Rambling on crunches, herds, lies, and bankers

The most impressionable thing with the current economic correction (most often called credit crunch) is not about the magnitude Lehman's chapter 11 filing, Merrill's sale to BofA, or AIG's balance sheet problems. It is what otherwise extremely intelligent people will do when led by greed and herd-like behavior. Nevermind the liquidity crisis, market dislocation, sharp selloff, or whatever bullshit terms rich managers use to justify their behavior and poor risk management, finance needs more straight talkers. "I made a mistake. I foolishly benchmarked my decisions against my peer group and I lost your money. I'm sorry." Failing to acknowledge the truth is both dangerous and detrimental to learning.

Bad lending and falling home prices

I daringly call it a correction (not a credit crunch) because it is leading to return of old-fashioned lending standards, the four C's: character, collateral, capital, capacity. Banks, for fear of future losses if anything, are returning to this standard (1). Housing prices in the short- to near-term will feel the affect. The Case-Shiller Home Prices futures index seems to agree prices will decline through 2010 (2). This bodes ill for most. Banks especially will suffer as a significant portion of real estate will continue to fall in value. Sometimes getting kicked in the nuts is the only way to learn.

A pain in the ARS

Auction-rate securities (ARS) are not cash equivalents (3) and everyone knows that. The maturity is greater than 90 days and they were never in the same seemingly "risk-free" category as T-bills. Banks sold them because of the commissions they made and failed to support the market when people stopped showing up for the auctions. Investors were left with discounted illiquid securities and firms only capitulated on making the investors' whole when regulators levied fines and warnings of great legal headaches. Their behavior has been nothing short of deplorable.

Securitizations and cheap money led to lackadaisical lending standards as banks tried to outshine other banks in their quest to chase yield. Banking once was about making a reasonable spread on interest paid on deposits vs. interest earned in long-term investments. We should learn a lesson from the less enviable traits of human nature.





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Disclosure: None

Notes:
(1) "Banks to toughen lending standards into 2009"
(2) "Composite 10 city U.S. Futures Market"
(3) According to SFAS-95, cash and cash equivalents are: risk-free assets with original maturities of 90 days or less.
(4) Image