No Happy Ending for Auction Rate Securities Mess - Barron's

by: SA Editor Eli Hoffmann August 10, 2008 | about stocks: BAC / C / CS / MER / UBS / WB    
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While markets seemed to take comfort from last week's moves by Citigroup (C), Merrill Lynch (MER) and UBS (UBS) to buy back about $30B of illiquid auction-rate securities [ARS] from clients at face value, Barron's Jacqueline Doherty says the mess is still far fom a happy ending. Here's why:

  • With about $220B in ARS still outstanding, look for regulators - bolstered by their initial successes - to go after more issuers, such as Credit Suisse (CS), Wachovia (WB) and Bank of America (BAC).
  • Aside from potential losses arising from the buybacks (Citi estimates a $500M loss, UBS is looking at $900M, while Merrill says the impact won't be material), the banks and brokers need to come up with the cash to finance the purchases. Most will likely have to sell debt.
  • The deals do more for retail clients than institutional investors (Citi offered its 'best efforts' to help corporate clients with $12B in ARS, and UBS says it will buy back $10.3B by June 2010). Some large investors are already suing banks that sold them ARS, while others have thrown their weight around - and procured 'sweetheart deals' of $0.90 on the dollar, vs. a street value of about $0.70.

Municipal ARS issuers have successfully exited and/or restructured more than half their $175B in ARS debt, and the trend should continue. Same for closed-end funds. Student lenders ($85B) and CDOs ($20B) that sold auction-rate debt have made little if any progress; the former, because it can't sell new debt at low-enough rates to make it plausible, and the latter because of the deteriorating credit quality of the underlying.

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This article has 14 comments:

  •  
    Aug 10 11:01 AM
    You are dead right mate. This was shocking news for these banks and investment banks and yet they all joined in the rollicking rally on Friday with big gains. So what does that tell you about this market? It's a sick joke.
    They are all very cash strapped so where are they going to get the money from? Why from Uncle Ben, of course. But how long can this farce go on for?
    Reply | Link to Comment
  •  
    Aug 10 11:47 AM
    The only thing the government has taught business is that if they are large enough that the government will bale them out no matter what they do. We need to let these big business's go broke, sure it will hurt for a while but what is rebuilt will be better and stronger. Also send all the crooks to jail. Fine don't matter they are just a cost of doing business. We need to put these executives in jail where they belong. Their families need to be stripped of all resources now that will get big business's attention.
    Also impeach bush and cheney.
    Reply | Link to Comment
  •  
    Aug 10 12:19 PM
    It's unfortunate that poor federal oversight, corporate stupidity, & greed continue to rein while the smaller individual investor and taxpayer pays the price. Unfortunately, it's the American way with the big money power brokers in charge. Now tell me again why investing in America is superior -- and safer -- to overseas investments?
    Reply | Link to Comment
  •  
    Aug 10 12:20 PM
    to liberated liberal: no need to classify yourself - Rove is gone and only the neocons play THAT game anymore. Get some brass and call yourself a moderate....

    I agree the bad companies (banks) and decision makers should pay for the bad moves they made. The first bad move was packaging/selling subprime loans so bad/predatory lenders could continue the practice (resetting Alt-A and prime ARM loan losses haven't kicked in yet), and now we're beginning how much the piper will have to be paid - I don't think the country has enough money to bail out this giant pyramid scheme, so there will have to be more borrowing if the government (I mean you, I and our grandchildren) bail these guys out. Investments are by definition risky, so let the risk takers pay - the government will have enough to deal with when FDIC payments are made on government backed savings/CDs when banks start going under.
    Reply | Link to Comment
  •  
    Aug 10 12:25 PM
    Bush and Cheney were obtuse in ensuring proper oversight of some aspects of our economy, but remember it is CONGRESS direct assignment. Bush personal problem is that he 'trusts but does NOT verify'. That is not an impeachable offense but does merit mention. You can add Bush to Clinton and Bush Sr ideology and attempts at globalization gone bad. This allowed other competitor nations to take advantage and reap far more benefits then what we received as a culture. When an economy consolidates power, the top get far richer and the bottom (throw the middle class into this now) get far poorer.

    For Democrats, there corruption is tied directly into lobbying/bribes by Countrywide/Pimco in repealing Glass-Steagall, implementing 'Fairness Doctrine' which allowed the corrupt to easily profit when you know where a market is going to land. It is legislating into your own pocket and is disgusting. Same on energy with the environmental lobby. Pain will be the catalyst for true 'change' but I Obama is the last person alive I would want to see attempt to fix these problems. Nor is McCain any better, his liberal understanding of economics which got us here in an ugly state are no better. I expect four years of horrific economy and qualified leadership to be voted in whether that be Democrat, Republican or Independent. The American public are fed up, but in general get skewed approaches to economic fixes by the Democrat party that was shrewd enough to make large-scale investments into media in the mid to late nineties and never stopped.

