Michael Lewis’s ‘The Big Short’? Read the Harvard Thesis Instead! “The Story of the CDO Market Meltdown: An Empirical Analysis.”

March 15, 2010, 4:59 PM ET

Michael Lewis’s ‘The Big Short’? Read the Harvard Thesis Instead!

By Peter Lattman

Deal Journal has yet to read “The Big Short,” Michael Lewis’s yarn on the financial crisis that hit stores today. We did, however, read his acknowledgments, where Lewis praises “A.K. Barnett-Hart, a Harvard undergraduate who had just  written a thesis about the market for subprime mortgage-backed CDOs that remains more interesting than any single piece of Wall Street research on the subject.”

A.K. Barnett-Hart

While unsure if we can stomach yet another book on the crisis, a killer thesis on the topic? Now that piqued our curiosity. We tracked down Barnett-Hart, a 24-year-old financial analyst at a large New York investment bank. She met us for coffee last week to discuss her thesis, “The Story of the CDO Market Meltdown: An Empirical Analysis.” Handed in a year ago this week at the depths of the market collapse, the paper was awarded summa cum laude and won virtually every thesis honor, including the Harvard Hoopes Prize for outstanding scholarly work.

Last October, Barnett-Hart, already pulling all-nighters at the bank (we agreed to not name her employer), received a call from Lewis, who had heard about her thesis from a Harvard doctoral student. Lewis was blown away.

“It was a classic example of the innocent going to Wall Street and asking the right questions,” said Mr. Lewis, who in his 20s wrote “Liar’s Poker,” considered a defining book on Wall Street culture. “Her thesis shows there were ways to discover things that everyone should have wanted to know. That it took a 22-year-old Harvard student to find them out is just outrageous.”

Barnett-Hart says she wasn’t the most obvious candidate to produce such scholarship. She grew up in Boulder, Colo., the daughter of a physics professor and full-time homemaker. A gifted violinist, Barnett-Hart deferred admission at Harvard to attend Juilliard, where she was accepted into a program studying the violin under Itzhak Perlman. After a year, she headed to Cambridge, Mass., for a broader education. There, with vague designs on being pre-Med, she randomly took “Ec 10,” the legendary introductory economics course taught by Martin Feldstein.

“I thought maybe this would help me, like, learn to manage my money or something,” said Barnett-Hart, digging into a granola parfait at Le Pain Quotidien. She enjoyed how the subject mixed current events with history, got an A (natch) and declared economics her concentration.

Barnett-Hart’s interest in CDOs stemmed from a summer job at an investment bank in the summer of 2008 between junior and senior years. During a rotation on the mortgage securitization desk, she noticed everyone was in a complete panic. “These CDOs had contaminated everything,” she said. “The stock market was collapsing and these securities were affecting the broader economy. At that moment I became obsessed and decided I wanted to write about the financial crisis.”

Back at Harvard, against the backdrop of the financial system’s near-total collapse, Barnett-Hart approached professors with an idea of writing a thesis about CDOs and their role in the crisis. “Everyone discouraged me because they said I’d never be able to find the data,” she said. “I was urged to do something more narrow, more focused, more knowable. That made me more determined.”

She emailed scores of Harvard alumni. One pointed her toward LehmanLive, a comprehensive database on CDOs. She received scores of other data leads. She began putting together charts and visuals, holding off on analysis until she began to see patterns–how Merrill Lynch and Citigroup were the top originators, how collateral became heavily concentrated in subprime mortgages and other CDOs, how the credit ratings procedures were flawed, etc.

“If you just randomly start regressing everything, you can end up doing an unlimited amount of regressions,” she said, rolling her eyes. She says nearly all the work was in the research; once completed,  she jammed out the paper in a couple of weeks.

“It’s an incredibly impressive piece of work,” said Jeremy Stein, a Harvard economics professor who included the thesis on a reading list for a course he’s teaching this semester on the financial crisis. “She pulled together an enormous amount of information in a way that’s both intelligent and accessible.”

