The administration has issued draft legislation granting the power to seize and unwind financial institutions deemed too big to fail. Why wasn't the proposed bill also introduced in Congress? Are they testing the waters, or could they not find a sponsor?
Monday, March 30, 2009
Regulatory Blueprint: Topic 4, Subtopic F
A PLAN!
Over the last couple of days, Timothy Geithner demonstrated that the administration does, indeed, have a regulatory reform plan. The plan’s overall design, as described in Treasury press release TG-72, identifies four goals:
• Control of systemic risk
• Protection of consumers and investors
• Elimination of gaps in the regulatory system
• International coordination
These goals are familiarly vague (Geithner avers they originate in a fuzzy speech the President delivered at the Cooper Union) until you consider what Geithner did next. He went before the House Financial Services Committee and carefully outlined concrete steps for controlling systemic risk:
1. A single regulator responsible for systemic stability
2. “Substantially” more conservative capital requirements for systemically important institutions
3. Registration of large hedge funds and their advisers.
4. A comprehensive framework of oversight and disclosure for OTC derivatives
5. New SEC rules to protect the liquidity of the money markets
6. A resolution mechanism for entities posing a systemic risk
Then he offered actual proposed legislation for step #6! The proposed “Resolution Authority for Systemically Significant Financial Companies Act of 2009” (RASSFCA?) is modeled on the FDIC’s resolution authority and is aimed at institutions that fall outside the existing FDIC regulation regime.
RASSFCA
First, although the administration's plan will probably make the Treasury Department the systemic risk regulator - the One Agency, if you will - much has been made of Geithner's refusal to identify the who will wield resolution power (Geithner Ducks Key Question, American Banker 2009 WLNR 5704049) it seems kinda obvious, doesn't it?
The proposed resolution authority bill creates a mechanism that would work this way: if, after a somewhat convoluted process of inter-agency wrangling, it can be shown that a covered institution is:
• in danger of becoming insolvent and
• its insolvency will have serious adverse effects on “economic conditions or financial stability” in the United States, and
• emergency action would mitigate those effects,
The Fed would be empowered to use a number of emergency action tools. The tools range from loaning money to placing the company in receivership so that it can be unwound (are you listening, AIG?). Insolvency is broadly defined. “Serious adverse effects” isn’t defined at all. Receivership terminates bankruptcy proceedings, the rights of stockholders, and in an emergency, Hart-Scott-Rodino.
Next?
One can only assume this is the first salvo in a legislative bombardment. Over the next few weeks, expect to see proposed legislation for each of the points on the list above. Regulation of hedge funds gets particularly in-depth treatment in recent releases, so maybe that's next?
Over the last couple of days, Timothy Geithner demonstrated that the administration does, indeed, have a regulatory reform plan. The plan’s overall design, as described in Treasury press release TG-72, identifies four goals:
• Control of systemic risk
• Protection of consumers and investors
• Elimination of gaps in the regulatory system
• International coordination
These goals are familiarly vague (Geithner avers they originate in a fuzzy speech the President delivered at the Cooper Union) until you consider what Geithner did next. He went before the House Financial Services Committee and carefully outlined concrete steps for controlling systemic risk:
1. A single regulator responsible for systemic stability
2. “Substantially” more conservative capital requirements for systemically important institutions
3. Registration of large hedge funds and their advisers.
4. A comprehensive framework of oversight and disclosure for OTC derivatives
5. New SEC rules to protect the liquidity of the money markets
6. A resolution mechanism for entities posing a systemic risk
Then he offered actual proposed legislation for step #6! The proposed “Resolution Authority for Systemically Significant Financial Companies Act of 2009” (RASSFCA?) is modeled on the FDIC’s resolution authority and is aimed at institutions that fall outside the existing FDIC regulation regime.
RASSFCA
First, although the administration's plan will probably make the Treasury Department the systemic risk regulator - the One Agency, if you will - much has been made of Geithner's refusal to identify the who will wield resolution power (Geithner Ducks Key Question, American Banker 2009 WLNR 5704049) it seems kinda obvious, doesn't it?
The proposed resolution authority bill creates a mechanism that would work this way: if, after a somewhat convoluted process of inter-agency wrangling, it can be shown that a covered institution is:
• in danger of becoming insolvent and
• its insolvency will have serious adverse effects on “economic conditions or financial stability” in the United States, and
• emergency action would mitigate those effects,
The Fed would be empowered to use a number of emergency action tools. The tools range from loaning money to placing the company in receivership so that it can be unwound (are you listening, AIG?). Insolvency is broadly defined. “Serious adverse effects” isn’t defined at all. Receivership terminates bankruptcy proceedings, the rights of stockholders, and in an emergency, Hart-Scott-Rodino.
Next?
One can only assume this is the first salvo in a legislative bombardment. Over the next few weeks, expect to see proposed legislation for each of the points on the list above. Regulation of hedge funds gets particularly in-depth treatment in recent releases, so maybe that's next?
Friday, March 27, 2009
Partisanship Poses Systemic Risk
Before Tim Geithner could get out even the first installment of his legislative masterwork, Congressional Republicans beat him to the punch by unveiling an all-in-one regulatory reform proposal called the Financial System Stablization and Reform Act of 2009 (FSSRA). On the 23rd, Susan Collins introduced FSSRA in the Senate (S. 664) and three days later, Mike Castle introduced it in the House (HR 1754).
The Council
FSSRA does a whole bunch of stuff, but the majority of the bill is devoted to creating the Financial Stability Council - a "systemic risk monitor for the financial system of the United States". The Council would be composed of the Secretary of the Treasury and the chairs of the Board of the Federal Reserve, the FDIC, the National Credit Union Administration, the SEC and the CFTC, and headed by a Chairperson appointed by the President.
The Council would review all regulatory actions from a slew of agencies with financial-system related oversight. It would also: oversee systemic risk policy (including capital and solvency requirements), consult with foreign regulators, and review "new financial instruments".
