The Plunge Protection Team Blog

When JPMorgan partners met in secret with Senator Nelson Aldrich on Jekyll Island to hash out the details of what would become the Federal Reserve, they sought to create a centralized system that would not reign in their firm's power (as was ostensibily offered as the motivation behind the legislation), but rather secure and expand it. Money creation powers were ceded to the feds in exchange for a permanent seat in the new cartel.

In creating the Fed, JPMorgan et. al. sought to curtail the growing influence of western banks, recapture the industrial loan market, reverse the trend of private capital formation, force all banks to implement preferred loan-to-deposit ratios, and implement a bailout mechanism that shifts losses from bank owners to taxpayers and consumers. (G. Edward Griffin provides a fascinating account of the motivations behind the secret meeting in the first few chapters of his book, The Creature from Jekyll Island.)

Last month the Fed continued paying JPMorgan big dividends, agreeing to finance a sweetheart deal in which Morgan would acquire Bear Stearns for $2 per share (later revised to $10) plus guarantees of nearly $30B of Bear's "least liquid" assets.

Bear's building lease alone is estimated to be worth at least twice the original purchase price.

In 2007, Bear Stearns said the maximum residual value of the option to purchase was approximately $570 million.

As usual, the major players justified the inside deal as being necessary to stave off predicted systemic market disturbances that would have ensued had Bear been allowed to go bankrupt.

In his opening statement during last week's Senate Banking Committee hearing, Bear CEO Alan Schwartz claimed that in the days leading up to the Fed-financed bailout of his firm, Bear was "adequately capitalized", had a "substantial liquidity cushion", and that "our balance sheet, liquidity and capital were strong".

He then went on to explain how "unfounded rumors and attendant speculation" traveling at "unprecedented speed" left him no choice but to sell his company for pennies on the dollar to a rival firm on a Sunday evening.

One wonders what Mr. Schwartz considers to be adequate capitalization and a substantial liquidity cushion if neither can protect his firm from a few days of speculation driven by unfounded rumors?

Does the Fed's bailout of Bear Stearns leave taxpayers on the hook for $30B in loans backed by flimsy collateral? During today's Senate hearing, JPMorgan CEO James Dimon tried to assure lawmakers that his firm didn't cherry pick Bear's assets.

Some lawmakers Thursday questioned whether the Fed, which could theoretically be on the hook for as much as $29 billion under the current Bear arrangement, had accepted collateral of dubious value and left JPMorgan with the choicest parts of Bear’s book. [...]

Mr. Dimon said the collateral offered to the Fed for the loan consisted of “investment grade” assets, and not the riskier batch of mortgage-backed securities and other soured assets held by Bear.

In the same statement, though, Mr. Dimon made it clear that the Fed’s decision to bear the brunt of any losses on the collateral was a linchpin of the deal.

He said the bank “could not and would not” have gone through with its takeover of Bear without the Fed’s guarantee of a $30 billion credit line.

So what specific assets did the Fed receive as collateral for the $30B loan? Apparently, it's top secret.

Some lawmakers Thursday still wanted to know just how Bear’s collateral was divvied up. If the Fed didn’t get the worst assets, did it get the best — or just a random collection? (One lawmaker sarcastically suggested that perhaps they were doled out in alphabetical order.)

Neither Bernanke nor New York Fed President Tim Geithner nor JPMorgan CEO James Dimon nor Bear Stearns president Alan Schwartz would disclose any details. Why isn't collateral put up by a public company to secure a loan from the federal government public information?

We now know where the Bernanke Put lies for the investment banks: at $2 a share. I'll have to do a little research, but this devastating fall seems to be faster than most of the fly-by-night internet companies in the 2000 dot-com crash. And this is an 80+ year old Wall Street institution.

As part of the transaction, the Federal Reserve, which engineered last week's emergency bailout of Bear, will provide up to $30 billion of Bear Stearns' less liquid assets. "JPMorgan Chase stands behind Bear Stearns," said Jamie Dimon, chairman and chief executive of JPMorgan. "Bear Stearns' clients and counterparties should feel secure that JPMorgan is guaranteeing Bear Stearns' counterparty risk. We welcome their clients, counterparties, and employees to our firm, and we are glad to be their partner."

