On the way to a pariah state

Reprinted from w w w . h a a r e t z . c o m (link to story)

9/25/2007

By Carlo Strenger

Henry Kissinger used to say that Israel has no foreign policy, only internal politics. Listening to our politicians, you often indeed wonder whether any of them has any long-term strategy. Given that every Israeli politician is supposed to care for Israel's long-term survival, it is stunning to see that an important event in the U.S. with enormous implications for Israel has gone all but unnoticed here.

Eighteen months ago, two senior political scientists, Stephen M. Walt and John J. Mearsheimer, from Harvard and the University of Chicago, respectively, published a paper claiming that U.S. Middle Eastern policy, including the misguided Iraq war and its unqualified support for Israel over the last decades, has run counter to true U.S. interests. They blame the influence of the Israel Lobby for this.

The paper generated a lot of commotion in Jewish circles in the U.S., but surprisingly, has been disregarded in Israel. W&M have now published The Israel Lobby and U.S. Foreign Policy as a book. Their conclusion: the U.S. needs to start relating to Israel like any other country, and no longer see a special ally in us, because the close relation with Israel harms U.S. interests.

W&M paint Israel as a rogue state that does not abide by international law, and is not up to the standards expected of a Western state. The subtext is clear: Israel is just another problematic Middle Eastern country, and should be treated as such - and the number of policy makers and opinion leaders who think this way is growing.

My concern here is not with the question whether W&M are right in the details of their analysis of the power of the Israel Lobby. My point is that their anti-Israeli stance is the tip of a growing iceberg that is simply disregarded by Israel's decision makers. Dismissing W&M as a fringe phenomenon is shortsighted, because it does not take into account a consistent development over the last few years.

It is something of a consensus that the confrontation with Political Islam has become the Western world's No. 1 geopolitical problem. This is generally called the "Clash of Civilizations," following Samuel Huntington and Bernard Lewis. A growing number of decision makers in Europe and the U.S. think that Israel, while not necessarily the main cause for the rise of Political Islam, has become a symbol around which Islamist extremism coalesces - and there is good evidence for this. Watch any Jihadist Web site, even if run from Pakistan, and you will find that images from the West Bank are the core of their iconography.

Israel's way of dealing with the Palestinians and Lebanon in the last few decades has led to a long-term process in which the Western world is beginning to see Israel as a pariah state that has no true affinity to Western values. Hence, it is not on the 'right' side of the clash of civilizations, as was reflected in the French ambassador to Britain calling Israel "that shitty little country" not long ago.

This development is consistently disregarded by Israeli decision makers. Short-term political bickering is on their minds more than the survival of Israel, which in theory is their main goal. Any criticism of Israel's policies is dismissed as an expression of the New Anti-Semitism. The proof often provided is that we are not judged by the same standard as our neighbors: "Jordan, Syria, Iraq and Saudi Arabia can get away with inhuman behavior a lot worse than ours," the argument runs.

My point is simple: the day we are no longer judged by the standards of the West is the beginning of Israel's end, because it means that the West has decided we are no longer part of it, and hence will not be committed to Israel's existence. The day may come when Israel will, as W&M suggest, be seen as just another troublesome country that destabilizes the world.

Behaving in a manner befitting the standards of the Western world is far more important for Israel's long-term survival than gaining a few square miles here and there, by building the security wall through Palestinian territories, tearing apart villages, homes and schools, and expanding settlements. Every such act is not just a moral outrage; it pushes Israel one step closer to being disqualified from belonging to the West.

My argument is not just about being loved by the world - though this factor must not be dismissed. Many of us believe that Israel's moral fiber has been fatally harmed by the occupation and by the two Lebanon wars. The result is that both morally and strategically, the continued occupation and subjugation of the Palestinian people has put us on the wrong side of history.

The writer is professor of Psychology at Tel Aviv University, and a member of the Permanent Monitoring Panel on Terrorism of the World Federation of Scientists.

A Feeling I'm Being Had

Reprinted from: here

by Scott Adams (http://dilbertblog.typepad.com)

I was happy to hear that NYC didn't allow Iranian President Ahmadinejad
to place a wreath at the WTC site. And I was happy that Columbia
University is rescinding the offer to let him speak. If you let a guy like
that express his views, before long the entire world will want freedom
of speech.

I hate Ahmadinejad for all the same reasons you do. For one thing, he
said he wants to "wipe Israel off the map." Scholars tell us the correct
translation is more along the lines of wanting a change in Israel's
government toward something more democratic, with less gerrymandering.
What an ass-muncher!

Ahmadinejad also called the holocaust a "myth." Fuck him! A myth is
something a society uses to frame their understanding of their world, and
act accordingly. It's not as if the world created a whole new country
because of holocaust guilt and gives it a free pass no matter what it
does. That's Iranian crazy talk. Ahmadinejad can blow me.

Most insulting is the fact that "myth" implies the holocaust didn't
happen. Fuck him for saying that! He also says he won't dispute the
historical claims of European scientists. That is obviously the opposite of
saying the holocaust didn't happen, which I assume is his way of
confusing me. God-damned fucker.

Furthermore, why does an Iranian guy give a speech in his own language
except for using the English word "myth"? Aren't there any Iranian
words for saying a set of historical facts has achieved an unhealthy level
of influence on a specific set of decisions in the present? He's just
being an asshole.

