Friday, June 11, 2010

Bernanke's Guaranteed Box Full of Crap

It's not that I want to keep writing about the tragic irony when life imitates art, but the scenario just keeps coming up.  This will mark the 7th time on this blog (enter "Tommy Boy" in my search box for the others) where I've found relevant occasion to use the Tommy Boy quote:

"Because they know all they sold ya was a guaranteed piece of shit. That's all it is, isn't it? Hey, if you want me to take a dump in a box and mark it guaranteed, I will. I've got spare time."

And yes, this time it refers to Federal Reserve Chairman Ben Bernanke - although I think it's actually Treasury Secretary Tim Geithner's box of crap - let's have a look...

A little over three months ago, Congressman Alan Grayson posed a list of aggressive questions for Bernanke to answer following a Committee for Financial Services hearing.   Bernanke has finished responding, and you can view the questions and answers here.  I want to talk about question number two.  As part of the question, Grayson asked: 

"A central bank normally holds sovereign debt, so as to avoid counterparty risk; does the Federal Reserve view mortgage-backed securities as sovereign debt?"

Bernanke replied (emphasis mine):

"The Federal Reserve's holding of mortgage-backed securities (MBS) are not equivalent to sovereign debt, but they are fully guaranteed by Fannie Mae, Freddie Mac, and Ginnie Mae, and thus pose essentially no credit risk to the Federal Reserve."

After you're done LOL'ing at "fully guaranteed by Fannie Mae, Freddie Mac, and Ginnie Mae..." we can continue.

Ummm.. They don't pose credit risk to the Federal Reserve (aka, the left pocket) because that credit risk has been taken by the US Treasury (aka, the right pocket).  It's kinda like arguing semantics, isn't it, Mr. Bernanke?  In other words, Geithner's office stamped the box of crap "GUARANTEED,"  but the Government is eating the credit risk (aka: THE LOSS) no matter how you look at it.  You don't take the risk - he does.  

So, according to Bernanke, he is buying riskless assets - because even though the guarantors of the MBS have already been proven to be insolvent, his counterpart at Treasury has already taken care of that little issue.  Voila.

This reminds me of another old post I wrote, one of my favorites,  about a hypothetical conversation between Citigroup CEO Vikram Pandit and FDIC Chairwoman Sheila Bair.  Despite being insolvent, the FDIC was still allowing Citi to issue new debt under the FDIC's TLGP guarantee program...

The boxes full of crap are piling up...



Transor Z said...

The way BB put it is actually kind of an odd way of framing it. The stamp of guarantee is put on by Fannie and Freddie, but the guarantee they are authorized to make is to bind the full faith and credit of the U.S. to securities. Fannie and Freddie don't guarantee anything. As you correctly point out, they create sovereign-backed securities.

Where the sovereign ends and the central bank begins is probably one of those Great Unanswerables. And I think they like it that way.


EconomicDisconnect said...

Guarantees for boxes of crap make up the balance of the FED's balance sheet (2 ply?) and Bernanke wonders why Gold will not behave like corn or pork bellies, you know, a commodity.

Anonymous said...

I think Real estate related stocks have a hard time falling because of this "guarantee". Its like the FED has taken a naked short position against short RE style ETFs. IYR keeps strong while SRS gets hammered.This will all change when RE takes its next leg down, and the fed defaults on its call to cover, or simply bond yields force the issue.

James said...

The government is mismanging the country on a massive scale. What kind of person believes that we can borrow forever with no means of repaying?

Anonymous said...

"(MBS) are not equivalent to sovereign debt, but they are fully guaranteed by Fannie Mae, Freddie Mac, and Ginnie Mae"

. . .then why stop there?

why not buy Detroit or Los Angeles debt? it's guaranteed by the respective municipality- or why not P&G and Coca Cola?

Ohhhhh- I get it- they don't have the complete backing of the USG-

what the hell was I thinking-

so BB really means MBS are pretty much the same as sovereign debt- but not exactly the same-

it takes a smart man to understand these little nuances

Anonymous said...

. . .and just to be clear- GNMA is a government agency- so by definition- it's debt is government debt- from GNMA's own web site:

Ginnie Mae securities are the only MBS to carry the full faith and credit guaranty of the United States government, which means that even in difficult times an investment in Ginnie Mae MBS is one of the safest an investor can make.

although you won't find that same seal of approval from the USG for Fannie and Freddie everyone knows that the USG has their back-

thus- they are de facto guaranteed

Transor Z said...


Sovereign debt vs. sovereign-backed securities.

James said...

You missed a great Phish last night

TraderRob said...

The funny thing here is that credit spreads have been screaming this for a while. Look at the spreads between U.S. Treasies and U.S. Corp.'s of similar maturities and you'll see that the spreads are narrowing QUICKLY. It's because the U.S. Gov chose the most shunned assets to absolve (i.e. subprime mortgage portfolios of Fan/Fred) and the recovery hasn't "caught".

El-Erian has it right.... "Buckle Up"