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Moral Hazard Defined; Goldman's Response To The FRBNY On AIG: "Let It Fail, We Are Insured"
Courtesy of the SIGTARP's latest report, the events on November 6 and 7th, when Wall Street lackey extraordinaire Tim Geithner decided to pay $27.1 billion to make all of AIG's counterparties whole, have attained even more granularity. The main thing disclosed is just how willing Geithner was to extract absolutely no concessions from AIG's counterparties, and how after putting in a token effort, the best he could do was to just get UBS to agree to a contingent 2% haircut, which would only be effective if all the other counterparties agreed to the same. Of course, this approach failed, and the final "make whole" bailout was a foregone conclusion from the beginning. That Tim Geithner approached his duty of "preserving" taxpayer capital with such disdain, would be grounds for immediately termination for cause in any normal, non-banana society. Alas, America has long ceased being representative of one.
First, here is a reminder of the full exposure that AIG's 16 counterparties had with AIG on the night of November 7th when the FRBNY was "trying" to extract some concessions on behalf of taxpayers, instead of merely making its true "masters" whole.
As the table highlights, AIG had already posted $35 billion in collateral due to a decline in the underlying value of sold CDOs which had a total par market value of $62.1 billion. At this point AIG was running out of cash, which is why it came to the Fed for a rescue attempt. If any additional deterioration in the credit markets or in the actual CDO securities were to occur, AIG would be unable to post any incremental collateral when requested (or demanded). The balance that counterparties were on the hook for was $27.1 billion, of which SocGen and Goldman had the greatest exposure of $6.9 and $5.6 billion respectively.
So how did these negotiations transpire? We present the example of Goldman, which is likely sufficiently indicative.
When Geithner spoke to Lloyd Blankfein, it was immediately made clear to him that any haircut discussions were doomed for two reasons. First: Goldman claimed that all of the CDOs it had purchased from AIG had subsequently been long sold off to greater fools. In essence, Goldman had taken on AIG's counterparty risk with regards to the CDO assets it had bought, and then sold, from AIG. What Goldman claims is that had AIG defaulted, Goldman would have been stuck with making its counterparties whole for the difference. This makes sense. What does not make sense, is why Goldman bought protection from AIG on the balance. As the report states: "Goldman Sachs then purchased the corresponding value in protection from AIG to hedge against its own exposure in the event of a default of the refernce CDOs." It is thus unclear how exactly Goldman would have been impaired, absent the assumption that because the counterparty on the bought protection, was AIG, any possibility on collecting on what would soon become a general unsecured claim, would be eliminated. In effect, Goldman was acting as a mere pass through for roughly $28 billion ($14 billion x2) in gross notional.
Yet where it gets scandalous, is that Goldman had estimated the fair market value of the AIG CDOs at $4.3 billion: a $1.2 billion haircut on what was still owed to it. Of course, this FMV estimation could have been astronomically wrong, and could have had a value as low as $0.01 (and had AIG actually filed for bankruptcy, not only would $0.01 be a conservative estimate, but it is what Goldman's stock would be trading at as well). So what does Goldman do: it spends $100 million to purchase $1.2 billion in net AIG CDS exposure. Basically Goldman had insured itself against AIG's bankruptcy, not merely using CDS as a pass through for net exposure. So when Geithner and Goldman were discussing haircuts, Goldman said that even if AIG were to file, and GS was able to extract the $4.3 billion in purported liquidation value for it CDO holdings, it would still be made whole courtesy of its AIG bankruptcy insurance. The irony is that the $1.2 billion in protection was purely a strawman. There is no chance in hell Goldman would have been able to collect on that contract had AIG really filed. Not only that, but virtually every single other CDS contract would have been torn up. And the supremely ironic thing is that both Blankfein and Geithner were fully aware of this! Yet this is precisely the strawman that Goldman used to negotiate with Tim Geithner, who of course was not trying to extract any haircuts, but was merely trying to enforce moral hazard without it becoming too obvious.
