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Who Lives and Who Dies on Wall Street

Wednesday, 17 Sep 2008 10:01 AM

Houston, we have a problem…

No doubt the markets, investment bankers, the economy, and literally the whole community of investors have seen better days.

Thanks to the nearly orgiastic leveraging of collected capital, during most of the last decade a nearly magical model has allowed Wall Street's investment banks, broker-dealers, and their clients to generate immense profits. That model has clearly run its irresponsible course.

Ken Lewis, Bank of America's CEO, said on Monday during the conference call on Merrill Lynch's acquisition: "For seven years, I've said that the commercial banks would eventually own the investment banks because of 'funding issues' … The golden era of investment banking is over."

It certainly makes a lot of sense that, because of all the uncertainties and complete lack of transparency, uneasy investors could start thinking that, perhaps, one or both of the only two remaining large investment banks, Morgan Stanley and Goldman Sachs, could be the next dupes of their own creations (Morgan is said to be now seeking a merger partner). The rogue waves ravaging the financial world these days have in fact come home to roost.

Morgan Stanley, Goldman Sachs, and their peers are definitely in hostile territory, where distrusted investors could at any moment make a run on these institutions, even if they apparently don't deserve it. As in rush sales like that of Merrill Lynch to Bank of America, the big deposit-rich commercial bank saviors would remain the only quick solution for avoiding a Lehman-style debacle.

Today, the vast majority of analysts and investors don't expect Morgan and Goldman to face serious problems in the coming weeks to months. Does that mean that the markets couldn't attack them suddenly? Of course not!

Investors should always keep an eye on the institutions' ratio of risk (or problem) assets to tangible (or common) equity. For your information: The latest ratio data of the big investment banks showed Lehman at 4.0x , Merrill Lynch at 3.1x, Morgan Stanley at 1.7x, and Goldman Sachs at 1.4x.

Seriously doing your home-work is today more important than ever before. Get help, and always check the market values of risk assets.

For instance, yesterday, UBS marked certain levels of the some securities as risk assets in their own books, among them specific (although not all) commercial mortgage-backed securities; senior commercial loans; alt-a loans (so-called low-doc/no-doc loans); U.S. and U.K. residential loans; subprime mezzanine asset-backed securities; and collateralized debt obligations.

In my opinion, there is a good possibility that at least one of the two big U.S. commercial banks could be taken over by a large commercial bank before the next market attack. Under what conditions is anybody's guess.

Are we starting to see the bottom of the crisis? No, I don't think so!

We're only somewhere in the third inning of a long, long game. The bottom-fishers should wait and certainly not jump in when markets start moving upwards. Take your time and wait for good confirmation of a trend reversal of at least more or less a month.

We are in the worst financial crisis since the Great Depression, one that will have a serious and damaging impact at home and globally. We are experiencing a historical change of colossal proportions whereby the economy no longer dictates the markets.

On the contrary, the markets now dictate the economy. Markets must be dictated by confidence, which can evaporate quickly. It will take an unprecedented effort to restore that absolutely necessary level of confidence.

Government bailouts of Fannie, Freddie, AIG, and whichever bank might be next won't do it. All the skeletons need to be cleared out of the closet. It will take much more time than most can imagine.

Be patient. Cash and cash-equivalents in "serious" currencies are now more king than ever before. Certainly, don't chase the bottom now; it just isn't there yet. Oh yes, by the way, we'll also have to confront the question if all that's occurring now is inflationary or deflationary. It could become very messy.

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HansParisis
Houston, we have a problem…No doubt the markets, investment bankers, the economy, and literally the whole community of investors have seen better days. Thanks to the nearly orgiastic leveraging of collected capital, during most of the last decade a nearly magical model has...
hans,parisis,aig,meltdown
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2008-01-17
Wednesday, 17 Sep 2008 10:01 AM
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