CDS and Bankruptcy

| Fri Apr. 17, 2009 10:31 AM EDT

Via Megan McArdle, the Financial Times reports that credit default swaps may be responsible for forcing more companies into bankruptcy proceedings.  The problem, apparently, is that normally bondholders have an incentive to negotiate a deal that would stave off Chapter 11, since a judge in a bankruptcy settlement is likely to force them to take big haircuts on their debt.  If they can do a little better in a negotiated settlement, they'll play ball.

But if their debt is insured via CDS, and the U.S. government has made it clear that CDS will be paid off 100% even if the insurer is underwater, they're actually better off if the company defaults.  From the FT on a couple of recent failures:

"We have seen CDS becoming a significant factor" when negotiations on out-of-court restructurings fail, said Alan Kornberg, the partner in charge of the bankruptcy practice at Paul, Weiss, Rifkind, Wharton & Rice, speaking generally. "We used to talk about the practice theoretically but now we see cases where it is hard to get lenders to agree to tender or to compromise and then you find out that these holdouts had significant CDS protection."

....Some creditors, including Citigroup, which held a small exposure to AbitibiBowater, hedged themselves in the CDS market, meaning their economic interest in the deal was different to lenders who had not bought credit insurance, according to people familiar with the matter. Citigroup declined to comment.

Lawyers say CDS holdings were also a factor in the default and filing for Chapter 11 protection of General Growth Properties this week. Restructuring advisers expect many more such cases involving so-called fallen angels, or firms originally investment grade, since CDS was widely sold on such names.

Presumably this happens because CDS buyers get paid off in the event of a Chapter 11 proceeding, but they don't if they've negotiated the haircut themselves.  This makes sense, since doing otherwise would align incentives too far in the other direction (i.e.,  bondholders would have no incentive to negotiate any value at all in a settlement if they're going to be made whole regardless).  Megan suggests that maybe CDS issuers should be allowed to join reorganization negotiations, the same way ordinary insurers are.  Perhaps so, though that doesn't help with the trillions of dollars of existing CDS whose terms are already set in stone.

Sigh.  Yet another problem for CDS fans to address.

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Chris Dodd's Big Money Funders

| Fri Apr. 17, 2009 9:20 AM EDT

You may have seen a Connecticut Post report floating around the Internet this morning that looks at Sen. Chris Dodd's fundraising report from the first quarter of 2009 and finds that there are only five citizens from Connecticut who donated. Those five plucky Nutmeg Staters gave a total of $4,250. Dodd has a 33 percent popularity rating and is losing in hypothetical match-ups to basically every Republican pollsters can find. The citizens of CT clearly don't want him around. So how did Dodd raise $1,048,674 in just three months?

As Daniel Schulman and I report in our story today, it mostly came from Big Finance. Here's the breakdown. Executives and PACs representing banks, financial services companies, and real estate brokerages gave Dodd at least $299,000. (NB: That means the folks that Dodd, chairman of the Banking committee, is supposed to oversee gave 70 times more than the folks Dodd is supposed to represent.) Insurers and health care interests gave $48,000. And lobbyists, many of whom have Wall Street clients, chipped in $62,800 more.

So there you have it. It's no wonder the folks that Dodd represents aren't terribly excited about having him back. It's not clear who he represents anymore.

Update: Keep in mind, there is a way to eliminate this whole money-in-politics game....

A Question for Goldman Sachs

| Fri Apr. 17, 2009 12:31 AM EDT

Back in September, Goldman Sachs received a $5 billion capital investment from Warren Buffett that requires interest payments of 10%.  A month later they received a $10 billion capital injection from the Treasury that requires interest payments of only 5%.  Given that Buffett's terms are far more onerous, Richard Bove wants to know why Goldman is planning to pay back the Treasury's investment:

"If you were thinking of shareholders first, you would get rid of the most onerous amount first, and that would benefit shareholders....However, if you pay off TARP you are eliminating all of the restrictions on paying management," Bove told "You shouldn't be diluting existing shareholders to pay off TARP so you can pay management more money."

This should become a case study in principal-agent research.  If Goldman management were primarily concerned with shareholder value, they'd pay off Buffett.  But if they're more concerned with their own personal welfare, they'll pay off Treasury.  Apparently they've made their choice.

