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The robbery of the century

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User ID: 265248
United Kingdom
07/13/2007 10:04 AM
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The robbery of the century
By Chan Akya

I have previously written [1] about the impending failure of US mortgage borrowers, whose failure to pay would affect not only the US economy as many of them declare bankruptcy, but also worldwide markets, as the risk has been widely sold to investors in other countries, with the bulk of the losses coming in Asia.

Ratings, securitization in brief

Banks lend money to a number of companies but, more importantly, to millions of individuals. As banks themselves
borrow money from other investors in the form of deposits and bonds, they would like to sell down some assets. However, anyone buying such assets from banks would be naturally worried about the quality of assets, and hence look to the banks to do two things: first, hold enough of the risk (what is called "skin" in the game) and, second, hire an independent evaluator of these securities.

When a number of similar receivables are packaged into a bond, what happens is that anyone buying the bond is dependent on the credit quality of people he or she has never met. For that reason, the markets depend on rating agencies such as Standard and Poor's or Moody's, two of the largest companies that perform such services and, coincidentally, both of which are American. The third major rating agency, Fitch, is European.

To a large extent, investors depend on these ratings for determining their investment appetite. Thus if you walked into an Asian central bank and asked what its criteria are for buying an asset, it might reply that it holds securities rated above a certain level, say double-A (the highest is triple-A, the lowest is D - as in "Default"). [2]

However, there are two immediate problems with this. First, ratings are paid for by the people issuing the bonds mentioned above, not the people buying them. Thus there is a logical business reason for maintaining the rating at a higher level than is strictly warranted by fundamentals. This is called a conflict of interest.

The second problem is that ratings are merely opinions. It is a bit like a film reviewer saying that the latest Bruce Willis movie is fantastic, while it may well turn out to be a stinker for most people. The difference, of course, is that a bad film recommendation only costs you US$10 (less if you buy a pirated disc in Shenzhen), but a bad ratings opinion can cost you millions. The agencies, while sophisticated, do not know the future any more than the typical astrologer. They therefore use masses of data to justify their opinions, all the while employing analysis of historical information.

This is not the first time the rating agencies have gotten it wrong in the markets. Whether it was their wrong ratings of emerging-market countries in the 1990s, or telecom companies earlier this decade, and now securitization, the agencies have been disastrously wrong on every new market. Still, investors and regulators trust them to provide judgment, as there are no alternatives.

The markets, though, always look ahead. In other words, if an investor expects to receive less interest on a particular bond, its price will fall well before the interest actually falls. Thus it is that markets are prone to overreact to information, while ratings slowly catch up.

There are, however, a number of investors - for example, central banks and pension funds - that rely only on the rating agencies for their information. Thus they fail to act when the markets start moving, and are forced to act when the rating agencies admit that the quality of the bond is actually lower than was previously thought. These investors are called "hogs" in the market - they are fattened up and then slaughtered.

[link to www.atimes.com]

With more than $3 trillion in such reserves being invested (wasted) on low-return US and European securities just across Asia, perhaps it is time for citizens to raise the question with their central banks: Just whom are you working for, your citizens or American homeowners?
 Quoting: Asia Times on Line

Oh Oh ,they have started thinkng.

Love and love

Love x
Anonymous Coward
User ID: 265734
United States
07/13/2007 10:38 AM
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Re: The robbery of the century
We are working for the Man.

User ID: 267268
07/16/2007 10:11 AM
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Re: The robbery of the century

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