Ahmadinejad believes his role is to pave the way for the coming of the
Twelfth Imam. That's a primitive apocalyptic belief! I thank Jesus I do
not live in a country led by a man who believes in that sort of
bullshit. Imagine how dangerous that would be, especially if that man had the
launch codes for nuclear weapons.

The worst of the worst is that Ahmadinejad's country is helping the
Iraqis kill American soldiers. If Iran ever invades Canada, I think we'd
agree the best course of action for the United States is to be
constructive and let things sort themselves out. Otherwise we'd be just as evil
as the Iranians. Those fuckers.

Those Iranians need to learn from the American example. In this
country, if the clear majority of the public opposes the continuation of a war, our
leaders will tell us we're terrorist-humping idiots and do whatever they
damn well please. They might even increase our taxes to do it. That's
called leadership.

If Ahmadinejad thinks he can be our friend by honoring our heroes and
opening a dialog, he underestimates our ability to misinterpret him.
Fucking idiot. I hate him.

Reprinted from The Telegraph (UK)

http://www.telegraph.co.uk/money/main.jhtml;jsessionid=
BYRFMD0QYRQTVQFIQMFSFF4AVCBQ0IV0?xml=/money/
2007/09/19/bcnsaudi119.xml

Fears of dollar collapse as Saudis take fright

By Ambrose Evans-Pritchard, International Business Editor

Last Updated: 7:29pm BST 19/09/2007

Saudi Arabia has refused to cut interest rates in lockstep with the US Federal Reserve for the first time, signalling that the oil-rich Gulf kingdom is preparing to break the dollar currency peg in a move that risks setting off a stampede out of the dollar across the Middle East.

China threatens `nuclear option' of dollar sales

"This is a very dangerous situation for the dollar," said Hans Redeker, currency chief at BNP Paribas.

"Saudi Arabia has $800bn (£400bn) in their future generation fund, and the entire region has $3,500bn under management. They face an inflationary threat and do not want to import an interest rate policy set for the recessionary conditions in the United States," he said.

The Saudi central bank said today that it would take "appropriate measures" to halt huge capital inflows into the country, but analysts say this policy is unsustainable and will inevitably lead to the collapse of the dollar peg.

As a close ally of the US, Riyadh has so far tried to stick to the peg, but the link is now destabilising its own economy.

The Fed's dramatic half point cut to 4.75pc yesterday has already caused a plunge in the world dollar index to a fifteen year low, touching with weakest level ever against the mighty euro at just under $1.40.

There is now a growing danger that global investors will start to shun the US bond markets. The latest US government data on foreign holdings released this week show a collapse in purchases of US bonds from $97bn to just $19bn in July, with outright net sales of US Treasuries.

The danger is that this could now accelerate as the yield gap between the United States and the rest of the world narrows rapidly, leaving America starved of foreign capital flows needed to cover its current account deficit -- expected to reach $850bn this year, or 6.5pc of GDP.

Mr Redeker said foreign investors have been gradually pulling out of the long-term US debt markets, leaving the dollar dependent on short-term funding. Foreigners have funded 25pc to 30pc of America's credit and short-term paper markets over the last two years.

"They were willing to provide the money when rates were paying nicely, but why bear the risk in these dramatically changed circumstances? We think that a fall in dollar to $1.50 against the euro is not out of the question at all by the first quarter of 2008," he said.

"This is nothing like the situation in 1998 when the crisis was in Asia, but the US was booming. This time the US itself is the problem," he said.

Mr Redeker said the biggest danger for the dollar is that falling US rates will at some point trigger a reversal yen "carry trade", causing massive flows from the US back to Japan.

Jim Rogers, the commodity king and former partner of George Soros, said the Federal Reserve was playing with fire by cutting rates so aggressively at a time when the dollar was already under pressure.

The risk is that flight from US bonds could push up the long-term yields that form the base price of credit for most mortgages, the driving the property market into even deeper crisis.

"If Ben Bernanke starts running those printing presses even faster than he's already doing, we are going to have a serious recession. The dollar's going to collapse, the bond market's going to collapse. There's going to be a lot of problems," he said.

The Federal Reserve, however, clearly calculates the risk of a sudden downturn is now so great that the it outweighs dangers of a dollar slide.

Former Fed chief Alan Greenspan said this week that house prices may fall by "double digits" as the subprime crisis bites harder, prompting households to cut back sharply on spending.

For Saudi Arabia, the dollar peg has clearly become a liability. Inflation has risen to 4pc and the M3 broad money supply is surging at 22pc.

The pressures are even worse in other parts of the Gulf. The United Arab Emirates now faces inflation of 9.3pc, a 20-year high. In Qatar it has reached 13pc.

Kuwait became the first of the oil sheikhdoms to break its dollar peg in May, a move that has begun to rein in rampant money supply growth.

Reprinted from The London Times

http://business.timesonline.co.uk/tol/business/industry_sectors/
banking_and_finance/article2485443.ece

September 19, 2007

Lehman loses $700m to the credit crunch

Miles Costello and Tom Bawden

Lehman Brothers conceded yesterday that it had lost more than $700 million (£350 million) from the credit crunch in its third quarter, as it reported its first quarterly loss in five years.

