China Pulls Plug on Banksters, Nick Taleb Asks "Another Black Swan?" & Debtor's Revolt on Horizon?

From the Financial Times we read "Chinese Official Slams Banks Over Derivatives." And just what does the charge of "unnecessary speculation" and arbitrage mean for profits? See below. (Emphasis marks added - Ed.) And why does this matter to us? Well, if you have any idea how much of our debt they own and can call in whenever they desire . . . you're beginning to get the picture.

A senior Chinese official who oversees the country’s largest state-owned enterprises has publicly slammed western investment banks for “maliciously” peddling complicated derivative products that caused huge losses for Chinese companies over the last year. In Beijing’s strongest criticism on the matter to date, Li Wei, vice director of the State-owned Assets Supervision and Administration Commission, singled out Goldman Sachs, Morgan Stanley, Merrill Lynch and Citigroup in a long and highly critical article in the latest issue of an official Communist party newspaper. The large losses suffered by Chinese state companies were “closely associated with the intentionally complex and highly leveraged products that were fraudulently peddled by international investment banks with evil intentions,” Mr Li asserted. “To a certain extent some international investment banks were the chief criminals and the root of ruin for the Chinese enterprises who encountered this financial derivatives Waterloo.” In his article, Mr Li said 68 of the 130-odd state companies controlled directly by Sasac had been buying derivatives to speculate or hedge against rising commodity prices and fluctuating currencies and interest rates, even though some of them were not authorised to do so. These 68 companies had booked total combined net losses of Rmb11.4bn on the Rmb125bn worth of financial derivatives products they had bought by the end of October 2008, Mr Li said. The government has not previously revealed the full extent of losses suffered by Chinese companies that made ill-fated bets on over-the-counter, mostly offshore, derivatives. In September, Sasac warned that some of the contracts were illegal and might be invalidated, a move that prompted some western banks to agree quietly to renegotiate contracts behind closed doors. Air China, China Eastern Airlines, Cosco, China Railway Engineering Corp, China Railway Construction Corp and Citic Pacific were among the companies that lost the most from buying complex derivatives. Some of the biggest losses came from the airlines and shipping companies’ purchases of options to hedge against rising oil prices between June and August last year, when oil hit a historic peak of more than $140 a barrel. When prices fell during the financial crisis, these companies were saddled with large losses, partly because they had chosen riskier – and cheaper – derivatives products to hedge against rising prices. Mr Li said the most important reason for the derivatives losses was unnecessary speculation and attempts at arbitrage by these state companies. He also cited weak risk management procedures, a lack of expertise and intentional breaking of rules that restrict most kinds of financial derivatives in China.

On another tangent, which is not totally unrelated to the above, I was just rereading Nassim Nicholas Taleb's book The Black Swan the other day, returned it to the library and then saw this item today at Washington's Blog: (emphasis marks added - Ed.) Famed financial expert and investment advisor Nassim Nicholas Taleb has revealed his new trading strategy:

I will also structure trades with my . . . friends to bet on the next mistake by Bernanke, Summers, and Geithner.

In an investing climate where not much else is certain, Taleb is betting that the three stooges will continue to make staggeringly huge blunders.

Good Bye! The Reappointment Of Bernanke Is Too Much To Bear What I am seeing and hearing on the news - the reappointment of Bernanke - is too hard for me to bear. I cannot believe that we, in the 21st century, can accept living in such a society. I am not blaming Bernanke (he doesn't even know he doesn't understand how things work or that the tools he uses are not empirical); it is the Senators appointing him who are totally irresponsible - as if we promoted every doctor who caused malpractice. The world has never, never been as fragile.

Economics make homeopath and alternative healers look empirical and scientific. No news, no press, no Davos, no suit-and-tie fraudsters, no fools. I need to withdraw as immediately as possible into the Platonic quiet of my library, work on my next book, find solace in science and philosophy, and mull the next step. I will also structure trades . . . to bet on the next mistake by Bernanke, Summers, and Geithner. I will only (briefly) emerge from my hiatus when the publishers force me to do so upon the publication of the paperback edition of The Black Swan.

