The Minsky Moment: They Can Run, But They Can’t Hide

‘Ponzi’ finance units must increase its outstanding debt in order to meet its financial obligations.”
–Hyman Minsky

The collapse of New Century this week illustrates in spades the end game of Ponzi finance. All the incentives for Ponzi business models are front loaded, that being collecting fees and commissions for silly season and often fraudulent transactions. Once the string has been run, the loots from these transactions are stuffed into the criminal rat lines, and the game of musical chairs begins.

It is at this twisting in the wind “break point” that the hyperreality crowd gets the “surprise”, that makes their denial no longer an illusionary asset, but a liability. There is then a mad scramble to determine who becomes the final bagholders of the Ponzi scam. That’s when a term that will without doubt become increasingly familiar enters the lexicon, the “margin call”. Margin calls pull the plug on Ponzi finance “liquidity”.

New Century said in a securities filing yesterday that all its lenders had frozen their credit lines and were demanding that it buy back $8.4 billion in loans that it issued using the money it borrowed from the banks — money New Century says it does not have.

Of course all the players will pretend and proclaim that it will be somebody else who will end up holding these Old Maid Cards, or guarantee their loss claims. They will also pretend that this drama will be drawn out, and that they can head for the exits in an orderly fashion. In reality though historic Minsky moments of this magnitude unfold quite rapidly. In fact, last night we were greeted with yet another budding implosion, this time an outfit with the hyperreal motherhood and apple pie name Accredited Home Lenders.

What continues to be remarkable about these turkey shoot setups is how the shares stay levitated right up to the very end. Incredibly, even on the eve of their collapses these firms are fully supported by Wall Street dead fish with “buy recommendations”. Despite the overwhelming evidence that Toto has pulled the curtain on the magnificent Wizard of Oz, these firms still are treated as credible institutions? A thinking person has to wonder at what point the marks tire of “surprises” and the commentary from shills, thus accelerating the Minsky moment.

Of course another of the dead fish games being played is to divert attention away from the caca that these financial institutions hold. One major class of this toxic material are Alt A loans, which made up 20% of 2006 originations.

Click to enlarge

Credit Suisse produced another fantastic report on this topic, and broached the obvious: big trouble lurks. I define Alt A as mortgages with exotic features. No or low documentation (liar loans) made up a staggering 81% of these loans in 2006. Putting very little skin into the game is another characteristic of Alt A loans, with second mortgages or piggybacks being used by 55% of the 2006 vintage. The security behind the home equity lines of credit used for this really goes without saying.

The combined loan to value of these combo loans was 88% in 2006, that is if you think the appraisals at the time were accurate (which I don’t). Speculators and second home owners make up 22% of Alt A loans, so they constitute a large chunk of the vacant, negative cash flow albatrosses seen around the country. Other characteristics are noted here, click to enlarge.

Another characteristic of Alt A mortgages are their heavy exposure to certain highly problematic Bubble states.

Finally a revealing chart as to the tidal wave of rate resets in Alt A and subprime mortgages. Note that they pick up in earnest starting in May (month 5) and continue relentlessly over the next year or more.

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