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A Repo Implosion

by MIKE WHITNEY

President Barack Obama is determined to prevail in his battle with GOP congressional leaders on the debt ceiling issue, but not for the reasons stated in the media.  Obama is less concerned with the prospect of higher interest rates and frustrated bondholders than he is with the big Wall Street banks who would be thrust back into crisis if there is no resolution before October 17.  Absent a debt ceiling deal, the repurchase market–known as repo–would undergo another deep-freeze as it did in 2008 when Lehman Brothers defaulted triggering a run on the Reserve Primary Fundrepurchase market which had been exposed to Lehman’s short-term debt. The frenzied selloff sparked a widespread panic across global financial markets pushing the system to the brink of collapse and forcing the Federal Reserve to backstop regulated and unregulated financial institutions with more than $11 trillion in loans and other obligations. The same tragedy will play out again, if congress fails lift the ceiling and reinforce the present value of US debt.

Repo is at the heart of the shadow banking system, that opaque off-balance sheet underworld where maturity transformation and other risky banking activities take place beyond the watchful eye of government regulators.  It is where banks exchange collateralized securities for short-term loans from investors, mainly large financial institutions. The banks use these loans to fund their other investments boosting their leverage many times over to maximize their profits. The so called congressional reforms, like Dodd Frank, which were ratified after the crisis, have done nothing to change the  basic structure of the market or to reign in excessive risk-taking by undercapitalized speculators. The system is as wobbly and crisis-prone ever, as the debt ceiling fiasco suggests. The situation speaks to the impressive power of the bank cartel and their army of lawyers and lobbyists. They own Capital Hill, the White House, and most of the judges in the country.  The system remains the same, because that’s the way the like it.

US Treasuries provide the bulk of collateral the banks use in acquiring their short-term funding. If the US defaults on its debt, the value that collateral would fall precipitously leaving much of the banking system either underwater or dangerously undercapitalized. The wholesale funding market would grind to a halt, and interbank lending would slow to a crawl. The financial system would suffer its second major heart attack in less than a decade. This is from American Banker:

As banking policy analyst Karen Shaw Petrou describes it, Treasury obligations are the “water” in the financial system’s plumbing.

“They’re the global reserve currency and they are perceived to be the most secure thing you can own,” said Petrou, managing partner of Federal Financial Analytics. “That is why it is pledged as collateral. … The very biggest banks fear that a debt ceiling breach breaks the pipes.”….

Rob Toomey, managing director and associate general counsel at the Securities Industry and Financial Markets Association, said institutions are concerned about whether Treasury bonds that default are no longer transferable between market participants.

“Essentially, whatever the size is of the obligation that Treasury is unable to pay, that kind of liquidity would just disappear from the market for whatever time the payment is not made,” Toomey said.”

By some estimates, the amount of liquidity that would be drained from the system immediately following a default would be roughly $600 billion, enough to require emergency action by either the Fed or the US Treasury. Despite post-crisis legislation that forbids future bailouts, the government would surely ride to rescue committing taxpayer revenues once again to save Wall Street.

Keep in mind, the US government does not have to default on its debt to trigger a panic in the credit markets.  Changing expectations can easily produce the same result. If the holders of US Treasuries (USTs) begin to doubt that the debt ceiling issue will  be resolved, then they’ll sell their bonds prematurely to avoid greater losses.  That, in turn, will push up interest rates which will strangle the recovery, slow growth, and throw a wrench in the repo market credit engine. We saw an example of how this works in late May when the Fed announced its  decision to scale-back its asset purchase. The fact that the Fed continued to buy the same amount of USTs and mortgage-backed securities (MBS) didn’t stem the selloff. Long-term rates went up anyway. Why? Because expectations changed and the market reset prices. That same phenom could happen now, in fact, it is happening now. The Financial Times reported on Wednesday that “Fidelity Investments, the largest manager of money market funds…  had sold all of its holdings of US Treasury bills due to mature towards the end of October as a “precautionary measure.”