Other
FSSRA also:
* gives the CFTC the power to regulate credit default swaps,
* forces investment bank holding companies reorganize under the Bank Holding Company Act (wait, who are we talking about here?),
* directs the SEC to finalize rules designating central CDS clearinghouses, and
* abolishes the Office of Thrift Supervision (its duties get transferred to the Office of the Comptroller of the Currency).
The Council
FSSRA does a whole bunch of stuff, but the majority of the bill is devoted to creating the Financial Stability Council - a "systemic risk monitor for the financial system of the United States". The Council would be composed of the Secretary of the Treasury and the chairs of the Board of the Federal Reserve, the FDIC, the National Credit Union Administration, the SEC and the CFTC, and headed by a Chairperson appointed by the President.
The Council would review all regulatory actions from a slew of agencies with financial-system related oversight. It would also: oversee systemic risk policy (including capital and solvency requirements), consult with foreign regulators, and review "new financial instruments".
Other
FSSRA also:
* gives the CFTC the power to regulate credit default swaps,
* forces investment bank holding companies reorganize under the Bank Holding Company Act (wait, who are we talking about here?),
* directs the SEC to finalize rules designating central CDS clearinghouses, and
* abolishes the Office of Thrift Supervision (its duties get transferred to the Office of the Comptroller of the Currency).
Thursday, March 26, 2009
SEC Publishes New '34 Act Guidance
The Corporate Counsel Blog reports that the SEC has updated the Compliance and Disclosure Guidelines for '34 Act rules with special focus on 10b-5.
FERA Goes Forward
Wednesday, March 25, 2009
A Theory of Executive Suite Relativity
People are understandably annoyed at AIG. Their conversion of bailout money into a personal windfall was ... surprising. Guest poster Mark Schwartz (our first!) argues that we can't understand the behavior of AIG executives because they inhabit a different reality.
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The past several decades have seen a massive transfer of wealth from shareholders and rank and file employees to senior level executives. This shift has placed normal people and corporate managers in parallel realities. Like the Bourbons at Versailles, executives seem incapable of understanding what the little people are so exercised about. This problem didn’t start with AIG, or even the financial sector generally. By creating an expectation of kleptocrat-level compensation, the twin instrumentalities of bonuses and stock options shifted the frame of reference in the executive suite. Stock options were supposed to be the ultimate way to tie performance to compensation, but when performance lagged, ways were found (backdating, resets) to make sure pay did not.
So these days, when a company files for bankruptcy, immediately after voiding union contracts, executives award themselves retention bonuses. Retention bonuses for the structured finance group at AIG? When Nick Leeson lost seven billion dollars of Barings' money he got no bonus. He got prosecuted.
Adding further fuel to the fire, senior government regulators either grew up within this system or are so besotted by the larger-than-life folks they are supposed to regulate that they also seem unable to understand how this plays to the public. It is not that government officials knew about these AIG bonuses but rather, that they were caught off guard by the visceral fury of the American public. How, other than by drinking the Kool-Aid themselves, could they be surprised?
So far, Obama's appointees (And I like him very much) don’t seem to be breaking the pattern. Was Mary Shapiro's tenure at FINRA so stellar that she should head the SEC? Why not Andrew Cuomo? The only one I trust is Sheila Bair. She at least has her heart in the right place.
-----------------------------------------------------------------------------
The past several decades have seen a massive transfer of wealth from shareholders and rank and file employees to senior level executives. This shift has placed normal people and corporate managers in parallel realities. Like the Bourbons at Versailles, executives seem incapable of understanding what the little people are so exercised about. This problem didn’t start with AIG, or even the financial sector generally. By creating an expectation of kleptocrat-level compensation, the twin instrumentalities of bonuses and stock options shifted the frame of reference in the executive suite. Stock options were supposed to be the ultimate way to tie performance to compensation, but when performance lagged, ways were found (backdating, resets) to make sure pay did not.
So these days, when a company files for bankruptcy, immediately after voiding union contracts, executives award themselves retention bonuses. Retention bonuses for the structured finance group at AIG? When Nick Leeson lost seven billion dollars of Barings' money he got no bonus. He got prosecuted.
Adding further fuel to the fire, senior government regulators either grew up within this system or are so besotted by the larger-than-life folks they are supposed to regulate that they also seem unable to understand how this plays to the public. It is not that government officials knew about these AIG bonuses but rather, that they were caught off guard by the visceral fury of the American public. How, other than by drinking the Kool-Aid themselves, could they be surprised?
So far, Obama's appointees (And I like him very much) don’t seem to be breaking the pattern. Was Mary Shapiro's tenure at FINRA so stellar that she should head the SEC? Why not Andrew Cuomo? The only one I trust is Sheila Bair. She at least has her heart in the right place.
Fair Value in a Hurry!
In response to a request from Congress, the Financial Accounting Standards Board has rushed out new guidance for interpreting the FASB mark-to-market accounting rule (FAS 157). The guidance takes the form of two proposed Staff Positions titled "Determining Whether a Market is Not Active and a Transaction is Not Distressed," and gasp, "Recognition and Presentation of Other-Than-Temporary Impairments." The comment period is open until April 1st so you'll need to hurry.
SEC Acting Chief Accountant James L. Kroeker has provided additional guidance in a recent speech.
SEC Acting Chief Accountant James L. Kroeker has provided additional guidance in a recent speech.
Throwing Water on the Toxics Program
WB Legal Currents has a useful outline of the toxic asset purchase plans and links to related SEC disclosure documents.
They also mention that one of the side effects of the rebirth of the MBS market will be that real valuations will be available for toxic assets. Mark-to-market + fire-sale prices may mean a balance sheet bloodbath for holders. Will holders keep their toxics in hopes of getting a better offer?
The Business Law Prof worries that hedge funds may use the program, buy credit default swaps and end up with zero exposure.
