Last week, on another site it was ‘esplaind to me that corporations are “feudal institutions” and “the alienation of the workers cause them to be facile, blagh, blagh, blagh”. I don’t buy it.

Workers in institutions can be very creative. The larger questions is if they can be effective with their creativity – those are two very different things. One of the core themes of my fiction work is the oppression of others from institutions and by organized groups. The greatest terror only emanates from institutions.

But I am still thinking about the levels of oppression inside the walls of the organization. My current thinking is that control is exerted inside institutions and oppression is inflicted outside them…. but that’s for another day.

Thanks for your blog – I’m learning a lot from it — I’m interested, as you know, in creativity and how the business world has squeezed it out (although the financial world’s ability to create opaque assets for high fees is pretty genius!).

Orna

On Monday night I was asked a similar question over on another discussion board and rather then re-create the wheel I’ll post it here. I’m sorry that the answer is long but unless you really want to talk about derivative tranches this will have to do…

——–My post on Monday——— Whew, thats a lot of questions. I guess I can’t get away with “Senator, I have no recollection” so here goes…

Assets: I had along and colorful story about how black coffee with any milk in it is no longer black coffee, and if you are lactose intolerant the difference is a big deal. But since you seem to be asking a technical question I’ll try to answer briefly with a kind of heavy answer. (I apologize for the jargon, but the Ravens are winning and I want to get back to the game)

The size and status of risky asset cohorts in compost derivatives are almost invisible. To everyone. Even to the guys who built them. The total security was bundled including multiple risks, most of high quality, some less so. It seem like some proportion of the assets are not performing, but no one can tell what part, where or by how much. With that uncertainty the whole security, good part and bad part are being priced at a huge discount sometimes at $0. There are thousands of these in every bank’s portfolio. (they are in a lot of other portfolios like pensions and cash accounts too but the crisis has not spread that far yet, maybe)

The discount is wrong, but because of the hideous complexity of the models used to build these things no one trusts TODAY what parts are worth what. Even the good stuff that is bundled up in the security is being stained by being associated with the other securities. If anyone could parse out just the bad debt there wouldn’t be a crisis. What Treasury has to to do is buy the stuff that is at a discount, regardless of performance. Some of that stuff will continue to fail, most will recover. That’s why its an asset.

I think you are assuming that Treasury will only buy the bad cohorts. If that could have been done there would not be a banking crisis. It’s the discount on the good stuff because of its association with the bad stuff that began the erosion of bank balance sheets. Now if Treasury goes out and picks through the derivatives and gets just the defaulted loans, then all you “this program is bad” folks are right. I’m not that close to the actual securities any more, but I don’t think that is possible. A $1,000 derivative is composed of 95% performing loans and 5% non performing loans, it is currently priced at $500 because no one can get the 5% out. (completely illustrative numbers, guys… don’t go run to your Bloombergs and argue my quotes. I’m just making a point)

Short answer: Because all the stuff is mixed up, it’s miss-priced. And it can’t be un-mixed. Eventually it will work itself out, but before then the bank will be seized. And if there is a risk of it being seized, no one will lend to it, which means it will fail long before the derivative unwinds,and recover back to their real value.

(Since the Steelers just scored I’m not going to go into credit swaps, but the idea is about the same, but with a counter party twist. No one trusts the valuation of these assets, but they are probably all worth more than $0)

Foreclosure: If you followed my story above you would see that while mortgage defaults were important originally, now we are in a whole different place. This is about good assets priced at a discount. Restructuring the micro-assets one mortgage at a time would have been interesting a year ago, but has almost nothing to do with the liquidity crisis banks are facing today. Mortgage mediation is a Policy Issue and I hope that all the congressmen who knew nothing about banking yesterday and who know a little more today will take up the issue.

Just to be clear: Banks can handle defaults, foreclosures and restructuring. They are designed to do that. This crisis is about balance sheets that cannot be priced because of the immediate crush of confidence on the system. Think of it this way: The IRS shows up at your house and says “Unless you justify every deposit into every account for the last three years you are going to jail.” You say, “No problem sir I have it all here in these 27 unsorted boxes” (and you do). You say “I’ll get back to you in a month.” And the IRS guy says, “Nope, You have 15 minutes or you’re getting cuffed”.

OK…Baltimore is driving …I’m going back to the game…

The key element in the models that are being run are the exogenous variable of time and confidence. The first is easy to put into an equation, the second very difficult. Even more difficult is that they are both linked. As time dwindles, confidence is fading. Had Treasury been able to act quickly without the additional $110b of earmarks added to the bill, and the delay that ensued the impact on confidence would have been much greater.

I’d also say that it easy for a model to under/over estimate the confidence variable based on the perceptions of the modeler and produce the result they desire.

You seem to know what you’re talking about. I’m really curious to hear your response, since I’ve never gotten a good one. Thanks!

You will be affected. Credit is the lifeblood of business, its like the air that the economy breaths, and right now its being cut off.

Congress’ actions today were ridiculous. They acted like a doctor withholding a bottle of oxygen that a patient needs and saying…

“I’ll get this to you just as soon as I figure out how to get a deposit refund system for the canisters, because you know, recycling is important”

“Dr: The Patient just died”

“Really! But I got his refund for the tank all set up!”

I’m usually a very positive guy, (right stez?) and I really didn’t want to have to even think about this stuff anymore. I was just going to go off and live in my world of fiction. I really gets me mad that the guys in charge are not taking care of the ship.

stez