This is what happens when people start to doubt that US Treasuries will be liquid cash equivalents in the future. They ditch them. And when they ditch them, rates go up and the economy slips into low gear.  (Note: “China and Japan together hold more than $2.4 trillion in U.S. Treasuries” Bloomberg)

Now the media has been trying to soft-peddle the implications of the debt ceiling standoff by saying, “No one thinks that holders of USTs won’t get repaid.”

While this is true, it’s also irrelevant. The reason that USTs are the gold standard of financial assets, is because they are considered risk-free and liquid. That’s it. If you have to wait to get your money, then the asset you purchased is not completely liquid, right?

And if there is some doubt, however small, that you will not be repaid in full, then the asset is not really risk free, right?

This is what the Fidelity flap is all about. It’s about the erosion of confidence in US debt. It’s about that sliver of doubt that has entered the minds of investors and changed their behavior. This is a significant development because it means that people in positions of power are now questioning the stewardship of the present system. And  that trend is going to intensify when the Fed begins to reduce its asset purchases later in the year, because winding down QE will precipitate  more capital flight, more currency volatility and more emerging market runaway inflation. That’s going to lead to more chin scratching, more grousing and more resistance to US stewardship of the system. None of this bodes well for Washington’s imperial aspirations or for the world’s reserve currency, both of which appear to be living on borrowed time.

The media has done a poor job of explaining what’s really at stake. While, it’s true that higher interest rates would make consumer loans more expensive and put the kibosh on the housing recovery, that’s not what the media cares about. Not really. What they care about is the looming massacre in shadow banking where USTs are used as collateral to secure short-term loans by the banks so they can increase their leverage by many orders of magnitude. In other words, the banks are using USTs to borrow gobs of money from money markets and financial institutions so they can finance their other dodgy investments, derivatives contracts and ancillary casino-type operations. If there’s a default, the banks will have to come up with more capital for their scams that are leveraged at 40 or 50 to 1. This systemwide margin call would trigger a deflationary spiral that would domino through the entire system unless the Fed stepped in and, once again,  provided a giant backstop in the form of blank check support.   Here’s how Tim Fernholz sums it up over at Daily Finance:

“…Many informed people are worried” (about) “A freeze in the tri-party repo market, akin to the cascade of troubles that followed the Lehman Brothers bankruptcy in 2008.”….

In 2008, more than a third of that collateral was mortgage-backed securities. When Lehman went bankrupt, its lenders began a “fire sale” of the securities it used as collateral, which drove down the value of other mortgage-backed securities, which led to more fire sales. This dynamic would eventually lead to a freeze in the repo markets, which, at the time, provided $2.6 trillion in funding to the banks each day…..

Today, most of the collateral in use is U.S. Treasuries and “agency securities” — mortgage-backed securities guaranteed by the U.S. government:

… if the ugly day of a default comes, lenders may simply stop accepting U.S. debt as collateral. That will have the effect of sucking some $600 billion in liquidity out of the banking system. Unable to get funding for Treasurys, securities dealers would be pressured to sell them-or other assets-to find new funding, creating a fire sale dynamic…..

And, of course, this scenario is only about how the Treasurys work in the repo markets. U.S. debt is used as collateral for derivatives swaps and numerous other transactions; if they are suddenly worth less than expected, lenders can be expected to demand more collateral up front, putting even more pressure on the financial system. That’s why pressure is building to raise the ceiling before the world’s largest economy enters a scenario with so much uncertainty.”

Repeat: “That’s why pressure is building to raise the ceiling before the world’s largest economy enters a scenario with so much uncertainty”.

So the Obama team isn’t worried that Joe Homeowner won’t be able to refi his mortgage or that the economy might slip back into recession. They just don’t want to see Wall Street take it in the shorts again. That’s what this is all about, the banks. Because the banks are still up-to-their-eyeballs in red ink.  Because they still don’t have enough capital to stay solvent if the wind shifts. Because all the Dodd Frank reforms are pure, unalloyed  bullsh** that haven’t fixed a bloody thing. Because the risks of another panic are as great as ever because the system is the same teetering, unregulated cesspit it was before. Because the banks are still financing their sketchy Ponzi operations with OPM (other people’s money), only now, the Fed’s over-bloated balance sheet  is being used to prop up this broken, crooked system instead of the trillions of dollars that was extracted from credulous investors on subprime mortgages, liars loans and other, equally-fraudulent debt instruments.