They also mention that one of the side effects of the rebirth of the MBS market will be that real valuations will be available for toxic assets. Mark-to-market + fire-sale prices may mean a balance sheet bloodbath for holders. Will holders keep their toxics in hopes of getting a better offer?
The Business Law Prof worries that hedge funds may use the program, buy credit default swaps and end up with zero exposure.
(up)Ticky Boo
Two weeks ago, Reuters reported that the SEC was going to consider reinstating the Uptick Rule. Congress may beat them to the punch. On the 16th Edward Kaufman introduced S. 605 (C.R. S3121) which would require the SEC to reinstate the Uptick Rule. The bill has been referred to the Senate Banking Committee. S. 605 would also give long-term investors priority over short sellers, outlaw naked short selling and shorten the share delivery window to three days.
At This Rate ...
Just as the Treasury is reinforcing the value of a triple-A ratings through its toxic-asset purchase programs (this appears to be the moniker of least resistance. Make a note.) The SEC is planning to examine the way it approves and monitors credit rating agencies. Yesterday, the SEC announced the panelists for its April 15th credit rating agency discussions. Click here for details from the Securities Law Prof blog.
While we're on the subject, why is the Treasury making a prior triple-A rating a condition for its toxic MBS purchase program? Hasn't it been established that the credit rating agencies were at their most irresponsible when they rated these securities? What's the reason for this seemingly requirement-less requirement?
While we're on the subject, why is the Treasury making a prior triple-A rating a condition for its toxic MBS purchase program? Hasn't it been established that the credit rating agencies were at their most irresponsible when they rated these securities? What's the reason for this seemingly requirement-less requirement?
Tuesday, March 24, 2009
Davis Polk Memo on Financial Stability
The Harvard Corporate Governance Blog has a post from the authors of Davis Polk's 30-page detailed analysis of the entire Treasury financial stability plan to date. The post is followed by a link to the memo.
Ponzimonium!
How lucky for us that Charles Ponzi had such an interesting name! So little you can do with "Jones scheme". And who knew Ponzi's eponomyous scheme still retained such vitality? A few days ago Bart Chilton, chair of the CFTC, coined the word "ponzimonium." I offer further evidence of the onset of this phenomenon:
The SEC's Office of Compliance and Inspections is conducting ponzi-detection training.
This is my favorite: the IRS has issued a revenue ruling with ponzi-scheme loss guidance!
The SEC's Office of Compliance and Inspections is conducting ponzi-detection training.
This is my favorite: the IRS has issued a revenue ruling with ponzi-scheme loss guidance!
Monday, March 23, 2009
Exit, Pursued by a Bear:
Warren Buffet, font of pith, said that when the tide goes out you see who's swimming naked. At AIG they weren't swimming at all: you could see their little heads, but their bodies had been eaten by piranhas.
Here's a smattering of AIG-iania, and let us never speak of them again:
From Dealscape: is AIG planning to change its name?
From Joe Nocera: Dear Congress - please move on.
From the Bete Noire itself: reluctant disclosure of CDS counterparties
From Lucian Bebchuk: is AIG really too big to fail?
Here's a smattering of AIG-iania, and let us never speak of them again:
From Dealscape: is AIG planning to change its name?
From Joe Nocera: Dear Congress - please move on.
From the Bete Noire itself: reluctant disclosure of CDS counterparties
From Lucian Bebchuk: is AIG really too big to fail?
First TALF Underwriting Agreement
Yesterday, Nissan Auto Recievables filed an 8-K attaching as exhibit 1.1 what appears to be the first TALF-specific underwriting agreement. Bank of America Securities is the underwiter. Section 7 of the agreement "Conditions of the Obligations of the Underwriter" contains a number of TALF-related obligations and there is an attached "Form of TALF Undertaking."
How is Subaru Going to Feel?
The Treasury and the Federal Deposit Insurance Corporation (FDIC) have unveiled their mechanisms for creating a market for subprime mortgages and their related securities derivatives (which they've decided to call "legacy assets"). The program is sketched out in this Treasury Department press release (tg-65). Scroll down to the bottom for links to the contracts and FAQs (how can a brand new program have frequently asked questions).
For bad mortgages, the FDIC will match assets and purchasers. Purchase money will be made up of a small equity stake and FDIC guaranteed-debt. The equity contribution will be split between the purchaser and the FDIC and will be leveraged six-to-one.
This helpful explanation is from the press release:
Sample Investment Under the Legacy Loans Program
Step 1: If a bank has a pool of residential mortgages with $100 face value that it is seeking to divest, the bank would approach the FDIC.
Step 2: The FDIC would determine, according to the above process, that they would be willing to leverage the pool at a 6-to-1 debt-to-equity ratio.
Step 3: The pool would then be auctioned by the FDIC, with several private sector bidders submitting bids. The highest bid from the private sector – in this example, $84 – would be the winner and would form a Public-Private Investment Fund to purchase the pool of mortgages.
Step 4: Of this $84 purchase price, the FDIC would provide guarantees for $72 of financing, leaving $12 of equity.
Step 5: The Treasury would then provide 50% of the equity funding required on a side-by-side basis with the investor. In this example, Treasury would invest approximately $6, with the private investor contributing $6.
Step 6: The private investor would then manage the servicing of the asset pool and the timing of its disposition on an ongoing basis – using asset managers approved and subject to oversight by the FDIC.
There will be two programs for purchasing mortgage-backed securties. The first will simply extend TALF to mortgage-backed securities issued before 2009 (and initially rated triple-A). The second would allow approved, seasoned MBS poolers to raise an investment fund which the FDIC would then match dollar-for-dollar.
For bad mortgages, the FDIC will match assets and purchasers. Purchase money will be made up of a small equity stake and FDIC guaranteed-debt. The equity contribution will be split between the purchaser and the FDIC and will be leveraged six-to-one.
