Banks best customers? Themselves!

Over the weekend, Umair Haque tweeted the following:

"I'm going to make you rich. You just have to be my bitch". A must read (esp for non wall streeters).

with a link to this article from ProPublica: Banks’ Self-Dealing Super-Charged Financial Crisis

The article is pretty shocking.  Here's the opening paragraphs:

"Over the last two years of the housing bubble, Wall Street bankers perpetrated one of the greatest episodes of self-dealing in financial history.

Faced with increasing difficulty in selling the mortgage-backed securities that had been among their most lucrative products, the banks hit on a solution that preserved their quarterly earnings and huge bonuses:

They created fake demand.

A ProPublica analysis shows for the first time the extent to which banks -- primarily Merrill Lynch, but also Citigroup, UBS and others -- bought their own products and cranked up an assembly line that otherwise should have flagged.

The products they were buying and selling were at the heart of the 2008 meltdown -- collections of mortgage bonds known as collateralized debt obligations, or CDOs.

As the housing boom began to slow in mid-2006, investors became skittish about the riskier parts of those investments. So the banks created -- and ultimately provided most of the money for -- new CDOs."

In other words, as markets decided that CDOs were too risky, the bulge bracket broker-dealers dealt themselves some slack by using prop trading to buy and sell debt on their own books.

Don't believe it?

Here's the chart and explanation:

"In the last two years of the boom, CDOs created by one bank commonly purchased slices of other CDOs created by the same bank. Market leader Merrill Lynch outpaced its competitors. Nearly half of all of its CDOs bought significant portions of other Merrill CDOs. (About Our Data)

The black circles below represent the number of deals in which banks' CDOs held a significant portion of their own prior CDOs (more than one-third of the overall CDO slices in the deal) while the colored circles represent the total number of deals completed by that bank in that half year."

Oh yes, and that quote from Umair?

One Merrill executive summed up the overall arrangement: "I'm going to make you rich. You just have to be my bitch."

 
 

Thanks to Sean Park for the retweet.

Comments

[John Magill]

Where the banks buying their own CDO's or were they having to absorb the super-senior portion of the CDO as they couldn't off-load it?

[Chris Skinner]

Hi John

For clarity, the banks were creating a daisy chain in the Mezzanine layer of CDOs, not the super-senior:

"The top 80 percent, the less risky layers or so-called 'super senior', were held by the banks themselves. The beauty of owning that supposedly safe top portion was that it required hardly any money be held in reserve.

"That left 20 percent, which the banks did not want to keep because it was riskier and required them to set aside reserves to cover any losses. Banks often sold the bottom, riskiest part to hedge funds.

"That left the middle layer, known on Wall Street as the 'mezzanine', which was sold to new CDOs whose top 80 percent was ultimately owned by ... the banks."

http://www.propublica.org/special/the-cdo-daisy-chain