His most recent memo appeared in the WSJ: http://online.wsj.com/public/resources/documents/WSJ_oaktreememo0803.pdf This was one of the best pieces I’ve read about current financial markets – what’s happened and why and what to expect. I was also pleasantly surprised to discover that Mr. Marks is also a CFA charterholder. If anyone has any of his other memos, I’d love to read them.
I admit I didn’t read ALL of that but I read most of it. I disagree with much of what I read and I wasn’t impressed by his grasp of the situation. Changing the accounting rules away from mark to market would be a HUGE mistake that any charterholder should realize. It effectively makes valuing the entity even MORE difficult. Do you know how hard it is to value them NOW? How the hell are we supposed to do it if they further hide market values? Look at how far off the accountants were under the CURRENT situation with BSC! The accounting values would end up being LESS of a reflection of true economic values. If you, the analyst, disagrees with the way the market is marking the company’s assets (i.e. mb bonds,etc.) then you can move on that trade but let’s keep it as transparent as possible and not give management the freedom to model their values, etc like he used to do! I think this guy is missing the point on leverage. Leverage wasn’t what killed the financial system this round, it was lack of regulatory oversight which allowed loans to be made to losers and then the loans themselves classified as winners. It was simple fraud. Any amount of leverage is too much when you have bad ingredients like that in a fixed income portfolio so talking about leverage is moot. It’s like saying I got a foot infection that killed me…so blame bacteria. You should blame me for walking on glass. Bacteria does what it does but walking on glass was the problem. Sure bacteria is what killed me but I wouldn’t have gotten the bacterial infection had the damn regulators been sweeping up the street (i.e. monitoring the dumbass mortgage brokers). Happy Easter.
Mark to market is a joke. It’s akin to buying a new car, then having the bank require you put up more collateral right after you drive it off the lot because the “used car” price is different than what the “new car” price is and you are “flipped” on the loan, requiring more payment and collateral. Only somebody who *had* to sell the car at that price would absorb the loss, not the person who might sell it in 10 years, or maybe never. Marking to market for “transparency” is cutting your nose off to spite your face. As far as the mortgages being made to “losers” and those being made to be “winners”, the idea works well, provided your correlation doesn’t get to close to 1 and you provide adequate structural enhancements. Simple question, no insult intended, but do you work in structured finance? Equity analysis? I am always curious as to how much people understand securitization.
Here’s an interesting article you might find interesting since we are on the same subject. The Fair-Value Blame Game Fallout from the credit crisis has put mark-to-market accounting to the test. Sarah Johnson CFO.com | US March 19, 2008 Despite the beating fair-value accounting has taken from financial-services firms that have absorbed huge write-downs, the concept of mark-to-market valuations is here to stay, according to David Tweedie, chairman of the International Accounting Standards Board. Tweedie predicts that fair value will be applied to all financial instruments some day — long after he has left the IASB, he told CFO.com. To the fair-value dissenters who claim recent valuations are creating unfair, negative pictures of the value of their assets, he asks whether they offer any alternative solutions. Going back to the traditional method of historical cost is not going to work, he says. advertisement Under fair value rules, companies measure their assets and liabilities based on an existing market or — in the case of assets that are traded thinly, or not at all — on unobservable estimates based about what value they believe a hypothetical third party would place on those assets. “Fair value in a time of crisis can in effect exacerbate the concerns about a situation. But on balance, fair value keeps the situation honest,” Tweedie says. In fact, without fair-value accounting, investors would not now be realizing the true worth of the mortgage-backed securities that have led to the write-downs at various firms, he confirms. The use of fair value forces the true downsides of a company’s investment — such as securities tied to bad lending practices — to come to fruition. In recent weeks, financial services firms have blamed their financial troubles on the use of fair value. Perhaps the most vocal has been Martin Sullivan, CEO of American International Group. The insurer recently reported $11 billion in write-downs, and has called for changes in the accounting rules. “We are trying, as are many others, to value very complex instruments,” Sullivan told investors during a conference call in February. “These valuations are not mechanical. They involve difficult estimates and judgments. I can tell you that we have, at all times, brought our best judgment to bear in making these valuations.” To be sure, critics of fair value say that it can distort market realities by giving management too much discretion and room for abuse. But the proponents say it actually creates transparency by reflecting the up-to-date reality of an asset’s or liability’s worth. Corporations that have made poor decisions lately are using fair value as a “scapegoat,” according to the CFA Institute Centre for Financial Market Integrity, a research and policy organization. “Fair value accounting and disclosures, which provide investors with information about market conditions as well as forward-looking analyses, does not create losses but rather reflects a firm’s present condition,” says Georgene Palacky, director of the CFA’s financial reporting group. Indeed, Tweedie deflects the current fair-value criticisms as ignoring the true roots of the current problems in the financial marketplace. “The real problem in the current crisis is a lack of trust and lack of transparency,” he says. The IASB further defends the use of fair value in a discussion paper about reducing complexity in reporting financial instruments, released on Wednesday. The 98-page document was in the works long before the credit crisis hit; however it comes at an opportune time for the supporters of mark-to-market accounting. In it, the IASB says fair value “seems to be the only measure that is appropriate for all types of financial instruments.” Still, the board acknowledges that “there are issues and concerns that have to be addressed before [rule-makers] can require general fair value measurement.”