Can you see that?

This is why the media is pushing so hard to end the debt ceiling standoff; to preserve this mountainous stinkpile of larceny, greed and corruption run by a criminal bank Mafia and their political lackeys on Capital Hill. That’s what this is all about.

Source

Americans warned bank ‘bail-ins’ coming

Experts say institutions will grab deposits without warning

28 Sep 2013
by Clark Kent

With the United States facing a $17 trillion debt and an acidic debate in Washington over raising that debt limit on top of a potential government shutdown, Congress could mimic recent European action to let banks initiate a “bail-in” to blunt future failures, experts say.

Previously the federal government has taken taxes from consumers, or borrowed the money, to hand out to troubled banks. This could be a little different, and could allow banks to reach directly into consumers’ bank accounts for their cash.

Authority to allow bank “bail-ins” would be in lieu of approving any future taxpayer bailouts of banks that would be in dire need of recapitalization in order to survive.

Some financial experts contend that banks already have the legal authority to confiscate depositors’ money without warning, and at their discretion.

Financial analyst Jim Sinclair warned that the U.S. banks most likely to be “bailed-in” by their depositors are those institutions that received government bail-out funds in 2008-2009.

Such a “bail-in” means all savings of individuals over the insured amount would be confiscated to offset such a failure.

“Bail-ins are coming to North America without any doubt, and will be remembered as the ‘Great Leveling,’ of the ‘great Flushing’ (of Lehman Brothers),” Sinclair said. “Not only can it happen here, but it will happen here.

“It stands on legal grounds by legal precedent both in the U.S., Canada and the U.K.”

Sinclair is chairman and chief executive officer of Tanzania Royalty Exploration Corp. and is the son of Bertram Seligman, whose family started Goldman Sachs, Solomon Brothers, Lehman Brothers, Bache Group and other major investment banking firms.

Some of the major banks which received federal bailout money included Bank of America, Citigroup and JPMorgan Chase.

“When major banks fail, they are going to bail them out by grabbing the money that is in your bank accounts,” according to financial expert Michael Snyder. “This is going to absolutely shatter faith in the banking system and it is actually going to make it far more likely that we will see major bank failures all over the Western world.”

Given the dire financial straits the U.S. finds itself in, these financial experts say that Congress could look at the example of the European Parliament, which recently started to consider action that would allow banks to confiscate depositors’ holdings above 100,000 euros. Generally, funds up to that level are insured.

Finance ministers of the 27-member European Union in June had approved forcing bondholders, shareholders and large depositors with more than 100,000 euros in their accounts to make the financial sacrifice before turning to the government for help with taxpayer funds.

Depositors with less than 100,000 euros would be protected. Considering protection of small depositors a top priority, the E.U. ministers took pride in saying that their action would shield them.

“The E.U. has made a big step towards putting in place the most comprehensive framework for dealing with bank crises in the world,” said Michel Barnier, E.U. commissioner for internal market and services.

The plan as approved outlines a hierarchy of rescuing struggling banks. The first will be bondholders, followed by shareholders and then large depositors.

Among large depositors, there is a hierarchy of whose money would be selected first, with small and medium-sized businesses being protected like small depositors.

“This agreement will effectively move us from ad hoc ‘bail-outs’ to structured and clearly defined ‘bail-ins,’” said Michael Noonan, Ireland’s finance minister.

The European Parliament is expected to finalize the plan by the end of the year.

The purpose of this “bail-in,” patterned after the Cyprus model, is to offset the need for continued taxpayer bailouts that have come under increasing criticism of the more economically well-off countries such as Germany.

Last March, Cyprus had agreed to tap large depositors at its two leading banks for some 10 billion euros in an effort to obtain another 10 billion European Union bailout.

While this action prevented the collapse of Cyprus’ two top banks, the Bank of Cyprus and Popular Bank of Cyprus, it greatly upset depositors with savings more than 100,000 euros.

WND recently revealed that the practice of “bail-ins” by Cyprus a year ago was beginning to spread to other nations as large depositors began to see their balances plunge literally overnight.