Alas, reading further down Barofsky's report, it becomes all too obvious that moral hazard is all the AIG bail out was really about.
As SIGTARP points out:
The greatest leverage that FRBNY might have had - the threat of default and an associated AIG bankruptcy - was effectively removed by FRBNY's intervention in September, an intervention that the counterparties understood to mean that the US government would not permit an AIG failure. The officials stated that ethical constraints prevented FRBNY from even suggesting that it would allow bankruptcy when it in fact would not do so.
So there you have it: the FRBNY's actions were motivated from the very beginning by "ethical constraints" - alas, none of these constraints had the taxpayer even remotely in consideration. The core premise is that had Goldman and the other 15 counterparties of AIG disappeared, it would have been the end of the world, end of story. That there is no way to test this null hypothesis is irrelevant. After all, Geithner (and Bernanke) said so, and so it must be.
And the biggest irony of all comes from this blurb: "Sec. Geithner further explained to Congress that "we explored at that time every possible means to reduce the drain on their resources including what you referred to. But again, because we have no legal mechanism in place for dealing with this, like we deal with banks, we did not have the ability to selectively impose looses on their counterparties."
This, Mr. Geithner, is what moral hazard is all about. Thanks to your actions you have doomed the U.S.'s formerly free and efficient equity markets to the biggest capital market bubble in history, which, like any ponzi, has only two outcomes: it either keeps growing in perpetuity as greater fools crawl out of the woodwork to keep it growing, albeit at ever slower marginal rates (note, this did not work out too well for Madoff), or it eventually pops. And the longer it takes to pop, the greater the ultimate loss of value: one day Madoff's business was worth $50 billion, the next day it was $0. And that is precisely the same fate that American capital markets will have at some point in the upcoming months or years. When future historians look back at what specific action caused the biggest crash in U.S. capital markets history, Mr. Geithner's cataclysmally botched negotiation of the AIG counterparty bailout will undoubtedly be at the very top of the list. In the meantime, just like in the Madoff case where the trustee is trying hard to trace where any stolen money may have been transferred to, to see the fund flows in our ongoing "ponzi in progress", look no further than the bank accounts of Goldman bankers as they receive their biggest ever bonus this year (and, by many indications, last).
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Time for the "killotine" (guillotine)
Anyone care to give odds on whether the MSM will report any of this?
HuffPo has it splattered as their headline with the banner: "How can Geithner survive this"
and, yes, Huffpo is the MSM and it is THE place for the Obama crowd.
Also, currently front page on WaPo, NYTimes, WSJ.
aside lizzy...maybe i'll have to bump up my june guess.
that huffpo and the other papers you cited are
reporting this is a shock....the only reason i
can see for it is that someones want geithner
gone....he is a total incompetent loser....
the obamanauts are quite concerned about 2010
elections as they should be and geithner is
probably seen as a liability....
boy president and playmate tax cheat geithner...
It's not really a shock. What would be a shock is if conservative talk radio and FNC began to zero in on this. But that ain't gonna happen. Unless somehow it can all be blamed on ACORN, Democrats and illegal immigrants. To the RW, there are more important issues than the trillions of dollars being syphoned away by Wall Street and their minions in government.
My sources tell me that Arianna wants Summers and Geithner gone!!! She has been aggresively pursuing their demise for months.
Huff constantly attacks and goes negative towards those two..
that is correct.
folks who don't believe it need to know Arianna's past...she is quite conservative from a fiscal point of view.
like i've said repeatedly, HuffPo constantly and consistently skewers geithner, bernanke and the banks.
If you call Timmy Geithner an "Eraser Head" it will probably make him mad.
Everytime this commercial comes on for Power Shares I think of Timmah Geithner.
All his small ideas in his head, riding tricycles and playing with Slinky's.
http://www.youtube.com/watch?v=y9qx5FY-dG4
President Obama:
The time is now to remove Geithner. His actions in the matter described are deplorable. Virtually nobody in the world gives him credibility, particularly on the "strong dollar" mantra. He has jumped the shark and is a pathetic embarrassment to the USA, which is quickly becoming a banana republic.
