Good story on ‘Interest rate swap Armageddon in Alabama’.

It’s corruption writ large and small. The small fry will go down, the corporate criminals – the banks, can negotiate their penalties.

It’s a good illustration of the properties of swaps, where the bank play bookie, and the punters make their bets, never anticipating the potential liabilities in such a small ‘tail risk’:

“Swaps Blew Up
Under Langford’s stewardship, the county bet on interest-rate swaps, agreements that a representative of New York-based JPMorgan Chase & Co. told commissioners could reduce their interest costs. Instead, the swaps — covering more than $5 billion in all — blew up during the credit crisis after ratings for the county’s bond insurers fell. …

Thousands of public borrowers across the U.S. chose a similar strategy, and many are now paying billions of dollars to escape the contracts, said Peter Shapiro, managing director at Swap Financial Group in South Orange, New Jersey. Even Harvard University, the world’s richest academic institution with an endowment of $26 billion, fell for Wall Street’s financing in the dark: It paid $497.6 million to investment banks during the fiscal year ended June 30 because it chose to cancel $1.1 billion of interest-rate swaps.

…The [Jefferson County] sewer financing debacle began in 1996, … The estimated $1.5 billion project grew into a $3.2 billion behemoth, and in 2002 — the year Langford was elected to the commission — county leaders began refinancing about $3 billion in tax-exempt bonds that had helped pay for the improvements.

Interest rates were at a 30-year low. While that made fixed rates attractive, a JPMorgan banker advised commissioners to issue variable-rate debt with swaps layered on top to create a “synthetic fixed rate.” The technique was “supposed to provide a lower rate than traditional fixed rate” bonds… .

Theory of the Deal
Under the deal, the county would pay JPMorgan a fixed rate in return for receiving floating-rate payments from the bank. In theory, the payments to the county would match its debt obligations, leaving its swap payments to the bank as the county’s only cost.

… Langford said in 2005 that the swaps would save $214 million — an assumption based on the county and its bond insurers maintaining their credit ratings.

‘Bunch of Rubes’
“You know, I get the impression that people think a bunch of rubes in Alabama shouldn’t be smart enough to utilize these swaps,” he told Bloomberg News that year.

The county later hired financial adviser James White … who estimated that the commission’s cost for the swaps, $120.2 million, was as much as $100 million too high, based on prevailing rates.

Then, in 2007-08, credit ratings for bond insurers that backed the variable-rate bonds plummeted to junk status because of unrelated losses in mortgage-backed securities. The reduction in credit quality killed demand for the bonds they insured.

Banks were forced to buy the securities, kicking in contract provisions that accelerated to four years from 40 the county’s payment schedule on more than $800 million of the debt. …

Some of the county’s variable rates more than tripled, to as high as 10 percent. Meanwhile, the bank payments it received were decreasing. In March 2009, when JPMorgan canceled its swap agreements, a county filing said they were worth more than $650 million to the bank, which has agreed to waive termination fees under negotiations on how to restructure the county’s debt.

Federal Investigations
JPMorgan disclosed in May that the SEC is investigating the bank’s role in selling the financing structure to the county. The … U.S. Justice Department, is also conducting a nationwide investigation into alleged bid-rigging or collusion in the sale of “municipal derivatives.”

As for Langford, he “sold out his public office to his friends Blount and LaPierre for about $235,000z in clothes, watches and cash to pay his growing personal debt,” said a Department of Justice press release that accompanied the unsealing of his indictment in December. Of more than $7 million in fees Blount allegedly received, he kicked back $371,932 to LaPierre, according to federal documents in the case…”

——————-

Petty personal corruption in the political administration opened the door to massive corporate crime.

Alabama got burned, and JP Morgan got richer on an instrument the banks have used to turn themselves into bookmakers on interest rates.

The punters have been fleeced so bad JPMorgan even waived their cancellation fees! That’s shocking.

I’m not an economist. But at the time I really was surprised to find out that Norway, with a huge financial reserves of somewhat 150 billion dollars, had to extend its credit limit from the Fed significantly in order to make money transfers from the Norwegian central bank to national commercial banks.

The reason as I understood it, was that all payments between banks in the whole (western?) world are made i american dollars. If this is how it works, no wonder why the demand and value of the dollar went skyhigh at the time being, …

http://www.nytimes.com/2009/01/09/business/09insure.html?pagewanted=all

Dedo: yes, clarity!

Cox worked for Reagan. The flag-wavers shouldn’t be complaining now.