America’s largest underwriter of mortgage bonds reported a 47 per cent decline in third-quarter revenues, to $1.06 billion, at its fixed-income business, which it blamed on “very substantial valuation reductions” on mortgage-related securities and loans backing leveraged buyouts.

Despite making “large valuation gains” from hedging against the credit crunch, the declines in the bank’s mortgage and leveraged loan assets, as the sub-prime homeloan crisis spread, meant that it was still about $700 million out of pocket for the three months to September.

However Chris O’Meara, its chief financial officer, said that the “worst of this credit correction is behind us”, adding that the present market presented “trading opportunities”.

Related Links

• Sometimes, life is just not fair

Lehman’s bond woes were partially offset by a 48 per cent jump in investment banking income, as deal advisory revenues more than doubled, from $195 million to $425 million. The bank advised on the $11.6 billion sale of General Electric’s plastic division to Saudi Basic Industries and on the $8.5 billion disposal of Home Depot’s building supplies unit.

Third-quarter net income for the group was down 3 per cent, to $887 million, from the year-ago period and was 32 per cent lower than the record $1.3 billion set in the previous quarter.

Net revenue for the group, or total revenue minus interest costs, rose by 3.1 per cent, compared to the year before, to $4.31 billion. Asset management and retail brokerage fees jumped by 33 per cent to $802 million, while revenue outside the United States accounted for 53 per cent of the total.

Shares in Lehman Brothers have fallen by about 25 per cent this year as investors fretted about its large exposure to mortgages and high-risk loans to support about $16 billion of pending leveraged buyouts.

Lehman has cut about 2,500 mortgage-related jobs this year, the bulk of them coming from its closure in August of its BNC Mortgage sub-prime business. Some further cuts are expected.

However, the shares rose by $2.08 to $58.62 in midday trading because the decline in profits was lower than expected.

David Easthope, senior analyst at Celent, a Boston-based financial research and consulting firm, said: “Pessimists will cite that fixed-income business was down almost 50 per cent, because of weak credit and securitised products. However, the equities and derivatives business was strong, as was investment management.” Lehman’s results come as the British markets remain gripped by the plight of Northern Rock, the fifth-largest mortgage lender, which was forced to seek funds from the Bank of England late last week.

Northern, which faced a small exposure to US sub-prime mortgage markets, was caught out when the short-term lending markets that it had been using to fund its expansion dried up as the markets fell.

Lehman was the first Wall Street firm to report its third-quarter results. Morgan Stanley will unveil its figures today and Goldman Sachs and Bear Stearns will report tomorrow.

Reprinted from Wall Street Journal Online

Taken from:
http://online.wsj.com/article/SB118998876153829237.html?mod
=googlenews_wsj

HAPPY RETURNS:
How Lehman Sold Plan
To Sidestep Tax Man

Hedge Funds Use SwapsTo Avoid Dividend Hit; IRS Seeks Information

By ANITA RAGHAVAN
September 17, 2007; Page A1

Wall Street firms have long sought to use financial alchemy to save clients a bundle on their tax bills. Now, one of the Street's cleverest strategies is coming under scrutiny.

The strategy arose a few years ago, a time when lots of U.S. companies were paying fat dividends. Wall Street sensed a golden business opportunity: sell their hedge-fund clients on ways to make those dividends even fatter by avoiding taxes on them.

Bankers at Lehman Brothers Holdings Inc. pitched an enticing product. By using a complex financial tool called derivatives, hedge funds with offshore operations could reap the benefits of owning big-dividend U.S. stocks without actually owning them. The result: no dividend-tax bite. Different versions of the strategy cropped up all over Wall Street.

Hedge funds were thrilled. The Internal Revenue Service apparently wasn't. Federal tax authorities are seeking information about the trades from Lehman and Citigroup Inc., The Wall Street Journal reported in July, and other firms are bracing for similar inquiries. The government's question: Are the trades executed for any purpose other than to sidestep the dividend tax?

A look at the evolution inside Lehman of this controversial tax product shows that the firm paid considerable attention to how the IRS might react. Internal Lehman emails reviewed by the Journal reveal bankers searching for the line between smart tax planning and improper tax avoidance. In the end, according to the emails and to people familiar with Lehman's business, the bankers and their lawyers concluded that it was a business worth pursuing.

In recent years, Wall Street firms have been devising increasingly complex ways for sophisticated investors like hedge funds to minimize their tax bills. That's made it tough on tax authorities charged with deciding which maneuvers comply with tax laws and which don't.

The dividend-tax trades represent one more dimension to the spread of derivatives, complex financial instruments whose values are tied to those of assets such as stocks, commodities or currencies. Investors first turned to derivatives to hedge against risk, then as a tool to add leverage. Now, Wall Street is marketing them as a way to minimize taxes. This comes at a time when Congress is considering changing the way hedge-fund managers and private-equity firms are taxed.

The dividend-tax trades have allowed hedge funds to avoid paying more than $1 billion a year in taxes on U.S. stock dividends, accountants and others in the business estimate. If the IRS decides the tax treatment of the trades isn't proper, it could try to slap funds with big bills for back taxes.

Nobel laureate Joseph Stiglitz, a Columbia University professor and expert witness in tax cases who examined some of the Lehman documents, says the question for tax authorities is: "Would these trades occur at all if it were not for the tax advantages?" If the answer is no, he says, "at the very minimum, it is a red flag."

