Wednesday, September 30, 2009

Guaranteed by the FDIC!

The point of my post yesterday about the FDIC was not to point out that the FDIC is broke - everyone knew that. The FDIC's release yesterday gave us some serious insight into just how bad the financial situation is: the FDIC's estimates for losses continue to grow, and their time frame for replenishing the DIF (Deposit Insurance Fund) continues to be pushed out. In addition, the assets held by the FDIC are deteriorating in quality. The scariest thing to me is that the FDIC continues to try to disguise the health of the banks by using accounting tricks - like allowing them to spread out the prepayment of FDIC fees over three years when recognizing the costs, and failing to charge the banks a special assessment to replenish the DIF.

Then, after I wrote the post, I came across this gem via Calculated Risk:
"Citigroup Inc. (C) priced a $5 billion government-backed bond Tuesday, its second benchmark-sized bond offering this month under the U.S. Federal Deposit Insurance Corp.'s Temporary Liquidity Guarantee Program, according to a person familiar with the situation."

Wow. Wow. Can I say WOW again? If the FDIC is broke, which they are, then why is the TLGP program still going?!! Ken Lay would be proud - Citibank issues debt guaranteed by the (broke) FDIC. Then, Citi prepays a few years worth of fees to the FDIC, so that they'll have money to, amongst other things, be able to make good on the debt they just guaranteed for Citigroup! If you plugged this into Excel, you'd get a "#N/A" circular reference error.

Perhaps it went down something like this:

the players:
Vikram Pandit: Citi CEO
Sheila Bair: FDIC chair

Pandit: "Hey Sheba - what's shakin'? Look - We need to issue some debt under the TLGP - no problem right?"

Bair: "Hi Vik - ummm - actually, I don't know if you got the memo - we're broke."

Pandit: "That's ok Sheba - you won't actually have to pay out on the debt - it's guaranteed."

Bair: silence... "Sorry Vik - I don't follow."

Pandit: "It's guaranteed - RISKLESS! The full faith and credit of the FDIC stands behind it."

Bair: annoyed... "But Vik, I don't have any money to guarantee it."

Pandit: "You old fuddy duddy - don't worry about that - we'll use the proceeds of the debt sale to prepay our FDIC fees for the next three years - then you'll be able to cover us - simple math!"

Bair: hesitant... "ummm. Ok Vik - what happens when you need to payback the debt?"

Pandit: "Where have you been Sheba? We'll just issue new debt! Voila!"

Bair: "Genius, Vik. Do it up! GUARANTEED!"

Ponzi lives. Smoke and mirrors.


Tuesday, September 29, 2009

The Truth - Courtesy of the FDIC

Via ZeroHedge, comes a smoking gun release today from the FDIC. I mentioned last week that the FDIC, which is essentially broke (and by the FDIC, I mean, of course, the DIF - the Deposit Insurance Fund which insures customer deposits up to $250,000), was discussing a plan to re-fund itself by borrowing from its member banks. Today's FDIC press release confirms just that. "But wait, Kid Dynamite," you might say, "the release says that the FDIC will have banks prepay 3 years worth of fees." Yes - that's the same as borrowing from the banks.

Sadly, the FDIC wants to go this route, instead of using a special assessment on the banks, because, in their own words:
"Furthermore, any additional special assessment or immediate, large increase in assessment rates would impose a burden on an industry that is struggling to maintain positive earnings overall."
In plain English, that's like saying "everyone wants to pretend that the banks are solvent, but if we make them actually pay us extra money, it will make it harder to cover up the fact that the banks are insolvent." Thus, we wave a magic wand, and even though the FDIC is asking the banks for 3 years worth of money today, the banks will be able to recognize the cost over 3 years. Since when do we treat insurance as a depreciating asset? It's not like when you buy an airplane and recognize the cost over 20 years! There is a simple, unarguable fact: if Citibank pays the FDIC $1B TODAY (I'm making this number up) in fees for the next 3 years, Citibank has $1B less in cash today. Not $333MM less in cash - $1B less in cash.

The FDIC's release today is a must read - it contains some serious and scary truths about our national financial situation, despite what the press and the administration have been telling us over the past six months.

Take, for example, this gem:

"Staff’s current projection of $100 billion in failure costs from 2009 through 2013 is higher than staff’s projection in May of $70 billion over the same period. Projected failures have increased due to further deterioration in the condition of insured institutions, as reflected in the increasing number of problem institutions. Asset quality problems among insured institutions are not expected to abate in the near-term."

