I'm from the government. I'm here to help.

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BondGuy's picture
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Last spring Fannie brought a AA rated preferred issue. This thing paid one partial payment and now the trusting souls who bought the new issue are screwed. Trading a 2.50 with a suspended dividend. A ninety percent loss in a AA rated investment in five months!
I'm from the government, I'm here to help. What a crock!
 
These people are not speculators. They don't deserve this treatment. Nor do the rest of the investors, note: not speculators, who invested in FNM preferred stock over the years.
 
Shades of PSFS Meritor.

greyhairedbrker's picture
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BondGuy wrote:
Last spring Fannie brought a AA rated preferred issue. This thing paid one partial payment and now the trusting souls who bought the new issue are screwed. Trading a 2.50 with a suspended dividend. A ninety percent loss in a AA rated investment in five months!
I'm from the government, I'm here to help. What a crock!
 
These people are not speculators. They don't deserve this treatment. Nor do the rest of the investors, note: not speculators, who invested in FNM preferred stock over the years.
 
Shades of PSFS Meritor.
 
I agree that's a tough one, BG, but what position would those trusting souls be in if Fannie had collapsed? 

theironhorse's picture
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this wasn't a collapse?  least the execs got their severance so they won't be forced to live in squalor.

Sportsfreakbob's picture
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What happened to FNM and FRE pfd holders, especially the ones who bought the issue referred to that came out in the spring, is financial terrorism. The govt just stepped in (which i agree they had to) and raped them. This deal could have been structured somehow so that PFD holders were made whole. The investors, and the brokers who sold the deal, both had every reason to believe it was a good income investment. I CANNOT believe that the rating agencies skate on this. Their research and ratings are worth no more than the crap put out by our firms.
And i really hope that the pigs who earned millions of dollars running the company (into the ground) get more than a pink slip for this. The money they got paid is a sin. If i did as good a job as them, i wouldnt have a book.

OldLady's picture
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I'm sorry - preferred stockholders aren't creditors.   Preferred has just never made sense to me: they act like bonds, so there's the interest rate market value teeter totter, you aren't a creditor so you take the risk to your investment with the corporation and you don't get to participate in the profitability and growth of the corporation.  I always looked at them as the worst of both common stock and bonds.   I'm sorry some innocent people were hurt, but how could someone buy a Fannie Mae pfd last spring when mortgage foreclosures were skyrockting and think it was a good idea?

Sportsfreakbob's picture
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How could S&P tell the public that Fannie Mae was worthy of being called a AA credit? We are not analysts, we depend on the analysts to do that work.
 
And i think its important to consider the people who bought this stuff. I;m sure you will agree that for the most part they are not sophisticated investors, at least not the retail buyers. And the govt says that as far as the regional banks are concerned they "will work with them" . What the hell does that mean - they will work with the sophistacated bankers who bought Fannie, but screw the old ladies that thank Fannie is some new brand of underwear?
It just doesnt make sense to me.

Sportsfreakbob's picture
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Ice, OldLady -
You both know i respect your opinions. No ifs ands or buts. And you make some good points. But here;s my question: Pfds may not be bonds, but they are clearly not equity. They are a means of raising capital without givng up ownership in the company or the companys profits. Just like bonds. So two questions- why bail out the bond holders but not the pfd holders? The common holders are different  - they are taking on the risk of ownership. And two - why treat the bank holders of the pfds different than the little people. I dont see the justification for that.

HymanRoth's picture
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Sportsfreakbob wrote:Ice, OldLady -
You both know i respect your opinions. No ifs ands or buts. And you make some good points. But here;s my question: Pfds may not be bonds, but they are clearly not equity. They are a means of raising capital without givng up ownership in the company or the companys profits. Just like bonds. So two questions- why bail out the bond holders but not the pfd holders? The common holders are different  - they are taking on the risk of ownership. And two - why treat the bank holders of the pfds different than the little people. I dont see the justification for that.They may look like bonds, but if you go back to any basic finance textbook, it is clear that they are equity.There is a reason that they pay more than bonds, and it isn't just the infinite maturity of a 'true preferred'.  It's also the fact that their claim to the company's assets is subordinate to true debt holders.I respect and appreciate the anger that many of you are expressing.  As it relates to the ridiculous comp packages for senior management who ran these firms into the ground, I understand and agree.  But, as for the preferred holders, you should be pissed at the rating agencies or the brokers who sold the issues to clients relying solely on the rating agencies.  They bought equity, and in a BK or major restructuring, equity is usually wiped out or severely reduced.  That is just the way of the street.  To bail out equity holders would have created a moral hazard and made precisely the wrong statement.Fact is, if you read the papers at least once a month, you certainly would know there were concerns about Fannie and Freddie...it's been a story in the papers for years.  Then you just need to have the guys to act on your convictions.  I don't have a single Fannie or Freddie preferred in my book.  The risk/reward simply wasn't worth it.