A “bail-in,” as opposed to a bailout that countries especially in Europe have been seeking from the International Monetary Fund and the European Union, is a recognition that such outside monetary injections won’t be forthcoming.

Sinclair said that the recent confiscation of customer deposits in Cyprus was not a “one-off, desperate idea of a few Eurozone ‘troika’ officials scrambling to salvage their balance sheets.”

“A joint paper by the U.S. federal Deposit Insurance Corporation (FDIC) and the Bank of England (BOE) dated December 10, 2012 shows, that these plans have been long in the making, that they originated with the G20 Financial Stability Board in Basel, Switzerland, and that the result will be to deliver clear title to the banks of depositor funds,” Sinclair said.

He pointed that while few depositors are aware, banks legally own the depositors’ funds as soon as they are put in the bank.

“Our money becomes the bank’s, and we become unsecured creditors holding IOUs or promises to pay,” Sinclair said.

“But until now, the bank has been obligated to pay the money back on demand in the form of cash,” he said. “Under the FDIC-BOE plan, our IOUs will be converted into ‘bank equity.’ The bank will get the money and we will get stock in the bank.”

“With any luck,” Sinclair said, “we may be able to sell the stock to someone else, but when and at what price? Most people keep a deposit account so they can have ready cash to pay the bills.”

Such plans already are being used, or under consideration, in New Zealand, Poland, Canada and several other countries.

Source

Is JPM “The Burning LOH”?

https://i1.wp.com/www.mcoscillator.com/data/charts/weekly/T-Bonds_1993-2012.gif

May 11, 2012

“The target is marked by the burning LOH.”

When I was an reconnaissance helicopter pilot in the Army many years ago, that was a popular saying that was passed down by the more experienced pilots, some of whom had flown during the Vietnam War.  It was meant to convey our own frailty, and the foolishness of being too eager about finding the enemy’s location.

LOH back then stood for Light Observation Helicopter, either a Hughes OH-6 Cayuse or a Bell OH-58.  It was pronounced as “loach”.  They were 4-seat commercial helicopters that were bought by the Army and adapted for use in scouting for enemy forces.  A pilot had little more than his eyes and his wits as weapons, and the .040″ aluminum skin and Plexiglas windows were not much protection from enemy fire.  The idea was to fly low, using the terrain for cover and concealment, and try to find the enemy so that fighter planes or attack helicopters could be called in to deliver ordinance on the enemy’s position.

But given the fact that enemy soldiers are usually not stupid, and don’t want to be spotted, often the first indication that a pilot had located the enemy’s position was that he was taking fire from the enemy.  A lot of them got shot down.  So then another helicopter crew would step in to radio the fast movers and guide them into the target.  The fighter pilots would acknowledge that call, and the existence of enemy fire in the area, and then ask:

“Roger, how is the target marked?”  The question was about the possible use of colored smoke, landmarks, or other features that can be seen while zooming in at 500 MPH.

And the answer would be, “The target is marked by the burning LOH.”

There is a corollary to this in the financial markets.  Quite often at the end of a big price move, we learn about a big institution blowing up because they did not think that the trade would go so far against them.  The 2006 case of Amaranth Advisors would be a classic example, with its bankruptcy in late 2006 marking the bottom for natural gas prices ahead of the big commodity bubble in 2008.  There were several portfolios that blew up at the top of that bubble.

In this week’s chart, I have labeled several notable news events that served as markers of important turns for T-Bond prices.  Back in 1994, Orange County, California went bankrupt because its treasurer, Robert Citron, had overextended his bets the wrong way in the bond market.  That bankruptcy marked the bottom for the big price decline.  Orange County was the burning LOH.

In late 1998, the money management firm Long Term Capital Management (LTCM) famously made huge bets on T-Bonds that were based on the limits of how far price moves had historically gone in the past.  And the market taught them a lesson about how trends can persist longer than one can stay solvent.  The Federal Reserve had to intervene, lining up several major banks to help take apart LTCM’s positions and keep it from cascading into a bigger problem.  LTCM’s collapse was the burning LOH for that up move.