The time is now to let the term of Bernanke expire; for the love of all that is sane, why are you even listening to this man who could not even see the subprime crisis coming? Why are you allowing him to keep rates at zero, devalue the dollar, and trade off the future of the USA so that a small group can make a fortune running up risk assets?
Start listening to Volcker and like minded people Mr. President. If you do, we have a chance. If you don't you and your party will be thrown out during the next election because americans realize that they are being robbed of their future by a wall street/banking oligarchy.
+1
Deadhead,
"because americans realize that they are being robbed of their future by a wall street/banking oligarchy."
That is the key statement. The adaptation of that idea by the American people is the ticking clock.
Just look at the complexity of financial and political interlacing put on the table on this site alone. Look at the grade of knowledge and grasp on concepts required to understand what are Ivy League grade contraptions tied a heavy dose of human psychology, super computers and firewalls.
These are not things easily understood. That's because in America, our best and brightest haven't been building new widgets, they've been building the most complex skimming operation ever created in blistering sunlight. Even arguing that these new contraptions should make up 20% of our GDP (in skimming). Lets make sure we apply that "adjustment" whenever discussing Debt/GDP ratios too.
It is the progression of a simple idea capturing precisely what you said that is required.
Right now, your idea is a minority one, one that exists in peoples days no longer than a HFT at GS. However, every day, the positions Americans (and those around the world) are holding in that idea are getting longer and expanding to their circles of influence.
What is upon us now is more like a religion or a cult where a bunch of people get to live a life of kings no matter what happens in exchange for our submission through work and productivity. That's not free markets, that's a mob shaking down everyone with the help of the police, the judge and the majority of the town believing that the mob is good, the mob takes care of us. The mob is the lesser of two evils.
It all works until a majority of the people say enough is enough.
I would also like to propose that the way to beat the system, weather it is the IRS, bank regulators or accounting oversight (FASB) and disclosure through financial statements, is through the use of complexity.
Beating the system = transferring wealth back into your pocket.
How do you beat the system using something old and understood, and under which there are established regulations and precedents that limit their usefulness. Well you introduce something new and complicated, and as such, can be molded for your particular objective. Enter derivatives, a gold mine of misdirection and ridiculous plausibility.
You can hide a lot behind complexity, when dealing with a government agency or the courts. All you really need to do is look confident in your presentation, and the government automatons will wither under the shear intimidation of this masterful slight of hand.
Well even Goldman recognized the probability that the weak link will be forced into bankruptcy because of undisciplined high leverage. Don't get seduced by your own lovely creation and call it real.
Mark Beck
Anyone care to give an over/under on months until Timmy is forced to fall on the sword of the Obama Administration
yes lizzy.
i'll say no later than next june.
i also say that Obama's number one pick is J.Dimon.
Earlier than that DH.
The mid-terms will dictate that it happens by March at the latest (imho).
lizzy...see my edit above, lol! geithner getting skewered on this one.
also, on the timing, it will be up to Rahm......if things keep getting worse in 2010, bringing on a new sec'y in march can backfire as the honeymoon will be over. firing geithner closer to midterms gives the Dems the old "hope and help are on the way" for the new treasury sec'y. as you well know, the average american does not pay attention until post labor day
The problem is the table has been sety for Dimon to ride to the rescue in the mold of the savior. Now Dimon sat on the board of the NYFed as these decisions were made and likely had a hand in making them. It is astonishing that when Dimon is discussed his nose for being around the stink is almost a 1:1 correlation. yet another snowjob coming.
I think Corzine will get the next call for that job.. 1:3 Dimon, 5:2 Corzine. I also agree with Lizzy's thought on March. By then the Pay Option ARM, CRE and bonus situations will have fermented.
