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Do NOT paste outside opinions here!
Bob
At 08:28 AM 3/24/2008,
you wrote:
>Hussman has interesting opinion on the BSC
matter:
>
>--------------------------------------------------------
>
>March
24, 2008
>Why is Bear Stearns Trading at $6 Instead of
$2?
>
>John P. Hussman, Ph.D.
>All rights reserved and
actively enforced.
>Reprint Policy
>
>Well, the ECRI (one of
the more reliable private economic analysis
>groups) has finally thrown
in the towel "With the Weekly Leading
>Index having dropped more
than 13 points in the last nine months, it
>is exhibiting a pronounced,
pervasive, and persistent decline that is
>unambiguously
recessionary."
>
>The possibility of a "bear market rally"
aside, if the S&P 500 has
>already set its low, it will have been
the first time that the market
>has responded to a similar economic
downturn with less than a 20%
>loss on a closing basis. If we define the
recent downturn as a bear
>market anyway, the recent low will represent
the highest level of
>valuation that has ever prevailed at the bottom of
a bear market. I
>expect neither of these to be true for long, but as
usual, we'll
>respond to the evidence as it unfolds without the
need to forecast
>any particular scenario.
>
>Though our
investment horizon of interest is a complete market cycle,
>we don't
generally think in terms of bull and bear markets, because
>they can
only be determined in hindsight. We prefer observable
>measures that
allow us to identify the prevailing state or "Market
>Climate" at every
point in time. We don't expect various Market
>Climates to overlap
tightly with actual bull or bear markets.
>Instead, we expect that, on
average, the return/risk profile
>in "favorable" Market Climates will
significantly exceed the
>return/risk profile in "unfavorable" Market
Climates. Accordingly, if
>we accept a greater amount of risk during
favorable conditions, and
>less during unfavorable conditions, we expect
to perform strongly
>at controlled risk over the complete
market cycle.
>
>For now, we remain defensive, but we recognize
the potential for
>a "bear market rally" despite conditions that, as
yet, do not provide
>enough evidence to warrant removing a significant
portion of our
>hedges.
>
>Why is Bear Stearns trading at $6
instead of $2?
>
>As I emphasized last week, the large "term
financing" and "term
>securities lending" programs initiated by the Fed
do not expose the
>Fed to default risk in mortgage collateral it accepts
from the banks
>that act as primary dealers. Even if the underlying
securities
>default, those facilities involve repurchase agreements, so
the bank
>putting up the collateral has to repurchase the collateral at
the
>original price plus interest after a term of 28 or 90 days. The
Fed
>only stands to lose if the bank itself fails, and so
spectacularly
>that the bank's liquidation value goes negative even
after zeroing
>out bondholder claims and stockholder equity. Even in the
present
>environment, this is unlikely.
>
>Alarmingly,
immediately after the pixels dried on last week's comment
>(noting "the
Fed is emphatically not taking the default risk of the
>mortgage market
onto itself" with these term facilities), details
>emerged that the Fed
had agreed to a very different deal in its
>attempt to rescue Bear
Stearns. This is a major and ominous departure
>from historical Fed
policy, and from legality.
>
>I'll cut straight to the
chase.
>
>Bear Stearns is trading at $6 instead of $2 because
unelected
>bureaucrats went beyond their legal mandates, delivered a
windfall to
>a single private company at public expense, entered
agreements that
>violate the the public trust, and created a situation
where even if
>the bureaucratic malfeasance stands, the shareholders of
Bear Stearns
>will either reject the deal or be deprived of their right
to
>determine the fate of the company they own. Very simply, Bear
Stearns
>is still in play. Still, when all is said and done, my own
impression
>is that the ultimate value of the stock will not be $2, but
exactly
>zero.
>
>In effect, the Federal Reserve decided
last week to overstep its
>legal boundaries going beyond providing
liquidity to the banking
>system and attempting to ensure the solvency
of a non-bank entity.