OldLady's picture
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Bob - They are equity, just crappy equity - but they are equity on the balance sheet.  They are equity if something bad happens - that's why I never understood the allure - even when nothing goes wrong almost all the time there is always the risk & how much more do you make compared to the possible risk?  Just not a gamble I was ever willing to make.  Also, I think you are misreading what the fed said about the regional banks, they didn't say they were going to do anything about the pfd stock they were holding, just that they make help the banks maintain their required capital ratio (or whatever they call it in banking, but I'm guessing you know what I mean).

snaggletooth's picture
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HymanRoth wrote: They may look like bonds, but if you go back to any basic finance textbook, it is clear that they are equity.There is a reason that they pay more than bonds, and it isn't just the infinite maturity of a 'true preferred'.  It's also the fact that their claim to the company's assets is subordinate to true debt holders.I respect and appreciate the anger that many of you are expressing.  As it relates to the ridiculous comp packages for senior management who ran these firms into the ground, I understand and agree.  But, as for the preferred holders, you should be pissed at the rating agencies or the brokers who sold the issues to clients relying solely on the rating agencies.  They bought equity, and in a BK or major restructuring, equity is usually wiped out or severely reduced.  That is just the way of the street.  To bail out equity holders would have created a moral hazard and made precisely the wrong statement.Fact is, if you read the papers at least once a month, you certainly would know there were concerns about Fannie and Freddie...it's been a story in the papers for years.  Then you just need to have the guys to act on your convictions.  I don't have a single Fannie or Freddie preferred in my book.  The risk/reward simply wasn't worth it.
 
It kind of makes me wonder what to do about the ING, Barclays, and Deutsche Bank preferreds I hold.  All down of course thanks to Fannie and Freddie.
 
In this economic world we're in you just never know.

HymanRoth's picture
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OldLady wrote:Bob - They are equity, just crappy equity - but they are equity on the balance sheet.  They are equity if something bad happens - that's why I never understood the allure - even when nothing goes wrong almost all the time there is always the risk & how much more do you make compared to the possible risk?  Just not a gamble I was ever willing to make.  Also, I think you are misreading what the fed said about the regional banks, they didn't say they were going to do anything about the pfd stock they were holding, just that they make help the banks maintain their required capital ratio (or whatever they call it in banking, but I'm guessing you know what I mean).Exactly...if it means keeping one of them out of conservatorship, they will ::wink wink:: find a way.  Unless of course said institution was just completely stupid...then they will have to let them go most likely.  They don't want new headlines about how their 'rescue plan' put more banks under.  Simply that.

HymanRoth's picture
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snaggletooth wrote:HymanRoth wrote: They may look like bonds, but if you go back to any basic finance textbook, it is clear that they are equity.There is a reason that they pay more than bonds, and it isn't just the infinite maturity of a 'true preferred'.  It's also the fact that their claim to the company's assets is subordinate to true debt holders.I respect and appreciate the anger that many of you are expressing.  As it relates to the ridiculous comp packages for senior management who ran these firms into the ground, I understand and agree.  But, as for the preferred holders, you should be pissed at the rating agencies or the brokers who sold the issues to clients relying solely on the rating agencies.  They bought equity, and in a BK or major restructuring, equity is usually wiped out or severely reduced.  That is just the way of the street.  To bail out equity holders would have created a moral hazard and made precisely the wrong statement.Fact is, if you read the papers at least once a month, you certainly would know there were concerns about Fannie and Freddie...it's been a story in the papers for years.  Then you just need to have the guys to act on your convictions.  I don't have a single Fannie or Freddie preferred in my book.  The risk/reward simply wasn't worth it.
 