This helpful explanation is from the press release:
Sample Investment Under the Legacy Loans Program
Step 1: If a bank has a pool of residential mortgages with $100 face value that it is seeking to divest, the bank would approach the FDIC.
Step 2: The FDIC would determine, according to the above process, that they would be willing to leverage the pool at a 6-to-1 debt-to-equity ratio.
Step 3: The pool would then be auctioned by the FDIC, with several private sector bidders submitting bids. The highest bid from the private sector – in this example, $84 – would be the winner and would form a Public-Private Investment Fund to purchase the pool of mortgages.
Step 4: Of this $84 purchase price, the FDIC would provide guarantees for $72 of financing, leaving $12 of equity.
Step 5: The Treasury would then provide 50% of the equity funding required on a side-by-side basis with the investor. In this example, Treasury would invest approximately $6, with the private investor contributing $6.
Step 6: The private investor would then manage the servicing of the asset pool and the timing of its disposition on an ongoing basis – using asset managers approved and subject to oversight by the FDIC.
There will be two programs for purchasing mortgage-backed securties. The first will simply extend TALF to mortgage-backed securities issued before 2009 (and initially rated triple-A). The second would allow approved, seasoned MBS poolers to raise an investment fund which the FDIC would then match dollar-for-dollar.
Friday, March 20, 2009
TALF Offerings Trickle Out
In the roundup column of Westlaw Business' Legal Currents they mention the advent of TALF-specific prospectuses. To be a TALF-eligible investment asset-backed securities must have been issued since January 1st, be rated triple-A, and be backed by a pool of either credit card or auto loan payments.
Not many asset-backed deals have been registered or issued since January 1st. I used Westlaw Business' Registrations and Prospectuses search to find out which were TALF-eligible:
Citibank: 3 billion, credit card receivables, AAA
Nissan: 2.5 billion, auto loan receivables, AAA
Ford: 2.2 billion, auto loan receivables, AAA
Harley Davidson: 5 billion, auto loan receivables, AAA
AMEX: 50 billion, credit card receivables, AAA
Chase: shelf filed, credit card receivables, expected AAA
Honda: 1.3 billion, auto loan receivables, AAA
Four of these seven issuers have produced TALF-specific prospectuses with TALF-related risk factors and an attached "Certificate of TALF Eligibility." Three of the four are auto companies (and the fourth is Citibank).
Citibank
Nissan
Harley Davidson
Ford
Not many asset-backed deals have been registered or issued since January 1st. I used Westlaw Business' Registrations and Prospectuses search to find out which were TALF-eligible:
Citibank: 3 billion, credit card receivables, AAA
Nissan: 2.5 billion, auto loan receivables, AAA
Ford: 2.2 billion, auto loan receivables, AAA
Harley Davidson: 5 billion, auto loan receivables, AAA
AMEX: 50 billion, credit card receivables, AAA
Chase: shelf filed, credit card receivables, expected AAA
Honda: 1.3 billion, auto loan receivables, AAA
Four of these seven issuers have produced TALF-specific prospectuses with TALF-related risk factors and an attached "Certificate of TALF Eligibility." Three of the four are auto companies (and the fourth is Citibank).
Citibank
Nissan
Harley Davidson
Ford
Hedge Fund Scrutiny
Yesterday, Westlaw Business Legal Currents posted a survey of the increasing interest regulators in the United States, Canada and the UK are taking in the activities of hedge funds. The article examines both enforcement and regulatory changes, paying special attention to the Hedge Fund Transparency Act. For more on the HTA, see this post from Race to the Bottom.
Thursday, March 19, 2009
Speech, Hearing
The FEI Blog has a nice overview of President Obama's speech about market regulation and a Congressional hearing scorecard.
Sorry, Professor Chen
It has been a long time since I took constitutional law, but the first thing I thought when I heard about the whole tax-their-bonuses approach of HR 1586 is that it sounded vaguely unconstitional-ish. In an interview with the WSJ Law Blog Lawrence Tribe makes very short work of any such arguments.
Wednesday, March 18, 2009
SEC Update
Erik Sirri, Director of the Division of Trading and Markets testifies about observations and lessons learned from the CSE program:
Julie Zelman Davis has been named Deputy Director of the agency's Office of Legislative and Intergovernmental Affairs, where she will serve as a key liaison between the Commission and Congress.
The SEC will hold an open meeting on April 8th to discuss whether to propose a short sale price test (does this mean the uptick rule?)
New CDS counterparty alert: they're coming fast and furious. Today's victim? The Chicago Mercantile Exchange.
Commissioner Elisse Walter offers a conservative agenda for regulatory reform: regulate OTC derivatives by repealing the CFMA, require hedge fund managers to register as investment advisers, merge the SEC and the CFTC.
Ethiopis Tafara, Director of the SEC's Office of International Affairs offers a more radical prescription.
* no parent company liquidity pool can withstand a "run on the bank."
* there is a need for focus on illiquid assets held by financial firms
* Recent events have proven the limitations of certain risk metrics such as Value-at-Risk
* critical financial and risk management controls cannot just exist on paper
Julie Zelman Davis has been named Deputy Director of the agency's Office of Legislative and Intergovernmental Affairs, where she will serve as a key liaison between the Commission and Congress.
The SEC will hold an open meeting on April 8th to discuss whether to propose a short sale price test (does this mean the uptick rule?)
New CDS counterparty alert: they're coming fast and furious. Today's victim? The Chicago Mercantile Exchange.
Commissioner Elisse Walter offers a conservative agenda for regulatory reform: regulate OTC derivatives by repealing the CFMA, require hedge fund managers to register as investment advisers, merge the SEC and the CFTC.
Ethiopis Tafara, Director of the SEC's Office of International Affairs offers a more radical prescription.
