My ruminations on Bear Stearns look to come into their own...

Just in case you haven't read them:

• Is This the Breaking of the Bear?
• Banks, Brokers, & Bullsh1+ part 1
• Banks, Brokers, & Bullsh1+ part 2

Although these guys are not in the news today, expect to seem them within a few months... The Riskiest Bank on the Street

And in today's news...

 From CNN:

Shares of Bear Stearns (NYSE:BSC) Cos. tumbled to a 5-year low Monday, weighed by downgrades of Alt-A deals by Moody's Investors Service, as well as a negative comment on brokers in general from Bernstein Research... Earlier, Moody's downgraded the ratings of 163 tranches from 15 deals issued by Bear Stearns ALT-A Trust, with 78 downgraded tranches remaining on review for possible further downgrades. Moody's said the downgrades are based on 'higher-than-anticipated rates of delinquency, foreclosure and [repossessed foreclosures] in the underlying collateral relative to credit enhancement levels.'

I would like to waltz through today's news, but before I do... For those of you who haven't read my pieces on the I banks and brokers, I urge you to peruse (in the following order):

1. Banks, Brokers, & Bullsh1+ part 1
2. Banks, Brokers, & Bullsh1+ part 2
3. The Riskiest Bank on the Street
4. Is This the Breaking of the Bear?

I know it is a lot of reading, but I feel it is well worth the time if you have any financial ties to this indutry, and the subject companies explored, in particular. The forced liquidation of asset backed securities and mortgages this weak definitely makes these researched opinion pieces appear awfully prescient. I, unfortunately, cannot take credit for being a genious since the writing was clearly on the wall. As for what is happening to the companies in question, well, readers of my blog not only saw this coming but know that the worst is yet to come. The financials are not even halfway through their downcycle, and some of the big name brands are at risk of insolvency. Let's turn to today's WSJ.com:

Hedge Funds Squeezed As Lenders Get Tougher

The financial turmoil is taking on a new dimension: Banks that lent money to hedge funds and other big risk-takers are asking for some of it back.

Loans from banks and brokerages had allowed hedge funds, which manage some $1.9 trillion in clients' money, to amass many times that amount in investments. But as the value of mortgage-backed bonds and other investments has dropped in recent weeks, the lenders are demanding that borrowers put up more cash or assets. (Banks, Brokers, & Bullsh1+ part 2 - credit risk?)

This is producing a negative cycle that has policy makers deeply worried. When investors rush to dump assets, prices fall and lenders feel compelled to make further demands, or "margin calls," which cause even more selling.

all stemming from a lack of respect for the price compression
resulting from the real estate/credit busting. They really took a
beating on the homebuilders. I am increasingly negative on CTX now, for
they have large mortgage operations that have to be getting hit hard.

Legg Mason's SIV Troubles:
Legg Mason said it obtained a letter of credit from an unnamed bank to
support its money market fund's holdings of Cheyne Finance, a
structured-investment vehicle. The company said in a release that it
will take a charge of $142 million,
or 41 cents per share after adjustment for incentive compensation and
taxes, "principally representing unrealized losses in the SIV
securities underlying the support."

From alacrablog :

There was a lot of side talk at Money:Tech about information that can generate alpha.
Basically the theme was if discover or create some proprietary data
that will generate excess risk-adjusted returns, why would you sell it?
You should trade it! Bill Janeway
of Warburg Pincus offered something like the following: "Alpha is the
money you make when you perform better than the market. Schmalpha is
the money you make when you perform better than your clients..."