Barnett-Hart’s thesis is highly critical of Wall Street and “their irresponsible underwriting practices.” So how is it that she can work for the very institutions that helped create the notorious CDOs she wrote about?

“After writing my thesis, it became clear to me that the culture at these investment banks needed to change and that incentives needed to be realigned to reward more than just short-term profit seeking,” she wrote in an email. “And how would Wall Street ever change, I thought, if the people that work there do not change? What these banks needed is for outsiders to come in with a fresh perspective, question the way business was done, and bring a new appreciation for the true purpose of an investment bank – providing necessary financial services, not creating unnecessary products to bolster their own profits.”

Ah, the innocence of youth.

Here is a copy of the thesis: 2009-CDOmeltdown

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‘Hail Mary’ to Warren Buffett: Untold Details of Lehman’s Fall

March 11, 2010, 6:15 PM ET

‘Hail Mary’ to Warren Buffett: Untold Details of Lehman’s Fall

By Matt Phillips

Doubtless, historians will be going over the mammoth 2,200 page report from the Lehman bankruptcy examiner for years to come.

But we bloggers are writing the first draft now. And there’s plenty of good fodder on Lehman’s final days, including fresh details on its effort to get support from billionaire investor Warren Buffett.

Now, it’s well known that Lehman reached out to Buffett in its final months. The Journal’s Scott Patterson wrote about the Oracle’s decision to pass on Lehman in a story back in December.

But the level of detail provided by this report is pretty astounding. It offers a pretty amazing snapshot of Buffett’s conversation with Lehman CEO Dick Fuld as well as a remarkable window on how the Oracle negotiates during times of crisis.

The report really reads like a novel, so we’ll just give you the sections here:

Fuld and Buffett spoke on Friday, March 28, 2008. They discussed Buffett investing at least $2 billion in Lehman. Two items immediately concerned Buffet during his conversation with Fuld. First, Buffett wanted Lehman executives to buy under the same terms as Buffett. Fuld explained to the Examiner that he was reluctant to require a significant buy‐in from Lehman executives, because they already received much of their compensation in stock. However, Buffett took it as a negative that Fuld suggested that Lehman executives were not willing to participate in a significant way. Second, Buffett did not like that Fuld complained about short sellers. Buffett thought that blaming short sellers was indicative of a failure to admit one’s own problems.

Following his conversation with Buffett, Fuld asked Paulson to call Buffett, which Paulson reluctantly did. Buffett told the Examiner that during that call, Paulson signaled that he would like Buffett to invest in Lehman, but Paulson “did not load the dice.” Buffett spent the rest of Friday, March 28, 2008, reviewing Lehman’s 10‐K and noting problems with some of Lehman’s assets. Buffett’s concerns centered around Lehman’s real estate and high yield investments, lending‐related commitments derivatives and their related credit‐market risk, Level III assets and Lehman’s securitization activity. On Saturday, March 29, 2008, Buffett learned of a $100 million problem in Japan that Fuld had not mentioned during their discussions, and Buffett was concerned that Fuld had not been forthcoming about the issue. The problems Buffett saw in the 10‐K along with Fuld’s failure to alert Buffett to the issue in Japan cemented Buffett’s decision not to invest in Lehman.

At some point in their conversations, Fuld and Buffett also discovered that there had been a miscommunication about the conversion price. Buffett was interested only in convertible preferred shares. Buffett told Fuld that he was willing to agree to a $40 conversion price per share, while Fuld thought Buffett was offering to buy in at “up‐ 40,” or 40% above the current market price, which would have been about $56 per share. On Friday, March 28, 2008, Lehman’s stock closed at $37.87. Fuld spoke to Lehman’s Executive Committee and several Board members about his conversations with Buffett. Lehman recognized that an investment by Buffett would provide a “stamp of approval.” However, Lehman already had better offers for its April capital raise, and Lehman did not think it could give a better deal to Buffett at the same time it gave a less attractive deal to others. On Monday, March 31, 2008, before Buffett could tell Fuld that he was not interested, Fuld called Buffett to say that Lehman could not accept his terms.