Such a Deal! IBM Saves Itself $180 Billion
The Wall Street Journal has reported that International Business Machines (IBM) is negotiating to buy Sun Microsystems (JAVA). The reported offering price is the astoundingly teensy sum of $7 billion. Even this small figure is a 50% premium over Sun's market capitalization as of yesterday's close of $4.92. IBM will probably have to increase its offer because during today's trading Sun's value doubled. It closed at almost $9 (market cap $6.7 billion).
As recently as 2007, Sun was trading around $25 (market cap $19.3 billion), so IBM is getting a pretty good deal.
But, the reason $7 billion sounds like pocket change to me is because back during the tech bubble Sun was trading at over $200/share *and* it had more shares outstanding. In fact, at its peak Sun had a market cap of $194 billion.
As recently as 2007, Sun was trading around $25 (market cap $19.3 billion), so IBM is getting a pretty good deal.
But, the reason $7 billion sounds like pocket change to me is because back during the tech bubble Sun was trading at over $200/share *and* it had more shares outstanding. In fact, at its peak Sun had a market cap of $194 billion.
The Poor Workman Blames His Tools
It was recently disclosed that a lot of the government money given to A.I.G. ended up in the hands of Goldman Sachs. Reuters has 10 questions for Goldman Sachs (and GS' "answers"): "The majority of Goldman Sachs' CDS (credit default swap) exposure to AIG Financial Group was collateralized. That means that Goldman Sachs had collateral."
None of this is a surprise - in fact it gets at the heart of why A.I.G. continues to be propped up. Other institutions bought insurance from A.I.G. and their continued survivial depends upon A.I.G. being able to pay. As I blogged a few months ago, a typical CDS transaction has a built-in collateral call when either the underlying obligation or the insurer runs into financial trouble. What this means in practice is that both A.I.G.'s precarious financial state and the collapse of the ABS market translate into an ongoing obligation for A.I.G. to shovel money to the parties who bought the CDS'. A.I.G. was the only player in the CDS casino dopey enough to place bets in only one direction.
If A.I.G. is just a funnel the government uses to keep other instituitions afloat I think it is reasonable to ask why something else won't do just as well?
None of this is a surprise - in fact it gets at the heart of why A.I.G. continues to be propped up. Other institutions bought insurance from A.I.G. and their continued survivial depends upon A.I.G. being able to pay. As I blogged a few months ago, a typical CDS transaction has a built-in collateral call when either the underlying obligation or the insurer runs into financial trouble. What this means in practice is that both A.I.G.'s precarious financial state and the collapse of the ABS market translate into an ongoing obligation for A.I.G. to shovel money to the parties who bought the CDS'. A.I.G. was the only player in the CDS casino dopey enough to place bets in only one direction.
If A.I.G. is just a funnel the government uses to keep other instituitions afloat I think it is reasonable to ask why something else won't do just as well?
Tuesday, March 17, 2009
Wish I'd Thought of it First Department
Wonderful article in WB Legal Currents today about the interlocking pieces of the disaster that is: The Notorious A.I.G.
Monday, March 16, 2009
Will TALF be a Black Hole?
The New York Fed is about to start handing out money to anyone smart/dumb/crazy enough to invest in the asset-backed securities market. The idea is that giving big investors money to buy securities backed by car loans, credit card repayments or small business loans will create a market for those ABS securities. If a market develops, credit card and auto loan writers will have incentive to write more loans because they'll be able to package them and sell them to investors. So, the money starts with the big investors (hedge funds, pension funds, etc.) and eventually trickles down to you so you can buy a car.
The way regulations currently stand, there's a possibility that we'll never know who got the money or what they bought. If the securities are being sold in big blocks at an auction run by the NY Fed there won't be any obligation to register them and if the buyers are non-public investors like hedge funds there won't be any obligation to disclose the terms of the transaction.
The way regulations currently stand, there's a possibility that we'll never know who got the money or what they bought. If the securities are being sold in big blocks at an auction run by the NY Fed there won't be any obligation to register them and if the buyers are non-public investors like hedge funds there won't be any obligation to disclose the terms of the transaction.
Stocks and Bonds
Thank you, Harry Markopolos. Mary Schapiro told the House Committee on Financial Services that she's considering a bounty program for financial fraud tips. Her complete written testimony is here. More from Securities Docket.
I'm picturing Duane Chapman breaking down Hank Greenberg's door.
Alaskans Overreach
In a recent no-action letter, the SEC allowed Alaska Air Group to omit from proxy materials a novel attempt to rein in 10b-5 liability. The proposal would have limited damages in suits that use the fraud-on-the-market theory to show reliance. Alaska Air Group sought to exclude the proposal along with two others submitted by the same shareholder. The SEC never reached Alaska Air's substantive argument against the proposal - they relied on an informal rule that shareholders can make only one proposal per meeting.
Two Weeks at Today's Prices
FEI's Financial Reporting Blog describes an exchange (at a Congressional hearing) between FASB Chair Robert Harz and Rep. Gary Ackerman where Harz says he'll try to have final mark-to-market rules ready in three weeks. SEC Chief Accountant James Kroeker also agreed to the fast-track timeline.
Merry TALF Day!
Today's the day that investors start applying to participate in the New York Fed's upcoming auction of triple-A rated asset securitizations through the Term Asset-Backed Securities Loan Facility (TALF - am I the only one who can has to check every time because I can't remember what TALF stands for?). According to the very handy TALF Cheat Sheet from Morrison & Forester, TALF loans are available to buy ABS secured by credit card loans, auto loans and Small Business Administration loans.
ABS financing is almost completely moribund. According to Thomson Reuters' 4th Q '08 Debt Capital Markets league table ABS deals are down 82% since the beginning of last year. TALF is supposed to get that ABS market humming again. So, the stakes are high for the New York Fed. As Reuters reports, they have rejigged the TALF master agreement to make it easier on investors. But, as Westlaw Business points out, caution is still warranted when entering the ABS market.
Investors will be applying to participate in an auction for asset-backed securities issued since January. The auction winners will get loans under TALF.