Needless to say, though, they're not planning to give up all the other government aid they're getting.  From the Washington Post:

Even as they clamor to exit the most prominent part of the bailout program by repaying government investments, firms continue to rely on other federal programs to raise even larger amounts of money....The Federal Deposit Insurance Corp. has helped companies [] borrow more than $336 billion through the end of March, by guaranteeing to repay investors if the firms defaulted. And financial firms hold more than $1 trillion in emergency loans from the Federal Reserve.

Goldman Sachs declared a "duty" to repay the Treasury after posting a first-quarter profit. The chief executives of several large banks at a meeting last month urged President Obama to accept repayments. But no company has similarly pledged to leave the government's other aid programs.

The explanation appears to be simple: Only the capital investments by the Treasury require the companies to make significant sacrifices, such as restricting executive pay.

"The capitalization efforts are actually the most important and are doing the most good, but they come with strings attached, and because they come with substantial strings attached they are getting the most push-back from the banks," said Douglas Elliott, a financial policy expert at the Brookings Institution. The other programs "have no strings attached," he said. "What's not to like about it from the perspective of the banks?"

Perhaps it's time to attach strings to anyone who takes advantage of any extraordinary aid from the government.  If that happened, I wonder how many of these rock-jawed titans of capitalism would still be willing to put their money where their mouths are?

UPDATE: It turns out this is less mysterious than I thought.  Apparently Goldman Sachs paid back the Treasury money first because they were required to under the terms of the TARP agreement.  Details here.

All About Fundraising

| Thu Apr. 16, 2009 9:36 PM EDT

CQ reports:

“Raise money early” is probably the most oft-repeated advice given to the 40 House Democrats singled out by party officials to receive special assistance, as they prepare to defend against potentially serious challenges in the 2010 elections.

A CQ Politics analysis of campaign finance reports filed by the midnight deadline shows that these members are fast learners — they gathered an average of $266,000 in campaign receipts for the first three months of this year.

How depressing.  They've been in town for all of 12 weeks, and instead of spending their time on the million and one real problems we have, they're spending their time raising $20,000 a week.  How many hours a day do you think that takes?

Actually, I read a great piece on exactly this subject once.  I forget where, though.  Washington PostNew Republic?  Not sure.  But it was all about a freshman House member and the endless hours he spent down in the basement of party headquarters (or somewhere), where they have a room full of little booths furnished with nothing but a desk and a telephone.  He'd go down there every day armed with a list of phone numbers of car dealers and bank presidents and assorted other potential donors from his district, and he'd methodically work his way down the list, calling each one and cajoling them for a few hundred or a thousand bucks.  He did this every single day.  For hours.  It gave new meaning to word demeaning.

Anyway, like I said, I don't remember where I saw it.  Which is too bad, because it was a really great piece.  If it rings a bell with anyone, let us know in comments.

Salazar in SF: March of the Polar Protesters

| Thu Apr. 16, 2009 6:42 PM EDT

At a University of California San Francisco campus this afternoon, environmentalists made quite the display. People dressed as polar bears (at least 5), sea turtles (4), dolphins (2), jellyfish/coral (2), a kangaroo, and a seal. Two surfer girls in bikini tops walked past, leaving a trail of what looked like crude oil on the cement. ("It's actually chocolate," one confided.) The polar bears and surfer girls mingled in front of the university's conference center in hopes of influencing Deparment of the Interior Secretary Ken Salazar, who was in San Francisco to hear public comment on offshore drilling plans. While Salazar criticized Bush's plan to drill "the entire Eastern seaboard, portions of offshore California and the far eastern Gulf of Mexico with almost no consultation from states, industry or community input," he and Obama are considering expanding existing offshore operations.

At the podium, Salazar received emotional suggestions and comments from the hundreds who packed the hall. Salazar often asked follow-up questions, sometimes uncomfortable ones. Scott Johnson, from CalWind, asked Salazar to consider offshore wind projects, but when asked how much electricity on-shore turbines in California currently generated, Johnson couldn't quote a figure. The goal, Salazar told the crowd, wasn't to favor one form of energy over another. "We need to have a comprehensive energy plan going forward," Salazar said. "We recognize that some of the energy sources we have are necessary to keep the nation going economically." Oil and gas, Salazar said, "have never been off the table" and warned the crowd that "we may not be able to do what's popular."