It kind of makes me wonder what to do about the ING, Barclays, and Deutsche Bank preferreds I hold.  All down of course thanks to Fannie and Freddie.
 
In this economic world we're in you just never know.You should wonder.  IMHO preferreds are a fool's game.  Equity risk with not much more income than bonds, and looooooong duration to boot.Honestly the only time I ever had a happy experience with 'em is when I picked up a ton of GMAC preferred when it was trading under 15 abt 5 years ago, and then blew it out when it rallied because people realized they weren't going BK.  I think it was GKM.  I was more than happy to put it back out into the market at 20 plus the divy.

Sportsfreakbob's picture
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ok, i stand corrected. I know they are not bonds. And by the way, in my entire book, i had only one client in FRE pfds and he is ok, i had discouraged him from buying more than he did, and he understood the risk. So this is not sour grapes.
However, its really a shame, the clients are getting F*****d, and in turn for sure the brokers will to. Neither deserve it. Brokers are no analysts, they're not supposed to be, in fact there was speculation prior to the actual event that Paulsons plan WOULD protect deferred holders. Brokers should be able to DEPEND on the analysts.
Everything thats going on right now makes Indie look real interesting. I can get shitty research from all over the street, dont need a big firm to give it to me.
 

norway401's picture
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Pfds are equity ....quite clearly. Bond Holders are Debt Holders. On the comment about the Executives OF COURSE they are also given the Golden Parachute they ensure that their contracts are a " WIN - WIN " for themselves. The Board Members are fellow croonies and naturally they protect themselves and ensure that compensation is a priority.
In recent times how many times have we seen companies perform poorly or even go in to Bankruptcy Protection and the Senior Management instead of being fired are paid Performance Bonuses. I use as an example Air Canada...they put the company in to Bankruptcy Protection a few years ago. The Senior Management were rewarded with Salary Increases , Bonuses and Performance Incentives at the same time as proceeding with Bankruptcy Protection. What about the employees who lost their jobs , forced employees to take pay cuts , the shareholders got royally   and the suppliers got  and causing some of them to bankrupt. The choice part of the situation was that after the Courts awarded Protection.....the Suppliers that had been  wanted there monies under different financial terms were challenged in the Courts by Air Canada. The company filed in Ontario Courts their claim as the Ontario Courts were more favourable to their position. The Quebec Courts were not inclined to their claim ( despite their Head Office being located in Montreal ). Court Ruling.....The Suppliers were forced to provide services to Air Canada at the same favourable terms that they had prior to Bankruptcy. FAIR to whom

BondGuy's picture
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First, my thanks to Consiglieri Hyman Roth for his concise explanation of preferreds.
 
While I respect everyone opinion as what to offer and not offer to clients, in my view, calling preferreds crappy equity is where we part ways. In my view preferreds are a low risk answer to the high income needs of many of our clients. They deliver an income above that for the risk taken. If for example a company has a senior debt rating of AAA, what is the probability of a default? That, the preferred stock of such a company would have a AA rating does not imply a greater risk of default, only a subordinated place in line. Thus an investor while investing in a AAA credit, by agreeing to stand in the AA position, gets paid a higher income. The risk of default on both the senior and subordinated debt is exactly the same. Buying the preferreds is a way to get a  AA income from a AAA credit. Getting higher income from AAA credits sounds pretty smart to me. Any of you hold AAA corporate debt? Comfy with it? how about AA? Ok with that? From a risk of default POV buying AA rated FNM is no different than any other AA debt you are holding.
 
To, in so many words, say that FNM preferred holders got exactly what was coming to them is at best cold hearted and at worst uninformed. While we call FNM by its cute nick name Fannie Mae its real name is Federal National Mortgage Association. Please note the use of the words Federal and National in the name. They are there by no accident. FNM is a GSE. FNM has been in business since 1938. It is aour primary conduit for secondary mortgages in the country. Alan Greenspan called the obligations of FNM an implied obligation of the US government. As did at least one Noble Lauriet economist. There was nothing in the stock price in May to lead one to believe there was a problem. It had found a stable trading range after sinking late last year on the intial mortgage shock. In fact it was trading almost 20% above its lower post Bear checkout March levels. The preferred issued in May wasn't bailout money. It was normal course of business financing. In July both the Sec of the Treasury and the Whitehouse both issued statements confirming the stabilty of both Fannie and Freddie. And lets throw in that this is an unpresedented event. Who knew this could happen? FNM's senior debt was rated AAA. There was no bankruptcy. Yet for the preferred holders, their position is no different than had there been.
 
