I'm not sure whether to be comforted or alarmed at plans to create $100 billion Master-Liquidity Enhancement Conduit to buy distressed SIVs. On the one hand, this should provide a visible buyer of last resort for SIVs. That should prevent market prices on these vehicles from diverging too much from their modeled valuations. On the other hand, I can only imagine that the banks involved must realize how fragile the system is. They wouldn't make this grand gesture if they thought they didn't need to.If M-LEC is invoked, will these banks be buying oversold assets at rock-bottom prices? Or have these banks been saddled with being the greater fool that will be left holding the bag? I noticed that U.S. real estate futures have 10%-25% price declines for some major metropolitan areas. That will put a very large pool of mortgages underwater.

So are we going to watch a regulatory-mandated releveraging of banks ? Since some of the risks/assets the banks had passed through came back uninvited, what's the effect of legislation/pressure into it ? I'm finishing Bookstaber's "A Demon of Our Own Design", and the concept of "normal accidents" and complexity is quite interesting ... adding regulation into this seems like one of the examples in the book.

Yes, the entire boom-bust credit cycle seems tailor-made to create "normal accidents" through the progressive amplification of moral hazard. To me, this is a most fascinating aspect of the financial markets - that risk and return are actually endogenous nonlinear variables to a great degree.The words "off-balance sheet" should always cause severest skepticism. Indeed, it looks like auditors are starting to wonder if Citibank et al needs to pull their SIVs into their accounting statements.

Simple accounting gimmick. Say I'm CITI or JPM or BA. I have some CDOs, CDOs of CDOs, or subprime CMOs. Bids for the junk are at 50. I say they are worth 90. Total market value according to my valuation is $20 billion. According to the bids it is $11.1 Billion. I buy $20 billion of shares in the fund, sell my crap to it for $20 billion. I mark $20 billion in an equity SIV investment on my balance sheet, even though fair market value is $11.1 billion. Enables me to sell $11.1 billion of securities and pretend, from an accounting standpoint, that I got $20 billion. Pure accounting fraud. Scary thing is the Treasury Department is in on it.

Mark Gilbert's column (Bloomberg)

QuoteOriginally posted by: MCarreiraMark Gilbert's column (Bloomberg)Thanks for the artlicle. It sounds like the major players have decided to stuff cotton wool in their ears so that can't hear that the music has stopped. I like the "don't ask, don't sell" mantra that lets holders pretend that the junk they hold is worth something as long as they don't try to sell. I can see that mark-to-model can be valid, but I can also see how it can be delusional. Moreover, the article also makes clear that M-LEC isn't going to solve the problem of the junkier tranches in the SIV's portfolios.Still, I was surprised that the "buyers strike" in the credit markets only amounts to a 25% decline in volume from the peak -- it's hardly a true strike if it just takes us back to May 2006 trading levels. It's not like mortgage applications, which are down 67% from the peak.To me, the other shoe that hasn't dropped is how all this will effect the short-term primary commercial debt market. I'd bet that more that few companies had assumed they would be able to roll their expiring debt into new issues. I wonder how many of these firms will have the ready cash to pay-off their bonds in full when they come due. And I wonder what will happen in the markets when some corporations find they must liquidate their short term and long-term investments because debt is no longer an option for them. A forced de-leveraging won't be pretty but then the end of a credit cycle never is.

QuoteOriginally posted by: Traden4AlphaYes, the entire boom-bust credit cycle seems tailor-made to create "normal accidents" through the progressive amplification of moral hazard. To me, this is a most fascinating aspect of the financial markets - that risk and return are actually endogenous nonlinear variables to a great degree.The words "off-balance sheet" should always cause severest skepticism. Indeed, it looks like auditors are starting to wonder if Citibank et al needs to pull their SIVs into their accounting statements.Right you are. Smart and perceptive.

Crash protection requires (I think) the use of EVT technics to forecast extreme quantiles !