Wall Street many have discovered a way out from under the bad debt and risky mortgages that have clogged the financial markets. The would-be solution probably sounds familiar: it's a lot like what got banks in trouble in the first place.
In recent months, investment banks have been repackaging old mortgage securities and offering to sell them as products, a plan that is nearly identical to the complicated investment packages at the heart of the market's collapse.
"There is a little bit of deja vu in this," said Arizona State University economics professor Herbert Kaufman.
But Kaufman said the strategy could help solve one of the lingering problems of the financial meltdown: What to do about hundreds of billions of dollars in mortgages that are still choking the system and making bankers reluctant to make new loans.
These are holdovers from the housing bubble, when home prices soared, banks bought risky mortgages, bundled them with solid mortgages and sold them all as top-rated bonds. With investors eager to buy these bonds, lenders came up with increasingly risky mortgages, sometimes for people who could not afford them. It didn't matter because, in the end, the bonds would all get AAA ratings.
When the housing market tanked, figuring out how much those bonds were worth became nearly impossible. The banks and insurance companies that owned them knew there were still some good mortgages, so they didn't don't want to sell everything at fire-sale prices. But buyers knew there were many worthless loans, too, so they didn't want to pay full price for the remnants of a real-estate bubble.
In recent months, banks have been tiptoeing toward a possible solution, one in which the really good bonds get bundled with some not-quite-so-good bonds. Banks sweeten the deal for investors and, voila, the newly repackaged bonds receive AAA ratings, a stamp of approval that means they're the safest investment you can buy.
"You've now taken what was an A-rated security and made it eligible for AAA treatent," said Richard Reilly, an analyst with White & Case in New York.
As for the bottom-of-the-barrel bonds that are left over, those are getting sold off for pennies on the dollar to investors and hedge funds willing to take big risk for the chance of a big reward.
Kaufman said he's optimistic about the recent string of deals because, unlike during the realestate boom, investors in these new bonds know what they're buying.
"We're back to financial engineering, absolutely," he said. "But I think it's being done at least differently than it was before the meltdown."
The sweetener at the heart of the deal is a guarantee: investors who buy into the really risky pool agree to also take some of the risk away from those who buy into the safer pool. The safe investors get paid first. The risk-taking investors lose money first.
That's how the safe stack of bonds gets it AAA rating, which is crucial to the deal. That rating lets banks sell to pension funds, insurance companies and other investors that are required to hold only top-rated investments.
Financial gurus call it a "resecuritication of real-estate mortgage investment conduits." On Wall Street, it goes by the acronym Re-Remic (it rhymes with epidemic).
"It actually makes a lot of sense," said Brian Bowes, the head of mortgage trading at Hexagon Securities in New York. "It's taking a bond that doesn't necessarily have a natural buyer and creating two bonds that might have a natural buyer for each."
The risk is, if the housing market slips even more, even the AAA-rated investments may not prove safe. The deal also relies on the rating agencies, which misread the risk at the heart of the sub-prime mortgage crisis, to get it right.
AT A GLANCE
- In recent months, investment banks have been repackaging old mortgage securities and offering to sell them as new products, a plan that is nearly identical to the complicated investment packages at the heart of the market's collapse.
- "You've now taken what was an A-rated security and made it eligible for AAA treatment," said Richard Reilly, an analyst with White & Case in New York.
- The sweetener at the heart of the deal is a guarantee: investors who buy into the really risky pool agree to also take some of the risk away from those who buy into the safer pool. The safe investors get paid first. The risk-taking investors lose money first.
Friday, August 28, 2009
PIMCO JOINS LIST OF TOP FINANCIERS WHO VOICE FEARS FOR THE US DOLLAR
Pacific Investment Management, the world's biggest manager of bond funds, said the dollar will weaken as the US pumps "massive" amounts of money into the economy.
The dollar will drop the most against emerging-market counterparts, Curtis A Mewbourne, a Pimco portfolio manager, wrote in a report on the company's website.
The greenback is losing its status as the world's reserve currency, he said.
"Investors should consider whether it makes sense to take advantage of any periods of US dollar strength to diversify their currency exposure," Mewbourne wrote in his August "Emerging Markets Watch" report.
"The massive amounts of US dollar liquidity produced in response to the crisis" have helped reduce demand for the currency, he wrote.
The Dollar Index, which tracks the greenback against a basket of currencies, touched 78.823 on Thursday, the lowest this week.
It has fallen 12 per cent from this year's high in March as US authorities pledged US$12.8 trillion (Bt435 trillion) to combat the recession. China, the world's largest holder of foreign-currency reserves, and Russia have both called for a new global currency to replace the dollar as the dominant place to store reserves.
"While we have not yet reached the point where a new global reserve currency will arise, we are clearly seeing a loss of status for the US dollar as a store of value even in the absence of a single viable alternative," Mewbourne wrote.
The dollar as a percentage of global central bank's foreign the first three months of the year, from 64.1 per cent in the previous quarter, according to the International Monetary Fund.
Its share has remained around 65 per cent the last five years, after falling from 72.7 per cent in 2001.
The US government boosted spending and the Federal Reserve bought bonds to revive credit markets that seized up after financial companies posted $1.6 trillion in write-downs and losses, raising concern there is an oversupply of green-backs.
Asian currencies stand to benefit as the region's economy grtows and the dollar's allure fades, said Rajeev de Mello, Singapore-based head of Asian investments at Western Asset Management, which oversees $473.4 billion.
"We are positive on the Asian currencies against the dollar adn think they will continue to rally," de Mello said in an interview.
"I do think the diversification of reserves is something that's important and I think we'll see some from China into other currencies and this will benefit as well Asian currencies and other emerging currencies."
China's central bank renewed its call for a new global currency in June and said the International Monetary Fund should manage more of members' foreign-exchange reserves.