In plain speak: While you read headlines every day about the end of the recession, improvement among all metrics, green shoots, and how great it is to have 9.7% unemployment and over 500k in new jobless claims weekly, the fact of the matter is that in the last 4 months, the estimate for losses from bank failures over the next 4 years has increased by 43%! And guess what - asset quality problems are not expected to abate!

The FDIC also reminds us of their previous time frame for restoring the Deposit Insurance Fund:

"In October 2008, the Board adopted a Restoration Plan to return the Deposit Insurance Fund (DIF or the Fund) to its statutorily mandated minimum reserve ratio of 1.15 percent within five years. In February 2009, given the extraordinary circumstances facing the banking industry, the Board amended its Restoration Plan to allow the Fund seven years to return to 1.15 percent. In May 2009, Congress amended the statute governing establishment and implementation of the Restoration Plan to allow the FDIC up to eight years to return the DIF reserve ratio back to 1.15 percent, absent extraordinary circumstances."

So, last year, the FDIC hoped to replenish the DIF within 5 years. As reality hit, they adjusted this estimate to a 7 year time frame in February. Then, in May, despite an epidemic spread of green shoots in the media, the FDIC again extended the estimate of time needed until the DIF was replenished to 8 years.

There is another terrifying tidbit in the FDIC's release that's easy to gloss over:

"At the beginning of this crisis, in June 2008, total assets held by the DIF were approximately $55 billion, and consisted almost entirely of cash and marketable securities (i.e., liquid assets). As the crisis has unfolded, the liquid assets of the DIF have been used to protect depositors of failed institutions and have been exchanged for less liquid claims against the assets in failed institutions. As of June 30, 2009, while total assets of the DIF had increased to almost $65 billion, cash and marketable securities had fallen to about $22 billion. The pace of resolutions continues to put downward pressure on cash balances. While the less liquid assets in the DIF have value that will eventually be converted to cash when sold, the FDIC’s immediate need is for more liquid assets to fund near-term failures."

This is the doozy - the FDIC has been exchanging cash for trash - as banks fail, the FDIC takes assets (as they've admitted above: illiquid, presumably low quality paper - perhaps MBS that will turn out worthless?) and gives the failed banks cash to protect depositors. The last sentence of the quote above presumes that in the end, if they wait long enough, these illiquid assets will have value. The problem is, the FDIC needs cash now, and these assets simply cannot be sold for what we're pretending they are worth right now. If you've been following the crisis, you should realize that this is no different from what the banks the FDIC has NOT yet seized have been hoping - that their trash assets will eventually recover. Everyone is sitting around extending and pretending, delaying and praying, refusing to mark to market, and keeping their fingers crossed that in the end, these assets will be worth what we pretend they are worth. What happens if they're wrong?

Obviously, I'm adamantly against continued attempts to hide the health of the banking industry. The FDIC doesn't want to impose special fees on the banks because it's a tough time for the banks, so they concoct a plan to cook the books -they admit this! They acknowledge that the "prepayment" plan doesn't really change the balance of the fund!
"Although the FDIC’s immediate liquidity needs would be resolved by the inflow of approximately $45 billion in cash from the prepaid assessments, it would not initially affect the DIF balance. The DIF would initially account for the amount collected as both an asset (cash) and an offsetting liability (deferred revenue)."
When you pull forward revenue, you're not improving the long term health of the insurance fund- you're taking money now, and giving up money later.

We need to have another round of special assessments on the banks to shore up the DIF, write trash assets down to realistic levels, seize the bad banks, take the pain, and then we'll be able to move on unencumbered by a never ending pile of bad debt. As we stand now, failed banks have passed their problems on to the other banks, since the FDIC has inherited fantasy assets which are clogging up the balance sheet of its fund.


Thursday, September 24, 2009

Good Times Never Seemed So Good

Was Neil Diamond anticipating the 2008/2009 recession when he wrote Sweet Caroline?

