Just as Wall Street had its biggest rise in two months, another nasty from the subprime mess is emerging that could cause more headaches for America’s financial groups, large and small.
On Wall Street, there was a sense of relief overnight thanks to the better than expected earnings from retail giant, WalMart, and speculative punting in bank and financial stocks by investors looking for bargains.
And Bank of America yesterday clarified its expected third quarter write-downs from the subprime mess at $US3 billion, but could give no guarantees that the figure was hard and fast: it could increase because asset values are not certain.
But we should be more worried about what’s going on in the normally boring world of cash management accounts where there could be a $US50 billion black hole lurking for some of the country’s biggest banks and fund managers.
How could you lose by investing cash in a boring cash management account? Don’t worry, in the land of subprime mortgages, SIVs, CDOs and CLOs, all things are possible. And managers are scrambling to raise money to make sure the looming losses don’t happen.
The switching of attention to cash funds is important because it represents the first time the damage caused by the subprime implosion has bitten investments away from property and shares. But it’s not really the fault of the subprime mess, it’s more the fault of greedy managers trying to get a competitive edge for an investment that produces fairly low returns.
Bank of America, along with Legg Mason (which bought Citigroup’s funds management arm several years ago) and at least two other financial groups are trying very hard to avoid “breaking the buck”, as they say in the US finance industry.
That’s idea that US financial groups offering retail cash management style accounts will do anything and everything to avoid the net asset backing of each fund falling below $1 per unit or share.
To offer investors net asset backing of under $1 means the ability to attract new money is limited, and investors will take their funds out when they realise they may not get $1 for each dollar invested. It’s tantamount to commercial suicide, so banks and others find extra capital, get loans or stand by lines of credit to guarantee the minimum $1 figure.
Complicating matters this time is the realisation that the troubles in the cash accounts come from moves by their sponsors to boost return by investing some of the cash in structured investment vehicles (SIVs) and others that issued asset-backed commercial paper based on their holdings of subprime mortgages and/or their related credit derivatives.
Bloomberg reported that the 10 largest managers of US money funds have about $US50 billion in short term debt of SIVs, some issued by vehicles such as Cheyne Finance Plc of London that have already defaulted, while at least a dozen other pools of similar funds are on the verge of collapsing.
It’s no wonder the likes of Bank of America, Citigroup, Federated Investors Inc. and Fidelity Investments are trying to limit their losses by backing a plan coordinated by the US Treasury for an $US80 billion fund to keep SIVs afloat.
The fund will borrow from its sponsors and others in the market, but won’t buy all debt from all SIVs: just the stuff that is supposed to have the highest rating. Which means some SIVs and their debts will fail, undermining the worth of the idea.
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