Last‐Ditch Effort with Buffett

[Hugh “Skip” E. McGee, III, the head of Lehman’s Investment Banking Division] contacted [President David L. Sokol, president of Berkshire Hathaway’s MidAmerican Energy] again in late August or early September 2008 and outlined Lehman’s “Gameplan” for survival, specifically SpinCo. During a subsequent telephone call with Sokol, McGee explained the “good bank/bad bank” scenario and stated that Lehman would need an investor. Sokol believed the e‐mail and call were intended to induce Sokol to pass that information on to Buffett, so Sokol briefed Buffett on SpinCo. Buffett thought the idea would not solve Lehman’s problems.

Sometime during the week prior to Lehman’s bankruptcy, McGee again reached out to Sokol with what both Sokol and McGee described to the Examiner as a “Hail Mary” pass. McGee asked, “Do you have any ideas to save us?” Sokol, who was bear hunting in Alaska at the time, told McGee that he did not.

Judging by the inclusion of the largely irrelevant bear hunting detail at the end, we can tell that this report was written by a frustrated novelist. (And they did an amazing job.) But what we find most remarkable is the insight these sections offer on how Buffett assesses companies.

It’s simple–but not easy–as he combines 10-K analysis with probing questions to management.

Are they willing to put their own money at risk? Are they being upfront? Are they giving investors the full story?

Clearly Buffett didn’t think so.

The next big bailout is on the way. Prepare to get reamed!

The next big bailout is on the way. Prepare to get reamed!

Mike Whitney
Smirking Chimp
March 16, 2010

Housing is on the rocks and prices are headed lower. That’s not the consensus view, but it’s a reasonably safe assumption. Master illusionist Ben Bernanke managed to engineer a modest 7-month uptick in sales, but the fairydust will wear off later this month when the Fed stops purchasing mortgage-backed securities and long-term interest rates begin to creep higher. The objective of Bernanke’s $1.25 trillion program, which is called quantitative easing, was to transfer the banks “unsellable” MBS onto the Fed’s balance sheet. Having achieved that goal, Bernanke will now have to unload those same toxic assets onto Freddie and Fannie. (as soon as the public is no longer paying attention)

Jobless people don’t buy houses.

Bernanke’s cash giveaway has helped to buoy stock prices and stabilize housing, but market fundamentals are still weak. There’s just too much inventory and too few buyers. Now that the Fed is withdrawing its support, matters will only get worse. 

Of course, that hasn’t stopped the folks at Bloomberg from cheerleading the nascent housing turnaround. Here’s a clip from Monday’s column:

“The U.S. housing market is poised to withstand the removal of government and Federal Reserve stimulus programs and rebound later in the year, contributing to annual economic growth for the first time since 2006. Increases in jobs, credit and affordable homes will help offset the end of the Fed’s purchases of mortgage-backed securities this month and the expiration of a federal homebuyer tax credit in April. Sales will rise about 6 percent this year, and housing will account for 0.25 percentage point of the 3.6 percent growth, according to forecasts by Dean Maki, chief U.S. economist for Barclays Capital in New York…“The underlying trend is turning positive,” said Bruce Kasman, chief economist at JPMorgan Chase & Co. in New York.”

Just for the record; there has been no “increases in jobs”. It’s baloney. Unemployment is flat at 9.7 percent with underemployment checking-in at 16.8 percent. There’s no chance of housing rebound until payrolls increase. Jobless people don’t buy houses.

Also, while it is true that the federal homebuyer tax credit did cause a spike in home purchases; it’s impact has been short-lived and sales are returning to normal. It’s generally believed that “cash for clunker-type” programs merely move demand forward and have no meaningful long-term effect.

