The Aleph Blog – Page 283 – Helping Institutions and Ordinary People Invest Better by Focusing on Risk Control

In Defense of the Rating Agencies — II

Posted on 25 December 2007 by David Merkel

It is easy to take pot shots at the rating agencies.? Barron’s did it this weekend.? What is hard is coming up with a systematic proposal for reform that will do more good than harm, as I pointed out on my last piece on this topic.?? Ordinarily, I like the opinions of Jonathan Laing, but not this time.? In my opinion, Barron’s failed the test of coming up with a systematic solution that recognizes market realities.

From my last article, I will repeat the market realities:

There is no way to get investors to pay full freight for the sum total of what the ratings agencies do.
Regulators need the ratings agencies, or they would need to create an internal ratings agency themselves.? The NAIC SVO is an example of the latter, and proves why the regulators need the ratings agencies.? The NAIC SVO was never very good, and almost anyone that worked with them learned that very quickly.
New securities are always being created, and someone has to try to put them on a level playing field for creditworthiness purposes.
Somewhere in the financial system there has to be room for parties that offer opinions who don?t have to worry about being sued if their opinions are wrong.
Ratings can be short-term, or long-term, but not both.? The worst of all worlds is when the ratings agencies shift time horizons.

From the Barron’s article:

MAKE NO MISTAKE: THE LATEST debacle dwarfs the rating contretemps earlier in the millennium. In all, $650 billion of 2006 subprime mortgages were securitized in the past year. Moody’s officials point out that only 15% or so of the dollar amount of that rated debt — counting all tranches — has gone bad, requiring downgrades. But the ripple effect of those downgrades has wreaked havoc throughout the global credit markets.

Having been a mortgage and corporate bond manager back then, I’m not sure I agree.? The ABS, CMBS and whole loan RMBS markets are about the same size as the corporate bond markets.? The degree of stress on the system was higher back in 2002.? To give one bit of proof, look at the VIX, which is highly correlated with corporate credit spreads. ? Why was the VIX in the 40s then, and around 19 now?? What’s worse, the banks were in good shape back then, and there are more questions about the banks now.? Most of the current problems exist in exotic parts of the bond market; average retail investors don’t have much exposure to the problems there, but only less-experienced institutional investors.

The Barron’s article suggests five areas for reform:

1. The SEC must encourage more competition by approving more rating agencies.? Rating fees would drop and diversity of opinion would lead to more accurate and timely ratings.

I’m all in favor of more rating agencies.? I don’t think rating fees would drop, though.? Remember, ratings are needed for regulatory purposes.? Will Basel II, and NAIC and other regulators sign off on new regulators?? I think that process will be slow.? Diversity of opinion is tough, unless a ratings agency is willing to be paid only by buyers, and that model is untested at best.

Regarding John Coffee, Jr. in the article:

Industry expert and Columbia Law School professor John Coffee Jr. has suggested an elegant solution to bolster rating-agency quality control, both to Barron’s and in recent congressional testimony. He wants the SEC to require raters that have been granted official status to disclose in a central database the historical default rates of all classes of financial products that they’ve rated. Regulators and investors would thus have an effective means of assessing the raters’ rigor.

Furthermore, Coffee argues, the SEC should discipline miscreant agencies by temporarily yanking their registration in areas where their ratings have been notably wrong.

And after that,

2. All rating agencies should be required to disclose default rates on all classes of securities that they’ve rated.? Agencies with bad results should have their SEC approvals yanked temporarily.

Disclosing default rates is already done, and sophisticated investors know these facts; this is a non-issue.? Yanking the registration is killing a fly with a sledgehammer.? It would hurt the regulators more than anyone else.? Further, what does he mean by “miscreant” or “notably wrong?”? The rating agencies are like the market.? The market as a whole gets it wrong every now and then.? Think of tech stocks in early 2000, or housing stocks in early 2006.? To insist on perfection of rating agencies is to say that there will be no rating agencies.

From the article:? One investor-subscription-based rating service, Egan-Jones, has been trying fruitlessly to win official agency status for more than a decade. In that time, the Philadelphia concern has been miles ahead of the established agencies in downgrading the likes of Enron and WorldCom and more recently the mortgage and bond insurers, mortgage originators and investment banks caught up in the subprime-mortgage crisis.

“It’s tremendously liberating to just work for investors and not worry about angering the issuer community,” partner Sean Egan tells Barron’s. “Not only have we been able to give investors earlier warnings of corporate frauds and other negative credit situations, but in many cases we’ve led the industry on upward credit revisions of worthy recipients.”