Tried to edit my post. Here is additional color. I saw a 2 year, AAA (FGIC wrap) with a BBB+ attachment point, with a BBB+ servicer, and prime/super prime collateral, price at L+80 (BBB+ equiv) last year. The same bond was recently sold at 85, or about L+750, 830 all in. That isn’t because the bond has crappy collateral, if anything, throughout the 20 year history of the collateral and company, the tranches have always been upgraded about 2 years out of issuance. However, the bonds are thinly traded. THus, when FGIC was downgraded, the investor had to sell. The 750bps premium was not on a crappy bond, but liquidity premium during a crappy time. It was a transitory premium as a result of the liquidity problems an irrationality in the market. Now tell me, should every book with that bond in it suddenly mark them down by 15%? All for the sake of “transparency”? Nobody except for those who *have* to sell would sell the bond, I am very familiar with those who hold them and all think it’s fricking ridiculous.
They should all be marked down in that case. Of course i’m approaching it from an equity analysis point of view. I am careful to remember the spirit, purpose and idea behind numbers on the balance sheet. If the act of marking it down screws with your reserve requirements then adjust the reserve requirements, don’t put your head in the sand regarding the market value. The best example of why our existing accounting standards are TOO LAX is the bear stearns debacle. Those accountants marked (part of ) their balance sheet to market and still came up with $80 per share… yet when the turkey was on the table the buyer came up with $2 per share (with a $20 billion non-recourse loan from the fed as a kicker!). Somehow, that $80 was a little off don’t ya think? And now they want LESS stringent accounting standards? They want to carry those crap debts as if they’re good just because they’re getting their coupon (which might only last 2 years). The financials are on crack if they think the fed bailout is ok. If I buy too many of the trendiest shoes for my shoe store and all of a sudden that design becomes un-trendy… Do I cry liquidity crisis and ask to be bailed out by the fed? Afterall, it is a liquidity crisis. My landlord wants the rent and all I have is inventory that will eventually be monetized but as it sits, it’s illiquid. No, I can’t do that. I put the shoes on sale and somebody who is smart buys them and takes advantage of my misfortune. I pay the landlord or he closes me down. They need to let these banks fail BECAUSE THEY SUCK! Let someone who doesn’t suck run them for a while! Bear Stearns sux (there I said it).
Spierce is right on about the problems mark-to-market. Virgin, I find it shocking that you blame “accountants” and “regulators” for the BSC’s collapse and the credit crisis. Why not blame banks for lending money too cheaply and investors for inadequately modeling risk? As far as BSC is concerned, the accounting was not the problem. Investors and customers lost confidence, which resulted in a classic “run on the bank.” Is the fire sale price that BSC would have to sell its entire portfolio in one day the true “market” price? Should the rest of the investment world then have to mark down their portfolio’s assets to those new “market” prices? If the Fed and JPM had not acted, that’s what would have happened under our current MTM rules, which would have crashed our financial system. Reread Marks’s piece and then come out of your cubicle into the light and talk to someone who’s been trading these markets for the last few weeks.