I tell you that to tell you this. The preferred shareholders were duped. FNM's senior management knew, certainly by May of this year that they were in deeper than they were saying. Certainly the Sec of the Treasury knew it. But still they took the money. You don't get to issue public comments of stability while behind the scenes the wheels are falling off without losing total credibility. And a future billion dollar lawsuit or two.
 
Relative to the bigger question of bailing out our primary mortgage mechanism, with all its implications, giving relief to the preferred share holders is chump change. As it stands the preferred shareholders of FNM were taking an undisclosed risk that is so unique that it is not repeated anywhere in corporate america.
 
The clients take the hit. Their advisors aren't far behind. That the govt is willing to work with banks while screwing the little guy individual investor, is inexcusable.
 
For those of you who buy CDs, look out, FDIC insurance an implied obligation of the US government. Yeah, they've got your back as long as its a bank failure here and a bank failure there. If we get into a 1930 situation, its lights out. That insurance will be worthless.
 
Lastly, Hyman while I mentioned your name and differ with your take on PFDs as well as that of several others here, this is not directed at you personally.
 
And for the curious, I did not and do not hold any FNM preferred stocks. I wouldn't touch that crap with your book! Just kidding, well about the crap part. I'm not a holder of FNM pref. Maybe just lucky that timing had me busy on other things the day it was offered. The doomed plane left the gate without any of my clients on board.
 
 
 
 

lady_trader's picture
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On a day to day basis, what I really see most is that reps look at the rating and not the yield.
 
If the yield screams out at you-Say a 9% YTM American General Finance for 7 years, but is A- rated, reps are buying it up.  "Hey, it is investment grade."
 
In this environment, if the yield looks too good. I promise you--IT is too good to be true, regardless of the rating.

Sportsfreakbob's picture
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well said, BG. The important thing here, is investors got duped. Not only by Sr Mgmt. THe govt told them to raise that money.
This is the end of the pfd mkt for some time. More important, as one advisor in my office put it, this whole environment is the end of the transactional business. The brokers that survive are the ones that have it in their head that they get paid for their advice, not for the trade, or finding the right yield.

Johnny Roast Beef's picture
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My opinion is this ain't even close (yet). 

Indyone's picture
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Agreed...by the end of 2002, I was ready to invest personally in CDs at 2%.  I don't think we'll get close to the damage of 00-02 as we started a lot lower in terms of P/E ratios.  My best guess is that the end of the bear is near...much nearer than the end of the crappy economy.  That's probably next summer.

BondGuy's picture
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Lady trader, this is not what i see. Even in the tax free market where its if you snooze you loose we always look at the issuer, circumstances , market etc. Most fixed income advisors that i know always look before they leap.
 

What you are describing sounds more like advisors who aren't fixed income guys. Still, they are doing nothing wrong. One should be able to rely on the rating.  A- is half a tick above investment grade, and there is nothing wrong with buying paper in that range or even below as long you understand the risk, and the story, and can accurately convey that to the client.
 
Still, this does not FNM describe. To use FNM to indict preferreds is far from fair. The senior debt was AAA and the last preferred brought to market was rated AA. It was AA in May. It was AA in June. It was AA in July. It was AA in August. It was AA until the goverment came it and wiped out everyone's assets. Definately not in the prospectus.
 
Please show one other investement that went from AA to trading as bankrupt in four months. Show me that and we can have a conversation about how reckless these investors were. As well as how poor their advisors are.
 
The real problem with this is the lack of understanding regarding the plight of these investors. I expect it from the general public who do not understand these things, but not here where they are (Supposedly) understood. That the investors are being painted as speculators lends a very Karl Rovish tone to the take over. The government is justified in taking these people's money, they were speculators! Who cares about them?
 