I like Egan-Jones, so it is with pleasure that I mention that they have achieved NRSRO [nationally recognized statistical rating organization] status.? That said, their model that I am most fmailiar with only applies to corporate credit.? Could they have prevented the difficulties in structured credit that are the main problem now?

3. Agencies must be encouraged to make their money from investor subscriptions rather than fees from issuers, to ensure more impartial ratings.

If this were realistic, it would have happened already.? The rating agencies would like nothing more than to receive fees from only buyers, but that would not provide enough to take care of the rating agencies, and provide for a profit.? They don’t want the conflicts of interest either, but if it is conflicts of interest versus death, you know what they will choose.

4. Agencies no longer should have exclusive access to nonpublic information, to even out the playing field.

Sounds good, but the regulators want the rating agencies to have the nonpublic information.? They don’t want a level paying field.? As regulators, if they are ceding their territory to the rating agencies, then they want he rating agencies to be able to demand what they could demand.? Regulators by nature have access to nonpublic information.

5. Agencies must say “no” to Wall Street when asked to rate exotic types of debt instruments that lack historically relevant performance data.

Were GICs [Guaranteed Investment Contracts] exotic back in 1989-1992?? No.? Did the rating agencies get it wrong?? Yes.? History would have said that GICs almost never default.? As I have stated before, a market must fail before it matures.? After failure, a market takes account of differences previously unnoticed, and begins to prospectively price for risk.

Look, the regulators can bar asset classes.? Let them do that.? The rating agencies offer opinions.? If the regulators don’t trust the ratings, let them bar those assets from investment.? The ratings agencies aren’t regulators, and they should not be put into that role, because they are profit-seeking companies. Don’t blame the rating agencies for the failure of the regulators, because they ceded their statutory role to the rating agencies.? But if the regulators bar assets, expect the banks to complain, because they can’t earn the money that they want to, while other institutions take advantage of the market inefficiency

Look, sophisticated investors don’t rely on the rating agencies.? They employ analysts that do independent due diligence.? Only rubes rely on ratings, and sophisticated investors did not trust the rating agencies on subprime.? My proof?? Look how little exposure the insurance industry had to subprime mortgages.? Teensy at best.

There will always be differences in loss exposure between structured securities and corporate bonds at equivalent ratings.? Structured securities by their nature will have tiny losses for long periods of time, and then large losses, relative to corporate bonds.? The credit cyclicality is even bigger than that of corporate bonds.

Let’s get one thing straight here.? The rating agencies will make mistakes.? They will likely make mistakes on a correlated basis, because they compete against one another, and buyers won’t pay enough to support the ratings.

Barron’s can argue for change, but unless buyers would be willing to pay for a new system, it is all wishful thinking.? Watch the behavior of the users of credit ratings.? If they are unwilling to pay up, the current system will persist, regardless of what naysayers might argue.

How to Read the Whole Bible, and Survive the Experience

Posted on 23 December 200723 December 2007 by David Merkel

This is an off-topic post for people who want to read the Bible, but have never been able to make it all of the way through. In my opinion, it is difficult to understand Western Civilization without having read the Bible. No single book, or collection of books has had such a profound effect on the cultures of Western Civilization, both positively and negatively. I.e., people react for and against what the Bible says.

I write this because I have met many people in my time who have said that they wanted to read the Bible, and started to do it, but couldn?t get through the five books of Moses. A few would tell me that they made it through the books of Moses, but could not make it through the prophets. Almost no one made it to the New Testament.

Face it, as a collection of ancient books, the Bible has a lot of different literary genres, and some are more congenial, and some less congenial to the modern mind. The Bible is an intricately woven set of books written over a 2100 (or so) year time span by 44 or so human authors. There are many themes and symbols that get visited and revisited in many different ways. Even for someone who does not want to believe the Bible as true, there is an appreciation to be had in it as literature. Think of it as a book with recurring themes that ties them all together from beginning to end. If I have to give an analogy, think of an author who has several different story lines that converge at the end of the book. In that, the Bible is similar.

Think of the following:

Where did man come from, and where is he going?
Why is there suffering? Why is there joy?
Why have the Jews (a relatively small group) been critical to the history of the world?
Why is Jesus Christ (Y?shua Ha?mushiach) so controversial?