"Where it began, I can't begin to know when
But then I know it's growing strong
Oh, wasn't the spring, whooo
And spring became the summer
Who'd believe you'd come along

Oh, sweet Caroline
Good times never seem so good (so GOOD! so GOOD! so GOOD!)
I've been inclined to believe it never would"

Indeed, things are so good right now (sarcasm alert!) that people are having to sell their grave plots to raise money. I can't emphasize how not good that is. All I can do is picture John Stewart on The Daily Show pleading with the camera in an exasperated, sarcastic tone: "Yes Ethel - the economy has recovered and things are improving rapidly - that's why you need to sell your final resting place to pay the bills!" From the WSJ aritcle:

"As if the recession hasn't ruined enough people's plans in this life, it now seems to be disrupting the hereafter as well. Cemeteries and funeral-property Web sites report a burgeoning marketplace for the sale of burial plots by individuals, many of which have been in families for years. As times get tough, they are now being liquidated to make ends meet."

Which leads us into this terrific cartoon which Barry Ritholtz published on his blog yesterday:

While I'm at it, let me hit a few other quick ones: TARP inspector general Neil Barofsky tells the "look - we made a 17% return on the TARP funds" crowd to screw their heads on straight, and that it's highly likely that a large chunk of the TARP funds will never be repaid.

You may have seen the story from Monday about the banks lending money to the FDIC to prop up the rapidly vanishing insurance fund. For anyone who doesn't understand how absolutely preposterous this is, ponder the following: if your insurance company asked you for a loan so that they'd be able to cover the claims they will have coming up, what would you say? That's a rhetorical question. Other options include a special assessment on the banks, which is exactly what is needed. Of course, the banks don't like that idea:

"Bankers worry that a special assessment of $5 billion to $10 billion over the next six months would crimp their profits and could push a handful of banks into deeper financial trouble or even receivership. And any new borrowing from the Treasury would be construed as a taxpayer bailout that could open the industry to a political reaction, resulting in a wave of restrictions like fresh limits on executive pay. Any populist furor could be avoided, the thinking goes, if the government borrows instead from the banks."

Of course, we know that the banks can borrow at near zero rates from the Fed anyway, so it's just an absurd shell game to make it LOOK like the banks are lending money to the FDIC - which is an absolutely ludicrous concept in it's own right. Sadly, such shell games frequently CAN succeed in quelling "populist furor" - because the populist doesn't understand. Fortunately, cooler heads have prevailed (SARCASM ALERT!), and the latest discussion is for the banks to pre-pay future fees to the FDIC in order to sure up the reserves. Pull those fees forward - that will fix everything!


Sunday, September 20, 2009

You Really Shouldn't Care So Much About Flash Trading

disclaimer: do not waste your time getting sidetracked into OTHER aspects of high frequency trading - this post is about one thing: FLASH TRADING. do not leave me comments about how much you hate high frequency trading - focus on the simple facts of flash trading, and I will be happy to engage in a dialogue with you.

First, let's step back and remind ourselves what flash trading is: when you enter an order on certain exchanges, you have the option to elect to have that order "flashed" to members of that market center to give them the opportunity to match prices that may be available on other exchanges. You, as the order executor, elect to have your order flashed because if the order is executed internally, you don't have to pay an additional charge to route your order out to another exchange. It's that simple. Let's make it a little more concrete: GE is trading $16.50 - $16.51, but you execute your orders on DirectEdge, and the best offer is currently on ISLD. When you enter a flash order in DirectEdge to buy 100 GE @ 16.51, all it does is give potential sellers in DirectEdge the opportunity to sell it to you at $16.51 before DirectEdge routes your order out to the other exchange. There is no theft, there is no front running, there is nothing to rant and rave about.

Now, I have all the respect in the world for Barry Ritholtz. I think he's a tremendous blogger who gets to the truth behind the data, and behind many biased mainstream media reports. Generally, he knows what he's talking about. So it was with dismay that I returned from a weekend out of town, sat down to catch up on some of his recent posts, and found this diatribe against flash trading. Ritholtz's piece arose because the SEC has proposed a ban on flash trading. Next they'll debate it, discuss it, hear comments on it, and vote on it.

A few months ago I wrote my most-read post ever, titled "We Fear What We Don't Understand." Let's revisit the flash trading component of that piece:

"Now, the intent of flash orders is to allow participants in a given market center the opportunity to improve the current bid or offer so that an order doesn't need to be routed away to another market center.

