Deleverage Chapter 5: Price Discovery Continues
A: And the story goes on. Fresh back from the real estate conference, I come back to more deleveraging and more capital raising, which leads to ding ding ding ding ding...you guessed it ---> more price discovery! And you are the winner of a brand new WRITE-DOWN!!!
This is how the cycle goes. A frozen secondary mortgage market leads to forced sales of assets that would not otherwise be sold. As firms stack their toxic holdings into the imaginary accounting blanket of Level 3 assets (which I told you back in NOVEMBER of 2007 would become a household phrase), some firm has to ruin the party and forcibly sell their bad holdings for a bad price in the bad open market that is not really very open anymore. And then, have the audacity to sell more shares and dilute current shareholder value. How dare they! And now, we get a fresh new glimpse at the price that the frozen marketplace will currently pay for assets that I both don't want to own or sell. Sweet, thanks, great job Merrill Lynch. Now I need to MARK DOWN my bad assets to the low level that you just sold them at! Damn bastards.
Okay, Noah, get out of the first person.
Here is the news out of Bloomberg's, "Merrill Has $5.7 Billion of Writedowns, Sells Shares", which probably explains why the stock was down some 11% BEFORE the news was announced, (you shady shady marketplace, you):
Merrill Lynch & Co. said it will record $5.7 billion of pretax writedowns in the third quarter because of additional losses on the sale of collateralized debt obligations and hedging contracts with bond-insurers including XL Capital Assurance.Calculated Risk wisely adds on:
The New York-based firm said today in a statement that it plans to raise $8.5 billion by selling shares in a public offering. Thain has had to raise capital to stave off credit- ratings downgrades and satisfy regulators that the firm can withstand losses.
Here is the info on the CDO sale: On July 28, 2008, Merrill Lynch agreed to sell $30.6 billion gross notional amount of U.S. super senior ABS CDOs to an affiliate of Lone Star Funds for a purchase price of $6.7 billion. At the end of the second quarter of 2008, these CDOs were carried at $11.1 billion, and in connection with this sale Merrill Lynch will record a write-down of $4.4 billion pre-tax in the third quarter of 2008.So, lets do the math:
Merrill Lynch will provide financing to the purchaser for approximately 75% of the purchase price
VALUED AT $11.1 Bln and SOLD for $6.7Bln = a 40% markdown
Did I interpret this correctly? Please feel free to correct me if I'm wrong. As these 'super senior ABS CDOs' start forcibly trading, it will result in price discovery of a marketplace that is very illiquid at the moment, and give insight into the latest valuations placed on these hard to sell assets! And, MER will finance 75% of the purchase price? So, lets see here, lend to the buyer of your own distressed asset? Oh yea, I like this.
Expect more deleveraging, write-downs, and unwinding in our near future. The cycle continues, and this is NOT news. As prices are discovered, bad marks will spread to outside held illiquid holdings. Anyone shocked by this news, is behind the curve. The story will continue. The good news? This has to happen to get past it.
Posted by anon
Tue Jul 29th, 2008 09:43 AM
What happened to the inventory numbers? It appears it dropped off by almost 300 this morning. Assumedly, this is methodological since new listings continue to outpace contracts signed.
Posted by Noah
Tue Jul 29th, 2008 09:58 AM
Yea, I noticed that. I will check into it
Posted by Michael Oliver
Tue Jul 29th, 2008 03:39 PM
Noah, thank you for your insight every time the banks think they have written off enough BOOM there's another 3-5 billion getting written down in addition to what was already disclosed. This has been going on for a 1 year already and I think everyone has come to the conclusion that this could continue for another lengthy timeframe. Here in Tucson Arizona we saw so much outright loan fraud etc that it was obvious that prices were going to take a hit now we’re down (in most areas) over 30% and homes/ real estate here is starting to stop the decline, but who knows what the economy will bring here. Although in Tucson the economy is pretty resilient due to population growth and defense companies who have major facilities here.
Posted by Noah
Wed Jul 30th, 2008 11:02 AM
Thx Michael - hopefully you guys saw the worst of it. I think we wil teeter on the bottom for those areas though, as consumer is still pressured and lending standards tightening as rates rise.
I just dont see a V bounce unfortunately.
Posted by brokerMan
Wed Jul 30th, 2008 03:35 PM
Who in their right mind would buy into ML's lasted equity offering with their credablity issues over the past year. Hopefully, not my mutual funds.
Posted by jeff
Wed Jul 30th, 2008 06:42 PM
When appraisers appraise an asset they must render their opinion with the assumption of conventional financing....this is because the value of a transaction is changed if someone is given below market financing, or super leverage, etc - both of which juice returns on the equity actually put up and therefore effectively lower the cost to the buyer. So Noah, your math is actually too generous. The Merrill CDO sale price must be adjusted downard to refelect the fact that Merill will provide 75% financing...now the question is how much below "market" is the financing rate they gave Lone Star.
Posted by Noah
Thu Jul 31st, 2008 12:16 PM
Jeff!! MY MAN! Good to see you baby!
How about 0.10 on the dollar?