Anyway, back to the practical. What I am about to share with you is what my family does every evening at our family devotions. We read a chapter of the Bible, talk about it, pray, and sing two psalms. When my kids were little, we would go straight through the Bible, and eventually my dear wife Ruth would say to me, ?Why do I have to wait three years to hear the Gospels, and then I hear them all at once??

Good question. With that, I set about to find a way to go through the Bible systematically, but not linearly. I divided the Bible up into its main genres:

Books of Moses and Old Testament History
Wisdom Literature, minus Psalms and Proverbs
Psalms
Proverbs
Prophets
Gospels and Acts
Epistles (Letters)

After that, I counted the number of chapters in each book and group, apportioned the Psalms and Proverbs into ten groups each, paying attention to logical dividing lines in each set, and calculated how they could be evenly interspersed as seven groups of writings. The list came out as follows:

Genesis
Psalms 1-14
Matthew
Proverbs 1-3
Job
Romans
Isaiah
Psalms 15-27
Proverbs 4-6
Exodus
I & II Corinthians
Psalms 28-41
Proverbs 7-9
Leviticus
Mark
Jeremiah
Numbers
Psalms 42-57
Proverbs 10-12
Deuteronomy
Galatians
Acts
Psalms 58-72
Proverbs 13-15
Ephesians
Joshua
Philippians
Lamentations
Proverbs 16-18
Psalms 73-89
Judges
Ezekiel
Ecclesiastes
Colossians
Ruth
I & II Thessalonians
I & II Samuel
Proverbs 19-21
John
Psalms 90-106
I & II Timothy
Song of Solomon
I & II Kings
Proverbs 22-24
Daniel
Titus
Psalms 107-119
Philemon
Hebrews
Hosea
Luke
Proverbs 25-27
I & II Chronicles
Joel
Psalms 120-134
Amos
James
Obadiah
Jonah
Micah
I & II Peter
Proverbs 28-31
Nahum
Psalms 135-150
Habakkuk
Zephaniah
Haggai
Ezra
Zechariah
John’s Epistles I, II & III
Nehemiah
Esther
Malachi
Jude
Revelation

I can?t improve on the Bible, but reading it in this way still gives the thrust of its progress, while keeping people from boredom from ?genre overload.? It has proven very useful to my family as we read the Bible, and keeps things fresh as we switch from genre to genre, while still moving through the Bible linearly overall. It has worked well for my family the last four times through the Bible.

If this list proves useful to you, and it actually enables you to successfully read through the whole Bible, please drop me a note.

Future Blog Posts

Posted on 22 December 200723 December 2007 by David Merkel

Coming in the near term, I should have articles on the following:

The economics of Central Banking (can the Fed go broke?)
A critique of the Barron’s article on the Ratings Agencies
The Fundamentals of Market Bottoms (companion to this RealMoney article, The Fundamentals of Market Tops)
Predicting Consumer Price Inflation — What Works Best?? (Does anything work?)

That’s what is on the current schedule, together with other articles/events in the news flow.? I will be publishing through the so-called holiday season, so you may see some of this on Monday through Wednesday.

Also, in the near term, my left sidebar will include links and the Amazon widgets from my book reviews.

Thanks for reading me.? I really appreciate your patronage of my blog.

Investment Bank Counterparty Risks are Probably Modest

Posted on 22 December 2007 by David Merkel

I’ve seen a number of articles recently about what dangers the investment banks face from counterparty risk.? Counterparty risk is what happens when an investment bank enters into a derivative transaction with another party (the counterparty), and when the investment bank ends up on the winning side of the trade, the counterparty is unable to make good on the necessary payments to the investment bank.

Think about history here for a moment.? Investment banks do take losses.? We saw that in the past week.? But almost all of that came from their own risk-taking, not from counterparties.? Now think about hedge funds that have gone bust.? What was the final trigger event?? The investment banks moving to foreclose when there was still enough margin to do so.? (LTCM, Granite, Amaranth, Neiderhoffer (how many times?) and more… the investment banks are very good at protecting their own hides.)

I have a few concerns about counterparty risk, but they aren’t big.? I worry more about mispricing within derivative books.? The risks that no natural counterparty wants to bear must be held by a speculator, who gets a bit of a bargain for taking down the risk. ? Speculators are usually not thickly capitalized, so the investment banks, while grateful that they got the toxic waste off their books, watches the margin of solvency like a hawk, and more so for larger players.

The record of the investment banks of cutting off leverage to the impaired is pretty good.? There is some modest reason for concern here, but I think the investment banks have more potent means of shooting themselves in the foot.