Congratulations Bear Stearns' shareholders. The Plunge Protection Team has stepped in and backstopped JP Morgan to make sure you still have a little value left in those shares. I bet that isn't giving BSC shareholders much comfort this weekend as they wait to see the decimation in their accounts in the morning. Of course, if you still hold shares of BSC after all the very public warning signs, we can't say we have much sympathy for you. Most other companies would have been allowed to go out of business, so you should be thankful for the $2 the PPT let you keep.

Meanwhile, the rest of us who are crazy enough to keep some of our assets in US Dollars are also seeing our account decimated by the socialization of downside risk and the mad money printing going on. The dollar is making fresh lows against Gold, the Euro, and many other currencies.

In other news, I'm sorry about the massive spam attack this site had while I was on my business trip. I've installed some spam trapping software, so hopefully we'll be fine until the new site is up.

Looks like I picked the wrong week for a business conference. The Federal Reserve unveiled its latest attempt to rescue the economy yesterday through a facility which will lend up to $200 billion in exchange for "high quality" mortgage backed securities:

Under this new Term Securities Lending Facility (TSLF), the Federal Reserve will lend up to $200 billion of Treasury securities to primary dealers secured for a term of 28 days (rather than overnight, as in the existing program) by a pledge of other securities, including federal agency debt, federal agency residential-mortgage-backed securities (MBS), and non-agency AAA/Aaa-rated private-label residential MBS. The TSLF is intended to promote liquidity in the financing markets for Treasury and other collateral and thus to foster the functioning of financial markets more generally. As is the case with the current securities lending program, securities will be made available through an auction process. Auctions will be held on a weekly basis, beginning on March 27, 2008. The Federal Reserve will consult with primary dealers on technical design features of the TSLF.

This sounds like the implementation of the plan devised in the Plunge Protection Team meetings of recent weeks. Will this truly be the "final and ultimate bailout" or just another in a long string of kitchen sink bailouts which will require something even grander in the future. The 400 point rally in the stock market and mini-rebound in the dollar seems to show that markets approve of this plan at least temporarily.

We are seeeing Bernanke's helicopter money drop in action. I wonder if the Federal Reserve will end up having to eat any losses on the securities that are pledged as part of this program? How soon will they be modifying this program to accept even lower quality mortgages?

Read all the plan details here.

In case you thought the PPT had given up, think again. They've had a constant stream of meetings to devise the ultimate bailout from this credit debacle since all previous bailouts have proven ineffective.

From Bloomberg (thanks John for the link):

The Bush administration will release within weeks proposals that address deficiencies in the regulation and functioning of U.S. financial markets, Treasury Secretary Henry Paulson said.

``We're looking at the mortgage-origination process, we're looking at the securitization process, we're looking at rating agencies, we're looking at disclosure issues, we're looking at capital issues and regulatory issues,'' he said in an interview today with Bloomberg Television. More specifics will come ``in the weeks ahead,'' he said.

Seldom mentioned by the press, this article documents the chartered members of the PPT. It doesn't mention the private sector members who are often thought to be the heads of major financial institutions:

The proposals from the President's Working Group on Financial Markets will ``talk specifically about the lessons learned'' from capital-market turmoil, Paulson said after a speech in Arlington, Virginia, to the National Association for Business Economics.

The four-member working group that Paulson chairs includes Fed Chairman Ben Bernanke and the heads of the Securities and Exchange Commission and Commodity Futures Trading Commission. It will issue recommendations on rules to ensure greater transparency on homeowner lending and loan securitization, Paulson said.

Update: The executive order that created the President's Working Group on Financial Markets was posted by John in the comments section. It is good reading for those who haven't seen it, and I'll add it to the right side knowledge base.