So, it’s likely that housing prices–particularly on the higher end–will continue to fall until they return to their historic trend. (probably 10 to 15% lower) That means more trouble for the banks which are already using all kinds of accounting flim-flam (”mark-to-fiction”) to conceal the wretched condition of their balance sheets. Despite the surge in stock prices, the banks are drowning in the losses from their non performing loans and toxic assets. And, guess what; they still face another $1 trillion in Option ARMs and Alt-As that will reset by 2012. it’s all bad.

The Fed has signaled that it’s done all it can to help the banks. Now it’s Treasury’s turn. Bernanke will keep the Fed funds rate at zero for the foreseeable future, but he is not going to expand the Fed’s balance sheet anymore. Geithner understands this and is working frantically to put together the next bailout that will reduce mortgage-principal for underwater homeowners. But it’s a thorny problem because many of the borrowers have second liens which could amount to as much as $477 billion. That means that if the Treasury’s mortgage-principal reduction plan is enacted; it could wipe out the banks. Here’s an excerpt from an article in the Financial Times which explains it all:

“A group of investors in mortgage-backed bonds dubbed the Mortgage Investors Coalition (MIC) recently submitted to Congress a plan to overhaul the refinancing of underwater borrowers by writing down the principal balances of both first and second mortgages. The confederation of insurers, asset managers and hedge funds hope to break a logjam between Washington DC and the four megabanks with the most exposure to writedowns on second lien mortgages, including home equity lines of credit.

The private sector initiative coincides with House Financial Services Committee Chairman Barney Frank’s open letter dated 4 March to the CEOs of the banks in question – Bank of America, Citigroup, JP Morgan Chase and Wells Fargo – urging them to start forgiving principal on the second lien loans they hold.

But the banks are unlikely to take action until they get new accounting guidance from regulators that would ease the impact of such significant principal reductions on their capitalization ratios.”

(Ed.–”Accounting guidance”? Either the banks are holding out for a bigger bailout or they’re looking for looser accounting standards to conceal their losses from their shareholders. Either way, it’s clear that they’re trying to hammer out the best deal possible for themselves regardless of the cost to the taxpayer.)

Financial Times again: “The four banks in question collectively own more than USD 400bn of the USD 1trn in second lien mortgages outstanding. BofA holds USD 149bn, Citi holds USD 54bn, JP Morgan holds USD 101bn and Wells Fargo holds USD 115bn, according to fourth quarter 2009 10Q filings with the Securities & Exchange Commission.

As proposed, the MIC’s plan entails haircuts to the first and second lien loans to reduce underwater borrowers’ loan to value ratios to 96.5% of current real estate market prices, according to two sources close.

For the program to work, HAMP would place principal balance forgiveness first in the modification waterfall. The associated second lien would take a principal balance reduction but remain intact through the process – ultimately to be re-subordinated to the first lien, the sources close said.

A systemic program to modify second lien mortgages called 2MP does exist but Treasury has stalled on implementation because the banks that hold them can’t afford it, six buyside investors said. The sources all said implementation of the program, called 2MP, would result in “catastrophic” losses for the nation’s four largest banks, which collectively hold more than USD 400bn of the USD 1trn in second lien mortgages outstanding.” (”Mortgage investors push for banks to write down second liens”, Allison Pyburn, Financial Times)

Hold on a minute! Didn’t Geithner just run bank “stress tests” last year to prove that the banks could withstand losses on second liens?

Yes, he did. And the banks passed with flying colors. So, why are the banks whining now about the potential for “catastrophic” losses if the plan goes forward? Either they were lying then or they’re lying now; which is it?

Of course they were lying. Just like that sniveling sycophant Geithner is lying.