Why I’m Not Crazy About Surprise Lists

Posted on 22 December 200723 December 2007 by David Merkel

I’ve never enjoyed surprise lists that much.? The concept is this: name a bunch of things that you think there is a better than 2/3rds chance of occurring that the market seemingly has less than a 1/3rd probability on.? Here are my problems with the concept:

First, the probabilities are squishy.? Who’s to say what the probability of a given event is?? Even if you have a prediction market going, those are subject to a variety of biases.
?Second, often the interpretation of whether one is correct or not is fuzzy as well.? Not all of the surprises are sharp events.
Third, an unlikely event can be more likely than it seems if it is spread across multiple parties, or if there are multiple legs to the prediction.? As an example, a prediction that “a major country will drop its dollar peg in 2008,” should be regarded as a decent probability, if only by accident.
Finally, I don’t find them easy to make money from.? Many of them are either not very actionable, or my relative payoff from being right versus wrong does not seem to compensate for the large number of times that the conventional wisdom proves correct.

All that said, surprise lists make for excellent journalistic copy because that have many “man bites dog” sound-bites.? That’s why we hear about them, and why they get promoted for publicity purposes.? But as for so many aspects of speaking/writing on investments, it is mostly theater, and shouldn’t be taken too seriously by serious investors.

Book Review: Financial Shenanigans

Posted on 22 December 2007 by David Merkel

A few readers asked me if I would review some books dealing with accounting issues. I’m happy to do that. I am not an accounting expert, and certainly not a forensic accountant, but my investing has benefited from being willing to look at the weaknesses in financial statements, and avoid companies where the economic results are likely worse than the accounting statements.

Howard Schilit, in his book, Financial Shenanigans, highlights seven areas where accounting can be fuddled:

Recording revenue too soon.
Recording bogus revenues.
Boosting income with one-time gains.
Shifting current expenses to a later period.
Failing to record or disclose all liabilities.
Shifting current income to a later period.
Shifting future expenses to the current period.

There are several common factors at play here.

Beware of companies where earnings exceed operating cash flows by a wide margin. (1-4)
Watch revenue recognition policies closely. It is the largest area of financial misstatement.? (1-2)
Look for assets and liabilities that aren’t on the balance sheet, and avoid companies with hidden liabilities. (5)
When companies do well, they often hide some of the profitability, and build up a reserve for bad times. This will show up in an excess of cash flows over earnings, so look for companies with strong cash flow.? (6,7)

The book liberally furnishes historical examples of each of the seven main categories for accounting machinations, showing how the troubles could have been seen from documents filed with the SEC in advance of? the accounting troubles that occurred.? Now, aside from point 5, the other six points boil down to a simple rule: watch operating cash flow versus earnings.? I wouldn’t say that the cash flow statement never lies, but investors pay more attention to the income statement and balance sheet.? Aside from outright fraud, ordinary deceivers can manipulate one statement, and clever deceivers can manipulate two.? To do three, it takes fraud.

Now, suppose you have found a company where the operating cash flows are weak relative to reported earnings.? That is where this book can help, because it will give you ways to analyze whether the difference is accounting distortion or not.? For those of us who use quantitative methods to aid our investing, this is particularly important, because many companies are seemingly cheap on GAAP book and earnings, but a review of the cash flow statement will often highlight the troubles.

The book is an easy read, and does not require detailed knowledge of accounting in order to get value out of it.? For fundamental investors, I recommend this book, with the proviso that it only works with non-financial companies.? Financial companies are more complex (they are all accruals — the cash flow statement is not very useful), and can’t easily be analyzed for earnings quality from looking at the financial statements alone.

Full disclosure: I get a pittance from each book sold through the link listed above.

Municipal Tensions

Posted on 21 December 2007 by David Merkel

Tonight I want to point you to something that might make you uncomfortable.? Don’t worry, it is for a good purpose.

Depending on where you live in the US, various states and municipalities are more or less prepare for the onslaught of cash flow that they will have to pay baby boomer employees after they retire.? Here’s a very good summary of which states are prepared, and which are not, from the Pew Charitable Trusts.? As for pension benefits, they are relatively well funded, with 85% of the accrued benefits funded.? Other Retiree benefits (mainly health care) are only 3% funded.

Only ten states are more than 96% funded on pensions: Oregon, Utah, South Dakota, Wisconsin, Tennessee, Georgia, Florida, North Carolina, Delaware and New York.? Ten states are less than 70% funded on pensions: Hawaii, Kansas, Oklahoma, Louisiana, Illinois, Indiana, West Virginia, Connecticut, Rhode Island, and New Hampshire.

