Where were the cops? (the credit ratings agencies are coming under fire)

(Fortune Magazine) -- On a recent conference call with ratings agency Standard & Poor's, Steven Eisman, a managing director at hedge fund Frontpoint Partners, had a question. Referring to the agency's move to downgrade billions of dollars of mortgage-backed securities, he said, "I'd like to understand why you're making this move today and why you didn't do this many, many months ago."

Hedge fund managers aren't the only ones demanding answers as estimates of global losses due to U.S. subprime mortgages mushroom to as much as $150 billion. While out-of-date banking regulations and lax federal oversight didn't help matters, it was the complicity of the rating agencies -- Standard & Poor's, Moody's, and Fitch Ratings -- that enabled the boom.

Now European regulators are probing whether they underestimated risk, and many expect U.S. investigations and investor lawsuits to follow.

Disguised risk Here's how it worked. After buyers with less than stellar credit were approved for a mortgage, lenders would bundle a bunch of iffy loans and sell them to investment banks, which would repackage these into Franken-loans and sell them to investors.

What's really quite amazing about this whole screenplay is that domestic banks had apparently stopped buying this crap circa 2003 and much of it has been offloaded onto foreign banks.

[following not intended as an absolute source, but as a credible explanation]

"'Real money' (U.S. insurance companies, pension funds, etc.) accounts had stopped purchasing mezzanine tranches of U.S. subprime debt in late 2003 and [Wall Street] needed a mechanism that could enable them to 'mark up' these loans, package them opaquely, and EXPORT THE NEWLY PACKAGED RISK TO UNWITTING BUYERS IN ASIA AND CENTRAL EUROPE!!!!

"He told me with a straight face that these CDOs were the only way to get rid of the riskiest tranches of subprime debt. Interestingly enough, these buyers (mainland Chinese banks, the Chinese Government, Taiwanese banks, Korean banks, German banks, French banks, U.K. banks) possess the 'excess' pools of liquidity around the globe. These pools are basically derived from two sources: 1) massive trade surpluses with the U.S. in U.S. dollars, 2) petrodollar recyclers. These two pools of excess capital are U.S. dollar-denominated and have had a virtually insatiable demand for U.S. dollar-denominated debt... until now."

These investors then had standing orders on Wall Street desks for any U.S. debt rated triple-A. Through the "alchemy of CDOs" and "the help of the ratings agencies," the CDO managers collected triple-B and triple-B-minus subprime and repackaged them so the top tier got paid out first. Then leverage the lower mezzanine tranches by 10-20 times and, "POOF... you magically have 80% of the structure rated 'AAA' by the ratings agencies, despite the underlying collateral being a collection of BBB and BBB- rated assets."

The letter concludes: "This will go down as one of the biggest financial illusions the world has EVER seen."

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Today: Deutsche Bank borrows at Fed window (who'da thunk they could do this???)

http://www.ft.com/cms/s/0/699699f4-4f21-11dc-b485-0000779fd2ac.html

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The move in 3 month Tsys is nothing short of jaw dropping

Bloomberg article

Aug. 20 (Bloomberg) -- Yields on U.S. Treasury bills fell the most since 1987 on demand for the safest securities amid concern over a widening credit crunch.

Bill yields have fallen five straight days as money market funds dumped asset-backed commercial paper in favor of the safest government securities. Three-month yields dropped the most since the day of the stock market crash of 1987 and more than in the wake of the Sept. 11, 2001, terror attacks in the U.S.

''We had clients asking to be pulled out of money market funds and wanting to get into Treasuries,'' said Henley Smith, fixed-income manager in New York at Castleton Partners, which oversees about $150 million in bonds. ''People are buying T-bills because you know exactly what's in it.''

The yield on the three-month Treasury bill fell about 0.8 percentage point to 2.96 percent as of 1:57 p.m. in New York. It's the biggest drop since Oct. 20, 1987, when the yield fell 85 basis points, or 0.85 percentage point, on the day the stock market crashed, and more than the decline of 39 basis points on Sept. 13, 2001, the day the Treasury market reopened after the attacks. The yield has fallen from 4.69 percent on Aug. 13.

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