- Markets are attempting to pare losses after a massive sell-off in the wake of
Lehman's bankruptcy filing, the sale of Merrill to Bank of America and the
deterioration of AIG shares. In any case, the financial world is in turmoil
this morning as the tectonic shifts taking place on Wall Street continue to
unwind. The DJIA plunged more than 2.5% on the open before retracing around
1.0%, while the Nasdaq opened down 2.5% and has recovered hand in hand with the
Dow. Oil is trading down $4.50 in mid-morning trading around $96, as initial
assessments of Ike damage seem to be less horrific than feared. Money is
finding its way to Gold but most other commodities are lower.
- Merrill sold itself to Bank of America for $50B in an all-stock deal
(representing about $29/shr v Merrill's closing price on Friday of $17.
05/shr). Traders seem to valuing the deal as rich, as Merrill continues trading
around the $21/shr level and BAC is down about 14%. By adding Merrill's 16,000+
financial advisers to its own staff, the deal would make BAC the largest brokerage in the world with
more than 20,000 advisers and $2.5T in client assets under management. It would
also be the number one underwriter of global high-yield debt, the third largest
underwriter of global equity and the ninth largest adviser on global mergers
and acquisitions. It also gets Merrill's 50% stake in Blackrock, which has $1.
4T in assets under management. BAC CEO Lewis said the Merrill deal will be
mildly dilutive to EPS in 2009 and that BAC will hit breakeven on the deal in
2010. Before the open this morning, S&P lower its credit rating on BAC to
AA- from AA, putting the bank on watch negative. Moody's put the bank's ratings
on review for a possible downgrade.
- Few details have emerged from the Lehman bankruptcy. Apparently the Fed and
Treasury worked behind the scenes to arrange a sale of the firm over the
weekend. Barclays was among the suitors, but the bank apparently walked away
from any deal after the Fed refused to fund a buyout. Bank of America was also
rumored to be in the running, although later events show the found a better
deal elsewhere. Needless to say, time ran out and the New York Times reported
late on Sunday that Lehman would file for bankruptcy protection, which LEH
confirmed early this morning in a press release. According to the Times, parent
company Lehman Brothers Holdings will seek bankruptcy protection, while its
subsidiaries will remain solvent during liquidation. A group of banks will provide
a financial backstop to help provide an orderly winding down of the investment
bank, while the Fed has agreed to accept lower- quality assets in return for
government loans to support the deal. CNBC later reported that Lehman may have
more than $1.0T in outstanding counterparty trades.
- On Saturday media reported on an evolving situation at AIG, as the firm's
executives and various state insurance regulators rushed to arrange a capital
infusion for firm in order to avoid a possible credit downgrade. Reports
specified Monday morning as the time AIG would announce its restructuring plan,
which would likely include the disposal of major assets including its
aircraft-leasing business and other holdings. On Sunday a UBS analyst cut BAC's
price target to $26 from $41 and lowered its Q3 EPS estimate to a loss of
$2.63/shr from loss of $0. 57/shr prior, while noting that the firm has
sufficient funds to meet short- term requirements without raising more capital.
Citigroup and (ironically) Merrill both cut the firm to a hold from buy.
Markets are now awaiting the firm's plan and/or any ratings downgrades. AIG is
down more than 40%. All eyes remain on AIG shares as the stock makes fresh lows
below $6 ahead of an expected announcement from the NY Governor.
- Washington Mutual CEO told the Seattle Times on Saturday that he would be
able to turn the troubled bank around, although the name has lost another 15%
of its value today as investors express their skepticism about the firm.
Thalmann's Dick Bove said that a bailout of WaMu may cost taxpayers as much as
$24B, and that the government would need to guarantee WaMu's mortgages in order
to find a buyer for the company. The FT warned on Saturday that the failure of
a commercial bank such as WaMu could have systemic consequences if it threatens
a run on other weak banks. Morgan Stanley commented that a JP Morgan buyout of
WaMu would make sense.
- Other financial stocks are all over the place in early trading, with JP
Morgan trading around even, Goldman Sachs and Citi down 5%, Morgan Stanley off
9% and CIT down 12%. Observers are noting that any other firm holding large
amounts of problem mortgages now faces the possibility that any forced sale of
Lehman's holdings will drive down prices and force a fresh round of writedowns,
with Citigroup, Merrill and AIG among the firms that could get hit hardest from
this scenario. According to the WSJ, applying Lehman's latest marks to AIG's
mortgage book could result in at least $15B in added writedowns to the
residential portfolio, which has a face value of $88B. Citigroup could face
about $7B in added writedowns if it applied Lehman's math to its alt-A
portfolio alone. Pimco's Bill Gross warned that Lehman's bankruptcy raises the
risk of an ‚Äúimmediate tsunami‚ÄĚ related to unwind of derivative positions.
- Note that the Fed also boosted the size of its TSLF program over the weeked
by $25B to $200B in total and said it would increase the frequency of auctions
to every week from every other week. In addition, at an emergency meeting over
the weekend, the heads of major financial institutions urged New York Fed
President Geitner and Treasury Secretary Paulson to reinstate a temporary rule
to limit short selling. Treasury prices have soared as the carnage in the
financials has money flooding into the relative safety of bonds. The 10-year
yield has fallen to 3.5% while the 2-year is below 1.9%. Before the open fed
funds were nearly fully pricing in a 25 basis point cut from the FOMC tomorrow
but those odds have backed off towards 50% late in the NY morning.
- Almost lost in the shuffle this morning were two disheartening economic
reports, with the Fed's August Industrial Production number was worse than
expected. The weakness was led by a more than 11% drop in the production of
motor vehicles and parts, reflecting the hard times facing the auto industry.
Meanwhile, the September Empire Manufacturing Survey coming in way below
estimates at -7.4 versus the expected 1.0 reading, the with prices paid
component showing the biggest drop in seven years.
- In currencies, the USD and carry-related pairs exhibited a high level of
volatility in a session marked by extreme risk. Fed funds moved towards the 4%
level after a $20B overnight repo operation prompted a major scramble for
liquidity. This compares to the 2.0% Fed funds target. Overall, the USD remains
in positive territory aided by rumors of emergency ECB rate cut as dealers
noting that perhad the current global financial market situation has sent the
central bank towards ‚Äúthe brink ". Overall, the ECB has been generous with
liquidity injections through out the credit crisis, however at this stage of
the game there is a chance that prolonged panic on the back of Lehman Brothers
Holdings' bankruptcy filing and AIG woes could prompt an emergency reduction of
the benchmark rate. EUR/JPY tested 148.60 before recovering and EUR/CHF off
120+ pips below the 1.59 handle.
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