Dude, Where's My Leverage?After releasing his widely read
monthly commentary on the economy, famed bond guru and PIMCO managing director Bill Gross -- who oversees some $746 billion in assets -- thinks banks have a tough road ahead, too.
Gross thinks the days of the debt market operating free as a bird are all but over. "In my opinion, the private credit markets have forfeited their privileged right to operate relatively autonomously because of incompetence, excessive greed, and in minor instances, fraudulent activities," Gross stated.
The real impairment investment banks in particular will undergo is this: If it looks like a commercial bank and quacks like a commercial bank, it has to be regulated like a commercial bank.
Let's take a look at that monthly commentary.
Investment Outlook, Bill Gross, April 2008: When I'm Sixty-FourCredit Markets, Reregulation, and Home Prices
In my opinion, the private credit markets have forfeited their privileged right to operate relatively autonomously because of incompetence, excessive greed, and in minor instances, fraudulent activities. As a result, the deflating private market’s balance sheet is being re-nationalized in some cases with increased regulation, in others with outright guarantees and agency lending. Ultimately government programs which support private credit market assets may be required in order to prevent an asset deflation of significant proportions. Authorities must act quickly, with a shot of adrenalin straight to the heart of the problem: home prices. Since homes are the most highly levered and monetarily significant asset that American consumers own, if they decline much further they will drag the rest of the economy with them. Supporting home prices goes counter to the thinking of Republican orthodoxy. President Bush and Treasury Secretary Paulson argue that markets must "clear" in order to avoid similar mistakes made by Japanese authorities in the 1990s. Yet we may have passed the point of no return for "clearing" markets. Home price declines of 20% are in fact much more of a shock to the American economy than the popping of the Internet bubble and NASDAQ 5000, because the amount of homeowner leverage is so much greater. A 20% negative adjustment not only wipes out all ownership equity for millions of Americans, it turns their homes "upside down" – incentivizing them to let their gardens grow weeds instead of lettuce. The decline needs to be stopped quickly in order to avert additional crises.
....
No Bailouts?
Politicians – especially those on the Republican side of the aisle – are adamant about not using taxpayers’ funds to bailout Wall Street or housing speculators, or whoever the current devil may be. The public seems to nod in agreement while at the same time not noticing that their watch is being lifted or their pocket being picked. Let’s see: Twelve months ago the yield on your money market fund was 5%+ but your next statement will probably feature something closer to 2%. Did your money market fund (which in aggregate approaches 3 trillion dollars) experience any capital gains in the process? Absolutely not. So it looks like your (the taxpayer’s) contribution to the bailout of banks, or Florida condominium speculators can at least be quantified: 3% foregone interest per year on whatever you own. In addition, as pointed out in a previous section, the reflationary (inflationary) implications of all this suggest your contribution to the bailout will be even greater, since you’ll likely wind up paying higher prices for many of the things you’ll buy.
Ah, government sometimes works in mysterious ways. There’s more than one way to have taxpayers bailout Wall Street!
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