Wednesday, October 12, 2011

Jesse Eisinger on 'Morgan Stanley faces deficit of trust'

In a long NY Times Dealbook article, Jesse Eisinger discusses how Morgan Stanley and the rest of the global financial firms face a deficit of trust.

It is one thing when your humble blogger has been saying since the beginning of the financial crisis that there is a trust issue and the only way to restore investor trust is for each bank to disclose its current asset and liability-level data.

It is entirely another when the NY Times confirms this.
The French-Belgian bank Dexia passed the European stress tests. Then it collapsed. 
By almost any measure, Morgan Stanley is fine .... Morgan Stanley has much more capital and lower leverage than it did at the height of the financial crisis, which I like to think of as 9/08. It has almost $60 billion in common equity, compared with $36 billion before September 2008, and its ratios are stronger. Its trading book — which is volatile and where any bank can take sudden, large losses — is smaller than it was. Morgan Stanley has more long-term debt and higher deposits, both of which stabilize its finances. The bank has more cash available in case there’s a crunch and a smaller amount of Level III assets, which don’t have an independently verifiable value and so must be estimated by the bank ....
Yes, Morgan Stanley by any measure is a safe and solid investment bank. Except for one: The amount of trust people have in the whole financial and political system. It’s just about zero. 
That’s why the bank’s shares are down 42 percent this year. That’s why all the big bank stocks have double-digit dips. 
True, they start their next round of quarterly reporting in a matter of days. Morgan Stanley is scheduled to report its third-quarter earnings on Oct. 19, and its earnings may calm fears temporarily. 
But the essential problem will still be there, a slow burn beneath the global financial system that flares up at the worst moments. 
Banks don’t have faith in other banks, investors are deeply scarred and wary, and nobody believes that the governments around the world could grapple with the magnitude of the problems, even if they wanted to. 
This is the reason that banks need to disclose their granular data.  It is only after all market participants, including their competitors, have had a chance to analyse the data that the market will know who is solvent and who is insolvent.

It is only when the answer to the solvency question can be answered that the issue of recapitalizing the insolvent firms can take place in a believable manner.
... Yet, the moment one examines almost any detail of the global financial system, faith falters once again. Take the uncertainty about the derivatives markets. Morgan Stanley has a face value of $56 trillion in derivatives. That’s really nothing. JPMorgan Chase has more — amounting to the G.D.P. of large countries — a face value of $79 trillion in derivatives. If something goes wrong with just one-tenth of 1 percent of those trades, it’s kablooie. 
Now those are gross numbers. Many people would dismiss those totals as ridiculous and misleading. Anyone who brings them up is merely displaying ignorance. The banks’ derivatives portfolios are full of off-setting trades that net out at a smaller number. 
Derivatives can be dismissed as a popular bugaboo, but they really are just a symbol of the larger problem. A litany of daily stories reveals all kinds of reasons that banks don’t trust each other. To take just one news item, almost at random: Bloomberg News reported the other day that a Danish bank was refusing French sovereign debt as collateral. 
Nobody really knows how much exposure the American banks have to the European financial and political crisis. The Treasury Department minimizes the issue while other outlets raise the specter of catastrophic problems
So trust, naturally, is the casualty. “If you get in a period of stress, everyone starts questioning whether the hedges will hold up and whether the collateral is good enough,” said Mr. Gulberg, the banking analyst. 
Thanks for the confirmation that reporting granular level data on all the assets and liabilities is needed if trust is ever going to be restored.

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