The UK Telegraph continues their tradition of being better able to report on America's fiscal problems than our own media with today's story on the failure of the Federal Reserve to fix the credit mess:

The verdict is in. The Fed's emergency rate cuts in January have failed to halt the downward spiral towards a full-blown debt deflation. Much more drastic action will be needed.

t is hard to imagine a more plain-vanilla outfit than the Port Authority of New York and New Jersey, which manages bridges, bus terminals, and airports.

The authority is a public body, backed by the two states. Yet it had to pay 20pc rates in February after the near closure of the $330bn (£166m) "term-auction" market. It had originally expected to pay 4.3pc, but that was aeons ago in financial time.

"I never thought I would see anything like this in my life," said James Steele, an HSBC economist in New York.

The problems in the Muni market are still there and getting worse. Also, well respected lender Thornburg Mortgage can't meet it's margin calls today and it's stock is crashing as I write this. Analysts aren't optimistic about the future of the company and are cutting it to a SELL (late as usual, I see) even at these low prices.

No sane mortal needs to know what term-auction means, except that it too became a tool of the US credit alchemists. Banks briefly used the market as laboratory for conjuring long-term loans at Alan Greenspan's giveaway short-term rates. It has come unstuck. Next in line is the $45trillion derivatives market for credit default swaps (CDS).

Last week, the spreads on high-yield US bonds vaulted to 718 basis points. The iTraxx Crossover index measuring corporate default risk in Europe smashed the 600 barrier. We are now far beyond the August spike.

Sub-prime debt is plumbing new depths. A-rated securities issued in early 2007 fell to a record 12.72pc of face value on Friday. The BBB tier fetched 10.42pc. The "toxic" tranches are worthless.

Why won't it end? Because US house prices are in free fall. The Case-Shiller index for the 20 biggest cities dropped 9.1pc year-on-year in December. The annualised rate of fall was 18pc in the fourth quarter, and gathering speed.

And here is the truly scary part:

UBS says the cost of the credit debacle will reach $600bn. "Leveraged risk is a cancer in this market."

Try $1trillion, says New York professor Nouriel Roubin. Contagion is moving up the ladder to prime mortgages, commercial property, home equity loans, car loans, credit cards and student loans. We have not even begun Wave Two: the British, Club Med, East European, and Antipodean house busts.

We all know how the Federal Reserve will continue to respond to this: lower rates, lower rates, print more money, print more money. Is it any wonder that Gold and Oil hit all time highs again this morning?

Treasury Secretary Hank "Strong Dollar" Paulson has finally found a bailout plan he can't get behind. Today's Wall Street Journal (subscription might be required), details:

The Bush administration is hardening its opposition to the chorus of Democrats, bankers, economists and consumer advocates calling for a big-money government rescue program for struggling homeowners.

In an interview yesterday, Treasury Secretary Henry Paulson branded many of the aid proposals circulating in Washington as "bailouts" for reckless lenders, investors and speculators, rather than measures that would provide meaningful relief to deserving, but cash-strapped, mortgage borrowers.

Well, maybe Secretary Paulson has been reading this blog and found there was a limit to how much bailing out the federal government should be involved in.... but probably not. I imagine this new hardness against bailouts will be short lived by the Bush administration. As I write this, Bush is on TV asking congress to pass new laws to help people in foreclosure, so I don't think they've gotten a new religion on bailouts.

Apparently, Federal Reserve Chairman Ben Bernanke is a little more flexible in his approach to bailouts:

Rep. Barney Frank (D., Mass.), chairman of the House Financial Services Committee and typically an ally of Mr. Paulson's, said that, until now, he had supported the Treasury's steps to address mortgage delinquencies and the credit crunch they have spawned. "But they're not helping enough people," Mr. Frank said yesterday. "We're not going to get out of the crunch until we stop this cascade of foreclosures."

The Fed's Mr. Bernanke appeared to take a slightly more flexible position than Mr. Paulson, telling a congressional committee yesterday that the turmoil in the housing market doesn't yet merit large amounts of public money. "I don't think we're at that point, but I do think it's worthwhile to keep thinking about those issues," Mr. Bernanke said.