ABS financing is almost completely moribund. According to Thomson Reuters' 4th Q '08 Debt Capital Markets league table ABS deals are down 82% since the beginning of last year. TALF is supposed to get that ABS market humming again. So, the stakes are high for the New York Fed. As Reuters reports, they have rejigged the TALF master agreement to make it easier on investors. But, as Westlaw Business points out, caution is still warranted when entering the ABS market.
Investors will be applying to participate in an auction for asset-backed securities issued since January. The auction winners will get loans under TALF.
Wednesday, March 11, 2009
TALF Agreement Amended
The New York Fed has revised the Master Agreement and accompanying documentation for the Term Asset-Backed Securities Loan Facility. They have also released marked-up versions showing the changes from the original documents released last week.
Where Are the Rules?
Although you, astute researcher, have probably noticed, it has just come to my attention that I'm not doing regulatory research the way I used to. You don't see many proposed rules in the Federal Register these days (or the Federal Reserve Bulletin, for that matter). Instead, this year's most important rules are being issued as press releases. As far as I can tell, the only place where one may find all the rules, agreements and guidelines governing stimulus spending is the web.
The Department of the Treasury has a very good links page, but some of the important documents are on the websites of other government entities like the New York Fed. The administration has put up two websites: recovery.gov, which is low on legal content, and financialstability.gov which is "coming soon."
These press release "rules" convey only general concepts. They arise in a vacuum - without visible discussion and free of the editorial explanations that accompany real rules. To me, this is a serious blow to the authority of the rules and to the notion of government transparency generally.
The Department of the Treasury has a very good links page, but some of the important documents are on the websites of other government entities like the New York Fed. The administration has put up two websites: recovery.gov, which is low on legal content, and financialstability.gov which is "coming soon."
These press release "rules" convey only general concepts. They arise in a vacuum - without visible discussion and free of the editorial explanations that accompany real rules. To me, this is a serious blow to the authority of the rules and to the notion of government transparency generally.
What ISDA Matter?
Yesterday, the Senior Supervisors Group, composed of national banking regulators from seven countries, released a report titled Observations on Management of Recent Credit Default Swap Credit Events. Although the report is short, it is very tough sledding.
The Senior Supervisors Group examined the process for unwinding a credit default swap when something bad happens. They found that the process works pretty well, but they didn't like that it is ad hoc instead of part of a standard contract.
Standard agreements governing credit default swaps are drawn up by an industry body called the International Swaps and Derivatives Association, Inc (ISDA). Under ISDA's 2003 Credit Derivatives Definitions, when a CDS experiences a "credit event" it terminates and is settled via an auction. There are six credit events, and all of Article IV of the 2003 Credit Derivatives Definitions is devoted to explicating them.
The process of incorporating the auction process into the 2003 Definitions has acquired the unusual name "hard wiring." ISDA has published a hard wiring timetable and a central list of developments.
The Senior Supervisors Group examined the process for unwinding a credit default swap when something bad happens. They found that the process works pretty well, but they didn't like that it is ad hoc instead of part of a standard contract.
Standard agreements governing credit default swaps are drawn up by an industry body called the International Swaps and Derivatives Association, Inc (ISDA). Under ISDA's 2003 Credit Derivatives Definitions, when a CDS experiences a "credit event" it terminates and is settled via an auction. There are six credit events, and all of Article IV of the 2003 Credit Derivatives Definitions is devoted to explicating them.
The process of incorporating the auction process into the 2003 Definitions has acquired the unusual name "hard wiring." ISDA has published a hard wiring timetable and a central list of developments.
Monday, March 9, 2009
One Fourth Quality
Reading gets only one day, while "quality" rates a whole month (HJ Res. 204, 135 Cong. Rec S11716-03, 1989 WL 191904) and libraries, apparently, fall somewhere in between.
In honor of National Library Week, The Speculative Debauch will present a research skills webinar titled "How to Keep on Top of the Financial Crisis Instead of the Other Way Around."
Email invitations will be sent soon. If you don't get one please drop me an email and let me know.
In honor of National Library Week, The Speculative Debauch will present a research skills webinar titled "How to Keep on Top of the Financial Crisis Instead of the Other Way Around."
Email invitations will be sent soon. If you don't get one please drop me an email and let me know.
SEC Update
The SEC had a busy week! It seems Mary Schapiro is starting to reveal her regulatory priorities, viz:
Counterparty Like its 1999: the SEC has approved another central counterparty for credit default swap transactions and even though, as the release admits, they can only regulate "those CDS that are not swaps" (what does that "S" stand for?), they're game.
Round 'n' Roundtable: on April 16th, yet another discussion of how to regulate credit rating agencies. Mary Schapiro calls it "clearly one of this agency's most important responsibilities."
Tweeeet: the SEC has brought in a consulting firm to help evaluate and improve the way it handles whistleblower complaints.
Counterparty Like its 1999: the SEC has approved another central counterparty for credit default swap transactions and even though, as the release admits, they can only regulate "those CDS that are not swaps" (what does that "S" stand for?), they're game.
Round 'n' Roundtable: on April 16th, yet another discussion of how to regulate credit rating agencies. Mary Schapiro calls it "clearly one of this agency's most important responsibilities."
Tweeeet: the SEC has brought in a consulting firm to help evaluate and improve the way it handles whistleblower complaints.
Briefly Noted: lists
Securities Docket reports that the D&O Diary has begun a running list of Stanford-related litigation. D&O Diary presently maintains a list of Madoff litigation.
The most recent issue of Fortune has an interview with SEC Chairman Mary Schapiro. You can read it for free here.
The Corporate Counsel Blog reports that Felicia Kung is the new head of rulemaking at the SEC Division of Corporation Finance.
Reuters reports that the Rohm Haas / Dow Chemical trial is coming soon and both companies have submitted witness lists.
