International Forecaster Weekly

Financial Crisis in Evidence

Citigroup fighting to stay solvent, real problems in the economy remain obscured, subpoenas for more about inflated housing appraisals, Russia continues to show defiance, Neil Bush under investigation by the Department of Education, other reasons to manipulate the markets

Bob Chapman | November 11, 2007

You would not think so by listening to all the lies and decent but Citigroup is fighting to stay solvent. Their level 3 assets are almost totally illiquid and they do not know what they are worth. In all probability some $0.25 on the dollar on average. We might add here that thousands of the institutions worldwide are in the same situation and we won’t see the final damage reports for as long as another year. This is the worst financial crisis since the 1930s. They have stated their total liabilities at the 3 level were $40.36 billion, which was revised to $134.8 billion, but these are hedged positions. We do not know what the hedges are nor do we know how solvent the sellers of these hedges are. As we explained before many derivative writers have no collateral assets to cover the contracts they have sold. What is disturbing, counter to this fairly opaque announcement by Citi is, that the CFO of Citigroup said the market simply was not there. In other words, there were few if any buyers for level 3 junk bonds and that the market to hedge the CDO book was not there. That means Citi had few if any hedges in place. That said the CFO then said Citi might liquidate CDO’s if market prices come back. Sell to whom? How can CDO’s rally if there are few or no buyers? As we reported in the last two issues if hedge derivatives do exist, are they with Ambac or MBIA If they are they may be uncollectible, because both they and the other bond insurers may go under.

This dilemma is proof that financial engineering doesn’t work. These engineers have designed securities and derivatives that do not work. As we explained in 1998 everybody uses the same mathematical models and when these models have to deal with excess volatility they collapse and they all collapse together. Being able to define probability is one matter but making it work under all circumstances is impossible. That is because investing cannot be defined by mathematical formula, because it is an art form. In the final analysis these formulas do not work and the carnage that follows is terrible. We are in the middle of such a situation presently and it will get far worse before it gets better, as all of these black box players try to escape simultaneously.

Citicorp like others fell victim to believing their own lies. Like valuing assets based on what they knew were a false premise. In collusion with the rating companies they rated BBB bonds AAA. Then when valuing their bonds for sale and their inventory by marking to model, which was pure fantasy, they knew at sometime in the future the scam would unravel. They just couldn’t lay off the toxic garbage fast enough. For three years firms like Citi perpetuated a myth - a fraud in evaluating its toxic bonds and inventory therein. They also engaged in fraud with the rating services. Citi and many others refrained from market sales in these securities because it would have exposed the entire scam. Banks, Wall Street, corporate America and our government simply refuse to tell the truth and this is the result.

Citi has $134 billion in CDO and ABS’s primarily backed by subprime toxic waste. They have $25 billion in commercial paper backed by toxic garbage. It should be noted Citi is watching a disintegrating housing market, which will depreciate these values further. Once they figure in the leverage you will find Citi is bankrupt. We expect the Fed will print the money and create credit to bail Citi out, and they will bail out all the biggies.

The dollar has fallen 36% under George and the neocons, or about 4.8% per year.

Total derivatives are now almost at $500 trillion. The current credit crisis has obscured this problem. The derivative positions will get larger and the implosion when it comes will be deafening. U.S. commercial banks increased their notional amount of derivatives in the 2nd quarter by $7.7 trillion to $152.5 trillion. These credit derivatives, which are the fastest growing derivative product, increasing 16% from the 1st quarter to $11.8 trillion. Credit default swaps, represent 98% of the total amount. That is up from 79% yoy. The five largest dealers hold 97% of the contracts. In descending order, HSBC, J.P. Morgan Chase, Citibank, Bank of America and Wachovia. This is what awaits us around the corner.

N.Y. AG Andrew Cuomo said Wednesday that his office was sending subpoenas to Fannie Mae and Freddie Mac as part of an expanding probe of the housing industry. Washington Mutual was being investigated over appraisals and mortgages purchased by the companies.

In the 11/2/07 week the MBA applications index was even versus -0.7% the prior week. The refi index was -3.2% versus +9.2% the prior week. The 30-year fixed rate mortgage was 6.16% up 1 bps.

The bid to cover in the 10-year note auction was 2.34 to 1, with a yield of 4.35%. The average bid to cover was 2.5 in the past 10 auctions. Indirect participation was 28.7% versus an average of 25.09%. Those are foreign central banks.

Morgan Stanley has the equivalent of 251% of its equity in Level 3 assets. Lehman Bros has 159% and Citigroup 105%. Merrill Lynch has 39%.

Those morons who run our country have done it again. Russia’s Duma voted 418-0 to suspend Moscow’s participation in a key European Arms Control Treaty, approving President Vladimir Putin’s initiative in a widely expected show of defiance to the West and its Illuminati masters. This is a temporary abandonment of its obligations under the Conventional Forces Europe Treaty, a 1990 pact.

The inspector general of the Department of Education has said he will examine whether federal money was inappropriately issued by three states to buy educational products from a company owned by Neil Bush, the President’s brother. Citizens for Responsibility & Ethics in Washington detailed at least $1 million in spending from the No Child Left Behind program by school districts in Texas, Florida and Nevada to buy products from Ignite Learning of Austin, Texas. We originally reported on this a year ago.

The third quarter productivity figures are laughable. They expect us to believe productivity grew 4.9%, the most in four years, up from 2.2% in the second quarter. This is the old Sir Alan Greenspan ruse. This supposedly relieves short-term concerns regarding inflation. They are trying to justify their core inflation figures that are so blatantly false. Over the past 12 months official productivity has grown 2.4%. The long-term average is 2.5%. We do not believe these figures either.

The plunge in the dollar has some policy makers at the Fed leery of cutting interest rates again. It is just starting to dawn on them that the dollar is fast losing its status as the world’s reserve currency. Some seem willing to accept only 1.5% growth and do not want to cut unless growth is lower than that. Investors see a 60% chance of a rate cut in December. We are skeptical, so we do not see a cut. Wait until the market realizes that, it surely will bring lower prices.

Seattle’s King County saw single-family homes and condos fall 1% to $387,500 from $391,200 yoy. The number of condos and homes on the market jumped 44% to 14,240. For each of the past six months, the supply has been at least 40% higher than a year ago The reality is homes are selling for 10% to 15% less, that is if you want to make a sale.

Inventory stockpiles are at their lowest levels ever in relation to sales. Sales at wholesale increased 1.3% in September, the best growth since May, while inventories rose 0.8%, the most since 12/06.

Sales to inventory fell to 1.10 from 1.11 in August. A year ago they were 1.15%. What is disturbing is the perpetual revisions in all government figures, because the changes are so large. August figures were revised to 0.7% from 0.1% by way of example. When you have discrepancies this wide you are better off not releasing figures until you are sure they are correct. Of course, the real reason is to manipulate markets.