>Specifically, the Fed agreed to provide a $30
billion "non-recourse
>loan" to J.P. Morgan, secured only by the worst
tranche of Bear
>Stearns' mortgage debt. But the bank J.P. Morgan
was in no
>financial trouble. Instead, it was effectively offered
a subsidy by
>the Fed at public expense. Rick Santelli of CNBC is
exactly right. If
>this is how the U.S. government is going to operate
in a democratic,
>free-market society, "we might as well put a hammer
and sickle on the
>flag."
>
>What is a "non-recourse loan"?
Put simply, if the homeowners
>underlying that weak tranche of debt go
into foreclosure, they will
>lose their homes, and the public will lose
as well. But J.P. Morgan
>will not lose, nor will Bear Stearns'
bondholders. This will be an
>outrageous outcome if it is allowed to
stand.
>
>In my view, the deal would be palatable if J.P. Morgan
was to remain
>fully responsible for any losses on the "collateral"
provided to the
>Federal Reserve, assuming shareholders were to consent
to the buyout.
>As it stands, Congress should quickly step in to bust
the existing
>deal and demand an alternate resolution, by clearly
insisting that
>the Fed's action was not legal.
>
>The Fed
did not act to save a bank, but to enrich one. Congress has
>the power
to appropriate resources for such a deal by the
>representative will of
the people the Fed does not, even under
>Depression era banking
laws. The "loan" falls outside of Section 13-3
>of the Federal Reserve
Act, because it is not in fact a loan to
>either Bear Stearns or J.P.
Morgan. Bear Stearns is no longer a
>business entity under this
agreement. And if the fiction that this is
>a "loan" to J.P. Morgan was
true, then the only point at which
>the "collateral" would become an
issue would be in the event that
>J.P. Morgan itself was to fail. No,
this is not a loan. It is a put
>option granted by the Fed to J.P.
Morgan on a basket of toxic
>securities. And it is not
legal.
>
>The deal was made under duress, to the benefit of a
private company,
>on the basis of financial assurances that the
bureaucrats involved
>had no business making. The Federal Reserve is
going to put up public
>assets and accept default risk so that Bear
Stearns' own bondholders
>are effectively immunized?! That's not sound
monetary policy it's a
>picnic for insiders, bought and paid for
through the abuse of public
>funds by government officials too
unprincipled even to recognize the
>abuse. The only good thing about
this deal is that it buys time while
>principled ways of busting and
restructuring it can be settled.
>
>This is not an issue of
letting Bear Stearns "fail" on the claims of
>its customers and
counterparties. Nobody wants that. The issue is the
>method by which it
was rescued who was protected, and who was not;
>why a consortium
was not used instead of a single firm; why the
>claims of Bear's
bondholders should be secure while the public bears
>the risk of the
toxic waste foisted upon us. This deal should, and I
>believe will, be
restructured. J.P. Morgan will cry foul, but that
>will be like a child
who found the Easter basket and is now forced to
>share the chocolate.
Bear Stearns is worth more than zero in
>acquisition, provided that the
bondholders take an appropriate loss.
>
>As of November's 10K
report, Bear Stearns had $9 billion in unsecured
>short-term debt, and
$66 billion in long-term debt. The $12 billion
>in shareholder equity,
of course, is gone. Any portion of the debt
>that is unsecured should be
the first to fall. If Bear Stearns is
>worth $2 a share to somebody
(provided $30 billion of "non-recourse
>loans" from the Fed), and yet
Bear's bondholders and even the
>unsecured lenders can still expect to
be paid off on over $75 billion
>of debt (J.P. Morgan assumes that
obligation as part of the buyout),
>then the public guarantees aren't
required in the first place. What
>is required is that Bear's
bondholders take a loss, as they should,
>rather than the public doing
so.