    Either way, US government has become a Cerebus, two ugly heads of the same dog. And as for Venvidi's comment, Ben can keep printing until the American consumer goes broke which seems has just begun to occur in the last few short months. Our entire economic system is going from the failed 'Efficient Market Hyposis' to Save and Invest. The parties I mentioned
    Reply | Link to Comment
  •  
    Aug 10 12:29 PM
    cont) share blame but I don't expect any true 'change' until about 2012, I see socialism being applied to attempt to fix socialsm. And socialism as an economic model has failed for 6,000 years it has been tried. But Ted Kennedy stated that he can do it, this time it's different because HE would be in charge. Please....
    Reply | Link to Comment
  •  
    Aug 10 01:50 PM
    Capitalism is very efficient and weeds out those who cant perform.My free website has gained readership because readers are more attracted to winners than losers. Debt is always needed when it is hardest and most expensive to get
    Reply | Link to Comment
  •  
    Aug 10 03:40 PM
    Guys,
    The problem that we are facing now has been developing for decades - the notion that markets don't need regulation and are best left alone to regulate itself. But as history has shown us and is showing us now, Capitalism is driven by greed. and I'm not making a moral statement here, just one of fact. The business game is all about making as much money or profit as you can, be it businesses or individuals. It's the drive to book the sale, close the deal, sell the security. mark the profit, earn the commission, take home the bonus. And as we know, people, and corporations will do almost anything, bend any rule, skirt any law or self-imposed industry 'good practice standard' for money (including murder). So where are the 'regulators' to keep all this from happening? They stood around, Alan Greenspan foremost among them, with arms folded because of an unshakeable belief in the "efficiency of the market place" which requires no interference from government. Greenspan said that this crisis could not have been prevented, but now that it has happened will be prevented from re-ocurring in the future because of reforms demanded by 'third parties', i.e., the investors who are too scared shitless to buy these hyped mortgage back securities. In sum, nothing could have been done, or more egregiously should have been done, only and until the market demanded these changes on its own. So all the while the country is sailing along believing that some one is steering the ship and looking out for shoals, there was no one. Certainly no one who was being paid to regulate and provide oversight that is. We must over come this over used fallacy that government has no place in regulating business. It has every place. Remember, greed driven capitalism if not controlled will devour itself. That was the lesson on 1929 and countless other crashes and crises. If we are now saying that despite the sanctity of this 'free market' is best falsehood, these firms are 'too big too fail' then for that kind of insurance provided by the American taxpayer, they need to play by the rules that protect and benefit that taxpayer. They must, for their own good , as well as the country, submit and welcome regulation. If only to keep themselves from killing each other in the mad drive for profits. This is not 'socialism', it's just plain common sense good business practice used every day by businesses when they are managed right. It is however, socialism for the public to incur the losses, and criminal capitalism for business to escape without penalty.
    To have it both ways leads to disaster..
    Sebiamo
    Reply | Link to Comment
  •  
    Aug 10 04:33 PM
    I am wondering what the owners of those Auction rate securities are going to do with all the cash they are going to get? Will some/all of it return to the same banks that are redeeming the securities?
    Reply | Link to Comment
  •  
    Aug 10 05:38 PM
    There is no cash. Merrill Lynch will be bankrupt before they buy that 12 billion.
    Reply | Link to Comment
  •  
    Aug 11 09:09 AM
    sebiamo, great post. It really pisses me off to see these investment bank (an other) CEOs leave the company on the brink of bankruptcy and walk away with a golden parachute and a million dollar bonus. As you said, if we are going to be put in the position of having to bail these bastards out then the least that we can expect is oversight and regulation with teeth-like jail terms and restitution for the investor
    Reply | Link to Comment
  •  
    Aug 11 09:10 AM
    Well, maybe I paraphrased what sebiamo said.
    Reply | Link to Comment
  •  
    Aug 11 09:19 AM
    no point in impeaching bush/cheney, the voters are already taking care of that.

    glass/steagal (1935) knew what they were doing. it/s a shame the present batch of speculators/crooks got their way.
    > jack
    Reply | Link to Comment
  •  
    Aug 12 06:01 AM
    As usual the ultiamte muppet (general public) carries the position and pays for worthless assets or even worse bad liabilities. The government will execute the public's trade by printing dollar - the only question is all this shit cannot be priced into the dollar already
    Reply | Link to Comment
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