As the hall cleared for lunch, polar bears and politicians wandered out into the hot sunshine. In front of the Peasant Pie shop, non-profits and activist organizations tended booths and a small stage to further voice their concerns, not all drilling-related. Shay Wolfe, a biologist with the Center for Biological Diversity, was in a polar bear suit, manning the tables. "We've been here since 7:30," she said. Her organization was concerned with offshore drilling, yes, but not perhaps as much as last-minute Bush regulations that “took away the scientific review requirement under the Endangered Species Act." Wolfe said Salazar has until May 9 to revoke those regulations. A San Francisco Baykeeper representative said her group was there to show support for the other environmental groups, but also yes, to say no to drilling. None of the groups brought up economic issues.

As the rally continued, Center for Biological Diversity attorney Miyoko Sakashita and her infant son Kai danced to the music in matching furry white polar bear suits. "I think people can relate to polar bears," said Wolfe. "We hope he [Salazar] got our message... we sent polar bears to greet him."

Quote of the Day - 4.16.09

| Thu Apr. 16, 2009 6:17 PM EDT

From Megan McArdle, after noting that virtually everyone these days is holding sales allegedly to help us all through the recession:

The one industry not ostentatiously offering to help me save money is the banking industry, which hasn't been trying to entice me into their savings vehicles with high rates and low fees.  We have a long way to go before the American savings culture turns into what it should have been all along.

It's almost as if there isn't any real competition in the banking industry at all.  Funny that.

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Defining Torture Down

| Thu Apr. 16, 2009 6:00 PM EDT

Reading the OLC torture memos is enough to make you ill.  The techniques in question are plainly and instinctively abhorrent by any common sense definition, and the authors of the memos obviously know it.  But somehow they have to conclude otherwise, so they write page after mind-numbing page of sterile legal language designed to justify authorizing it anyway.  It's not torture if the victim survives it intact.  It's not against the law if it takes place outside the United States.  Waterboarding is OK as long as it isn't performed more than twice in a 24-hour period.  Sleep deprivation of shackled prisoners for seven days at a time is permissible as long as the victim's diaper is changed frequently.  And on and on and on.

Do they know this is torture?  Of course they do.  Glenn Greenwald is right when he says the excerpt below is probably all you need to read.  What it says, in a nutshell, is that when other people do this stuff, we naturally call it torture.  But when we do it, it's not.  Sickening.

UPDATE: More here from David Corn.

New Memos: How Bush's Justice Dept. Approved Torture with Waterboards and Bugs

| Thu Apr. 16, 2009 4:06 PM EDT

Bugs? The CIA tried to use bugs to get a suspected terrorist to spill secrets?

That's one piece of information contained in four once-secret memos written by Bush Justice Department officials to justify the use of coercive techniques--aka torture. The previously undisclosed memos, released on Thursday, were each produced by the Office of Legal Counsel in response to requests from the CIA for legal guidance. They outline specific procedures the CIA wanted to use on detainees--including waterboarding. Referring to these documents, Attorney General Eric Holder said, "The President has halted the use of the interrogation techniques described in these opinions, and this administration has made clear from day one that it will not condone torture. We are disclosing these memos consistent with our commitment to the rule of law."

In the first of the four memos--this one dated August 1, 2002--the OLC okays a CIA request to use 10 procedures during the interrogation of Abu Zubaydah, a captured al Qaeda leader whom the agency believed was withholding information about plans for attacks within the United States. The tactics included "facial slap (insult slap)," sleep deprivation, confinement in a small space, and waterboarding. Also on the list: putting insects in the "confinement box" with Zubaydah.

The OLC approved all of this, noting that none of the procedures would cause "severe physical or mental pain or suffering." As for the insect treatment, the CIA had informed OLC that its interrogators intended to tell Zubaydah they were confining him in a small space with a stinging insect but would actually "place a harmless insect in the box," such as a caterpillar. The memo notes the CIA had informed OLC that Zubaydah "appears to have a fear of insects." Curiously, in the section of the memo describing these 10 techniques, only the part on the insect scheme contains a sentence (or two) redacted.

The OLC did have a warning for the bug-wielders of the CIA. If the CIA interrogators were to place "harmless" insects inside a confinement box containing Zubaydah and were to tell him about it, the OLC said, they would also have to inform Zubaydah that the bugs "will not have a sting that would produce death or severe pain." And if they were not going to tell him about the bugs, the OLC said, then the CIA interrogators could not lead him to believe that there might be bugs present that could cause severe pain or death. Got it?