You may be very right on the timing for the hope and change geithner trade. I always forget about the average Americans attention span.
greg craig was more entrenched than this goon and he was unceremoniously shown the exit after 9 months. my guess is you are right, deadhead, not long now.
funny thing is, and i have said this all along...geithner would have ended up treasury sec for mccain, too. there was something inevitable about this guy. so the teabaggers should contemplate the fact that a republican administration would've done pretty much exactly the same things up to this moment, maybe minus a couple hundred bil on the stimulus (but who's counting).
as for dimon, i know he's a dem, but...pipe dreams.
Correct - the AIG takeover and theft of billions of taxpayer dollars was a foregone conclusion before it happened. No other outcome was ever seriously entertained. The dramatic recounting of the details of the crimes committed, centered as they are on but one hapless player in the mess, a syncophantic perma-bureaucrat bought and paid for by the bankers and groomed for the post for years, performing his duties as programmed to please his masters, distracts from the bigger picture: who benefited? And thus, who was behind the planning and execution of the crime? Still, I like that a light has been shown on the episode, but I fear making Timmah the fall guy will end it, which of course, is All According to Plan. How simple, how effortless, how profitable.
I think you misinterpreted me. I was saying there was something inevitable about Geithner becoming Treasury Secy after the events of the fall. I'm not saying he was a Manchurian candidate who is solely responsible. Come on. I appreciate the sarcasm though
i go with march.....there is more than just
domestic politics...international obligations
and prestige will require his ouster long
before the election cycle gets into full swing...
one reason will be that shitcanning geithner
too late will look like standard politics and
desperation.....
the deed will be done much much sooner rather
than later...
in fact the holiday season would be good - people's
already 2" long attention span will miss this....
Don't worry. Geithner will be offered a cushy multi-million bonus job if and when he "sacrifices" himself. And yet another Goldmanite will step into his shoes. All according to plan.
Obama said that he would make some mistakes; so now he can correct one and fire Tim.
This piece reminds me: has anyone ever uncovered what Goldman's bottom-line was in the lost month of December 2008? Did they ever report their results for that month?
http://sec.gov/Archives/edgar/data/886982/000095012309006460/y76096exv99...
Page 10.
Thanks much.
Also check out the forensic analysis post on the ZH front page from today.
So wait... did I read that right? Goldman bought insurance that would pay $1.2B if AIG were to go bankrupt... and they bought it FROM AIG?
That can't right, can it?
That's the gist of it. I'm sure on some level of definitions and understanding that this statement is somehow incorrect, but in reality it is the best representation of what happened out there.
If they hadn't forced moral hazard on the participants, they might not have gotten the message: this is how we are going to run things now. We need a risk frenzied environment, moral hazard envirnment and you guys have the green light to cheat, the American people are depending on you.
I've read the HuffPo and NYTimes accounts trying to make sense of that point. It doesn't compute. If GS bought regular insurance or even an unsecured CDS from AIG to cover its exposure on the $1.2B risk, then AIG's b/k would have simply made GS into an unsecured creditor in b/k on that claim. So how does that translate into 100% certainty they would have been paid anyway? It sounds, to me, that this is a kind of ex post facto story made up to cover for a collusive decision to bail GS out on a 100% basis, hoping no one would notice the legal absurdity of the position. That's where I am on these sketchy facts so far.
Welcome to the evolution of the side letter gone CDS.
After reading these and other similar reports, it strikes me as possible that our present situation is due more to Tim Geithner's ineptitude than to Goldman's evilitude.
Geitner= Enabler
Exactly. All evil requires an enabler. Napolean, Hitler, Mussolini, Stalin, Mao, Pol Pot, Edi Amin. These were no lone actors.
You are missing the fact that geithner, bernake, paulson and GS are all part of the same continuum of evil.They are all the same.
Good theory. But no, Geithner is a Goldman plant via Robert Rubin. Sorry.
The Federal Reserve, and the US government's support thereof, are the aiders and abetters.
If not AIG, is there any indication from whom Goldman bought the subsequent protection?
Thats the $64,000 question. Becuase I'm guessing their counterparty in an AIG failure probably wouldve folded if AIG actually failed.
So the question is, was Goldman really protected, or only on paper?