Nearly every major U.S. securities firm -- from Lehman to Citigroup to Merrill Lynch & Co. -- offers such derivatives to hedge-fund clients. Foreign banks such as Germany's Deutsche Bank AG and Switzerland's UBS AG also sell the products, people familiar with the business say.

Some bankers contend that U.S. tax rules on dividends don't apply to derivatives because derivatives aren't governed by the same rules as stocks. "We believe we are in line with industry practice as articulated by major law firms in accordance with the full knowledge of the IRS for many years," says John Wickham, whose job at Lehman includes overseeing the group that sells these types of derivatives. Citigroup says that the IRS views the inquiry as industrywide, and that it is cooperating. Merrill, Deutsche Bank and UBS declined to comment.

Wall Street has devised many forms of dividend-tax trades, of varying complexity. One simple kind uses a derivative called a stock swap. A Wall Street firm buys a block of stock from a hedge fund. The investment bank and the hedge fund also agree to an exchange: For a stipulated period of time, the investment bank makes payments to the hedge fund equal to the total returns on the purchased stock -- the dividends plus the share appreciation -- thereby simulating the benefits of actually owning the stock. In return, the hedge fund makes payments to the bank tied usually to a benchmark interest rate. If the stock declines in value, the hedge fund also must pay the bank the equivalent of the lost value.

Ordinarily, the IRS, to ensure it can collect dividend taxes from hedge funds that own U.S. stock but are domiciled outside of the country, requires securities firms to withhold the taxes from dividend payments distributed to the funds. (Domestic taxpayers are required simply to declare dividend income on their U.S. tax returns.) But when an offshore fund enters into a stock swap, who's on the hook for the dividend taxes? The U.S. banks that peddle such swaps are responsible for paying the tax, but they offset the dividend income with the expense of swap payments made to the hedge funds. The result: Because the payments received from the hedge fund are comparatively small, the bank has very little taxable income. The swap payments received by the offshore hedge fund are not subject to U.S. taxation.

The IRS declines to comment on the matter.

Hedge funds use swaps for all sorts of reasons having nothing to do with tax planning, including to lower trading costs and to make it harder for rivals to figure out what they're investing in.

The dividend-tax trading strategy became popular after changes to federal tax laws in 2003, which lowered the tax rate that individuals pay on dividends, but left the corporate rate intact. Many companies then boosted their dividend payments. European hedge funds and U.S. funds with offshore hubs jumped into these U.S. stocks, but were looking for ways to lower the tax bite.

For years, many securities firms in London, including Lehman's office there, had used derivatives to help hedge funds avoid paying a British tax known as the stamp duty, which is levied on purchases of stocks and real estate. In the summer of 2003, Richard Story, a Lehman executive in London, began pressing managers in New York to boost the volume of dividend-related derivative trades they executed, according to people familiar with the matter.

Lehman had concocted a strategy it called the Cayman Islands Trade, which offered offshore hedge funds -- including the many U.S. funds with offshore operations -- a way to "enhance the yield" on dividend-paying U.S. stocks, according to a Lehman document. The trade, which involves several legs, originates with a loan of stock from a client to a Lehman entity in the Cayman Islands.

To ascertain whether tax products will pass muster with federal tax authorities, U.S. securities firms routinely seek opinions from in-house and outside lawyers. Some legal opinions conclude that products "will" pass muster, while others say they "should." Both grades are considered to provide acceptable legal comfort. "More likely than not," a lower grade, is seen as more problematic.

"I know you got US Tax Dept (Darryl) comfortable on the Cayman yield enh. [enhancement] trades after a lot of gentle persuasion," Mr. Story wrote in a June 12, 2003, internal email, referring to Lehman tax attorney Darryl Steinberg. "Did we finally get a written opinion from external counsel and if so what level of opinion was it...?"

The view from outside, at least initially, appeared fuzzy. A lawyer from Cravath, Swaine & Moore LLP initially believed the transactions "should" pass muster with the IRS, according to an email to Mr. Story from Bruce Brier, a Lehman senior vice president. But after a talk with a Lehman tax lawyer, the Cravath attorney "downgraded his opinion to 'more likely than not,'" Mr. Brier wrote in the email. "I think I can get him back to 'should.'"

A Cravath spokeswoman declined to comment, as did Mr. Steinberg. Mr. Story, who no longer works at Lehman, didn't respond to requests for comment.

"You are looking at a one-page personal opinion in a thousand-page universe," a Lehman spokeswoman says. Mr. Brier's email "in no way suggests that Cravath provided an actual written opinion and then changed it. Rather, it appears Mr. Brier and Corporate Tax were separately discussing the Cravath lawyer's possible opinion level considering a variety of different factors, some of which, when combined, would lead to a 'should' level and others a 'more likely than not.'" Such an exchange is "an ordinary process of idea sharing."

Lehman touted such trades to clients in a brochure entitled "The Power of Synthetics." The derivatives would transfer to clients "economic exposure of a security, basket or index without taking physical ownership or delivery," the brochure said. The potential benefits included "tax management" and "yield enhancement," it said.

A Lehman document indicates that a number of hedge funds entered into trades, including Angelo Gordon & Co.; Highbridge Capital Management, the big hedge fund majority-controlled by J.P. Morgan Chase & Co.; JMG Triton; and KBC Alternative Investment Management. The Lehman document projects that the trades would save Highbridge, which has about $37 billion in assets, about $10.8 million in withholding taxes in 2005. JMG Triton was projected to save $15.3 million, Angelo Gordon, $9 million, and KBC, $3 million, according to the document.