As for waterboarding, the OLC said, full-speed ahead, even though it noted that the procedure caused the perception of "suffocation and incipient panic." The memo--signed by Jay Bybee, then the assistant attorney general--pointed out that the OLC had previously concluded that "severe pain" is "pain that is difficult for the individual to endure and is of an intensity akin to pain accompanying serious physical injury." But the OLC maintained in this memo that the experience of being waterboarded was not covered by this definition. Waterboarding, the memo concluded, "inflicts no pain or actual harm whatsoever." The memo continued: "The waterboard is simply a controlled acute episode, lacking the connotation of a protracted period of time generally given to suffering."

The memo did note that "the use of the waterboard constitutes a threat of imminent death." But the OLC asserted that for this threat to be equated with "severe mental pain or suffering" it must be "prolonged"--meaning "lasting months or years." In other words, a physical act producing that was like suffocation that could be perceived as a "threat of imminent death" would not constitute "torture."

The OLC also informed the CIA that for any of its interrogators to be open to a torture charge, he or she would have to had "the specific intent to inflict severe pain or suffering." And, in OLC's view, the objective of the interrogators using waterboarding and these other techniques was not to cause pain; it was to obtain information. Thus, they were free to proceed. But the memo ends on a less-than-solid note. "We wish to emphasize," the memo said, "that this is our best reading of the law; however, you should be aware that there are no cases construing [the anti-torture] statue; just as there have been no prosecutions brought under it." That is, go ahead but don't blame us if someone later on raises a fuss--about waterboards or bugs.

UPDATE: A May 10, 2005, OLC memo noted in a footnote: "We understand that--for reasons unrelated to any concerns that it might violate the [anti-torture] statute--the CIA never used that [insects] technique and has removed it from the list of authorized interrogation techniques." The memo did not explain why the CIA dropped the bugs.

For a collection of Mother Jones articles on torture, click here.

George Will's Jihad on Jeans

| Thu Apr. 16, 2009 3:57 PM EDT

George Will is officially trying to be America's crotchetiest pundit. Fresh from his lame attempt to deny climate change, he has stepped into his time machine, set the dial to 1957, and unleashed a diatribe about the social scourge that jeans. Seriously. Playing off another denim demonizer in the Wall Street Journal, in yesterday's column Will tapped into his inner Mr. Blackwell and dissed jeans as "an obnoxious misuse of freedom," "the infantile uniform of a nation in which entertainment frequently features childlike adults...and cartoons for adults," "the clerical vestment for the priesthood of all believers in democracy's catechism of leveling—thou shalt not dress better than society's most slovenly," and "the calculated costume of people eager to communicate indifference to appearances." Wow. I sure hope no one tells him about kids going steady. Or electric guitars.

It's hard to believe that it has just now occurred to Will that casual comfort is destroying our moral fabric. But a glance at his old columns finds that the preppy pundit has been portraying jeans as signifiers of social unraveling for more than 30 years. Examples after the jump.

The OLC Memos

| Thu Apr. 16, 2009 2:49 PM EDT

It looks like the Obama administration will be releasing those Bush-era OLC torture memos after all.  Statement here.  Good for them.  Also this:

In releasing these memos, it is our intention to assure those who carried out their duties relying in good faith upon legal advice from the Department of Justice that they will not be subject to prosecution. The men and women of our intelligence community serve courageously on the front lines of a dangerous world. Their accomplishments are unsung and their names unknown, but because of their sacrifices, every single American is safer. We must protect their identities as vigilantly as they protect our security, and we must provide them with the confidence that they can do their jobs.

Generally speaking, I think I agree with this — though there might be specific circumstances where prosecution is called for regardless of legal guidance.  I can't honestly say that I base this on any kind of coherent principle, though, and I'm not entirely happy I feel this way.  It just seems as if tackling the practical issues involved in figuring out who did what, and under what circumstances, is too vast an undertaking for too small a probable return.  So, reluctantly, I think Obama's decision is probably for the best.

But I'm going to think about this some more before I pretend my opinion is set in stone.  In the meantime, feel free to slag away in comments.

UPDATE: The ACLU has all four memos here.