ECB A Dumping Ground for Financial Toxic Waste

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ECB President Jean-Claude Trichet said Thursday that European Banks have “pledged more private paper, such as asset-backed securities, to the European Central Bank to use as collateral in its liquidity-providing repurchase operations, but that does not mean that the ECB is bailing out private banks.” Trichet said that “It is clear that all of us on both sides of the Atlantic have noted an increase of the collateral [that is] in the form of private paper. Treasuries were less utilized by banks as collateral and we have observed that on both sides of the Atlantic.” That’s the kicker. There’s just one problem. Trichet’s statement is disingenuous and grossly misleading. There is little similarity between the actions of the ECB to those of the Fed, both in kind, and in magnitude.

An excellent piece by Dow Jones gives a rundown on the gory details. The article reports that senior European bankers estimate that up to 500 billion Euros in ABS of questionable value has been pledged to the ECB in return for short term financing.

While the ECB’s Trashit says, “Hey! Everybody’s doing it, not just us”, it’s important to distinguish a couple of things. First, the Fed does not take ABS collateral in its open market operations, although they do accept it along with all other kinds of conventional collateral at the discount window and via the new Term Auction Facility (TAF) which the Fed started in December. The amounts taken at the discount window are inconsequential, and the TAF, at a rolling $60 billion, which it appears the Fed may make permanent, is insignificant compared with what the ECB is reportedly doing.

The Fed also takes a relatively small amount of Mortgage Backed collateral for its repo operations. The amount of MBS backed repos at any time is usually no more than $10 billion, and often not more than a few billion. The Fed is pretty tough about collateral. Their collateral rules for the TAF require 50% overcollateralization.

While the Fed may have $60 billion in TAF credit outstanding, there’s no way to know how much of it is backed by ABS collateral. It’s probably safe to assume that not all of the collateral accepted is ABS.

On the other hand, it would appear that the ECB is possibly financing up to a half trillion of ABS according to the Dow Jones report, quoting people supposedly in the know. The fact that the ECB’s Trashit felt it necessary to defend the ECBs actions lends validity to the estimates.

Much of this ABS collateral is likely to be fictitious capital, that is paper that is backed by assets which are worth less (Did Buffet really say “worth less” or “worthless” in his recent comments about the direction of the dollar?) in many cases much less, than the notional value of the securities. Under the circumstances the ECB is turning the Euro into trash compared to the US Dollar. The USD is sound money by comparison. At least the paper issued by the Fed is more than 90% backed by Treasury debt. That could be one reason why the US Dollar Index charts are evidencing the possibility of a major bottom. Compared to the Euro, you could say that the dollar is as good as gold. Yeah. Right.

Many market followers may be making the erroneous assumption that the US Fed is the most reckless actor in the grand scheme of desperately propping up the collapsing credit bubble. The ECB (and the BOE, another bad actor) have actually been far more reckless in aggressively bailing out failed institutions, financing worthless paper, and debasing their currencies. The Bernanke Fed has actually been a model of restraint in comparison.

Of course, everything is relative. It’s a question of who’s “less bad,” and in the end, none of it makes much difference anyway. We are all going to have to pay for it.

Stay up to date with the daily machinations of the Fed, Treasury, and foreign central banks in the US market in the Daily Fed report in the Professional Edition, Money Liquidity, and Real Estate Package. Try it risk free for 30 days. Don’t miss another day. Get the research and analysis you need to understand these critical forces and stay a step ahead of the markets. Click this link and get in RIGHT NOW!

Lee Adler

I’ve been publishing The Wall Street Examiner and its predecessor since October 2000. I also provide analysis and charts for David Stockman's Contra Corner which I developed for Mr. Stockman. I’ve had a wide variety of finance related jobs in the past 44 years, including a stint on Wall Street in both analytical and sales capacities. Prior to starting the Wall Street Examiner I worked as a commercial real estate appraiser in Florida for 15 years. I also worked in the residential mortgage and real estate businesses in parts of the 1970s and 80s. I have been charting stocks and markets and doing analytical work since I was a teenager. My perspective is not of the Ivory Tower. It is from having my boots on the ground and in the trenches of the industries that I analyze and write about today. 

  21 comments for “ECB A Dumping Ground for Financial Toxic Waste

  1. February 9, 2008 at 12:28 am

    I just love how Trashit tries to shift the blame by saying, “Hey, EVERYBODY’s doing it!”

    Well, EVERYBODY isn’t doing it. Certainly not to the extent they are.

    But what choice did they have?

    I guess, Collapse now, or Collapse later.

    They chose the long drawn out route ala Japan.

