THE BLOG

Merrill Lynch Smokes its Own Belly Button Lint

06/11/2008 05:12 am ET | Updated May 25, 2011

Just before the crash of 1929 huge trusts operated by the largest banks on Wall Street were buying each other's stock to try and delay the inevitable. It's like the passengers of the Titanic trying to drink all the water in the ocean to avoid sinking. Just before the dot-com crash we saw similar banking desperation; banks were lending to zero-revenue and zero business plan start-ups to spend the loans as fast as they could to make it look like they were 'growing' and therefore worthy of an IPO. Before the recent mortgage meltdown and real estate crash, home builders were lending to buyers to buy already inflated (read: fraudulent) appraised houses with zero chance of getting repaid, but 100% chance of cashing out inflated stock options.

In the clearest sign yet that the lending insanity has not gone away and the full impact of the Greenspan drunken credit bacchanalia has not nearly been fully 'discounted.' Take a look at this story on Bloomberg;

By Bradley Keoun
June 2 (Bloomberg) -- Leave it to Wall Street to profit from
its own distress.
Merrill Lynch & Co., Citigroup Inc. and four other U.S.
financial companies have used an accounting rule adopted last year
to book almost $12 billion of revenue after a decline in prices of
their own bonds. The rule, intended to expand the ``mark-to-
market'' accounting that banks use to record profits or losses on
trading assets, allows them to report gains when market prices for
their liabilities fall.
``They can post substantial gains as a result of a decline in
their own creditworthiness,'' said James Cataldo, a former
director of treasury risk management for the Federal Home Loan
Bank of Boston and now an assistant professor of accounting at
Suffolk University in Boston. ``It's completely legitimate, but it
doesn't make sense by any way we currently have of thinking of net
income.''

If a tree falls in the woods and nobody hears it fall, does that stop Goldman, or Merrill, or some other investment bank from collateralizing the perceived sound and selling it as a hedge against some statistical probability worked out by an autistic 'quant' on loan from Bellevue working on the proprietary trading desk?

Is that the sound of one hand clapping, or is that the sound I make when I learn these mirror images of nothing-backed-bonds are in my pension account courtesy of non-falling trees sold by Merrill to boost their stock option related bonuses?

The Bloomberg story goes on to say;

So far, most banks' writedowns are ``unrealized,'' meaning
they've been unwilling or unable to liquidate distressed assets.
If prices reversed, the banks would record mark-to-market profits.
The same is true for the liabilities. Companies can't
``realize'' the mark-to-market gains on their debt unless they buy
it back at the discounted price. They're unlikely to do so,
because the deterioration in creditworthiness means they'd have to
replace the debt with higher-cost borrowings, Willens said.
``No one's going out in the market and actually retiring this
debt,'' Willens said. ``It's a shell game.''