Posts filed under “Legal”
Wachovia went out with a book value of $75 billion. Citi paid $2
billion. Could it be that asset values are overstated, not understated?
-Michael Rapoport, Dow Jones
Gee, I dunno. Better obscure them as soon as possible . . .
Lying Bank Accounting
September 30, 2008, 1:37 pm
“Blaming fair-value accounting for the credit crisis is a lot like going to a doctor for a diagnosis and then blaming him for telling you that you are sick.”
analyst Dane Mott, JPMorgan Chase & Co., Bloomberg
“Suspending the mark-to-market prices is the most irresponsible thing to do. Accounting does not make corporate earnings or balance sheets more volatile. Accounting just increases the transparency of volatility in earnings.”
Diane Garnick, Invesco Ltd., Bloomberg
“Blaming fair-value accounting for the credit crisis is a lot like going to a doctor for a diagnosis and then blaming himfor telling you that you are sick.” -Dane Mott , JPMorgan Chase & Co. > The debate on fair value accounting, FASB157, and transparency continues apace. If you want to understand why this is…Read More
The chairman of the Securities and Exchange Commission, a longtime proponent of deregulation, acknowledged on Friday that failures in a voluntary supervision program for Wall Street’s largest investment banks had contributed to the global financial crisis, and he abruptly shut the program down.
The S.E.C.’s oversight responsibilities will largely shift to the Federal Reserve, though the commission will continue to oversee the brokerage units of investment banks.
Also Friday, the S.E.C.’s inspector general released a report strongly criticizing the agency’s performance in monitoring Bear Stearns before it collapsed in March. Christopher Cox, the commission chairman, said he agreed that the oversight program was “fundamentally flawed from the beginning.”
“The last six months have made it abundantly clear that voluntary regulation does not work,” he said in a statement. The program “was fundamentally flawed from the beginning, because investment banks could opt in or out of supervision voluntarily. The fact that investment bank holding companies could withdraw from this voluntary supervision at their discretion diminished the perceived mandate” of the program, and “weakened its effectiveness,” he added.
Mr. Cox and other regulators, including Ben S. Bernanke, the Federal Reserve chairman, and Henry M. Paulson Jr., the Treasury secretary, have acknowledged general regulatory failures over the last year. Mr. Cox’s statement on Friday, however, went beyond that by blaming a specific program for the financial crisis — and then ending it.
On one level, the commission’s decision to end the regulatory program was somewhat academic, because the five biggest independent Wall Street firms have all disappeared.
The Fed and Treasury Department forced Bear Stearns into a merger with JPMorgan Chase in March. And in the last month, Lehman Brothers went into bankruptcy, Merrill Lynch was acquired by Bank of America, and Morgan Stanley and Goldman Sachs changed their corporate structures to become bank holding companies, which the Federal Reserve regulates.
But the retreat on investment bank supervision is a heavy blow to a once-proud agency whose influence over Wall Street has steadily eroded as the financial crisis has exploded over the last year.
Because it is a relatively small agency, the S.E.C. tries to extend its reach over the vast financial services industry by relying heavily on self-regulation by stock exchanges, mutual funds, brokerage firms and publicly traded corporations.
The program Mr. Cox abolished was unanimously approved in 2004 by the commission under his predecessor, William H. Donaldson. Known by the clumsy title of “consolidated supervised entities,” the program allowed the S.E.C. to monitor the parent companies of major Wall Street firms, even though technically the agency had authority over only the firms’ brokerage firm components.
The commission created the program after heavy lobbying for the plan from all five big investment banks. At the time, Mr. Paulson was the head of Goldman Sachs. He left two years later to become the Treasury secretary and has been the architect of the administration’s bailout plan.
The investment banks favored the S.E.C. as their umbrella regulator because that let them avoid regulation of their fast-growing European operations by the European Union.
Facing the worst financial crisis since the Great Depression, Mr. Cox has begun in recent weeks to call for greater government involvement in the markets. He has imposed restraints on short-sellers, market speculators who borrow stock and then sell it in the hope that it will decline. On Tuesday, he asked Congress for the first time to regulate the market for credit-default swaps, financial instruments that insure the holder against losses from declines in bonds and other types of securities.
The commission will continue to be the primary regulator of the companies’ broker-dealer units, and it will work with the Fed to supervise holding companies even though the Fed is expected to take the lead role.
The Fed had already begun regulating Wall Street firms that borrowed money under a new Fed lending program, and the S.E.C. had entered into an agreement under which its examiners worked jointly with Fed examiners, an arrangement that is expected to continue.
The S.E.C. will still have primary responsibility for regulating securities brokers and dealers.
The announcement was the latest illustration of how the market turmoil was rapidly changing the regulatory landscape. In the coming months, Congress will consider overhauls to the regulatory structure, but the markets and the regulators are already transforming it in response to events.