Russian President Dmitry Medvedev last month illustrated his call for a supranational currency by producing a sample coin after a summit of the Group of Eight nations.
Mewbourne joins investor Jim Rogers, who said last year that he was shifting all his assets out of dollars and buying Chinese yuan because the Fed erodded the value of the US currency.
The dollar is losing its status as the world's reserve currency, said Rogers, who is the author of books on investing including "Hot Commodities."
Bill Gross, who runs the $169-billion Pimco Total Return Fund, is also warning the US currency will fall.
Holders of dollars should diversify before central banks and sovereign wealth funds do the same because of concern government budget deficits will deepen, Gross said in June.
Gross' fund has returned 12 per cent in the past year, outperforming 96 per cent of its peers.
Billionaire Warren Buffett wrote in a New York Times commentary on Thursday that the dollar is under threat from the "monetary medicine" that has been pumped into the financial system.
"Enormous dosages of monetary medicine continue to be administered and, before long, we will need to deal with their side effects," Buffett, 78, wrote.
The "greenback emissions" will swell the deficit to 13 per cent of gross domestic product this fiscal year, while net debt will increase to 56 per cent of GDP, he said.
The US budget deficit reached a record $1.27 trillion for the first 10 months of the fiscal year and broke a monthly high for July, the government said last week.
There is no viable immediate alternative to the US dollar for now as the euro region lacks a political union while Japan's economic weakeness makes it impossible to consider the yen for such a role, Mewbourne wrote.
The currencies of emerging states such as China cannot play a reserve role as long as they are subject to capital controls, which restrict international traders to using non-deliverable forwards, he wrote.
Pimco, based in Newport Beach, California, is a unit of Munich-based insurer Allianz.
Investor Jim Rogers said he was shifting all his assets out of dollars and buying Chinese yuan because the Fed eroded the value of the US currency.
The dollar will drop the most against emerging-market counterparts, Curtis A Mewbourne, a Pimco portfolio manager, wrote in a report on the company's website.
The greenback is losing its status as the world's reserve currency, he said.
"Investors should consider whether it makes sense to take advantage of any periods of US dollar strength to diversify their currency exposure," Mewbourne wrote in his August "Emerging Markets Watch" report.
"The massive amounts of US dollar liquidity produced in response to the crisis" have helped reduce demand for the currency, he wrote.
The Dollar Index, which tracks the greenback against a basket of currencies, touched 78.823 on Thursday, the lowest this week.
It has fallen 12 per cent from this year's high in March as US authorities pledged US$12.8 trillion (Bt435 trillion) to combat the recession. China, the world's largest holder of foreign-currency reserves, and Russia have both called for a new global currency to replace the dollar as the dominant place to store reserves.
"While we have not yet reached the point where a new global reserve currency will arise, we are clearly seeing a loss of status for the US dollar as a store of value even in the absence of a single viable alternative," Mewbourne wrote.
The dollar as a percentage of global central bank's foreign the first three months of the year, from 64.1 per cent in the previous quarter, according to the International Monetary Fund.
Its share has remained around 65 per cent the last five years, after falling from 72.7 per cent in 2001.
The US government boosted spending and the Federal Reserve bought bonds to revive credit markets that seized up after financial companies posted $1.6 trillion in write-downs and losses, raising concern there is an oversupply of green-backs.
Asian currencies stand to benefit as the region's economy grtows and the dollar's allure fades, said Rajeev de Mello, Singapore-based head of Asian investments at Western Asset Management, which oversees $473.4 billion.
"We are positive on the Asian currencies against the dollar adn think they will continue to rally," de Mello said in an interview.
"I do think the diversification of reserves is something that's important and I think we'll see some from China into other currencies and this will benefit as well Asian currencies and other emerging currencies."
China's central bank renewed its call for a new global currency in June and said the International Monetary Fund should manage more of members' foreign-exchange reserves.
Russian President Dmitry Medvedev last month illustrated his call for a supranational currency by producing a sample coin after a summit of the Group of Eight nations.
Mewbourne joins investor Jim Rogers, who said last year that he was shifting all his assets out of dollars and buying Chinese yuan because the Fed erodded the value of the US currency.
The dollar is losing its status as the world's reserve currency, said Rogers, who is the author of books on investing including "Hot Commodities."
Bill Gross, who runs the $169-billion Pimco Total Return Fund, is also warning the US currency will fall.
Holders of dollars should diversify before central banks and sovereign wealth funds do the same because of concern government budget deficits will deepen, Gross said in June.
Gross' fund has returned 12 per cent in the past year, outperforming 96 per cent of its peers.
Billionaire Warren Buffett wrote in a New York Times commentary on Thursday that the dollar is under threat from the "monetary medicine" that has been pumped into the financial system.
"Enormous dosages of monetary medicine continue to be administered and, before long, we will need to deal with their side effects," Buffett, 78, wrote.
The "greenback emissions" will swell the deficit to 13 per cent of gross domestic product this fiscal year, while net debt will increase to 56 per cent of GDP, he said.
The US budget deficit reached a record $1.27 trillion for the first 10 months of the fiscal year and broke a monthly high for July, the government said last week.
There is no viable immediate alternative to the US dollar for now as the euro region lacks a political union while Japan's economic weakeness makes it impossible to consider the yen for such a role, Mewbourne wrote.
The currencies of emerging states such as China cannot play a reserve role as long as they are subject to capital controls, which restrict international traders to using non-deliverable forwards, he wrote.
Pimco, based in Newport Beach, California, is a unit of Munich-based insurer Allianz.
Investor Jim Rogers said he was shifting all his assets out of dollars and buying Chinese yuan because the Fed eroded the value of the US currency.
Subscribe to:
Posts (Atom)