A KBC spokesman says, "We have not seen that document and do not know what those numbers represent. The only reason we would track withholding taxes is if they are owed." Highbridge declined to comment. Angelo Gordon and JMG Triton didn't respond to requests for comment.

Lehman and its clients saved $70 million in taxes they potentially owed in 2004 because of the swaps, according to the Lehman document, which refers to the withholding-tax savings as "WHT@Risk." Lehman says the figure is from a "draft presentation" and only represents "one person's view of hypothetical exposure," which the firm now calls unrealistic. People familiar with Lehman's operations estimate that over the past 3½ years, the firm has saved about $200 million for its clients through such tax trades. A Lehman spokeswoman calls the figure "conjecture."

In 2004, after Microsoft Corp. set plans to pay a one-time dividend of $3 a share -- a $33 billion total payout -- competition heated up among Wall Street firms to offer clients ways to capture a greater after-tax share of the dividend. Ian Maynard, a Lehman trading manager based in London, saw the special dividend as an opportunity for Lehman to seize business from competitors. But Lehman rivals were more aggressive, offering clients as much as 97% of the Microsoft dividend amount compared with Lehman's 95%, according to people familiar with the matter.

Some aspects of the business, including its profitability, worried Mr. Maynard, these people say. In a Sept. 21, 2004, email to several Lehman executives, he suggested Lehman was taking too much risk by "guaranteeing" to pay the entire dividend amount to clients through some derivative trades. The range of clients for whom Lehman is "guaranteeing 100%" has "increased significantly," he wrote.

In the email, he also noted that there appeared to be no "consistent" standards about the minimum time clients held the derivatives, and that "churning" -- a term commonly used to refer to excessive short-term trading -- appears to be "reasonably frequent." From a tax-risk perspective, that was important. If it appeared that clients were executing such trades before dividend time, then unwinding them just after dividends were paid, tax authorities could suspect the trades were done solely to avoid taxes.

"We need to set minimum holding periods following advice from tax/compliance and eradicate any frequent churning of position," Mr. Maynard wrote.

Mr. Maynard referred questions about the matter to Lehman's spokeswoman. "In light of evolving market conditions and technological advances," she says, "Ian wanted to make sure that we were consistently enforcing the policies we had put in place."

Some at Lehman expressed concern over swaps tied to a single stock. Mr. Brier, the senior vice president and a tax lawyer by background, was worried the single-stock swaps could be viewed purely as a maneuver to sidestep withholding taxes, say people familiar with the situation. In an email early in 2005, he questioned whether such swaps, from a taxation standpoint, were essentially stock loans. It was a crucial question: When stocks are lent across borders, the dividend payments can be subject to taxes.

John DeRosa, Lehman's top tax official, says swaps "possess markedly different fundamental and economic characteristics from stock loans" and thus are not subject to withholding taxes.

In a Feb. 14, 2005, email to Mr. Brier and others, Neil Sherman, a Lehman sales executive, suggested some guidelines for single-stock swaps, including that clients be required to hold them for at least 30 days. Swaps that give clients exposure to a basket of stocks could be used, he wrote, but "care should be taken, through the observation of objective criteria, that such swaps do not have withholding tax avoidance as a principal purpose."

In a return email, Mr. Brier told Mr. Sherman it would be "premature" to issue any new single-stock swap guidelines because, among other things, there hadn't been approval from the firm's tax department.

The Lehman spokeswoman says the directive by Mr. Sherman, who is no longer at the firm, was not triggered by any problem. Mr. Brier said recently, in a prepared statement: "It has since come to my attention that the firm had appropriate policies in place since 2000 regarding single-equity swaps, and had previously taken legal advice from numerous outside law firms that addressed the issues which I was raising and had reached similar positive conclusions....After many discussions internally and with outside counsel, it was my belief that the product was legally sound and appropriate."

At a meeting last fall of the Wall Street Tax Association, a group of tax experts, Lehman and other Wall Street firms got their first inkling that tax authorities were examining dividend-related trades, people familiar with the meeting say. Directors were buzzing about rumors of an IRS inquiry into such trades, these people say.

Todd Tuckner, UBS's tax head for the Americas, indicated that the IRS had given the bank a diagram of a transaction it appeared to be scrutinizing, the people say. After checking with the IRS, Mr. Tuckner made the diagram available to the group. Mr. Tuckner, through a spokesman, declined to comment.

Lehman still offers single-stock swaps to clients. "Because there has been no definitive guidance to the financial community on this issue, Lehman, like its competitors, relies on its own internal analysis of the tax law and a 'should'-level tax opinion from a major Wall Street law firm that clearly distinguishes our single-stock-swap trades from stock loans," the firm says. It declines to say which law firm provided the tax opinion.

