An echo of 2007
Many people seem unaware that the 2008 crash didn't start in 2008 with Lehman Brothers. Lehman Brothers was just the last straw for a financial system that had been under increasing stress for over a year.
It all started in the summer of 2007 with Bear Stearns..
On June 22, 2007, Bear Stearns pledged a collateralized loan of up to $3.2 billion to "bail out" one of its funds, the Bear Stearns High-Grade Structured Credit Fund, while negotiating with other banks to loan money against collateral to another fund, the Bear Stearns High-Grade Structured Credit Enhanced Leveraged Fund. Bear Stearns had originally put up just $25 million, so they were hesitant about the bailout; nonetheless, CEO James Cayne and other senior executives worried about the damage to the company's reputation. The funds were invested in thinly traded collateralized debt obligations (CDOs). Merrill Lynch seized $850 million worth of the underlying collateral but only was able to auction $100 million of them.
The Bear Stearns crisis was different for a very basic reason - the assets of the funds would have to be liquidated because of the bankruptcy filing.
A sale would give banks, brokerages and investors the one thing they want to avoid: a real price on the bonds in the fund that could serve as a benchmark. The securities are known as collateralized debt obligations, which exceed $1 trillion and comprise the fastest-growing part of the bond market.
Because there is little trading in the securities, prices may not reflect the highest rate of mortgage delinquencies in 13 years. An auction that confirms concerns that CDOs are overvalued may spark a chain reaction of writedowns that causes billions of dollars in losses for everyone from hedge funds to pension funds to foreign banks....
"Nobody wants to look at the truth right now because the truth is pretty ugly," Castillo said. "Where people are willing to bid and where people have them marked are two different places."
The credit markets almost immediately froze up.
The market for mortgage bonds has become "very panicked and illiquid," CEO Michael Perry wrote in e-mail to employees yesterday..."Unlike past private secondary mortgage market disruptions, which have lasted a few weeks or so, our industry and IndyMac have to be prudent and assume that this present disruption, which appears broader and more serious, might take longer to correct itself," Perry wrote.
And that, in a nutshell, was the reason for the worldwide financial crisis - the mispricing of assets, mostly mortgage-backed securities, based on fictional financial models. Or to put it another way, much of the world's wealth was fictional.
Fortunately, that was 2007. This is today. We are all older and wiser. Washington passed Dodd-Frank and that fixed Wall Street.
We no longer have to worry about these Wall Street gambling junkies creating financial houses of cards based on fictional wealth, right? Right?
Yesterday Stone Lion Capital suspended redemptions and basically closed up shop.
Stone Lion Capital Partners L.P. said it suspended redemptions in its credit hedge funds after many investors asked for their money back.
The move, nearly unprecedented in the hedge-fund industry since the financial crisis, is the latest example of the sudden crunch facing traders across Wall Street looking to sell beaten-down positions. On Thursday, Third Avenue Management LLC stunned investors with the announcement it was barring withdrawals while it liquidates a high-yield bond mutual fund, a move that intensified a selloff sweeping the junk-bond world.
Stone Lion, founded in 2008 by Bear Stearns & Co. Inc. veterans Gregory Hanley and Alan Mintz, is in a similar malaise, facing heavy losses on so-called distressed investments including junk bonds, post reorganization equities and other special situations, people familiar with the matter said.
Say what!?! Bear Stearns again?
Now here's the real kicker:
Alan Jay Mintz, CPA, a co-founder of Stone Lion Capital was Co-Head of the Distressed Debt and High Yield trading group at Bear Stearns
Gregory Augustine Hanley, a co-founder of Stone Lion Capital was Co-Head of the Distressed Debt and High Yield trading group at Bear Stearns
These guys that just blew up a junk bond hedge fund weren't just Bear Stearns veterans, they were the architects of the Bear Stearns junk bond hedge funds that started the entire 2007-2008 financial meltdown.
You can't make this sh*t up!
In the summer of 2007 the stock market was still going up, the economy was declared by everyone to be strong, and almost no one was predicting a recession. The only indications of trouble was in the credit market, specifically the somewhat illiquid and lightly-traded high-yield bond market.
It's nothing like what is happening today, right? Right?
With investors withdrawing from the riskier pockets of the bond market, the lockout by Third Avenue ignites fears that mutual funds that have loaded up on hard-to-sell securities like junk bonds, leveraged loans and emerging market debt may face a similar predicament...
The fund’s value had shrunk to about $790 million from about $2.5 billion, but other high-yield bond funds had lost more assets. Behind the scenes, though, the Focused Credit Fund’s large position in so-called Level 3 assets — securities that trade so infrequently that prices for them can only be estimated — was causing serious problems.
Hmmm. Infrequently traded? Can only be estimated? Where have I heard those terms before? I'm sure I'll remember one day.
As an indicator of how bad things have become in the high-yield market, Mr. Gundlach noted that the $10 billion high-yield exchange-traded fund managed by State Street, largely seen as a barometer for the junk bond market, was trading lower today than it did right after the Lehman Brothers crisis in 2008.
“When the market is pricing assets that low, you should worry,” he said.
That's crazy talk. Even suggesting something like that will get you labeled a "doom-and-gloomer" who are "always wrong".
This is probably only the start of trouble for Stone Lion Capital.
The firm continues to operate several other funds, including one that bets on Puerto Rico’s economic recovery.