Financial Black Swan
More people are coming to realize just how bad the credit crunch is going to be.
The amount of losses that financial institutions have already recognized - $20 billion – is just the very tip of the iceberg of much larger losses that will end up in the hundreds of billions of dollars. At stake – in subprime alone – is about a trillion of sub-prime related RMBS and hundreds of billions of mortgage related CDOs. But calling this crisis a sub-prime meltdown is ludicrous as by now the contagion has seriously spread to near prime and prime mortgages. And it is spreading to subprime and near prime credit cards and auto loans where deliquencies are rising and will sharply rise further in the year ahead. And it is spreading to every corner of the securitized financial system that is either frozen or on the way to freeze: CDOs issuance is near dead; the LBO market – and the related leveraged loans market – is piling deals that have been postponed, restructured or cancelled; the liquidity squeeze in the interbank market – especially at the one month to three months maturities - is continuing; the losses that banks and investment banks will experience in the next few quarters will erode their Tier 1 capital ratio; the ABCP and related SIV sectors are near dead and unraveling; and since the Super-conduit will flop the only options are those of bringing those SIV assets on balance sheet (with significant capital and liquidity effects) or sell them at a large loss; similar problems and crunches are emerging in the CLO, CMO and CMBS markets; junk bonds spreads are widening and corporate default rates will soon start to rise. Every corner of the securitization world is now under severe stress, including so called highly rated and “safe” (AAA and AA) securities.
Roubini notes that a lot of the problems that are being hidden at the moment are sitting in the Level 3 asset class, what Ian Welsh called "mark-to-make-believe" in his Wile E. Coyote post.
And the kicker is at the end of the post is where the amount of level 3 assets are compared to the financial institutions equity:
Let's have a look at Citigroup. Their equity base is $128 billion. Therefore, their Level 3 assets to equity ratio: 105%
How about Goldman Sachs? Level 3 assets are $72 billion, equity base is $39 billion. Their Level 3 assets to equity ratio is 185%.
Morgan Stanley: $88 billion in Level 3, equity base is $35 billion. Ratio: 251% (WOW!)
Bear Stearns: $20 billion in Level 3, equity base is $13 billion. Ratio: 154%
Lehman Brothers: $35 billion in Level 3, $22 billion in equity. Ratio: 159%
Merrill Lynch: $16 billion in Level 3, $42 billion in equity. Ratio: 38%
Once the real value of those assets are disclosed, or are able to be discerned, they have the ability to wipe out the capital of most of the major financial institutions.
The dead air awaits.