“During the second term of Ronald Reagan from 1986 to 1988, he served in the White House as Senior Associate Counsel to the President. His duties included advising on the nomination of three Supreme Court justices, the establishment of the Brady Commission following the 1987 market crash, and the drafting of legislative reform proposals for the federal budget process.[7]”
http://en.wikipedia.org/wiki/Christopher_Cox

http://groups.google.com/group/alt.gossip.celebrities/browse_thread/thread/3f4b2fd7e54c734b

How well the criminals are rewarded!

http://topics.wsj.com/person/e/mohamed-a-el-erian/451

Yes, Johnny. The more corrupt you are in America, the higher your ambitions may be! Why, you could even be president if you lie, cheat, and steal well enough!

@ Dedo
True, but again I just want them to see the mountain. I´m not telling them it´s going to be the end of the world, because its not. Maybe the mountain still is to far away, it needs to get closer to home to the personal sphere?

Haha, yes the fairytale. Isn’t that what everyone wants? That all things bad ends in good?

@ Sideny
I usually use some numbers to explain. Like US debt actually 60 T$. World total annual GDP 55T$. Derivatives total low estimate to be 600T$ and so on. You are not a nutty if backed with documented fact. After these numbers no one usually wants to argue any more. A few wants to know more.

Australia’s central bank Signals Further Rate Increases, Tolerance of Currency Gains http://tinyurl.com/yha6o3r

From: Europe Finance Chiefs Back U.S. Strong-Dollar Stance http://tinyurl.com/yh8pt8x

“While Wall Street bonuses are an important component of state revenue, they are not the only component,” Anderson said in an e-mail. “We continue to see substantial declines in tax collections across the entire budget. There is little prospect, if any, for a rebound in receipts by the end of the fiscal year that would remove the need for difficult deficit reduction actions.”

From: Wall Street 40% Bonus Rise Feeds Spending on $43 Steak, Co-ops http://tinyurl.com/ylyjwrj

Yep, It’s lonely at the top.

The problem with the carry trade is that like water, money always will flow from a higher point which is the country with the lowest interest rates to a lower point, the country with the highest interest rates.

This could counter act other monetary policies with unintended concequences as far as I can understand it. So ir coulkd be that money volumes which first poored out of the country come back as an huge inflationairy tsunami when interest rates are increased. Also will the dollar carry trade be destroyed and once again you could have an other Iceland situation.

But one could think that a warned man counts for two man. The other parallel problem of the dollar is the depreciation caused by the los in confidence which forces country out of the dollar. if the wave of dollar carry trade goes in par with unwinding positions what will happen?

All together it isn’t a easy puzzle and not every movement is always obvious in the beginning which makes it very hard to predict. But I am a leyman and don’t have the over sight. One could sometimes make some questimations based on the diffirent ongoing happenings.

Now, for instance we know that the foreclosure debts are still hidden for a certain part which can bring us an other surprise down the line.How much debts will come to the surface later? And we are not even talking about all the toxic assets hidden in the shadow banking system or are thgey gonna hide these foreclosure debt also in that system?

This will ultimaly all together not benefit the confidense in the system and the dollar could take an other confidence hit.

Hope it make some sense this line of thought of mine?

On a long enought timeline, the survival rate for everything drops to zero

Sometimes I regret being born to live these times.. and sometimes I am excited that I can experience this on front row. Can’t really make up my mind which is the best… For the first one it’s mainly because I have kids and I really don’t want them to grow up in a “fallout”-world. For the second one it’s when I forget that I have kids…

I have similar experience, which is terrible! People think you
are a nute-case! But I suppose that´s how it is all designed
already for many years. Thinks are so crazy that “normal” people
do not believe it… so everything flips over the normal become the
a-normal etc.

http://www.telegraph.co.uk/news/newstopics/politics/lawandorder/6378452/Persistent-criminals-could-escape-trial-under-new-CPS-guidelines.html

Well, if the BigBoys cheat, why shouldn’t the small guys get off the hook !
Crazy !

Yes … everyone considers themselves too small to be able to do anything anyway … which is why most of them just they turn off. As if to say … ” Let it be ” !
I often wonder why they even bother to vote !

I explained it on another thread :

@Mongo … cross currency swaps

.. is basically an interest rate swap in different currencies. The currencies are normally exchanged at the maturity date at the market price at that date. The go-between bank has to manage the Xrate and Interest rate risk and hedge accordingly.

Here’s a paper from BoA
http://www.classiccmp.org/transputer/finengineer/%5BBank%20of%20America%5D%20Introduction%20to%20Cross%20Currency%20Swaps.pdf