But as for other retiree benefits, 32 states have funded nothing at all (0%).? See the graph on page 42.? They will either pay it out of cash flow (from increased taxes), or decrease the benefits, because they are not guaranteed as pension benefits are. ? Only one state is in good shape, Wisconsin (my home state), which has its other retiree benefits 99% funded.? Next best are Arizona (72%), Alaska (65%), and North Dakota (41%).?? In a word — ugly.? Either promises will have to be rescinded, or taxes raised.

It’s worth looking at this report because these matters will be upward drivers of taxes starting about five years from now, and lasting for two decades beyond that.? It will be a big political fight.? Taxpayers will do their best to reduce benefits to state and local government workers who worked at lower salaried jobs, knowing that they would make it up on better benefits.? Alas, but the benefits may be less than expected.

Now as far as the US goes, Federal DB plans are unfunded, including Federal Employees, Social Security and Medicare.? Holding US Government bonds doesn’t count, those are just indicators of future taxation.? Higher future taxation from the US government will be a fact of life.? I don’t argue with it.? They’re bigger than me.

States and municipalities may be another matter, though.? Many municipalities are even worse funded than the states, and their taxation capabilities are more limited.? People can leave to go to other places in the US.

My advice: review the pension and other benefit funding levels of your state, and any other places that you get taxed (county, city, assessment district).? Figure out now whether your taxes are likely to rise or not, and ask yourself whether you can live with it or not.? This is somewhat cold-blooded, but you need to act on this in the next 2-3 years.? Five years out, and this will factor into land values and a wide number of other economic variables, making any move less economic.

The Virtue of Lunch with Friends

Posted on 21 December 200721 December 2007 by David Merkel

I really enjoyed being an investment grade corporate bond manager.? I enjoyed interacting with credit analysts and sales coverages, and the hurly-burly of price discovery in markets that were thinner than optimal.? My credit analysts were professionals, and I never went against them; at most, I would explain to them why market technicals favored a delay in the action they proposed.? But I would never permanently disagree.? What they wanted to buy I would buy, and sell I would sell, eventually.? The level of communication evoked greater effort from them.? Machiavelli was wrong.? It is better to be loved than feared, at least in the long run.? I have gotten more out of associates and brokers by being altruistic than through transactional constraint.? People will give far more to someone that cares for them, than someone that threatens them, in the long run.? (The short run is another matter…)

Now, this is not my character.? I tend to be shy, and constant interaction pushes me out of my comfort zone.? But when others are depending on me, I push myself harder, and do what needs to be done for the good of others.? I can’t let down those who rely on me.

Yesterday I had lunch with three friends and a new friend.? Two were sales coverage, and two from the firm that I used to work for.? It was fascinating to hear the tales of woe in the structured securities markets (worse than I expected, and I am cynical).? It was also fascinating to consider why investors for a life insurance company, which has a liability structure that would allow them to buy and hold temporarily distressed assets, does not do so. ? A lot depends on how short-term the investment orientation of the client is, and this client is definitely short-term oriented.

I talked about my new CDO model, and about what I write about for all of you who read this blog.? The summary of our discussions is that it is a tough environment out there, and one that is particularly not kind to complex securities.? After the lunch, which the sales coverages generously paid for (at present, I don’t know what I can do for them), I went back to the office of my old friends, and reacquainted myself with one of the best consumer/retailing credit analysts period, who is a very nice woman.? I also talked with my former secretary, who is sweet, and was always a real help to me and all of the staff.

Friends.? I am richer for them.? I am richer for being one.? Beyond that, it is excellent business to live life in such a way that your business dealings leave people happy for having dealt with you.? I am truly blessed for all the business friends that I have gained.

Options as an Asset Class

Posted on 20 December 200720 December 2007 by David Merkel

Well, my CDO model is complete for a first pass. There is still more work to do. Imagine buying a security that you thought would mature in ten years, but two years into the deal, you find that the security will mature in twenty years from then, though paying off principal in full, most likely. Worse, the market has panicked, and the security you bought with a 6.5% yield is now getting discounted at a mid-teens interest rate. Cut to the chase: that is priced at 40 cents per dollar of par. Such is the mess in some CDOs today.

Onto the topic of the night. There have been a number of articles on volatility as an asset class, but I am going to take a different approach to the topic. Bond managers experience volatility up close and personal. Why?