In Banks, Brokers, & Bullsh1+ part 2 I forecasted Morgan Stanley having beef with their hedge fund clients and counterparties. Well, actually I claimed that they had excessive counterparty risk from these clients, which was bound to come back to bite them. In today's WSJ.com:

Some other hedge-fund managers say they've been bullied by securities firms when they've tried to cash out on profits from such positions. When one hedge-fund manager considered selling out of a credit-default swap -- in which his fund bought protection on $10 million of bonds of Countrywide Financial Corp. -- he says there was a condition attached by two securities firms. He says the firms -- Bear Stearns Cos., which sold him the swap, and Morgan Stanley -- told him they would cash him out of his profitable position, only if he would simultaneously enter into another swap-selling insurance protection on the bonds equal to his fund's $3 million profit. Eventually, he says, his fund sold the position through Goldman Sachs Group Inc. and Lehman Brothers Holdings Inc., allowing him to book the $3 million profit. Representatives for Bear Stearns, Morgan Stanley, Goldman and Lehman declined to comment.

I was just warning readers to beware of believing the hype behind financial name brands when I came across the following WSJ.com article. If you have followed this blog regularly, you would have been first warned of the CRE overvalution as early as September of last year, and had access to what I consider a fairly intensive amount of fundamental analysis and opinion on the topic, not to mention the banks that will suffer from it such as Bear Stearns, Lehman (contributed by a reader) and Morgan Stanley . Name brands issue the same warning 6 months later, in substantially less detail.

Wall Street Gears for Its New Pain

After
suffering a beating from their exposure to home loans, banks and
securities firms are about to take their lumps from office towers,
hotels and other commercial real estate. And the losses could last
longer than those from the subprime shakeout.

As
the economy wobbles and financing costs rise because of the credit
crunch, commercial-real-estate values are starting to slide, with
analysts at Goldman Sachs Group
Inc. projecting a decline of 21% to 26% in the next two years. That
means misery for securities firms with exposure to
commercial-real-estate loans and commercial- mortgage-backed securities.

William Tanona, a Goldman analyst, expects total write-downs of $7.2 billion by Bear Stearns Cos., Citigroup Inc., J.P. Morgan Chase & Co., Lehman Brothers Holdings Inc., Merrill Lynch & Co. and Morgan Stanley
in the first quarter. Those firms had combined commercial-real-estate
exposure of $141 billion at the end of the fourth quarter.

This is post is primarily to document my assertions of self insurance by the banks in their alleged efforts to prop up the monoline (or should I say multilines?). Below you will find a chart with links that provide, in extreme detail, the insured holdings of a handful of banks and one homebuilder with a large mortgage operation (I do mean extreme detail, including asset name, CUSIP #, ratings by all major agencies, vintage, etc.). Let me add that I don't know how much of this is actually bank inventory versus what was sold off, but my guess is that the banks got stuck with the vast majority of everything from the last year or so. In addition, most of the underwriting banks can get stuck with the stuff that was found to violate the agreed upon underwriting guidelines (which is potentially a lot) for a certain period, even if it was sold off. This is something that can sink the smaller equity base banks such as First Franklin.

This is $120 billion dollars right here, and it is nowhere near comprehensive. These are RMBS, CMBS, and a smattering of consumer finance ABS insured by MBIA and Ambac. I know everybody thinks that we may be coming to the end of the writedowns from real estate related devaulations, but if that is what everybody thinks then everybody is wrong. This bubble took at least 6 years to build, it is not going to dissipate in 1 year. We are about 50% through the subprime crisis, but since this problem was never a subprime issue to begin with, we have lot more to go. There are all of the other classes of mortgages, the commercial real estate market, which I went over in detail , there is the consumer finance markets (recession, anyone?), then the big grand daddy of them all, the leveraged loan, junk bond CDO and CDS market - crashing at a financial institution near you. I am 50% through a forensic analysis that will expose the junk bond CDOs held by monolines that will probably knock your socks off. Alas, I digress...

This credit problem and real asset bubble is a result of combining very cheap money with the lax, "other people's money", moral hazard to be had whenyou don't need to be responsible for your own underwriting - otherwise known as the natural consequence of asset securitization. Why fret over due diligence when we're just going to sell the stuff off. The following are a sampling of whose holding the bag...