Reuters also reports that rumored zombie bank Citigroup has taken the top spot in Thomson Reuters' global M&A league table for 2008. It looks like we're talking less Night of the Living Dead and more Land of the Dead.
The most recent issue of Fortune has an interview with SEC Chairman Mary Schapiro. You can read it for free here.
The Corporate Counsel Blog reports that Felicia Kung is the new head of rulemaking at the SEC Division of Corporation Finance.
Reuters reports that the Rohm Haas / Dow Chemical trial is coming soon and both companies have submitted witness lists.
Reuters also reports that rumored zombie bank Citigroup has taken the top spot in Thomson Reuters' global M&A league table for 2008. It looks like we're talking less Night of the Living Dead and more Land of the Dead.
Sunday, March 8, 2009
Proxy Advisor Ethics?
Although I have tried to hide it, you, careful reader, have probably detected in these pages a slight, almost unnoticable bias against credit rating agencies. I know it’s irrational, and I apologize. It’s not like they wrecked the economy. It's not like they've cleverly used the First Amendment to avoid regulation. Sorry - *ahem*
My point was that my father-in-law bears a similar grudge toward proxy advisors. Whenever the subject comes up, he mutters darkly about “that racket,” (he doesn’t mean noise). So, he'll be happy to hear that Yale’s business school has proposed a code of ethics for proxy advisors. The press release announces "a series of breakthrough steps to boost transparency among institutional investors and the proxy voting services that advise them on relations with corporations."
My point was that my father-in-law bears a similar grudge toward proxy advisors. Whenever the subject comes up, he mutters darkly about “that racket,” (he doesn’t mean noise). So, he'll be happy to hear that Yale’s business school has proposed a code of ethics for proxy advisors. The press release announces "a series of breakthrough steps to boost transparency among institutional investors and the proxy voting services that advise them on relations with corporations."
Thursday, March 5, 2009
Singing the Praises of Securities Regulation
Eddie Cantor was an actor, singer, and comedian who made his name in the Ziegfeld Follies and lost his money in the 1929 crash. Reading about him over the last couple of days, I was struck not by the similarities between today and 1929, but by the differences. One principal difference, actually: federal regulation of securities transactions. As you read the story below try to pick out all the places where our present securities laws would have led to a different result. Ready?
In 1929, Eddie Cantor’s neighbor Nathan Jonas advised him to buy a big chunk of a new investment trust called Goldman Sachs Trading Corporation (GSTC). Cantor invested most of his life savings in GSTC. It was selling for $350/share. By 1933 it had sunk to $1.75.
GSTC was the center of a web of funds that employed layers of borrowed money to turn small equity stakes into piles of cash. The example generally cited (because it appears to be the only transaction recorded) is the Shenandoah & Blue Ridge Corporation funds.
The transaction worked like this: GSTC organized an investment fund called Shenandoah Corporation and put $40 million (mostly borrowed) into it. Shenandoah raised $20 million more by selling debt to the public. Shenandoah invested its $60 million in a controlling stake in another GSTC investment fund: Blue Ridge Corporation. Blue Ridge sold about $130 million in securities to the public. It sold some equity, but mostly debt. Blue Ridge used its $190 million to buy utility stock.
For a minimal cash outlay (maybe as little as $10 million) GSTC ended up in control of a $190 million cash pool. Because the debt holders of each investment fund were promised a set rate of return, the majority of any increase in the value of Blue Ridge’s investment portfolio would go directly to GSTC. However, for the same reason, even a small decrease in the value of the Blue Ridge portfolio would lead to default: as Harold Bierman dryly observed “this was a risky investment.”
So, why did so many people invest? There was in 1929 a craze for investment funds. These funds were entirely opaque to investors. They were sold on name recognition. For instance, on the board of Blue Ridge were: future Secretary of State John Foster Dulles, future Sullivan & Cromwell managing partner Arthur Dean, economist, Muzak founder, and head of Goldman Sachs Waddill Catchings, and Walter Sachs.
After he got wiped out, Eddie Cantor spent a couple of years trying to make it so that people would burst out laughing whenever someone said “Goldman Sachs.” Then he tried a more serious, and ultimately, less effective approach – he sued. His was one of more than 20 shareholder derivative suits brought by the shareholders of GSTC. Eventually, these suits were consolidated and in 1933 they were settled for about $385,000. It doesn’t sound like much, especially since only $85,000 of it was cash. The rest was GSTC stock that the company (now called Pacific Eastern Corporation) gave itself.
In 1929, Eddie Cantor’s neighbor Nathan Jonas advised him to buy a big chunk of a new investment trust called Goldman Sachs Trading Corporation (GSTC). Cantor invested most of his life savings in GSTC. It was selling for $350/share. By 1933 it had sunk to $1.75.
GSTC was the center of a web of funds that employed layers of borrowed money to turn small equity stakes into piles of cash. The example generally cited (because it appears to be the only transaction recorded) is the Shenandoah & Blue Ridge Corporation funds.
The transaction worked like this: GSTC organized an investment fund called Shenandoah Corporation and put $40 million (mostly borrowed) into it. Shenandoah raised $20 million more by selling debt to the public. Shenandoah invested its $60 million in a controlling stake in another GSTC investment fund: Blue Ridge Corporation. Blue Ridge sold about $130 million in securities to the public. It sold some equity, but mostly debt. Blue Ridge used its $190 million to buy utility stock.
For a minimal cash outlay (maybe as little as $10 million) GSTC ended up in control of a $190 million cash pool. Because the debt holders of each investment fund were promised a set rate of return, the majority of any increase in the value of Blue Ridge’s investment portfolio would go directly to GSTC. However, for the same reason, even a small decrease in the value of the Blue Ridge portfolio would lead to default: as Harold Bierman dryly observed “this was a risky investment.”