Corporate bonds are short an option to default, where the equity owners give the company to the bondholders.
Mortgage bonds are short a refinancing option. Volatile mortgage rates generally harm the value of mortgage bonds.
Even nominal government bonds are short an inflation option, should the government devalue the currency. (Or, for inflation-adjusted notes, fuddle with the inflation calculation.)

Why would a bond investor accept being short options? Because he is a glutton for punishment? Rather, because he gets more yield in the short run, at the cost of potential capital losses in the longer-term.

Most of the “volatility as an asset class” discussion avoids bonds. Instead, it focuses on variance swaps and equity options. Well, at least there you might get paid for writing the options. Bond investors might do better to invest in government securities, and make the spread by writing out-of-the-money options on a stock, rather than buying the corporate debt.

I’m not sure how well futures trading on the VIX works. If I were structuring volatility futures contracts, I would create a genuine deliverable, where one could take delivery of a three month at-the-money straddle. Delta-neutral — all that gets priced is volatility.

Here’s my main point. Volatility is not an asset class. Options are an asset class. Or, options expand other asset classes, whether bonds, equities, or commodities. Whether through options or variance swaps, if volatility is sold, the reward is more income in the short run, at the cost of possible capital losses in asset classes one is forced to buy or sell at disadvantageous prices later.

Over the long term, in equities, unlike bonds, being short options has been a winning strategy, if consistently applied. (And one might need an iron gut to do it.) But when many apply this strategy, the excess returns will dry up, at least until discouragement sets in, and the trade is abandoned. For an example, this has happened in risk arbitrage, where investors are short an option for the acquirer to walk away. For a long time, it was a winning strategy, until too much money pursued it. At the peak you could make more money investing in Single-A bonds. Eventually, breakups occurred, and arbs lost money. Money left risk arbitrage, and now returns are more reasonable for the arbs that remain.

Most simple arbitrages are short an option somewhere. That’s the risk of the arbitrage. With equities, being perpetually short options is a difficult emotional place to be. You can comfort yourself with the statistics of how well it has worked in the past, but there will always be the nagging doubt that this time it will be different. And, if enough players take that side of the trade, it will be different.

Like any other strategy, options as an asset class has merit, but there is a limit to the size of the trade that can be done in aggregate. Once enough players pursue the idea, the excess returns will vanish, leaving behind a market with more actual volatility for the rest of us to navigate.

Crunchy Credit

Posted on 19 December 2007 by David Merkel

My head feels like mush.? I have been struggling over creating a CDO pricing model with the following features:

A knockoff of the KMV model, using equity market-oriented variables to price credit.
Uncorrelated reduced discrepancy point sets for the random number generator.
A regime-switching boom-bust cycle for credit
Differing default intensities for trust preferred securities vs. CMBS vs. senior unsecured notes.

Makes my head spin, but at least the credit model is complete.? The rest of the model can be done tomorrow.

Ugh, so what was I going to talk about?? Oh yeah, the short term lending markets.? So the ECB makes a splash by showering temporary liquidity on the short end of the market.? That will reduce Euribor-based rates, but not US dollar-LIBOR based rates.? Check with Dr. Jeff for more on that.? Now, Dr. Jeff and I might not agree on the significance of this move, because I discount temporary injections of liquidity.? What will happen to liquidity conditions when the temporary injection goes away?? My view is that they will go back to how they were before the temporary injection.? The only way that would not be so is if the temporary injection somehow changes the willingness of parties to take risk, and I think most large investors can see through the temporary nature of the injection.? The ECB can keep short-term Euribor down for a while, but unless they make some of the injection permanent, conditions will revert.? People and institutions can’t be fooled that easily.

Topic two: the WSJ article on the credit crunch.? The author posits two disaster scenarios:

A financial guarantor going down, or
Many money market? funds? “breaking the buck.”

Here’s my view:? The financial guarantors have been too profitable for too long.? There will be parties wiling to recapitalize them, though not necessarily at values that make current equityholders happy.? They are not going broke; the major firms will be recapitalized.

Regarding the second fear, a few money market funds will break, but the wide majority of money market funds won’t.? Most short term debt managers are highly conservative, and don’t take inordinate risks.? To do so would threaten their franchise, which would be stupid.

Things are not good, don’t get me wrong, but it would be very difficult to destroy most of the investment markets on the short end of the yield curve.? Away from that, the actions of the ECB will only have modest impacts on USD-LIBOR.