An example: let's say GE is trading $11.45-$11.50 at DirectEdge, but that there is an $11.46 bid on ISLD (an ECN). If you submit an order to sell stock at $11.46 on DirectEdge, they flash this order to select market participants to offer them the opportunity to fill your order - otherwise the order gets routed out to ISLD and you (the seller) have to pay an extra fraction of a penny for the routing. As I tried to explain on some other posts regarding flash trading, this is basically a hyper-speed modernized version of how the NYSE specialists used to verbally quote orders to offer people in the crowd the opportunity for price improvement: "if GE was 11.25-11.27 50k up, and you walked in to sell 50,000 shares, the specialist would say out loud “25c bid 50,000, 50,000 at 26c, SOLD.” Anyone could say "TAKE or BUY'EM" before the specialist said "SOLD" which would result in the seller getting price improvement to $11.26 and if no one interrupted him, the trade was done at $11.25. Markets have NEVER been setup such that every participant has the same opportunity to trade on every quote."

There was also an op-ed in the WSJ a few weeks ago defending and explaining flash trading. The op-ed is accurate, well written, and clear, yet Ritholtz still managed to take offense to it:

"The WSJ had an Op-Ed last month, In Defense of ‘Flash’ Trading, that suggested that “Flash trading is like offering to sell your house to your neighbor before you officially put it into the real estate listings.”

That description is, of course, utterly false. We have alternative exchanges where you can offer stocks privately to other willing buyers (i.e., Instinet). Flash trading is more like having access to private info from the sellers, knowing what they will accept, stepping in front of legitimate buyers, and then flipping the house to those buyers while capturing 0.001% of the transaction. No benefit to the seller, to the neighborhood or to anyone else — all at a small cost to the buyer."

I can't fathom how someone as intelligent as Ritholtz could screw this concept up: when you "step in front of legitimate buyers" it means you are paying more than anyone else. Thus, it's not possible to pay the highest price and then flip it back to the buyers who are willing to pay LESS and make a profit. If you buy stock against a flash order, and offer it out again, you're taking risk - you're not stealing fractions of a penny from anyone or arbitraging anything - what you ARE doing is helping the person who flashed the order in the first place by offering them price improvement and eliminating routing costs.

Now, there is certainly the POSSIBILITY that instead of John Q FlashMan seeing the flash order - let's say it's an order to buy GE - and instead of offering to sell stock to the flash order, he decides to act illicitly and buy stock in GE as fast as he can, before the original GE order gets completed. This is called front running - it's blatantly illegal, and you'd be hard pressed to find anyone who would argue that it's defensible. However, if the traders entering flash orders constantly find themselves being frontrun, well, guess what - they'll stop entering flash orders. They are not idiots. Guys using flash orders are highly cost sensitive, (that's the very reason they use flash orders in the first place!) and notice when their execution costs (both explicit: commission/fees, and implicit: impact costs, or negative costs associated from other trading ahead of their orders) increase - if flash orders are hurting them, they won't flash them.

Flash trading is a non-issue that people like Chuck Schumer and Ted Kaufman have jumped on in an effort to make it look like they are fighting for the little guy's rights on Wall Street. The reality is that a ban on flash trading will have little to no effect on any sort of market dynamic, and will not help the little guy at all, but will increase trading costs for some traders.

-Kid Dynamite

Thursday, September 17, 2009

Marty Up! Ponzi Lives

Several years ago, the Big Show and I coined the abbreviation "MARTY UP!" to indicate it was time to implement the Martingale System. Lately, Vegas has been Martying Up their own balance sheets in classic Ponzi fashion. Last week I noted that Harrah's basically executed the very definition of a Ponzi scheme, when they issued new debt to pay off their old debt. This week MGM did something similar.

MGM had an exchange offer outstanding: they have debt coming due in 2010 ($782MM of 8.5% notes), and they tried to get investors to exchange that debt for new debt due in 2016, yielding 10%. Basically, they offered to pay you a little more, in exchange for you agreeing to wait a little longer to get paid back. There was a slight problem: of the $782MM outstanding 2010 notes, only $21MM had agreed to extend and pretend. That's how Ponzi scheme's fail.

No fear, though - today MGM announced that they were revising the terms of the exchange so that it would only effect roughly $25MM of the 2010 bonds... And in a separate announcement, they revealed a private placement of $350MM of new debt due in 2018. PONZI SUCCESSFUL! Obviously, they will use the proceeds of this placement to pay down existing debt.

There's one more important piece of fine print in MGM's 8k today:
"At March 31, 2009, the Company reviewed its CityCenter investment for impairment. The Company’s discounted cash flow analysis for CityCenter was based on estimated future cash outflows for construction and maintenance expenditures and future cash inflows from operations and residential sales of CityCenter. Based on its analysis, the Company determined that no impairment charge was necessary at March 31, 2009.
The Company expects to conduct an impairment analysis of its investment in CityCenter as of September 30, 2009. The Company believes it is reasonably likely that the outcome of this review may lead to a non-cash impairment charge but cannot reasonably estimate the amount or range of such impairment charge at this time."