virginCFAhooker Wrote: ------------------------------------------------------- > They should all be marked down in that case. Of > course i’m approaching it from an equity analysis > point of view. I am careful to remember the > spirit, purpose and idea behind numbers on the > balance sheet. If the act of marking it down > screws with your reserve requirements then adjust > the reserve requirements, don’t put your head in > the sand regarding the market value. > > The best example of why our existing accounting > standards are TOO LAX is the bear stearns debacle. > Those accountants marked (part of ) their balance > sheet to market and still came up with $80 per > share… yet when the turkey was on the table the > buyer came up with $2 per share (with a $20 > billion non-recourse loan from the fed as a > kicker!). Somehow, that $80 was a little off > don’t ya think? And now they want LESS stringent > accounting standards? They want to carry those > crap debts as if they’re good just because they’re > getting their coupon (which might only last 2 > years). > > The financials are on crack if they think the fed > bailout is ok. If I buy too many of the trendiest > shoes for my shoe store and all of a sudden that > design becomes un-trendy… Do I cry liquidity > crisis and ask to be bailed out by the fed? > Afterall, it is a liquidity crisis. My landlord > wants the rent and all I have is inventory that > will eventually be monetized but as it sits, it’s > illiquid. No, I can’t do that. I put the shoes > on sale and somebody who is smart buys them and > takes advantage of my misfortune. I pay the > landlord or he closes me down. They need to let > these banks fail BECAUSE THEY SUCK! Let someone > who doesn’t suck run them for a while! Bear > Stearns sux (there I said it). Christ, you work in the finance area and you want banks to fail? Cascading failures ala 1929 isn’t what is needed. Change in how the banks do business, slow deleveraging, and capital market stability is the answer, not “fvck it, let them all die” mentality. You’re sounding more like a Ron Paul Bot than anything else. Bear didn’t fail because it had all CCC- CDOs on their balance sheet. They failed because a run on the bank. That run precipitated a further liquidity crisis, as other banks pulled credit lines. If you really think the bank is only worth $2, then perhaps you should go back to studying, because $2 was a fools price. Everybody knows the bank is worth far more and without the BS M2M trash it’d been valued far higher. However, since these accounting idiots have created a chinese finger trap for the capital markets in their over-correcting quest of CYA, they’ve screwed the market. It’s akin to FAS140 being a reaction to Enron, yet they completely missed the problem. Being transparent to the exclusion of everything else is sheer stupidity. It puts volatility into the capital markets and erodes confidence in them, both things that will kill an economy far faster than “transparency”. I laugh at people’s short-sightedness at thinking this is a good idea. Lets say there was somebody who wanted to destroy our capital markets within a quarter. All they’d have to do is buy a crap-ton of illiquid assets, then sell them to another entity for .01 and do so several times to create a “market” whereby all institutions would have to mark. Suddenly, every bank in the system fails capital tests. Wow, great transparency there. It’ll sure prove to be “truthful” in reflecting the true value of assets. That’s the problem here, when the only way to sell an asset is to discount it significantly (liquidity premium) does that reflect the value of the asset? No, especially if you are pretty damn sure you’ll recover more than the “sale” value.
> > Reread Marks’s piece and then come out of your > cubicle into the light and talk to someone who’s > been trading these markets for the last few weeks. Personally, I think this is the largest part of the problem, people who don’t know how the markets function set the rules of the market. I am sure some bean counter accountant or an equity analyst thought it’d be a great idea to make their job easier, but then they didn’t pay attention to the law of unintended consequences. Now they think they’re right while the market crumbles amidst of their myopic vision of “transparency”.
I have looked at the securities to try to understand the true value. Some that are trading at 20 cents on the dollar REALLY are only worth that. It’s not liquidity that’s an issue, it’s a realization that they are fraudulent. You’re telling me you want BSC to be able to report those at par cuz they’re holding them to maturity? Every other security, even the non-crap ones, need to take a hit. It’s not liquidity… it’s sanity returning. Second, the way to fix this is to change the reserve requirements (as they’re already doing) not obfuscate values that the market is determining. As far as your concern about people manipulating a market liquidity… bring it on! That’s why we’re here. The market is not efficient. If someone want to try to corner/manipulate the market in that way then they will get trounced (as they always do, just ask the Hunt Brothers or any one who trades small cap stocks). Warren Buffett, Bill Gross, etc. are sitting on cashpiles looking for these bargains… they’re not calling it a liquidity crisis.
Agreed, and if the Fed hadn’t opened up the discount window to brokers and had the Fed and Paulson not negotiated JPM’s takeover of BSC, you would have seen LEH and perhaps MER and others get pushed into failure last week. That would have really taught the market a lesson! spierce Wrote: ------------------------------------------------------- > > > > Reread Marks’s piece and then come out of your > > cubicle into the light and talk to someone > who’s > > been trading these markets for the last few > weeks. > > > Personally, I think this is the largest part of > the problem, people who don’t know how the markets > function set the rules of the market. I am sure > some bean counter accountant or an equity analyst > thought it’d be a great idea to make their job > easier, but then they didn’t pay attention to the > law of unintended consequences. Now they think > they’re right while the market crumbles amidst of > their myopic vision of “transparency”.