Thank God for ZH and TD. Does this crap make anybody else feel like vomiting? We have truly lost our free market and the American public is still clueless. The MSM could report this but if it's not about Carrie Prejean's porn tape, they will probably just pass it by. It would take too much effort to understand it. We are so Fu#ked!!
Just now watching a "Vampire Squid" on Discovery Channel. Yes, such a thing exists. Uses bio luminescent bacteria to confuse predators. How apt an analogy for this story.
Of course that cloaking 8 legged squid morphing example of genetics gone mad thing exists! It also appears to have more evasive maneuver techniques than a stealth fighter.
Marla soundtrack included. (not really) wouldn't want to spread any rummahs now...
http://www.youtube.com/watch?v=q5ZQH2Uzpew
Speaking of Timmay,
From the Troubled Asset Ridicule Program - I wonder if this is why Obama had to go this time, remember last time, Timmay had a small laughing children problem:
It's not pure gold, it's slow, but it's worth 5 minutes of your day given we're over there doing all this bowing and all. The gem of the video is about 4 minutes in so give it some time.
Chinese students laugh at Geithnerhttp://www.youtube.com/watch?v=hBk-ryQIuAw
Nouriel sez "hunker down". So let me repeat my mantra... Stay at home, do not work, do not pay your bills, do not pay for anything(except to stockpile food and provisions), help your neighbor do the same. Together we will bring the Corporate Welfare State to it's knee's.
Nouriel has jumped the shark
the Corzine Goldman connection makes him a non-starter (politically)
anyone form the Fed e.g. JY a non-starter for the same reason
Dimon is an interesting consideration but aren't there a few skeletons in his closet and why would he want the pain and I'm not sure his OP-ED on why its good to be too big would get him support
Rahm's choice will be politically expedient - someone 'harmless' like Rohmer or someone no one has heard of with a bit of a populist / centrist slant
(and how many here would choose Dimon over Geithner?)
off topic - came across this whilst looking for the link to JD's op ed - I guess they're getting ready for Cap'n Trade
Carbon Acquisition Company Ltd to acquire EcoSecurities Group PlcLondon
9 November, 2009 – Carbon Acquisition Company Ltd, a wholly-owned indirect subsidiary of J.P. Morgan (NYSE: JPM), today announced
http://www.jpmorgan.com/cm/cs?pagename=JPM_redesign/JPM_Content_C/Generi...
The AIG bailout helped the large banks make money (rather than lose even more) and likely the entire system from breaking down. And that was the Fed's objective to start with, anyway. History will judge as to whether or not it made a difference in the long run.
time123
admin: http://invetrics.com
Smemocracy
Timmah's replacement will be Austan Goolsbee. Don't underestimate the runaway freight train that is Keynesians that don't understand Keynes!
that tens of billions of dollars of Government money was funneled inexorably and directly to AIG's counterparties," the Office of the Special Inspector General for the Troubled Asset Relief Program said.
Yet another factoid not included in Andrew Ross Sorkin's epic work of Fiction entitled "Too Big TO Fail". In his book we search page after page for the antagonist(s), but alas, we only find protagonist after protagnoist proceeding on no sleep and losing precious weekend Club hours doing God's Work and their Patriotic Duty to save us, the ordinary mortal worker.
From page 409, we find what TaxCheat Timmy thinks of us...as Timmy was set to take a morning jog along the East River after a hellish weekend of commandeering taxpayers money to bailout AIG (so they could give it to Goldman Sachs). Young Timmy gazes out at the morning commuters wondering if he has done the right thing. Seeing us, the unwashed non-financial masses, he thinks "it is about them", "Never mind the staggering numbers. Never mind the ruthless complexity of structured finance and derivitives, nor the million-dollar bonuses of those who made bad bets. This is what saving the financial industry is really about...protecting ordinary people with ordinary jobs"
Gee Whiz Timmy, thanks billions!
I have sent e-mails to the white house with articles saying he must be removed. Have you?
don't worry about the guy, he is going to get a great job on the street as payback and will make more than in the white house. Think Rubin