As illustrated in detail in my analysis, Bear Stearns is in some real trouble. CNBC reports that the US attorney is intensifying its investigation of the bank and an indictment is increasingly possible. In addition, Bear Stearn's exposure to the mortgage and real estate markets are sinking it. I expect:

• $121 million in losses in CMBS,
• $172 million in Alt A residential
• $363 milion in ARMs
• $4 million in Helocs
• $402 million in midprime loans
• $148 million in 2nd lien loans
• and $1.4 BILLION in subprime loans.

A total of at LEAST $2.7 bilion in losses will be coming down on the Bear, devastating equity capital. I have scoured through roughly 30% of Bear Stearns entire ABS holdings, and these losses are from just that 30%. You can download the list of approximately 3,600 CDOs, loans, securities and related assets here:

Bear Stearns ABS inventory (1.56 MB 2008-02-07 09:42:27).

KEY has just written down
$100 million off of its CMBS portfolio. It is not even a top ten player
--- Wachovia is #1, Lehman has $40B of this on books, then you have BSC
and MS.

Sell side analysts are quoted: "CRE loans
held in the portfolio should not be subject to
mark-tomarket/model adjustments. The adjustments are market related,
which in turn is a liquidity phenomenon rather a credit one; however,
credit risk will increase the longer liquidity issues persist for the
industry."

I disagree. There is plenty of liquidity in the
system, and more being pumped in by the day. The inability to move the
inventory is due to, and rightly so, the fear of insolvency. The loans
were written at the top of the market at high LTVs. As the market
returns to equilibrium (a long ways off), the loan amounts will surpass
the asset values, hence the insolvency. We are in a historically low
interest rate environment with the FED still pushing money into the
system with a historically high level of players. The reason it is not
working is that you can't solve a solvency problem with a liquidity
solution. You can postpone it, but the eventual return to the mean will
just get that much worse with the inevitable advent of
inflation/stagflation. Realistically, it is a bad idea to try to
inflate your way out of insolvency.

KEY's 100mm mark was on unsold and portfolio CMBS of 1.0 B --- 10%
mark. If all of the broker dealers mark to that you might have a
serious reset of book value ---- the fact that they are technically
insolvent will be revealed.

This is my off the cuff comment without much thought.

I
am working on the next shoe to drop in and effort to get ahead of the
crowd. This real estate thing is getting too crowded and I see several
other big cracks in the financial institutions armor now that I am
taking a closer look. CMBS risk is still highly under appreciated,
through.

From the WSJ: Now, Lehman Gets Pelted

Many investors have been surprised at the ability of Lehman Brothers Holdings Inc. to navigate the credit crunch, given the size of its exposure to potential land mines.

... Lehman is sitting on a big pile of commercial real-estate loans, and that market is deteriorating, potentially causing bigger-than-expected write-downs.

... credit markets have worsened, and Lehman believes it is now facing a write-down in the $1.3 billion range, according to people familiar with the matter.

... Lehman's anticipated write-down is a far cry from those in the multibillion-dollar range at rivals such as Merrill Lynch & Co. and Citigroup Inc. that have toppled chief executives and put those firms into the red. And chief executives such as Lehman's Richard Fuld Jr. and Goldman Sachs Group Inc.'s Lloyd Blankfein have won plaudits for their ability to miss the potholes that Merrill and others have hit.

That's because pundits have not been looking at the trend of level 3 assets and the ratio of these assets to equity. Where do you think Lehman has been shoving all of those losses?

...Nearly $39 billion [of debt securities and loans that are potentially vulnerable to markdowns] are commercial real-estate loans. Even as it cut way back on making home loans, Lehman continued to lend to buyers of office buildings and other assets. In the fourth quarter of fiscal 2007, ended Nov. 30, Lehman originated $15 billion of commercial mortgages, in line with the average origination in the previous three quarters.

Yet, the firm only sold off $1.5 billion of those loans, compared with more than $10 billion in the third quarter. As a result , its commercial-mortgage holdings have swelled. Now, analysts wonder how much they will have to be marked down.

The risks from the CRE markets are STILL severely underestimated.