or lower]
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Thanks. That is comprehensible. I wish I could bookmark it, so I will probably copy-paste to a file.
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Mark:
Just to give you a bit more of a feel for the market, I provided those two examples just to demonstrate that notional amount isn’t a particularly useful metric. Neither of those two deals is typical of a market trade. A standard 3m FRA will usually trade in a size of around $1 billion, while standard market size for a 30 yr trade is $25-$50 million.
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Scott, we were in the best of hands at the time. If it wasn’t for those meddling Tea Partiers we’d have gotten away with it too!
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“A pet peeve of mine is this whole idea that the repeal of Glass-Steagall somehow caused the financial crisis.”
Absent Glass-Steagall, how would you recommend structuring investment and commercial banking so that taxpayer guarentees of the commercial banking system (i.e. FDIC and access to the Federal Reserve as the lender of last resort) don’t subsidize risk taking by the investment banking side, or do you believe that is even possible to prevent the cross subsidies?
On a broader note, do you believe that TARP and the other bailout related activities (TALF, etc) were good public policy?
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jnc:
Absent Glass-Steagall, how would you recommend structuring investment and commercial banking so that taxpayer guarentees of the commercial banking system (i.e. FDIC …
FDIC is itself structured to protect taxpayers. FDIC is funded via assessments on covered banks, not by tax revenues, and while it does have a credit line with the Fed from which it can borrow in an emergency, such borrowings would be just that, borrowings. Any such borrowing would have to be paid back by raising assessments on covered banks.
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jnc:
The fed acts as a lender of last resort via the discount window. Any bank that borrows there has to post collateral against the borrowing. I believe that in the nearly 100 year existence of the Fed, it has never lost money lending via the discount window. That being the case, it isn’t clear to me that taxpayers are really at much risk at all, at least with relation to the Fed being a lender of last resort.
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“jnc:
The fed acts as a lender of last resort via the discount window. Any bank that borrows there has to post collateral against the borrowing. I believe that in the nearly 100 year existence of the Fed, it has never lost money lending via the discount window. That being the case, it isn’t clear to me that taxpayers are really at much risk at all, at least with relation to the Fed being a lender of last resort.”
I’m aware of that. What I object to is Goldman Sachs being able to convert from an investment bank to a commercial bank during the crisis specifically to take advantage of the discount window, rather than have to face the consequences of poor investment decisions and then possibly being able to convert back out once the crisis has passed to avoid any restrictions that come with being covered as a commercial bank.
Regardless of whether or not the Fed loses money, if I invested in an alternative to Goldman Sachs because I deemed their approach too risky, a bailout by the Fed disadvantages me in that it insulates them from the risk that they took on.
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Worth a read:
“Why few homeowners have been rescued
By Neel Kashkari, Published: April 27”
http://www.washingtonpost.com/opinions/why-homeowner-bailout-plans-dont-work/2012/04/27/gIQAhplImT_story.html
Key point:
“A loan modification can’t help someone who doesn’t have a job.”
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