You guys probably wouldn’t mind if the Fed started directly buying crap houses in bubble markets if it would save the banks (which is what they are effectively doing by guaranteeing their debts).
virginCFAhooker Wrote: ------------------------------------------------------- > I have looked at the securities to try to > understand the true value. Some that are trading > at 20 cents on the dollar REALLY are only worth > that. It’s not liquidity that’s an issue, it’s a > realization that they are fraudulent. You’re > telling me you want BSC to be able to report those > at par cuz they’re holding them to maturity? > Every other security, even the non-crap ones, need > to take a hit. It’s not liquidity… it’s sanity > returning. > > Second, the way to fix this is to change the > reserve requirements (as they’re already doing) > not obfuscate values that the market is > determining. > > As far as your concern about people manipulating a > market liquidity… bring it on! That’s why we’re > here. The market is not efficient. If someone > want to try to corner/manipulate the market in > that way then they will get trounced (as they > always do, just ask the Hunt Brothers or any one > who trades small cap stocks). Warren Buffett, > Bill Gross, etc. are sitting on cashpiles looking > for these bargains… they’re not calling it a > liquidity crisis. How are you analyzing them? Do you have models to run expected defaults in 25+ standard deviation environment? Do you stress default curves or prepayments higher or lower? What type of collateral audits are you doing? What tranches, are they wrapped? Do they have performance guarantees? Some collateral is worth .2, but the majority is worth more than that but is discounted due to liquidity. Changing the reserve requirements does nothing to change the underlying problem, that valuation of illiquid collateral based upon one-off prices, margin selling, or liquidity selling is not the correct way to value assets. Wow, great idea. Lets open up more holes in the system so they can walk right through them!!! Pimco already has vulture funds. However, what’s funny, and what you *still* don’t seem to get, is that very few companies are selling assets at the prices they are marked to. They will only sell them if in distress, which means that the self-fulfilling prophecy that M2M has created will destroy their capital base. Do you quite understand that? Desperation selling causes marks, which causes desperation selling, which causes marks, which causes desperation selling. NOBODY WOULD SELL AT THE DESPERATION PRICE IF THEY WEREN’T FORCED TO!!! Really, is this that hard to see? The Asset Backed Alert recently showed that 35 vulture funds have opened and we all know that FIG has staffed up to buy more. However, they’re not finding as many investments as they thought, because people are trying to not sell at desperation prices.
virginCFAhooker Wrote: ------------------------------------------------------- > You guys probably wouldn’t mind if the Fed started > directly buying crap houses in bubble markets if > it would save the banks (which is what they are > effectively doing by guaranteeing their debts). What I laugh my ass off about is that you still don’t get it. This isn’t about just the banks, it’s about the entire capital markets. Equity land isn’t an island. Try to think outside your tunnel and realize that banks collapsing *will* cause a general contraction and massive failure of huge sections of the system. This affects *everybody*, not just banks. Who will buy a house if nobody can lend? Wasn’t that the problem after 1929? There were tens of thousands of houses but nobody to buy them because nobody would/could give out loans. How will companies employ people if they cannot get temporary bank lines to shore up short-term bullcrap M2M? How will other companies who just need liquidity for short-term accounts receivable financing give away credit if nobody is willing to fund AR through trade receivable deals?
What would have even been better would that LEH and MER fail, which then created a further problem with margin accounts and derivatives at FIG and BX. That then cascades to MS, GS, and Barclays. Then as they fail, other companies that depend on them for liquidity, such as CIT, Capital One, or any other rinky-dink company which finances themselves through bank lines and such, fail because they cannot get credit. Then, soon enough, we have a whole run on the financial systems. That’ll teach those i-banking fvckers to screw up “transparency”!!! gideon Wrote: ------------------------------------------------------- > Agreed, and if the Fed hadn’t opened up the > discount window to brokers and had the Fed and > Paulson not negotiated JPM’s takeover of BSC, you > would have seen LEH and perhaps MER and others get > pushed into failure last week. That would have > really taught the market a lesson! > > spierce Wrote: > -------------------------------------------------- > ----- > > > > > > Reread Marks’s piece and then come out of > your > > > cubicle into the light and talk to someone > > who’s > > > been trading these markets for the last few > > weeks. > > > > > > Personally, I think this is the largest part of > > the problem, people who don’t know how the > markets > > function set the rules of the market. I am > sure > > some bean counter accountant or an equity > analyst > > thought it’d be a great idea to make their job > > easier, but then they didn’t pay attention to > the > > law of unintended consequences. Now they think > > they’re right while the market crumbles amidst > of > > their myopic vision of “transparency”.