You can be sure that MGM will have to recognize an (epic?!?!?) impairment charge on CityCenter when they finally decide to acknowledge the reality of the crap-tastic situation in Las Vegas.

Marty Up! Long Live Ponzi!


disclosure: no position in MGM, but looking for a place to short it, along with LVS

Tuesday, September 15, 2009

Your Tax Dollars At Work

Please note - this piece is entirely non-partisan. I'm not condoning or criminalizing Joe Wilson's actions in yelling "You lie!" at President Obama during his big speech before the Joint Session of Congress last week - but I am certainly saying that Congress's actions today are a disgraceful waste of time, money, and thought.

In case you missed it, the House voted to officially "rebuke," Representative Wilson, which means, well, jack shit. Here is the wording from the actual resolution:


Raising a question of the privileges of the House.

Whereas on September 9, 2009, during the joint session of Congress convened pursuant to House Concurrent Resolution 179, the President of the United States, speaking at the invitation of the House and Senate, had his remarks interrupted by the Representative from South Carolina, Mr. Wilson; and Whereas the conduct of the Representative from South Carolina was a breach of decorum and degraded the proceedings of the joint session, to the discredit of the House: Now, therefore, be it Resolved, That the House of Representatives disapproves of the behavior of the Representative from South Carolina, Mr. Wilson, during the joint session of Congress held on September 9, 2009.

Now, in case you don't understand what that means, the elected officials of our country spent time today debating and then voting to decide that it "disapproves" of the behavior of Mr. Wilson. Seriously.

They didn't spend time talking about how to recoup the hundreds of billions of dollars they've sunk into AIG, FNM, FRE, C and BAC.

They didn't discuss exactly what might be the best way to dispose of the Citigroup stake that Treasury has expressed interest in selling, and they didn't discuss the possibility of removing the guarantees that the government has given Citi on $300Billion in crappy assets.

They didn't spend time talking about how to move forward with the monumental health care bill, or if maybe it might be time to think about alternatives to continuing to extend unemployment benefits while desperately hoping the economy improves.

They didn't debate a second stimulus plan, or even consider that since the mainstream party line is that the recession is over and that things are getting better, maybe we don't need the stimulus after all.

They didn't talk about the risks to our plan to continue to roll over an ever increasing mass of national debt on the gullible Chinese.

They didn't discuss a potential backup plan in case the "delay and pray" strategy for economic improvement fails.

Instead, they spent their time debating and then voting to make sure that everyone knows they disapprove of Representative Wilson's actions... And??? Are they going to kick him out of the House? Are they going to fine him? Are they going to put him on trial for treason? Are they going to send him to Gitmo? If not, WHY THE FUCK DID THEY NEED TO WASTE TIME ON THIS?!?!!?

Again, without passing any judgment at all on Wilson's actions, I can agree 100% with his quote today:
"When we are done here today, we will not have taken any further steps toward helping" the nation deal with urgent challenges, said Wilson, of South Carolina. "It is time that we move forward and get back to work for the American people."

The American people saw Obama's speech, and Wilson's interruption. It was said that in the 24 hours after the event, Wilson's campaign donations ramped up, but that his opponent's donations increased twice as much. The people are capable of evaluating the action on their own - we do NOT need our elected officials spending their time on utter crap like this, unless they are doing it to enforce actual consequences as a result.

In related news, this Dilbert cartoon sounds like a better use of time and money than what Congress is currently doing:

edit: the entire roll call for the resolution is here. Shame on Barney Frank for taking the time to show up and vote "present" but not being able to make a decision on something as monumentally inconsequential as "disapproving" or Wilson's actions. Kudos to Maxine Waters (that is the first, and possibly the last time you will hear me commend Waters) for not bothering to vote at all.


Sunday, September 13, 2009


The NY Times ran an article this weekend about protesters rallying against big government, with this picture:

I saw the picture of Pelosi with the link between "Nazis" and "Astroturf" and I was immediately impressed by the wit of the protester, who was clearly referencing the classic Seinfeld episode where George and Jerry steal a limo by posing as "O'Brien" and "Murphy," not knowing that O'Brien is the head of the Aryan Union. When they figure out the situation, George calls 911 from the back of the limo, and is pleading his case to the operator, when the host returns to the limo. George quickly shifts gears, and utters the classic line:

"Astroturf? You know who's responsible for that, don't you?! The Jews! Ah, the Jews hate grass. They always have, they always will."

