Credit Market Losses - Systemic Crisis Much Deeper Than Bear Stearns' Collapse [BSC]
3/17/2008 5:13:24 AM The scary truth dawned on the markets-The liquidity crisis that has been taking a toll on the financial markets for about a year now is more severe than even the pessimists had imagined. The once high profile investment bank Bear Stearns (BSC) was brought down to its knees after creditors and clients lost confidence in the ability of the bank to tackle liquidity problems. Under the supervision of the Federal Reserve, which is the lender of the last resorts, JP Morgan Chase (JPM) offered to acquire Bear for a throw away price of $2 per share, which is a far cry from the $169.61 it was worth in mid January 2007.
It is quite surprising that a business as old as 85 years and had weathered several setbacks such as the Great Depression and several other recessions that followed, fell a victim to a credit crisis such as this. The bank grew as one of the forces to reckon within the investment banking industry, as it took excessive bets in the debt market.
Initially, the Fed intervened by extending a 28-day secured line of credit through JP Morgan Chase. Nevertheless, the efforts came to naught, as the firm was already knee-deep in trouble and was on the verge of filing bankruptcy.
In buying Bear Stearns, JP Morgan said it is assuming the trading responsibilities of Bear Stearns and its subsidiaries. The Fed has also agreed to fund about $30 billion of Bear's less-liquid assets. Analysts see the Fed intervention as an effort to prevent system-wide damage in the interconnected and interdependent markets. JP Morgan has immunized itself against much of the risk, as the Fed's security obviates the need for fire sales of Bear's devalued assets. Additionally, JP Morgan said the purchase of Bear would add $1 billion to its annual profits.
That said, JP Morgan may choose to retain some of Bear's business, while deciding to sell others. It is speculated that the prime brokerage business, which provides loans and process trades for hedge funds, and securities clearing unit could be retained. On the other hand, the fixed income business and advisory business are likely to be trimmed or totally disposed off.
In 2007, Bear Stearns derived roughly 66% of the total revenues from its capital markets business, with equity revenues' share of the total revenues at 36.3%, fixed income at 11.5% and investment banking at 18.1%. Global clearing services accounted for about 20% of its total revenues in 2006 compared to Wealth Management business' 13.9%
Bear Stearns, which was scheduled to release its quarterly earnings report on Monday, announced that it would not be doing so amid all these developments.
Can Peers Be Far Behind?
Lehman Brother and Goldman Sachs (GS) are due to release their first quarter results on Tuesday, while Morgan Stanley (MS) rolls out its quarterly scorecard on Wednesday. Traders are likely to focus on the magnitude of problems faced by each of these banks and the strength of these banks and their ability to bail out ailing peers.
Lehman Brothers is also considered to be excessively leveraged, and is dependent on its prime brokerage business. Nevertheless, Lehman's risk management is one of the best in the industry. In fiscal year 2007, the company derived about 31% of its total net revenues from fixed income trading, which showed a year-over-year decline of 29%. Lehman was quick to clarify that it has more than $195 billion of assets at its disposal and it can fund its operations without outside financing for about 12 months.
Analysts expect Lehman to report first quarter earnings of 72 cents per share, a sharp decline from $1.96 per share in the year-ago quarter. Revenues are expected to dip 33.6% to $3.35 billion. The not-so-optimistic outlook stems from the cost of asset price declines in global equity and fixed income markets and relatively anemic investment banking activity. The company had hinted in February that its markdowns against residential and commercial real estate exposures may be on par with the third quarter and fourth quarter markdowns. In the fourth quarter, the firm had marked down $830 million of sub-prime and leveraged assets.
Goldman Sachs (GS), which remained immune to the credit crisis thus far mainly due to its bets against mortgage-backed securities, may announce write-downs to the tune of $3 billion, if published reports are right. However, the write-downs are traced back mainly to the declining value of its investment in Industrial & Commercial Bank of China. The Street estimates Goldman to report first quarter earnings of $2.58 per share compared to the year-ago earnings of $6.67 per share. Revenues are expected to show a 41% decline to $7.47 billion.
Meanwhile, Morgan Stanley is expected to report first quarter earnings of $1.03 per share on revenues of $7.19 billion. This compares to the firm's year-ago earnings of $2.17 per share on revenues of $9.99 billion. Credit Suisse said in a research note in February that Morgan Stanley could get hit from incremental fixed income marks against both real estate exposures and the leveraged loan books, and softer principal investment gains and investment banking fees.
Serious concerns are also raised about Citigroup (C), as many fear that conglomerates such as Citi are not managed effectively and a break-up may be necessary. Citigroup has written off about $24.5 billion of its asset value in its portfolio in the second half of 2007. However, the financial services giant could shore up about $30 billion in fresh capital to strengthen its balance sheet. That said, more losses may be in the offing due to its exposure to commercial mortgage backed securities, collateralized debt obligations and leveraged loans. If defaults on consumer loans such as credit card and auto loans increase, the losses could be much more than what have been estimated currently.
Will More Consolidation Follow?
Analysts do not believe that the industry will move towards further consolidation, as suitors are unconvinced about the value of the assets of the firms. Markets are more unnerved by the loss of confidence than the lack of adequate liquidity. The Amex Securities Broker Dealer Index, which has about 12 of the investment banks as its components, has come off significantly from its mid-2007 highs of 267.69. Some market participants are even speculating an emergency bank holiday, which has not happened since the Great Depression, to prevent the run-on the banks. Firms may also try to preserve capital by freezing dividend payments, as their debt repaying capacity come under scrutiny in the days to come.
Valuation of the banking sector as a whole is in question now. The steep discount at which Bear is selling to JP Morgan is leading traders to speculate over the valuation of its peers. Unfortunately, many do not subscribe to S&P's theory of the credit crisis nearing an end. The unanimous opinion is that the credit crisis has more leg ups and the magnitude of the problem is still unfathomable.
Chinese Firm Wants to Change Bear Deal
© 2008 The Associated Press
BEIJING — A state-owned Chinese financial firm wants to change its deal to buy into Bear Stearns Co. following the takeover of the troubled Wall Street bank, the chairman of the Chinese firm's parent said Monday.Citic Securities Co. wants to make a "technical adjustment" in its deal, said Kong Dan, chairman of Citic Group, talking to reporters during a meeting of China's legislature. He gave no details but denied an earlier media report that quoted him as saying the deal was canceled.
Citic agreed in October to invest $1 billion in Bear. The U.S. firm was to make a similar investment in its Chinese partner and the two were to launch an Asian securities joint venture.
JPMorgan Chase & Co. and the U.S. government, in an extraordinary measure, stepped in late Sunday to save Bear Stearns, one of big five banking houses on Wall Street, which succumbed under the weight of a broadening global credit crisis. Markets from Asia to Europe tumbled on the news and U.S. stocks headed for a sharply lower open.
Citic Group is the investment arm of China's Cabinet.
Its agreement with Bear came amid a flurry of investment deals by Chinese entities in U.S. and European banks, which want to replenish their capital following the recent credit crisis.
JPMorgan and the U.S. government stepped in late Sunday to save Bear Stearns for the shockingly low price of $2 per share, or $236.2 million.
The Yahoo Bears Sterns discussion board link ..
Sketchy reports indicate an angry mob of Bsc and Goog bagholders are gathering with intentions of storming CNBC headquarters in search of resident assclown Jimmy Cramer.
One report says the Governor has called out the National Guard, but another suggests the Guard has already joined the mob.
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