I don’t think we heard anyone complaining about M2M when they were writing assets up! Why the complaints now?
virginCFAhooker Wrote: ------------------------------------------------------- > I admit I didn’t read ALL of that but I read most > of it. I disagree with much of what I read and I > wasn’t impressed by his grasp of the situation. > Changing the accounting rules away from mark to > market would be a HUGE mistake that any > charterholder should realize. It effectively > makes valuing the entity even MORE difficult. Do > you know how hard it is to value them NOW? How > the hell are we supposed to do it if they further > hide market values? Look at how far off the > accountants were under the CURRENT situation with > BSC! The accounting values would end up being LESS > of a reflection of true economic values. If you, > the analyst, disagrees with the way the market is > marking the company’s assets (i.e. mb bonds,etc.) > then you can move on that trade but let’s keep it > as transparent as possible and not give management > the freedom to model their values, etc like he > used to do! > > I think this guy is missing the point on leverage. > Leverage wasn’t what killed the financial system > this round, it was lack of regulatory oversight > which allowed loans to be made to losers and then > the loans themselves classified as winners. It > was simple fraud. Any amount of leverage is too > much when you have bad ingredients like that in a > fixed income portfolio so talking about leverage > is moot. It’s like saying I got a foot infection > that killed me…so blame bacteria. You should > blame me for walking on glass. Bacteria does what > it does but walking on glass was the problem. > Sure bacteria is what killed me but I wouldn’t > have gotten the bacterial infection had the damn > regulators been sweeping up the street (i.e. > monitoring the dumbass mortgage brokers). > > Happy Easter. Accounting statements and audited financials are not made to make valuation and investment decisions. They are a backward looking review of the performance of a business in accordance with GAAP. Mark to market should only be used in special purpose reports.
How am I analyzing them? I got my pricing information by looking at Whitney Tilson’s presentation. Some of those bonds that are trading at 6-9 cents on the dollar are still rated investment grade yet the defaults in the first few years are off the chart. They will be wiped out in 2 years. The market was recently told by ratings agencies they were worth nearly par. Isn’t the market justified to in putting in more conservative modeling numbers ACROSS the board? it’s not a liquidity crisis… it is sanity returning. I’m looking for bargains. I found some with some Muni Auction Resets… you call it a liquidity crisis, I call it something else. Yes, there are vulture funds trying to buy. God Bless them. The Fed sure shoudn’t outbid them (as I’m sure they will). This is America. Those with cash might be rewarded for a change if the Fed can stop playing election year populist politics. Happy easter… sorry to get all worked up. 2 glasses of wine with lunch ya know.
Syd_RE Wrote: ------------------------------------------------------- > I don’t think we heard anyone complaining about > M2M when they were writing assets up! Why the > complaints now? Yes, because we should ignore something so obviously wrong because nobody thought it was going to cause so many problems. Let me guess, you’ve never done something “good” in your life, only to have it turn out poorly, did you keep doing that certain thing?
virginCFAhooker Wrote: ------------------------------------------------------- > How am I analyzing them? I got my pricing > information by looking at Whitney Tilson’s > presentation. Some of those bonds that are > trading at 6-9 cents on the dollar are still rated > investment grade yet the defaults in the first few > years are off the chart. They will be wiped out > in 2 years. The market was recently told by > ratings agencies they were worth nearly par. > Isn’t the market justified to in putting in more > conservative modeling numbers ACROSS the board? > it’s not a liquidity crisis… it is sanity > returning. I’m looking for bargains. I found > some with some Muni Auction Resets… you call it > a liquidity crisis, I call it something else. > > Yes, there are vulture funds trying to buy. God > Bless them. The Fed sure shoudn’t outbid them (as > I’m sure they will). This is America. Those with > cash might be rewarded for a change if the Fed can > stop playing election year populist politics. > > Happy easter… sorry to get all worked up. 2 > glasses of wine with lunch ya know. I have already pointed out the problems with his assumptions, if you knew how securitization worked, you’d know the problems also. If you don’t think this is a liquidity crisis you’ve got your head in the sand. When you’ve got ‘A’ *overnight* ABCP supported by AA+ bank letters of credit and liquidity lines, with no subprime mortgage exposure, trading at L+60 you’re in a liquidity crisis. When the market can’t even price treasury auctions, like last fall, you’re in a liquidity crisis. When bonds are sold at 10%+ discounts with perfect collateral, you’re in a liquidity crisis. When AAA credit card bonds, where 40%+ gross defaults with 10% principal payments would have to occur within 6 months to experience $1 of loss, price at L+125, you’re in a liquidity crisis.