Sadly, I later realized that the sign was not paying homage to this legendary Seinfeld moment, but was a reference to Pelosi's soundbite downplaying a prior protest as not grassroots, but "astroturf." I'm not ashamed to admit that I'm not up on Pelosi's soundbites.


Friday, September 11, 2009

September 11th, 2009

I wrote this piece on September 11th 2006,

and this one shortly after September 11th, 2001

"Well starry eyed and laughin' I recall when we were caught
Trapped by an old track of vows for the hands suspended
As we listened one last time and we watched with one last look
Spellbound and swallowed "Has the tollin' ended?""


Tuesday, September 08, 2009


From Wikipedia: The definition of a Ponzi Scheme:

"A Ponzi scheme is a fraudulent investment operation that pays returns to separate investors from their own money or money paid by subsequent investors, rather than from any actual profit earned."

From Harrah's press release today: (emphasis mine)

"Harrah’s Entertainment, the beleaguered casino operator, says it will offer $720 million in new secured notes to give it more time to repay lenders, The Associated Press reported. The Las Vegas-based company, which was acquired in a leveraged buyout, said Tuesday that it would use the proceeds from selling the new notes, which will be due 2017, to repay debt that is due much sooner."

I'm just sayin'.... I guess if your profits from lowering payouts on the blackjack tables to 6:5 don't cut it, you just sell new debt to pay down the old debt, then sit back and wait for time to heal all wounds. I'm sure that once CityCenter and Fountainebleau open, flooding Vegas with more supply it can't handle, then everything will magically become super again.



Satire Everywhere - Even Where Unintended

The first article I opened this morning was a Bloomberg piece titled "Stocks Cheapest Since '89 Show Why Analysts Say Economists Wrong on Growth." I scratched my head and plowed through the article, which spends a lot of time actually detailing some risks that the market faces going forward. Then I found the part where they explain the headline - the cheapness of stocks (emphasis mine):

"The gains spurred the steepest rise in the S&P 500’s price- earnings ratio since at least the 1950s, pushing the index to 19 times operating earnings from the past 12 months, the most expensive level since 2004, according to data compiled by Bloomberg. Based on analysts’ forecasts for 2010, the S&P 500 trades for 13.5 times income, the lowest since 1989 when compared with the trailing P/E ratio before Lehman Brothers Holdings Inc.’s collapse a year ago."

Then I read this piece on ZeroHedge, which highlights JPMorgan's upgrade of General Electric today. Remarkably, the report is titled after Pink Floyd's Comfortably Numb. We're truly in a remarkable spot in the markets when the justification for upgrading behemoth GE is that investors seem numb to the downside! I guess that means there is no downside - if we ignore it, it can't happen!

A colleague sent me this comment this morning from an analyst whom I will keep anonymous, but suffice it to say that this analyst is not a moron, and was actually mostly bearish throughout 2006 and 2007 before everything fell apart:

"All in all, we expect the coming weeks to put an end to the debate on recession vs. recovery and to bring about a major lift in investor sentiment. In essence, we expect our bullish thesis to become consensus within months if not weeks."

I replied, "WHY? Because all those people who are unemployed and having trouble with their mortgage resets will suddenly be exposed to mind erasing gas like in the second to last Batman movie?" I'd love to hear the logic for everyone suddenly waking up to the reality of the new bull market - as I'm expecting quite the opposite. I'm expecting the bulls to realize that rampant unemployment, understated job losses, stagnant wages, continuing job losses, weak hiring outlook, lack of home equity, and an eventual inevitable end to government subsidies will require us to finally address the problems in the economy. But maybe the plot of Batman Begins will turn into reality, and the government will unleash its happy gas to control the populace.

Iowahawk has written a phenomenal satirical piece which puts a mainstream media spin on the current trends in joblessness. Some snippets:

"Brian Smalley was laid off by in late April. He didn't panic. He didn't rush off to a therapist. Instead, the 33-year-old Santa Monica resident discovered that being jobless "kind of settled nicely, once you get used to the heating grate..."

What most people would call unemployment, Smalley embraced as "funemployment." What other people would dismiss as starvation, he whimsically terms a "starve-cation..."