Write to Anita Raghavan at anita.raghavan@wsj.com

Failing banks, toxic bonds and mortgage laundering

Taken from:

http://mparent7777-2.blogspot.com/2007/09/failing-banks
-toxic-bonds-and-mortgage.html

Failing banks, toxic bonds and mortgage laundering

Sept 17, 2007

The Triumph of Structured Finance

By Mike Whitney

"The entire global financial structure is becoming uncontrollable in crucial ways that its nominal leaders never expected, and instability is its hallmark. The scope and operation of international financial markets, their “architecture”, as establishment experts describe it, has evolved haphazardly and its regulation is inefficient — indeed, almost nonexistent. Banks do not understand the chain of exposure and who owns what: senior financial regulators and bankers now admit this.” Gabriel Kolko “An Economy of Buccaneers and Fantacists"

“Ben Bernanke, the Federal Reserve chairman, is like a man who, after spending a lifetime playing with train sets, finally gets to drive the real thing - only to find it hurtling towards the edge of a cliff.” U.K. Observer

By now, you’ve probably seen the photos of the angry customers queued up outside of Northern Rock Bank waiting to withdraw their money. http://news.bbc.co.uk/2/hi/uk_news/6998507.stm The pictures are headline news in the UK but have been stuck on the back pages of US newspapers. The reason for this is obvious---the same Force 5 economic-hurricane that just touched ground in Great Britain is headed for America and gaining strength on the way.

This is what a good old fashioned bank run looks like---the likes of which we haven’t seen since the Great Depression. And, just like 1929, the bank owners are frantically trying to calm down their customers by reassuring them that their money is safe. But—human nature being what it is---people are not so easily pacified when they think their hard-earned savings are at risk. The bottom line is this: The people want their money---not excuses.

But Northern Rock doesn’t have their money and, surprisingly, it is not because the bank was dabbling in risky subprime loans. Rather, NR had unwisely adopted the model of “borrowing short to go long” in financing their mortgages just like many of the major banks in the US. In other words, they depended on wholesale financing of their mortgages from eager investors in the market, instead of the traditional method of maintaining sufficient capital to back up the loans on their books.

It seemed like a nifty idea at the time and most of the big banks in the US were doing the same thing. It was a great way to avoid bothersome reserve requirements and the loan origination fees were profitable as well. Northern Rock’s business soared. Now they carry a mortgage book totaling $200 billion dollars.

$200 billion! So why can’t they pay out a paltry $4 or $5 billion to their customers without a government bailout?

It’s because they don’t have the reserves---and, because the bank’s business model is hopelessly flawed and no longer viable. Their assets are illiquid and (presumably) “marked to model”---which means they have no discernible market value. They might as well have been “marked to fantasy”---it amounts to the same thing. Investors don’t want them. So Northern Rock is stuck with a $200 billion albatross that’s dragging them under.

A more powerful fiscal-tsunami is about to descend on the United States where many of the banks have been engaged in the same practices and are using the same business-model as Northern Rock. Investors are no longer buying CDOs, MBSs, or anything else related to real estate. No one wants them whether they’re subprime or not. That means that US banks will soon undergo the same type of economic gale that is battering the UK right now. The only difference is that the US economy is already listing from the downturn in housing and an increasingly-jittery stock market.

That’s why Treasury Secretary Henry Paulson rushed off to England yesterday to see if he could figure out a way to keep the contagion from spreading.

Good luck, Hank.

It would interesting to know if Paulson still believes that “This is far and away the strongest global economy I’ve seen in my business lifetime”, or if he has adjusted his thinking as troubles in subprime, commercial paper, private equity, and credit continue to mount?

SECURITIZATION: Is it really just Mortgage laundering?

For weeks we’ve been saying that the banks are in trouble and do not have the reserves to cover their losses. This notion was originally pooh-poohed by nearly everyone. But it’s becoming more and more apparent that it is true. We expect to see many bank failures in the months to come. Prepare yourself. The banking system is mired in fraud and chicanery. Now the schemes and swindles are unwinding and the bodies will soon be floating to the surface.

“Structured finance” is touted as the “new architecture of financial markets”. It is designed to distribute capital more efficiently by allowing other market participants to fill a role which used to be left exclusively to the banks. In practice, however, structured finance is a hoax; and undoubtedly the most expensive hoax of all time. The transformation of liabilities (dodgy mortgage loans) into assets (securities) through the magic of securitization is the biggest boondoggle of all time. It is the moral equivalent of mortgage laundering. The system relies on the variable support of investors to provide the funding for pools of mortgage loans that are chopped-up into tranches and duct-taped together as CDOs (collateralized debt obligations). Its madness; but no one seemed to realize how crazy it was until Bear Stearns blew up and they couldn’t find bidders for their remaining CDOs. It’s been downhill ever since.

Structured Finance: The new market plumbing springs a leak

The problems with structured finance are not simply the result of shabby lending and low interest rates. The model itself is defective.

John R. Ing provides a great synopsis of structured finance in his article, “Gold: The Collapse of the Vanities”:

“The origin of the debt crisis lies with the evolution of America's financial markets using financial engineering and leverage to finance the credit expansion…. Financial institutions created a Frankenstein with the change from simply lending money and taking fees to securitizing and selling trillions of loans in every market from Iowa to Germany. Credit risk was replaced by the "slicing and dicing" of risk, enabling the banks to act as principals, spreading that risk among various financial institutions….. Securitization allowed a vast array of long term liabilities once parked away with collateral to be resold along side more traditional forms of short term assets. Wall Street created an illusion that risk was somehow disseminated among the masses. Private equity too used piles of this debt to launch ever bigger buyouts. And, awash in liquidity and very sophisticated algorithms, investment bankers found willing hedge funds around the world seeking higher yielding assets. Risk was piled upon risk. We believe that the subprime crisis is not a "one off" event but the beginning of a significant sea change in the modern-day financial markets.” (John R. Ing “Gold: The Collapse of the Vanities”)

The investment sharks who conjured up “structured finance” knew exactly what they were doing. They were hyping dog-pelts as fine mink and selling off them to anyone foolish enough to buy them. They were in bed with the ratings agencies----off-loading trillions of dollars of garbage-bonds to pension funds, hedge funds, insurance companies and foreign financial giants. It’s a swindle of epic proportions and it never would have taken place in a sufficiently regulated market.