    Remember when everyone was lecturing Japan back in the 90s that they just HAD TO let the bankrupt institutions go under. Just write off all the bad debt and go back to Ground Zero.

    Well now the foo is on the other shiut. How’s it feel?

  2. air23cal
    February 9, 2008 at 12:56 am

    US Dollar, Euro, etc…it doesn’t matter in a world of fiat currency. Gold seems to be the only store of value in a world of reckless Central Banks. I am afraid that the world is slowly warming up to this idea.

  3. February 9, 2008 at 8:45 am

    be careful:
    a european ABS is not a US ABS. The difference is a piece of US trash and a EU asset. Globlisation stops somewhere! You keep your shit at home and we take care about our problems – how about that?

  4. February 9, 2008 at 9:23 am

    They’re different because you say so? You sound like one of the bankers who bought all that crap.

  5. Crimson Ghost
    February 9, 2008 at 10:15 am

    Given all the nonsense now extant and considering how grossly overvalued the Euro is I have taken an investment position that I never thought I would ever take — long both gold and the dollar

  6. jim
    February 9, 2008 at 10:48 am

    Lee…good piece….we proles need all the good bloodhounds we can find to help keep those Torys & their Whig bidders off our kids’ back…Overall, he who has the Gold makes the Rules(or Ruler)…now, wouldn’t it be nice to know who bought all that Gold at $250 from those “concerned” Central Bankers 5-6 yrs ago…that’s who “THEY” are…havin’ a few Praetorians & Judges doesn’t hurt either…

  7. rapier
    February 9, 2008 at 10:56 am

    We can assume most of the ABS trash is American in origin. We invented it after all and know for a fact that our boys were selling it to every sucker they could find. They didn’t want to hold it. I don’t know how much or what percentage they did hold but C went out of their way to hold it off the books.

    Sorry I can’t link to it but some guy who helped invent this stuff two decades ago wrote that it was never ever meant to be on the books of banks. He didn’t say why. Then again he didn’t have to.

    Doug Noland occasionally has made long arguments about how the language of Trichet was far more responsible than Greenspan’s on matters of bubbles and monetary policy. I don’t have a clue about the ECB’s power to regulate member banks asset quality but Trichet’s words were probably never used to warn them off this stuff. Strike one against this responsible central banker.

    If anyone has a clue about how much ABS paper, mortgage or otherwise, is sitting on the books of the non money center giants it would be nice to know.

  8. February 9, 2008 at 11:14 am

    While much of the ABS is of US origin, no doubt, the Europeans originated their share. So did the Canadians and everybody else. If you read the Dow Jones piece (linked in the article), much of what these EU institutions are holding is stuff they themselves originated, not the bad old US snake oil salesmen. They are eating their own vomit, not something they had their arms twisted to buy by those smarter sneakier US based brokers.

    But what difference does it make who originated it? Where was the due diligence? These are people who were decision makers in the biggest European institutions, educated in the finest business schools (and Astrophysics Departments) in both Europe and the US. This is about greed and venality, not victimization. The European banks ensnared in this are only victims of their own avarice and shortsightedness. Europeans complaining about the behavior of the US banks in victimizing the EU banks are crybabies who miss the point entirely.

    There are just as many crooks in the EU system as in the US. Don’t think that all the bad guys are in the US and the Europeans were just paragons of virtue who got duped. That’s not the way it was. Criminal minds go where the money is, and the money was in structured finance.

    The problem is that sooner or later criminal sociopaths always self destruct. And that’s where we are now.

    Stay up to date with the daily machinations of the Fed, Treasury, and foreign central banks in the US market in the Daily Fed report in the Professional Edition, Money Liquidity, and Real Estate Package. Try it risk free for 30 days. Don’t miss another day. Get the research and analysis you need to understand these critical forces and stay a step ahead of the markets. Click this link and get in RIGHT NOW!

  9. TV
    February 9, 2008 at 2:54 pm

    Really nice work Lee.

  10. cwduke
    February 9, 2008 at 3:18 pm

    The charts told us last fall the dollar was bottoming. Now we see the reason.

  11. don
    February 9, 2008 at 3:27 pm

    Several news stories on mounting pressures on CDO/CDS (firesales) in US/Euro, and German banks:

    http://ftalphaville.ft.com/blog/2008/02/….

    CDO update: talk of firesale, liquidations begin

    At Christmas, 33 CDOs had triggered “events of default”. Mid January and that number had risen to 58. According to Standard & Poor’s that figure has now spiked to 80 – worth around $97bn.

    The number of defaulting CDOs has in fact increased by $13bn in the past week alone.