More recently, the collapses of Bear Stearns, Lehman Brothers, and MF Global each coincided with peaks in bond prices.  Each was the burning LOH for its particular moment in history.

So now this week, we find out that J.P. Morgan Chase (NYSE:JPM) has suffered a $2 billion loss on financial derivative bets that went bad.  And this news comes as T-Bond prices are once again getting back up to the price levels seen at last year’s MF Global collapse.  The implication is that the news of JPM’s big loss is serving as the “burning LOH” of this current time frame, and the news arrives just as the stock market is about at the end of the corrective period suggested by both our eurodollar COT leading indication and the Presidential Cycle Pattern.  Subscribers to our twice monthly newsletter and our Daily Edition have been watching the current stock market correction unfold pretty much right on schedule relative to those models, and now we have a portfolio blowup to help mark the beginning of the end of that corrective process.

Tom McClellan
Editor, The McClellan Market Report

Euro currency could collapse and trigger another Great Depression, IMF warns for the first time

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End of the Euro?: The IMF warns that one country leaving the single currency could force its entire collapse

By Hugo Duncan
PUBLISHED: 12:45 EST, 17 April 2012
UPDATED: 04:28 EST, 18 April 2012

The eurozone could break up and trigger a global economic slump to rival the Great Depression, the IMF warned last night.

In its World Economic Outlook report, the International Monetary Fund said the collapse of the crisis-torn single currency could not be ruled out.

It was the first time the Washington-based institution has accepted the prospect of the eurozone splitting up and follows fears over the health of the Spanish economy.

The IMF predicted a return to recession in the eurozone this year but upgraded its growth forecasts for Britain.

However, it warned that the world remains at risk of collapsing into a slump that would rival the Great Depression – with ‘acute risks in Europe’ the major threat.

‘Things have quietened down but there is a very uneasy calm,’ said IMF chief economist Olivier Blanchard. ‘I have a feeling that at any moment things could get very bad again.’

Speaking at the launch of the half-yearly report in Washington, Mr Blanchard said there was ‘no plan’ in place to deal with a country leaving the euro.

However Greece is widely expected to default on its crippling debts and quit the doomed single currency.

‘If such an event occurs, it is possible that other euro area economies would come under severe pressure as well, with a full-blown panic in financial markets,’ the IMF report said.

‘Under these circumstances, a break-up of the euro area could not be ruled out. This could cause major political shocks that could aggravate economic stress to levels well above those after the Lehman collapse.’

U.S. investment bank Lehman Brothers imploded in September 2008 – plunging the world economy into the worst recession since the 1930s. The IMF said that although ‘the outlook for the global economy is slowly improving again’ it is ‘still very fragile’.

It warned of the ‘possibility that several adverse shocks could interact to produce a major slump reminiscent of the 1930s’.

The IMF forecast growth of 0.8 per cent in Britain this year – more than the 0.6 per cent it predicted in January, but less than last September’s target of 1.6 per cent. Its 2013 forecast was unchanged at  2 per cent.

Asked about the IMF’s comments on the eurozone, a Downing Street spokesman said: ‘The eurozone still needs to get its house in order. Those issues still exist and no doubt will be a focus of discussions at the coming meeting of the IMF towards the end of the week, which the Chancellor will be attending.’

The IMF said Britain will outperform Germany and France this year – their economies are expected to grow by just 0.6 per cent and 0.5 per cent respectively.

The Italian and Spanish economies are forecast to decline by 1.9 per cent and 1.8 per cent, while a slump of 4.7 per cent is expected in Greece following a 6.9 per cent drop in 2011.

But the report warned that output in the eurozone could fall by 3.5 per cent over the next two years if the debt crisis escalates.

This would knock 2 per cent off the world economy, said the IMF, while a 50 per cent rise in the oil price would lower output by a further 1.25 per cent.

In the absence of such ‘shocks’ the global economy is expected to grow by 3.5 per cent this year, down from 3.9 per cent in 2011, with the U.S., Canada and Japan leading the way in the developed world.

‘Because of the problems in Europe, activity will continue to disappoint in the advanced economies as a group, expanding by only about 1.5 per cent in 2012 and by 2 per cent in 2013,’ said the report.

Source

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