According to the Times the banks hold $400 billion in second lien mortgages. But –as Mike Konczal points out–the stress tests projected maximum losses at just “$68 billion. In other words, Geithner rigged the tests so the banks would pass. Now the banks want it both ways: They want people to think that they are solvent enough to pass a basic stress test, but they want to be given another huge chunk of public money to cover their second liens. They want it all, and Geithner’s trying to give it to them. Wanker.

And don’t believe the gibberish from Treasury that “they have no plan for mortgage principal reductions”. According to the Times:

“Treasury continues to tell investors that any day now they will be out with a final program and they will be signed up”….“The party line continues to be they are a week away, two weeks away,” the hedge fund source said. ”

So, it’s not a question of “if” there will be another bank bailout, but “how big” that bailout will be. The banks clearly expect the taxpayer to foot the entire bill regardless of who was responsible for the losses.

So, let’s summarize:

1–Bank bailout #1–$700 billion TARP which allowed the banks to continue operations after the repo and secondary markets froze-over from the putrid loans the banks were peddling.

2–Bank bailout #2–$1.25 trillion Quantitative Easing program which transferred banks toxic assets onto Fed’s balance sheet (soon to be dumped on Fannie and Freddie) while rewarding the perpetrators of the biggest financial crackup in history.

3–Bank bailout #3–$1 trillion to cover all mortgage cramdowns, second liens, as well as any future liabilities including gym fees, energy drinks, double-tall nonfat mocha’s, parking meters etc. ad infinitum.

And as far as the banks taking “haircuts”? Forget about it! Banks don’t take “haircuts”. It looks bad on their quarterly reports and cuts into their bonuses. Taxpayers take haircuts, not banksters. Besides, that’s what Geithner gets paid for–to make sure bigshot tycoons don’t have to pay for their mistakes or bother with the niggling details of fleecing the little people.

The next big bailout is on the way. Prepare to get reamed!

 
 
   

Tim Geithner warns of high unemployment throughout the year

I guess this is where the next 5-7 million forecast of foreclosures makes sense.

Obama Aides See Jobless Rate Elevated for ‘Extended Period’
By Rebecca Christie and Mike Dorning

March 16 (Bloomberg) — U.S. employers won’t hire enough workers this year to lower the jobless rate much below the level of 9.7 percent reached in February, three Obama administration economic officials said today.

The proportion of Americans who can’t find work is likely to “remain elevated for an extended period,” Treasury Secretary Timothy F. Geithner, White House budget director Peter Orszag and Christina Romer, chairman of the Council of Economic Advisers, said in a joint statement. The officials said unemployment may even rise “slightly” over the next few months as discouraged workers start job-hunting again.

“We do not expect further declines in unemployment this year,” the officials said in testimony prepared for the House Appropriations Committee. They predicted the economy would add about 100,000 jobs a month on average — not enough to bring the jobless rate down substantially.

Today’s projections are in line with the 10 percent average unemployment forecast for this year in last month’s budget plan. Christopher Rupkey, chief financial economist at Bank of Tokyo Mitsubishi UFJ Ltd. in New York, said the administration’s language risks damping expectations for a recovery.

“They need to work on the message, and right now the message is that there is not a lot to be hopeful about,” Rupkey said. “Warning about a slow jobless recovery can help make it a reality.”

Growth Outlook

Geithner, Orszag and Romer reiterated the administration’s forecast that the economy would grow 3 percent this year, as measured by comparing fourth quarter growth in gross domestic product. Growth is projected to rise to 4.3 percent in 2011 and 2012, and inflation probably will remain low, they said.

“The worst now appears to be behind us,” the officials said. “However, the country faces significant and ongoing challenges: high unemployment, the need to build a new and stable foundation for prosperity in the years and decades ahead, and a medium- and long-term fiscal situation that could ultimately undermine future job creation and economic growth.”

The three urged Congress to pass Obama Administration job stimulus proposals including extended unemployment benefits, aid to state and local governments and tax breaks for businesses that hire new workers.