    But more worrying is the fact that senior creditors are now pushing for CDOs to be liquidated – indicating the beginnings, perhaps, of a much-speculated-upon fire sale of CDO assets. A total of 18 CDOs, worth an estimated $18bn, have opted for liquidation as at Thursday. One is understood to have completed the process.

    Unwinding of synthetic CDOs – which reference CDS contracts – is thought to be behind some of the rapid spread-widening on credit indices on Friday.

    More painful liquidations are also to be expected. Further downgrades of RMBS – particularly 2006-2007 vintages, and the downgrading of bond insurer XLCA on Thursday, which played big in the CDO world – will push a great deal more CDOs towards default.

    http://www.bloomberg.com/apps/news?pid=2….

    WestLB to Cut 25% of Staff, Get EU5 Billion Bailout (Update6)

    By Aaron Kirchfeld and Oliver Suess

    Feb. 8 (Bloomberg) — WestLB AG, the government-owned German bank reeling from subprime-related losses, will cut about 25 percent of its workforce after the company’s owners agreed to provide a 5 billion-euro ($7.2 billion) bailout.

    CDS report: Speculation a structured product is being liquidated

    Protecting European corporate debt against default became more expensive than ever before on Friday, with the indices of investment grade and risky debt hitting all-time highs.
    Traders and analysts said they thought a CDO or CPDO was being unwound. Unwinding one of these structures involves buying large amounts of protection through the credit default swap market, which pushes the cost of protection higher.

    http://ftalphaville.ft.com/blog/2008/02/08/10812/cds-report-speculation-a-structured-product-is-being-liquidated/

  12. February 9, 2008 at 3:37 pm

    Just a housekeeping note. Any comment post with more than two links automatically goes into the moderation queue. That gets reviewed periodically, but the post will be delayed in posting. You can avoid that by making separate posts if desired.

    There are some other algorithms that may result in a post going into moderation. Nothing personal, just a precaution for blocking spam. I do receive notification of all posts that have gone into moderation, but not those immediately tagged as spam. If for some reason your post does not appear, feel free to use the contact form http://wallstreetexaminer.com/?page_id=6 linked in the right column to let us know.

  13. ter
    February 9, 2008 at 6:39 pm

    re 11.first citation from alphaville.ft.blog concerning senior creditors forcing CDO liquidations has been removed. I read it less than a hour ago when it was cited by a commenter on Winter’s latest. Brief is the span of truth. The Memory Hole is bottomless.

  14. Stuart
    February 10, 2008 at 12:17 pm
  15. February 10, 2008 at 1:31 pm

    With all this good news, the market will probably rally on Monday. 😛

  16. Stuart
    February 10, 2008 at 10:57 pm

    you know, sarcasm aside, I really would not be at all surprised.

  17. Rocancourt
    February 11, 2008 at 9:58 am

    Barton Biggs says market is going much higher here.

    You people are too negative. 2% treasury yields make stocks very attractive.

  18. February 11, 2008 at 10:44 am

    Biggs was short oil from around 30 to around 70, I heard. Must have lost his investors a fortune.

    The correlation between stock prices and yields is extremely low. Over the last 10 years they’ve moved in the same direction more often than not. Counterintuitive, but that’s just reality.

    Low yields are a symptom of disease, not health. Japan has had super low yields for a generation and has been in an 18 year bear market.

    Are we too negative?

    Time will tell.

  19. edgar
    February 11, 2008 at 11:07 am

    The important thing, to me, is that the bankers be exposed for what they are. No-one can be trusted to administer the money supply, especially them. The sooner everyone realizes this, the better off we’ll all be. Bankers are worse than worthless, they are parasites on society.

  20. CCG
    February 11, 2008 at 4:15 pm

    “Given all the nonsense now extant and considering how grossly overvalued the Euro is I have taken an investment position that I never thought I would ever take — long both gold and the dollar”

    I had the same thought the other day. As fictitious dollars are destroyed, the remaining dollars should increase in value, while other fictitious capital (in various currencies including the dollar) flees into gold. Any thoughts appreciated.

  21. Italian
    February 12, 2008 at 1:25 pm

    Well… if dollar raises, we EU savers won’t need to worry anymore about ECB cutting: with this level of inflaton there is just a political pressure for the ECB to cut.
    Maybe.
    About the Asset Backed Security originated in the EU market…
    my gut feeling is that EU banks were late on that, and this is positive.
    For example, in EU the strange subprime lenders that originated the mess in USA and defaulted in droves last year, didn’t show up until 2007 in some states. Too late to the party.
    Let’s say there was no CountryWide equivalent in many EU states (let alone Spain).
    Not because EU bankers have less greed… they were just slower.
    If this is true it means they missed the chanche to make a deeper mess.

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