MAKING THE CASE FOR ECONOMIC PREEMPTION

The Bush administration needs to come to grips with the “systemic” problems of the current market-model and act fast. When crowds of angry people are huddled outside the banks to get their money; the system is in real peril. Credibility must be restored quickly. This is no time for Bush’s “free market” nostrums or Paulson’s soothing bromides (We think the problem is “contained”) or Bernanke’s feeble rate cuts. This requires real leadership.

The first thing to do is take charge----alert the public to what is going on and get Congress to work on substantive changes to the system. Concrete steps must be taken to build public confidence in the markets. And there must be a presidential announcement that all bank deposits will be fully covered by government insurance.

The lights should be blinking red at all the related government agencies including the Fed, the SEC, and the Treasury Dept. They need to get ahead of the curve and stop thinking they can minimize a potential catastrophe with their usual public relations mumbo jumbo.

U.S. BANKS: Waiting for the storm-surge

Last week, an article appeared in the Wall Street Journal, “Banks Flock to Discount Window”. (9-14-07) The article chronicled the sudden up-tick in borrowing by the struggling banks via the Fed’s emergency bailout program, the “Discount Window”.

WSJ:

“Discount borrowing under the Fed’s primary credit program for banks surged to more than $7.1 billion outstanding as of Wednesday, up from $1 billion a week before.”

Again we see the same pattern developing; the banks borrowing money from the Fed because they cannot meet their minimum reserve requirements.

WSJ: “The Fed in its weekly release said average daily borrowing through Wednesday rose to $2.93 billion.”

$3 billion.

Traditionally, the “Discount Window” has only been used by banks in distress, but the Fed is trying to convince people that it’s really not a sign of distress at all. It’s “a sign of strength”.

Baloney. Banks don’t borrow $3 billion unless they need it. They don’t have the reserves. Period.

The real condition of the banks will be revealed sometime in the next few weeks when they report earnings and account for their massive losses in “down-graded” CDOs and MBSs.

Market analyst, Jon Markman offered these words of advice to the financial giants:

“Before they (the financial industry) take down the entire market this fall by shocking Wall Street with unexpected losses, I suggest that they brush aside their attorneys and media handlers and come clean. They need to tell the world about the reality of their home lending and loan securitization teams' failures of the past four years -- and the truth about the toxic paper that they've flushed into the world economic system, or stuffed into Enron-like off-balance sheet entities -- before the markets make them walk the plank.”….” Since government regulators and Congress have flinched from their responsibility to administer "tough love" with rules forcing financial institutions to detail the creation, securitization and disposition of every ill-conceived subprime loan, off-balance sheet "structured investment vehicle," secretive money-market "conduit" and commercial-paper-financing vehicle, the market will do it with a vengeance” (Jon Markman, “What the big banks aren't telling you – yet”)

Good advice. We’ll have to wait and see if anyone is listening. The investment banks may be waiting until Tuesday hoping that Fed-chief Ken Bernanke announces a cut to the Fed’s fund rate that could send the stock market roaring back into positive territory.

But interest rate cuts do not address the underlying problems of insolvency among homeowners, mortgage lenders, hedge funds and (potentially) banks. As market-analyst John R. Ing said, “A cut in rates will not solve the problem. This crisis was caused by excess liquidity and a deterioration of credit standards….A cut in the Fed Fund rate is simply heroin for credit junkies.”

Well put.

The cuts merely add more cheap credit to a market that that is already over-inflated from the ocean of liquidity produced by former-Fed chief Alan Greenspan. The housing bubble and the massive credit bubble are largely the result of Greenspan’s misguided monetary policies. (For which he now blames Bush!)The Fed’s job is to ensure price stability and the smooth operation of the markets—not to reflate equity bubbles and reward over-exposed market participants.

It’s better to let cash-strapped borrowers default than slash interest rates and trigger a global run on the dollar. Financial analyst Richard Bove says that lower interest rates will do nothing to bring money back into the markets. Instead, lower interest rates will send the dollar into a tailspin and wreak havoc on the job market.

“There is no liquidity problem, but a serious crisis of confidence," Bove said. "In a financial system where there is ample liquidity and a desire for higher rates to compensate for risk, the solution is not to create more liquidity and lower the rates that are available to compensate for risk. ... (The Fed) cannot reduce fear by stimulating inflation."

"It is illogical to assume that holders of cash will have a strong desire to lend money at low rates in a currency that is declining in value when they can take these same funds and lend them at high rates in a currency that is gaining in value," he said. "By lowering interest rates the Federal Reserve will not stimulate economic growth or create jobs. It will crash the currency, stimulate inflation, and weaken the economy and the job markets." CNN Money)

Bove is right. The people and businesses that cannot repay their debts should be allowed to fail. Further weakening the dollar only adds to our collective risk by feeding inflation and increasing the likelihood of capital flight from American markets. If that happens; we’re toast.