Actually they are responsible investors who had their assets seized by the government to facilitate the governent bailing out irresponsible banks who lent money to irresponsible home buyers. Note i didn't say home owners because many of those to be bailed out are themselves true speculators.
 
What's that line from No Country For Old Men when the deputy asks "It's a mess, ain't it sheriff?"
 
"If it ain't, it'll do til the mess gets here."
 
 

lady_trader's picture
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BG, normally I agree with you about ratings, but not in this environment.
Just speaking about bonds, here; not preferreds. Last month, Lehman, WaMU were investment grade. Bear Sterns bonds were investment grade even when they were going for $2 share and  2009 maturity was going for 30% YTM. The rating agencies simply can not keep up.
I agree that most advisors do some sort of  research, and truthfully there are a lot of good reps out there. However, I had to respond based on the poster on this thread who brought up the ratings. Yields, not ratings, tell you the story in this environment.

BondGuy's picture
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LT, from where i sit the rating agencies are having no problem keeping up. More times than not they are predictors of where the mess is going to show up. The also add watches and outlooks to their rating as a warning to those who would look no further than the rating itself. It's difficult to look past a negative credit watch and say you didn't realize the risk.
 
The bond market is in such disarray that using yield as a risk determinent is, in my view, unreliable. This is especially true in the muni market where AAA munis are trading at or above 100% of treasuries. That should not be. We use what we always use, credit analysis and research to make the buy/pass call. Our familiarity with the market enables us to act quickly. In my opinion yields don't tell the story or not the whole story.
 
The fixed income market is presenting us with many opportunities. From rolling the dice with Lehman bonds this weekend to buying greatly undervalued high quality muni bonds, there's a place at the table for speculators and conservative investors. However, and again, using an unpresedented government seizure as a soap box to warn everyone to stay out of the water regarding an entire securties class is uninformed.
 
And, as well, if the government can do it to them they can do it to you.  A review of any and all Fed govt paper, or implied obligations is in order. I'd start with FDIC insured CDs.
 
 
 
 

nestegg's picture
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Bond Guy I am with you 100%...Thanks Paulsone and the Treasury Dept for nothing!

Bud  Fox's picture
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The Bush Admin & the Treasury urged FNM to raise new capital since late 2007.  FNM raised 4.25 billion in April and May alone.  And now the Treasury comes out and tells all of the investors that put up money in investment grade, implied Govt backed FNM during April & May (4 months later) screw you; We the gov't will get our 10% first!!!  This is all out fraud and there will be class action litigation coming up.  BTW, I always saw PFD's as fixed income and not equities.  Look at the crowd you solicit them to....  These $25 bonds were structured as a cheap way for people to get fixed income, reinvested divs,  but the trade off is they are a lower rung on the ladder for payout in the event of a liquidation.  I guess they forgot to write something in the prospectus if taken over by the U.S. Govt.

Sportsfreakbob's picture
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No disespect meant, but how can anyone say dont look at the ratings? The ratings are what we go by. Its all we have. You could argue that the yields being high may be a function of the market being afraid of financials in general. It may (or may not) have nothing to do with the financial health of the co. We have to look at the ratings to determine that. Unless we are analysts. We are not. I've never seen a successful FA who thinks he;s an analyst. We tlook at all the information aviailable to us and make a judgement. The information comes from analysts. S&P analysts, Moodys analysts, and the analysts of our firm.
I dont believe they cant keep up. They get paid to keep up. You can call a pfd an equity, a debt, or whatever you want to call it. Its still an income investment. And the bonds that went bust did so with AA credit ratings from S&P.
As far as what the govt did, there were a lot of ways they could have structured this, but they chose to structure it in a way that the pfd holders got dicked. And didnt take into account, as BondGuy pointed out, the types of investors in these instruments.
For the record, in case i didnt mention it previously, i have only one client with a small position in FRE PFD, and none in FNM, none in LEH. So this isnt sour grapes. 

BondGuy's picture
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Joined: 2006-09-21

Ice, I agree with your stupid strategy comment. Anyone who uses any one security for the lions share of their income is taking too much risk. That cuts both ways, as treasury only buyers are consigning themselves to a life of eating catfood once inflation does its thing. So, there's principal risk and income risk.
 