"Horton, who was recently laid off from her job as a ElectoChill D.J. at a boutique hotel aromatherapy spa, says lack of a daily job obligation has been "a godsend..."

"I get to sleep in late at the shelter, and I finally have time to catch up on Tweeting," she says. As she recently mused on Twitter, from an Austin public library: "Recession? More like relax-cession!...""

Never heard of funemployment? Here's Urban Dictionary's definition: "The condition of a person who takes advantage of being out of a job to have the time of their life. I found a burrito with only one bite in it; funemployment rocks!..."

"Melissa Browning, 34, is another funemployed L.A. single who has found new meaning in prostitution. After losing her job as a program coordinator for a non-profit Feng Shui education group in late March, Browning decided to go on a three-week interstate highway trek through the truckstops of central Arkansas with two friends, earning up to $30 per night while sleeping in tent-like yurts.

"I used to be so absorbed in the details of work, but prostitution has allowed me to come out of my shell," Browning said. "Now it's just so much easier for me approach new people, in idling semis, at 2 am. It's just gives you such a positive pro-active outlook. I guess that's why it's called pro-stitution." "

It's sad when the Iowahawk piece is the most sensible story I've read today...


Sunday, September 06, 2009

Life Insurance Settlements

I read an interesting article last night on about securitizing life insurance settlements. The gist of the process is this: you have an elderly person, say, 72 years old, who needs money badly. This person, let's call her Ethel, has a life insurance policy that will pay $2mm when she dies, but it costs her $50k a year to keep current. According to actuarial tables, Ethel is expected to live to age 77. Now, the life insurance company will "settle" the policy with her - they'll give her cash right now. How much? In the NY Times example, it's a mere $58,000. Ethel is getting screwed.

Enter the evil "Wall Street," who seeks to profit from the death of average Americans - as critics will claim. Wall Street is now acting as an intermediary to try to get Ethel something closer to the theoretical value of her policy. The securities firm buys Ethel's policy from her, giving her more money up front ($215,000 in the Times example) than the insurance company would have given her, and then continues to pay her policy. The firm turns those policies into securities or even packages them with other policies, like Rose and Marvin's life insurance settlements, and sells them to investors. The investor pays the policy until the original policy holder dies, at which point the investor receives the value of the policy. It's really not as hard as it sounds - to simplify - you need cash badly, I have cash, so I buy your policy from you, and take it over. I decide how much to pay you for the policy based on the end value of the policy and your expected life span.

Now, it's debatable whether life insurance policies should be able to be settled at all. It's pretty clear to me, though, that if you have been making payments into a policy as you age, but you now need money, you should have the right to "cash out" your policy for whatever it's "worth." Critics will immediately jump on the securitization process facilitated by Wall Street as another attempt by Big Money to profit off the ill fates of innocent Americans - even incentivizing the security holder to cheer for the early death of the policy holder. This last part is unequivocally true - life insurance settlements are worth more when the policy holder dies earlier. However, the whole point of the securitization process is that the insurance company was not giving Ethel a fair value for her policy! Instead, let investors take the risk of the policy, and price Ethel's policy at a "fairer" value. A life insurance policy is no different from a bond - the problem is we don't know the maturity date. Let investors make a market on what the fair expectation of that maturity date is! This is exactly what insurance companies do, only they don't compensate you fairly.

Yves Smith at NakedCapitalism wrote today about a potential ill effect from the securitization process:

"On a small scale, this is a useful service to people who are in a bind. But the ramp up that Wall Street intends, of marketing the idea more aggressively and securitizing the policies, is likely to put all life insurance customers at a disadvantage.

The big reason is that many policies lapse (as in the owner of the policy fails to make payments. Those lapses are included in current pricing models. Investors will not miss payments, which means insurance providers will pay out more often than in the past on life insurance policies, which in turn means their profits will deteriorate, which means they will raise rates on everyone."

This is an interesting observation, although a commenter on Yves's post notes that insurance companies have gotten better at pricing policies to "abandonment," so that this theoretical "loss" that the insurance company suffers is smaller, and already priced in.

In today's "Evil Wall Street" era, the temptation is to crucify Wall Street for ideas like the securitization of life insurance settlements, but all the process does is make the value paid to the policyholder more competitive. The claim that this process will result in a pseudo "tax" for other policy holders because insurance companies will be forced to raise rates is a red herring - it ignores the fact that the benefit of the "tax" was already paid to our hero, Ethel.