SPIRALLING INFLATION

Consider this: In 2000, when Bush took office, gold was $273 per ounce, oil was $22 per barrel and the euro was worth $.87 per dollar. Currently, gold is over $700 per ounce, oil is over $80 per barrel, and the euro is nearly $1.40 per dollar. If Bernanke cuts rates, we’re likely to see oil at $125 per barrel by next spring.

Inflation is soaring. The government statistics are thoroughly bogus. Gold, oil and the euro don’t lie. According to economist Martin Feldstein, “The falling dollar and rising food prices caused market-based consumer prices to rise by 4.6% in the most recent quarter.” (WSJ)

That’s 18.4% per year---and yet, Bernanke is still considering cutting interest rates and further fueling inflation?!?

It’s crazy!

What about the American worker whose wages have stagnated for the last 6 years? Inflation is the same as a pay-cut for him. And how about the pensioner on a fixed income? Same thing. Inflation is just a hidden tax progressively eroding his standard of living. .

Bernanke’s rate cut may be boon to the “cheap credit” addicts on Wall Street, but it’s the death-knell for the average worker who is already struggling just to make ends meet.

No bailouts. No rate cuts. Let the banks and hedge funds sink or swim like everyone else. The message to Bernanke is simple: “It’s time to take away the punch bowl”.

The inflation in the stock market is just as evident as it is in the price of gold, oil or real estate. Economist and author Henry Liu demonstrates this in his article “Liquidity Boom and the Looming Crisis”:

“The conventional value paradigm is unable to explain why the market capitalization of all US stocks grew from $5.3 trillion at the end of 1994 to $17.7 trillion at the end of 1999 to $35 trillion at the end of 2006, generating a geometric increase in price earnings ratios and the like. Liquidity analysis provides a ready answer.” (Asia Times)

“Market capitalization zoomed from $5.3 trillion to $35 trillion in 12 years?!?

Why?

Was it due to growth in market-share, business expansion or productivity?

No. It was because there were more dollars chasing the same number of securities; hence, inflation.

If that is the case, then we can expect the stock market to fall sharply before it reaches a sustainable level. As Liu says, “It is not possible to preserve the abnormal market prices of assets driven up by a liquidity boom if normal liquidity is to be restored.” Eventually, stock prices will return to a normal range.

Bernanke should not even be contemplating a rate cut. The market needs more discipline not less. And workers need a stable dollar so they can live within their means. Besides, another rate cut would further jeopardize the greenback’s position as the world’s “reserve currency”. That could destabilize the global economy by rapidly unwinding the US massive current account deficit.
The International Herald Tribune summed up the dollar’s problems in a recent article,” Dollar's Retreat Raises Fear of Collapse”:

“Finance ministers and central bankers have long fretted that at some point, the rest of the world would lose its willingness to finance the United States' proclivity to consume far more than it produces - and that a potentially disastrous free-fall in the dollar's value would result.

The latest turmoil in mortgage markets has, in a single stroke, shaken faith in the resilience of American finance to a greater degree than even the bursting of the technology bubble in 2000 or the terror attacks of Sept. 11, 2001, analysts said. It has also raised prospect of a recession in the wider economy.

This is all pointing to a greatly increased risk of a fast unwinding of the U.S. current account deficit and a serious decline of the dollar.”

Other experts and currency traders have expressed similar sentiments. The dollar is at historic lows in relation to the basket of currencies against which it is weighted. Bernanke can’t take a chance that his effort to rescue the markets will cause a sudden sell-off of the dollar.

The Fed chief’s hands are tied. Bernanke simply doesn’t have the tools to fix the problems before him. Insolvency cannot be fixed with liquidity injections nor can the deeply-rooted “systemic” problems in “structured finance” be corrected by slashing interest rates. These require fiscal solutions, congressional involvement, and fundamental economic policy changes.



Rate cuts won’t help to rekindle the spending spree in the housing market either. That charade is over. The banks have already tightened lending standards and inventory is larger than anytime since they began keeping records. The slowdown in housing is irreversible as is the steady decline in real estate prices. Trillions in market capitalization will be wiped out. (thanks to Greenspan) Home equity is already shrinking as is consumer spending connected to home-equity withdrawals.

The bubble has popped regardless of what Bernanke does. The same is true in the clogged Commercial Paper market where hundreds of billions of dollars in short-term debt is due to expire in the next few weeks. The banks and corporate borrowers are expected to struggle to refinance their debts but, of course, much of the debt will not roll over. There will be substantial losses and, very likely, more defaults.

BERNANKE’S LEGACY: Was he a man or a mouse?

Bernanke can either be a statesman---and tell the country the truth about our dysfunctional financial system which is breaking down from years of corruption, deregulation and manipulation---or he can take the cowards-route and “buy some time” by flooding the system with liquidity, stimulating more destructive consumerism, and condemning the nation to an avoidable cycle of double-digit inflation.

We’ll know his decision on Tuesday.

Land' o Lakes trick http://wheresmyjetpack.blogspot.com/2007/01/better-than-naked-chicks-in-ice-cubes.html