So, why did so many people invest? There was in 1929 a craze for investment funds. These funds were entirely opaque to investors. They were sold on name recognition. For instance, on the board of Blue Ridge were: future Secretary of State John Foster Dulles, future Sullivan & Cromwell managing partner Arthur Dean, economist, Muzak founder, and head of Goldman Sachs Waddill Catchings, and Walter Sachs.
After he got wiped out, Eddie Cantor spent a couple of years trying to make it so that people would burst out laughing whenever someone said “Goldman Sachs.” Then he tried a more serious, and ultimately, less effective approach – he sued. His was one of more than 20 shareholder derivative suits brought by the shareholders of GSTC. Eventually, these suits were consolidated and in 1933 they were settled for about $385,000. It doesn’t sound like much, especially since only $85,000 of it was cash. The rest was GSTC stock that the company (now called Pacific Eastern Corporation) gave itself.
EFAR God
This morning, the Senate Judiciary Committee spent some time discussing the Fraud Enforcement and Recovery Act of 2009: S 386 - known as "FERA". FERA, in addition to being a anagram of fear (and efar) adds a few teeth to the US criminal law.
It extends many provisions of the criminal law to mortgage lenders by adding "Mortgage Lending Business" to the definition of "Financial Institution" in 18 USCA 20. It incorporates TARP fraud into the definition of government contracting fraud in 18 USCA 1031 and it expands the definition of securities fraud (18 USCA 1348) to include fraud involving commodity derivatives.
It also gives the Department of Justice $155 million to ensure that these new criminal provisions are enforced.
It extends many provisions of the criminal law to mortgage lenders by adding "Mortgage Lending Business" to the definition of "Financial Institution" in 18 USCA 20. It incorporates TARP fraud into the definition of government contracting fraud in 18 USCA 1031 and it expands the definition of securities fraud (18 USCA 1348) to include fraud involving commodity derivatives.
It also gives the Department of Justice $155 million to ensure that these new criminal provisions are enforced.
Wednesday, March 4, 2009
SOX Not Suited to Private Suit
Race to the Bottom is on a roll (to the bottom, presumably). Today they discuss In Re Digimark Corp. Derivative Litigation (549 F.3d 1223) a Ninth Circuit case where the court found that there is no private right of action under SOX section 304.
Two kinds of securities law causes of action give private parties the right to sue: sections that explicitly create a private right of action, and sections which declare certain actions, “unlawful,” and which have been held by courts to imply a right to maintain a civil action. Section 11 and 12 of the ’33 Act, for instance, create explicit private rights of action. Section 10(b) of the '34 Act has been held to create an implied private right of action. Implied rights of action have a long history in the courts, but they are presently out of favor. It is reasonable to expect that the Supreme Court will not find any new implied rights of action. Presently, there are only 3: 10(b), 14a-9, and 14(e).
The decision is available on RTB's sister site at the University of Denver Law School.
Two kinds of securities law causes of action give private parties the right to sue: sections that explicitly create a private right of action, and sections which declare certain actions, “unlawful,” and which have been held by courts to imply a right to maintain a civil action. Section 11 and 12 of the ’33 Act, for instance, create explicit private rights of action. Section 10(b) of the '34 Act has been held to create an implied private right of action. Implied rights of action have a long history in the courts, but they are presently out of favor. It is reasonable to expect that the Supreme Court will not find any new implied rights of action. Presently, there are only 3: 10(b), 14a-9, and 14(e).
The decision is available on RTB's sister site at the University of Denver Law School.
TALF to the Wesque!
Yesterday, the Treasury, Federal Reserve Board and the New York Fed announced a new program to revivify the asset-backed securities market. The Term Asset-Backed Securities Loan Facility is faddled wifth the liwsp induffuing acronym "TALF," the new program:
The TALF Master Loan and Security Agreement are available on the NY Fed's website.
"is designed to catalyze the securitization markets by providing financing to investors to support their purchases of certain AAA-rated asset-backed securities (ABS) [...] the Federal Reserve Bank of New York will lend up to $200 billion to eligible owners of certain AAA-rated ABS backed by newly and recently originated auto loans, credit card loans, student loans, and SBA-guaranteed small business loans."
The TALF Master Loan and Security Agreement are available on the NY Fed's website.
Tuesday, March 3, 2009
FASB's Shadow
Tammy Whitehouse of Compliance Week has a good post about FASB's recent decision to retreat, again, from fair-value accounting for contigencies in business combinations. "It's our version of Ground Hog Day," says FASB Chair Robert Herz - looks like six more weeks of "reasonably estimated".
Systemic Risk is on the Agenda!
In the first sign that Congress may yet employ big-picture thinking about regulatory reform, the House Financial Services Subcommittee on Capital Markets, Insurance, and Government Sponsored Enterprises announced that on Thursday it will begin hearings on systemic risk and how to "improve the ability of the government to prevent private sector activities from putting at risk the stability of the U.S. economy." The subcommittee's press release goes on to say that: "The hearing will assist the Financial Services Committee in crafting legislation to create a systemic risk regulator for the financial services industry."
NYSE Reproposes Uninstructed Voting Amendment
If you don't fill out a proxy card, your broker can vote your shares any way he pleases, as long as the issue being voted on isn't "controversial." This is called "uninstructed" voting. This rule exists so that shareholder meetings can get quorum. Election of directors is considered non-controversial when there is no opposing slate.
In 2006, the New York Stock Exchange tried to amend its rule (Rule 452) about unistructed voting. It sought to take away the right of NYSE member brokers to vote uninstructed proxies for directors. The SEC did nothing and the proposed amendment died. Last week, the NYSE resubmitted the proposal.
Thanks to Race to the Bottom for its excellent coverage of this issue.
In 2006, the New York Stock Exchange tried to amend its rule (Rule 452) about unistructed voting. It sought to take away the right of NYSE member brokers to vote uninstructed proxies for directors. The SEC did nothing and the proposed amendment died. Last week, the NYSE resubmitted the proposal.
Thanks to Race to the Bottom for its excellent coverage of this issue.
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