Still, the inspector general’s report made a series of recommendations for the commission and the Federal Reserve that could ultimately reshape how the nation’s largest financial institutions are regulated. The report recommended, for instance, that the commission and the Fed consider tighter limits on borrowing by the companies to reduce their heavy debt loads and risky investing practices.
The report found that the S.E.C. division that oversees trading and markets had failed to update the rules of the program and was “not fulfilling its obligations.” It said that nearly one-third of the firms under supervision had failed to file the required documents. And it found that the division had not adequately reviewed many of the filings made by other firms.
The division’s “failure to carry out the purpose and goals of the broker-dealer risk assessment program hinders the commission’s ability to foresee or respond to weaknesses in the financial markets,” the report said.
The S.E.C. approved the consolidated supervised entities program in 2004 after several important developments in Congress and in Europe.
In 1999, the lawmakers adopted the Gramm-Leach-Bliley Act, which broke down the Depression-era restrictions between investment banks and commercial banks. As part of a political compromise, the law gave the commission the authority to regulate the securities and brokerage operations of the investment banks, but not their holding companies.
In 2002, the European Union threatened to impose its own rules on the foreign subsidiaries of the American investment banks. But there was a loophole: if the American companies were subject to the same kind of oversight as their European counterparts, then they would not be subject to the European rules. The loophole would require the commission to figure out a way to supervise the holding companies of the investment banks.
In 2004, at the urging of the investment banks, the commission adopted a voluntary program. In exchange for the relaxation of capital requirements by the commission, the banks agreed to submit to supervision of their holding companies by the agency.
The losses incurred by Bear Stearns and other large broker-dealers were
not caused by “rumors” or a “crisis of confidence,” but rather by
inadequate net capital and the lack of constraints on the incurring of
–Lee Pickard, former director, SEC trading and markets division.
Is Financial Innovation just another word for excessive and reckless leverage?
As we learn this morning via Julie Satow of the NY Sun, special exemptions from the SEC are in large part responsible for the huge build up in financial sector leverage over the past 4 years — as well as the massive current unwind
Satow interviews the above quoted former SEC director, and he spits out the blunt truth: The current excess leverage now unwinding was the result of a purposeful SEC exemption given to five firms.
You read that right — the events of the past year are not a mere accident, but are the results of a conscious and willful SEC decision to allow these firms to legally violate existing net capital rules that, in the past 30 years, had limited broker dealers debt-to-net capital ratio to 12-to-1.
Instead, the 2004 exemption — given only to 5 firms — allowed them to lever up 30 and even 40 to 1.
Who were the five that received this special exemption? You won’t be surprised to learn that they were Goldman,
Merrill, Lehman, Bear Stearns, and Morgan Stanley.
As Mr. Pickard points out that “The proof is in the pudding — three of the five broker-dealers have blown up.”
So while the SEC runs around reinstating short selling rules, and clueless pension fund managers mindlessly point to the wrong issue, we learn that it was the SEC who was in large part responsible for the reckless leverage that led to the current crisis.
You couldn’t make this stuff up if you tried.
Here’s an excerpt from The Sun:
“The Securities and Exchange Commission can blame itself for the current crisis. That is the allegation being made by a former SEC official, Lee Pickard, who says a rule change in 2004 led to the failure of Lehman Brothers, Bear Stearns, and Merrill Lynch.
The SEC allowed five firms — the three that have collapsed plus Goldman Sachs and Morgan Stanley — to more than double the leverage they were allowed to keep on their balance sheets and remove discounts that had been applied to the assets they had been required to keep to protect them from defaults.
Making matters worse, according to Mr. Pickard, who helped write the original rule in 1975 as director of the SEC’s trading and markets division, is a move by the SEC this month to further erode the restraints on surviving broker-dealers by withdrawing requirements that they maintain a certain level of rating from the ratings agencies.
“They constructed a mechanism that simply didn’t work,” Mr. Pickard said. “The proof is in the pudding — three of the five broker-dealers have blown up.”
The so-called net capital rule was created in 1975 to allow the SEC to oversee broker-dealers, or companies that trade securities for customers as well as their own accounts. It requires that firms value all of their tradable assets at market prices, and then it applies a haircut, or a discount, to account for the assets’ market risk. So equities, for example, have a haircut of 15%, while a 30-year Treasury bill, because it is less risky, has a 6% haircut.
The net capital rule also requires that broker dealers limit their debt-to-net capital ratio to 12-to-1, although they must issue an early warning if they begin approaching this limit, and are forced to stop trading if they exceed it, so broker dealers often keep their debt-to-net capital ratios much lower.
Chalk up another win for excess deregulation . . .
SEC’s Old Capital Approach Was Tried – and True
Lee A. Pickard
SECTION: VIEWPOINTS; Pg. 10 Vol. 173 No. 153
American Banker, August 8, 2008 Friday
Ex-SEC Official Blames Agency for Blow-Up of Broker-Dealers
They constructed a mechanism that simply didn’t work’
NY Sun, September 18, 2008
American Banker excerpt after the jump.