>
>In the unlikely event the value of Bear Stearns is negative
after
>entirely zeroing out both shareholder equity and bondholder
claims
>then and only then is there a problem for Bear's customers
and
>counterparties. But in fact, J.P. Morgan is already willing to
take
>on all of Bear's assets and liabilities, including over $75
billion
>in debt to Bear's bondholders, for $2 a share. This is an
indication
>that bondholder's claims would not even be wiped out in a
full
>liquidation. Surely, whatever loss is required to transfer
the
>ownership of the company should be taken by the bondholders, not
by
>the public.
>
>Again, this is not water under the
bridge, and the deal struck last
>week should not be allowed to stand if
we care at all about the
>integrity of the capital markets. The
Long-Term Capital crisis was
>resolved by a consortium of financial
institutions providing capital
>in return for ownership. The panic of
1907 was resolved the same way.
>This deal should be busted, and fast.
If there's not a single buyer
>that will take on both the assets and
liabilities without the
>government assuming private default risk,
Bear's assets should be put
>out for bid, Bear's bonds should go into
default, and by the
>unfortunate reality of how equities work, Bear's
shareholders
>shouldn't get $2 they should get
nothing.
>
>Bear's stock is selling at more than $2 for two
reasons one is that
>the market evidently believes there is some
chance for the deal to be
>busted, either by Congress or by shareholder
rejection. And second,
>because Bear's bondholders are frantic to own
the stock so they can
>vote for this lousy deal to go through. After
all, buying up a few
>hundred million in stock to secure $75 billion of
debt doesn't seem
>like a bad trade. Whatever happens, this is not over,
for the simple
>reason that it is wrong.
>
>The U.S. economy
will get through this without the requirement of
>massive public
bailouts. What is required, however, is that the stock
>and bondholders
of financial companies take due losses. Customers and
>counterparties
need not, and I expect will not, be harmed. The value
>of the
shareholder equity and debt issued by most financial
>institutions is
ample buffer. In general, writedowns against
>shareholder equity alone
will be enough, provided that regulations
>are revised to allow
institutions to continue servicing existing
>financial commitments on
the basis of more flexible capital
>requirements.
>
>If the
market was "certain to crash" in the event that Bear Stearns
>failed,
then the market is certain to crash anyway, because Bear
>Stearns wasn't
the last shoe to drop it was one of the first.
>Unfortunately,
we're standing in a shoe store. Wasn't the
>market "certain to crash"
without the Fed's surprise rate cut in
>January too? At what point will
investors figure out that the
>liquidity problems are nothing but the
precursors of insolvency
>problems? At what point will investors stop
begging the government to
>save private companies and recognize that the
losses should be taken
>by the stock and bondholders of the offending
financial institutions?
>If the Fed and the Treasury are smart, they
will act quickly to
>figure out how to respond to multiple events like
we've seen in
>recent days, to expedite turnover in ownership and
quickly settle the
>residual claims of bondholders, without the kind of
malfeasance
>reflected in the Bear Stearns rescue.
>
>As for
the future of the free markets, Dylan Thomas comes to mind:
>
>Do
not go gentle into that good night
>Rage! Rage against the dying of the
light
>
>The Fed overstepped and the Treasury overstepped. At the
point where
>unelected bureaucrats pick and choose who to subsidize
who prospers
>and who perishes in a free capital market, and
use public funds to
>do it, more is at risk than just $30 billion.
Instead, we cross a
>line, and stumble off a very clear edge down an
interminably slippery
>slope. We speak up now, or forever hold our
peace.
>
>On the subject of speaking up, the essays in the special
section of
>the Washington Monthly No Torture, No Exceptions
are worth
>reading. They come from both sides of the political aisle. I
am
>troubled that as a nation, both in economics and in foreign
policy,
>we have become far too willing to sacrifice principles for what
some,
>I think falsely, perceive to be an increase in security. But once
we
>begin to violate our principles, we should realize that nothing
else
>is
secure.
>--------------------------------------------------------
>The
original is here:
>
>http://www.hussmanfunds.com/wmc/wmc080324.htm
>
>
>
>
>------------------------------------
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