From the Washington Blog we learn that Robert Reich believes that "Shame Won't Work: Only Political Muscle and Courage Will." (And don't believe for a moment that the scams are over. Some will say they have just begun.)

Obama is planning to "shame" the big banks who are not agreeing to modify mortgages. This is a repeat of Bernanke's play book . . . scold the giant banks for failing to lend, but then give them a pat on the back and a wink.

As Reich points out:

Shame? If we've learned anything over the last year, it's that Wall Street has none. Eight months ago Wall Street lobbyist beat back a proposal to give bankruptcy judges the right to amend mortgages in order to pressure lenders to reduce principle owed, just like Wall Street lobbyists are now beating back tough regulations to prevent the Street from causing another meltdown. Goldman Sachs, attempting to preempt a firestorm of public outrage when it dispenses its $17 billion of bonuses, is setting up a crudely conceived $500 million PR program to help Main Street.

Shame won't work. Only political muscle and courage will.

Moreover, Dean Baker points out that modifying mortgages will help the too big to fails a lot more than the homeowners themselves.

And speaking of Dean Baker, our best economic guru gives us the inside information (as if we would be shocked, shocked!) that "What Passes For Help To Homeowners In The Capitol Might Look More Like Handing Out Money To Banks Anywhere Else.” Read this carefully (and you should be sitting down). (Emphasis marks added - Ed.)

The big talk in Washington these days is "helping homeowners." Unfortunately, what passes for help to homeowners in the capitol might look more like handing out money to banks anywhere else . . . . It is extremely unlikely that the vast majority of underwater homeowners will ever accumulate a penny in equity.

Keeping them in their homes as owners means wasting thousands of dollars a year on excess housing costs only to be forced to arrange a short sale or face a foreclosure at some future point in time. So, who benefits from "helping homeowners" in this story? Naturally the big beneficiaries are the banks. If the government pays for a mortgage modification where the homeowner is still paying more for the mortgage than they would for rent, then the bank gets a big gift from the government, but the homeowner is still coming out behind.

In some cases the government may pay enough to buy down principle that the homeowner is no longer underwater, but the bulk of this money is a gift to the bank, not the homeowner. If a homeowner is $100,000 underwater and the government pays the bank $50,000 to write the loan down to the current value of the house, then the bank has pocketed $50,000, while the homeowner is essentially left breaking even. This is very generous to the bank, but homeowners have nothing to show in this story.

President Obama has proposed putting up $70bn to help homeowners in this way. This help for homeowners is likely to end up as a larger subsidy to the banks than the rest of the troubled asset relief programme (Tarp).

The reason is that the rest of the Tarp programme was a loan. The loans were at below market interest rates - thereby providing a subsidy to the banks - but most of the money is getting paid back. The original batch of lending to banks was $250bn. Even if we assume an average interest rate subsidy of 10 percentage points (a very large subsidy), this still implies that the lending portion of Tarp only handed $25 billion to the banks, far less than the $70 billion that we are prepared to hand them under the guise of helping homeowners.

There are simple, low-cost ways to help homeowners who were victims of the housing bubble and lending sharks. The most obvious way would be to give homeowner the right to rent their home at the market price for the next decade. But this would mean hurting the banks rather than giving them taxpayer dollars, and we still don't talk about hurting banks in Washington DC.

Maybe that's why a professor of law advises that underwater homeowners walk away from their mortgages, saying that it is not immoral to do so. Congresswoman (Marcy) Kaptur advises her constituents facing foreclosure to demand that the original mortgage papers be produced, and portfolio manager and investment advisor Marshall Auerback argues that a debtor's revolt would be a good thing.

Hmmm.

Ready to revolt?

Thanks for the idea, Marshall! Suzan ____________________