Wednesday, November 7, 2007

Banks: The Worse is Ahead

Speculation is buzzing about size of the upcoming write-downs at investment banks. At this point it is nearly impossible to continue to hide a pile of unmarketable derivatives whose value is at best 40 cents on the dollar. Many firms such as Goldman’s will have to come clean with their balance sheets and mark their level 3 items to market.

A slew of revelations indicate that the worse lies ahead for the investment banks. The write-downs for mortgage CDO losses is just at the leading edge; and the pile of troubled credit card and commercial paper derivatives have not even be looked at yet. Ignoring the issues is no longer an option; regulators, shareholders, and the press are demanding proper disclosure.

The credit crunch at these banks also has left many wondering if the structured financial wizards have any type of sound reasoning behind their creation of CDOs, or if the entire market is entirely based on greed. The quick tumble of these derivatives demonstrates a total lack of adequate risk control. Unfortunately the pain is not simply endured by the fixed income departments of investment banks, but will impact the entire New York economy due to reduced bonuses and impending financial sector job losses.

The most startling point in the recent press was the sacking of all the risk management executives in these firms who objected to the derivative practices. At Merrill, O'Neal sacked a senior fixed-income executive who had rung alarm bells last year. There are multiple examples of firms where CEOs sent risk management executives packing nearly a full year before the credit meltdown simply for doing their jobs of raising the alarm. This is likely to become relevant fodder of upcoming shareholder suits.

Certainly the bonuses on the street are not going to look good this year. Predictions early in 2007 stated that they would be 20% over the record levels of 2006. Now that reality has set in, the most optimistic projections call for a 10% drop in 2007 bonus payouts across the industry. Many are likely to be simply rewarded with a pink slip for the holiday season.

Loss leaders
Nov 1st 2007
From The Economist print edition
The costs of the credit crunch mount. There may be more pain to come

Mr O'Neal fell in a falling market, but perhaps nearer the top than the bottom.”

Banks are braced for months of pressure

Big Mack Attack
Morgan may be next CDO Write-Down victim

Teflon Traders
Street eyes Goldman’s lack of subprime woes

Wall Street's bonus anxiety
With Citigroup warning of $11 billion more in losses, the bonus outlook for many on Wall Street is getting dimmer as the year comes to a close.