They argued tax benefits for businesses that add new workers would have a large impact in the early stages of an economic recovery.

‘Particularly Effective’

“The current situation — where for many firms the question is not whether to hire but when — is one that may make such programs particularly effective,” they said.

The officials said projected federal budget deficits, which the administration forecasts at more than $1.5 trillion for 2011 and over $751 billion for 2015, “remain undesirably high.”

“Deficits matter. Ours are too high; they are unsustainable,” Geithner said during testimony. “The American people, along with investors around the world, need to have more confidence in our ability to bring them down over time.”

The officials put the greatest blame for the high budget deficits on “years of poor decisions” during the administration of George W. Bush, citing enactment of the Medicare prescription drug benefit and income-tax cuts without corresponding budget savings to pay for them.

“If these two policies had been paid for, projected deficits — without any further deficit reduction — would be about 2 percent of GDP per year by the middle of the decade, and we would have been on a sustainable medium-term fiscal course,” they said.

To contact the reporter on this story: Rebecca Christie in Washington at rchristie4@bloomberg.net; To contact the reporters on this story: Mike Dorning in Washington at mdorning@bloomberg.net;

Last Updated: March 16, 2010 11:37 EDT

Goldman Sachs Video

I honestly see the vision of Obama snapping under world pressure. Watch you’ll see. He will throw his hands up in the air and shout …

“You are so right WORLD, we live in a BOGUS world of make believe”.

 

Michael Lewis: How a Few Wall Street Outsiders Scored Shorting Real Estate Before the Collapse

This is worth the time to read and watch

By Damien Hoffman The Wall St. Cheat

Posted on March 14 2010

Michael Lewis’s new book, The Big Short: Inside the Doomsday Machine,is already #1 at Amazon. Tonight he had some very cool interviews on 60 Minutes discussing how a few Wall Street outsiders made billions shorting real estate, his thoughts on Wall Street bonuses, and more. These videos are highly recommended now that the NCAA brackets are out and the tournaments are over until Thursday:

Go HERE for the powerful videos

TARP Fraud! An (Alleged) First in the Annals of Crime

Yes We Know This Was Fraud From Day 1

By Ashby Jones The Wall Street Journal

March 15, 2010, 2:58 PM ET

Here’s a story that elicits within us more than a whiff of sympathy for that big band of brothers and sisters we like to collectively call the U.S. Taxpayer.

After all, it’s the taxpayer that’s largely responsible for funding TARP, enacted after the financial meltdown to enable the government to purchase toxic or illiquid assets from banks and other financial institutions.

So trying to rip off the TARP program is like, well, going for the collective front pocket of the nation in an attempt to pull out some change. The gall.

On Monday, TARP-related allegations were lodged by federal prosecutors against Charles J. Antonucci Sr., the former president and chief executive of The Park Avenue Bank in New York. Among the charges: wire fraud, bank bribery, embezzlement and, yes, attempting to defraud the TARP program. Click here for the WSJ story, from Chad Bray; here for the criminal complaint.

“These charges are what they are,” said Stillman, Friedman & Schechtman’s Charles Stillman, a lawyer for Antonucci. “We’re going to study them and consider what our appropriate response to the charges will be.”

Bray reports that the allegations are one of the first publicly announced cases of fraud against TARP. Prosecutors allege that Antonucci engaged in several schemes to defraud the bank and its regulators, including making false statements in connection with an application by the bank for more than $11 million in TARP funds in 2008.

He later withdrew his application, after the bank regulator said it would not recommend the TARP application for approval. But when asked to explain his withdrawal, according to this Q&A with Bank Info Security, Antonucci answered:

It was two things: Nobody really knows what the rules are going to be in terms of those who take and utilize the TARP money . . . . And secondly, there is market perception that if you take TARP money, that you are now a bad bank, which is a perception that nobody wants whether you are or you aren’t.
Antonucci was president and chief executive of the bank from June 2004 until his resignation in October 2009.