As for it being our job to know where preferreds fall on the financial food chain, I also agree. However, in the case of FNM where the preferreds fell on that food chain has nothing to do with what's happened to these investors. This is a government seizure that takes all equity away from these shareholders,and leaves them without recourse. In fact, had Fannie failed, gone into bankruptcy, and been forced to liquidate, the preferred holders would have, by virtue of their place in the food chain, been entitled to their share of the assets.  A much better outcome for them as well as the risk they signed up for.
 
I agree that, as always, the FA must fully understand the products and securities they use in their practice. However, to be clear, investing in FNM preferreds prior to the seizure was not a FA failure. The seizure was unpresedented.  The last official comments from Paulson, the White house, and FNM, indicated that a takeover was not needed. To fault the FA's for this, which i'm not sure you're doing, would be a mistake.
 
I agree many here don't understand preferreds. That said, what happened to the preferred holders of FNM has nothing to do with preferred stocks in general.
 
My take on Bob's comments is that he was agreeing with me in that the ratings agencies are keeping up. They were caught as flat footed as the rest of us by the seizure of Fannie and Freddie. So it goes with government seizures. Rating agencies are quick to downgrade and slow to upgrade. In fact it is the slow speed upgrading that creates many opportunites in the bond markets for traders as well as yield buyers who are paying attention.

Sportsfreakbob's picture
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Ice, BG,My comment on the analysts was a reaction to Lady Traders comment that the analysts cant keep up. My comment was that its their job to keep up. If they cant, then S&P needs to hire more analysts.As far as FA's not understanding where on the food chain PFDS fall, i think that most of them understood that clearly. In my office there are many FA;s getting destroyed by the current situation, while I am not one of them (I'm getting destroyed more by the market in general than pfds) it is making me crazy to see it. These FA;s are sophisticated people with decades in the business. They understand that PFDS are different than and subordinate to bonds. They just didnt understand what was going on with the banks - sort of just like the analysts at S&P and elsewhere. And to BG;s point, they never for a minute could have imagined the U.S. Govt leaving all the little people holding the bag.I could go on forever on this, but i dont want to sound defensive and repeat myself. It is just hard to watch what is going on.One way or the other - the smart brokers will survive this and the ones left standing will THRIVE. But its going to take a long time, and a lot more pain. Even if the market turns tomorrow.I am sitting here, reading the posts on the forum, with one eye on Bloomberg TV. I am literally getting nauseous thinking about the potential repercussions of whats happening, and also at the fact that the "watchdogs" or "regulators" let it get to this. I am rambling, so apologies. I;ll stop now.

lady_trader's picture
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I just have to post a correction to my post. I said that LEH bonds was investment grade LAST month. It was actually investment grade this AM for Moody's and S&P the morning it was declared bankrupt.
 
S&P said this about Lehman debt 5 days ago:  "We continue to be concerned also about Lehman's longer range earnings potential, considering changes in its business mix, potential damage to its business franchise from recent turmoil, and uncertainty as to when market conditions might recover," said Mr. Sprinzen. "We continue to view Lehman's near-term liquidity as satisfactory, however."
 
 

BondGuy's picture
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iceco1d wrote:BondGuy wrote:
 
treasury only buyers are consigning themselves to a life of eating catfood once inflation does its thing. So, there's principal risk and income risk.
 
 

 
On another note (and I suppose this question could go a lot of ways); do you think that WITHOUT government intervention, Freddie and/or Fannie would have failed?  If you think they WOULD have failed...do you think there would have been anything leftover for preferred holders anyway?
 
 
 
Yes, Fannie's assets are immence. How much? No one knows at this point, but i do believe we'll get some idea as the lawsuits start to emerge. Yesterday, Lehmans' senior debt was trading flat with a 30 bid. That's 3x what FNM preferreds are worth. And some estimates put the end value of those bonds at 60. Apples and oranges I know. But at least the Leh holders have recourse. Fannie holders do not.
 
Also, I'm not questioning that the gov had to step in. I'm only questioning the way they did it. And them taking the moral high ground by dismissing these small fry investors as speculators is discusting when the true speculators were the mgnt of FNM and the banks they dealt with. That most of this lay hidden for years just adds to the pain of deception.

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