From Volume 6, Issue 23 of EIR Online, Published June 5, 2007

U.S. Economic News Digest

Pension Fund Managers Invest in CDO 'Toxic Waste'

June 2 (EIRNS)—Everybody's doing it. Calpers (California Public Employee Retirement System) has invested $140 million in them; the Texas teachers pension fund has invested $73 million; the New Mexico State Investment Council has bought $222.5 million, and is planning to invest another $300 million. They are snapping up unrated, bottom-of-the-barrel collateralized debt obligation (CDO) investments known as "equity tranches," and nicknamed "toxic waste" in the trade. Toxic waste because they are a bundle of the riskiest portion of the CDO, made up largely of subprime loans and other risky debt. These investments are unrated, practically untrackable, and the mix in the bundle can be changed after it is sold, so you really don't know what you have.

Edward Altman, director of the Fixed Income and Credit Markets program at New York University's Salomon Center for the Study of Financial Institutions, commented to Bloomberg June 1 of such an investment: "That's obviously a very risky play ... if there's a meltdown, which I expect, it will hit those tranches first."

Chriss Street, treasurer of Orange County, Calif., was more blunt: "It's grossly inappropriate to take this level of risk. Fund managers wanted the high yield, so Wall Street sold it to them. The beauty of Wall Street is they put lipstick on a pig." Street mentioned the similarity between the investments which led to Orange County's 1994 bankruptcy, and the investments being made by the large pension funds today. "Very few pension plans could meet their fiduciary duty by buying portfolios of subprime loans," he said. "They spiked up the yield, but that yield means nothing when the defaults start to mount, as we know they will. The funds will take big losses."

With the dramatic rise in foreclosures centered in the subprime mortgage sector, the day of reckoning is close at hand. It's one minute to midnight; do you know where your pension is?

'Big Three' Automakers To Dump Health Care on Union

June 1 (EIRNS)—Ford, GM, and Cerberus-owned Chrysler will demand this Summer that the United Autoworkers Union (UAW) take the health-care plans of retired autoworkers off the auto companies' hands, in order to save each of the companies billions in health-care liabilities. This huge union "giveback," of which the LaRouche Political Action Committee (LPAC) warned in a May 18 report on the Cerberus buyout of Chrysler, was reported in the May 29 Christian Science Monitor. The Monitor interviewed two union benefits experts who confirmed that the automakers will demand that the union take lump-sum payments from each of the "Big Three," and then administer its own retirees' health-care plan as a voluntary employees beneficiary association (VEBA), rather than a full-scale retiree health plan.

The lump-sum payments would probably only cover 60-70% of the liabilities of the current plans. This is sometimes called the "Goodyear solution," in reference to the precedent set by in 2006 by Goodyear Tire and Rubber, which forced the United Steelworkers Union (USWA) to accept a $1 billion lump-sum payment and takeover of its health-care plans.

Housing Collapse Heads Toward Cascading Chain Reaction

May 29 (EIRNS)—David Seiders, chief economist for the National Association of Home Builders (NAHB), warned that U.S. new home construction may not reach a normal "benchmark" level of 1.85 million units per year, until the year 2011, a striking admission of the downward spiraling of the housing market.

In an interview with Bloomberg news service May 29, Seiders stated that new home construction starts occurred at an annual level of 1.53 million units in April 2007, compared to 2.29 million units in January 2006, a fall of 33.2%. To reach the benchmark level of 1.85 million units, new home construction would have to rise by 21%, he said. But this is impeded by the fact that in April 2007, the national inventory of unsold homes reached 4.2 million, a supply of 8.4 months, the highest level since the NAHB began collecting figures in 1999. This inventory would have to be worked down, he said.

In addition, Seiders asserted that, "We're still being hit pretty hard by the subprime-related mortgage market problem." He projected that defaults and foreclosures on subprime mortgages may rise cumulatively to $650 billion by 2009; that would constitute more than a third of all subprime mortgages outstanding.

Simultaneously, Standard & Poor's reported that its Case-Shiller U.S. National Home Price Index, for the sales price of existing single-family homes in metropolitan areas, fell 1.4% during the first quarter of 2007, compared to the comparable period of a year earlier, the first quarterly decline in 16 years.

Pigs War Over Who Will Survive the Mortgage Collapse

June 1 (EIRNS)—A group of hedge funds which have been betting vast sums that subprime mortgages will fail, is now demanding public action to stop the banker-lenders from interfering with defaults and foreclosures. The Financial Times of London reports that the hedge fund Paulson & Co. led a group of 25 firms in a request to the International Swaps and Derivatives Association, complaining that mortgage bankers sell credit derivatives (which these hedge funds buy) to insure themselves against failure of the usurious loans, and then somehow renegotiate the mortgages that fail—thus these loans are not reported as failed, and they don't have to pay off on their lost bets. A spokesman for Paulson & Co. told EIR that investors make a fortune by keeping or buying up failed loans and manipulating the credit-insured market, which he said is leveraged to 1,000% or even 10,000% of the value of the loans.

Hundreds of billions in losses are building up to crash upon hedge funds, mutual funds, banks, and others who have milked the mortgage bubble. Who will eat the losses; who will survive the smashup?

Paulson & Co. (no relation to Treasury Secretary Henry Paulson) is a vulture fund, specializing in taking stock positions and then staging anti-management revolts to block planned capital investments, and forcing payouts to shareholders instead. Victims include Algoma Steel in Canada and Reliant Energy in Texas. The Financial Times reports that Paulson & Co. "last year launched a specialist fund to bet on a downturn in the subprime market. The fund is up more than 90 per cent in the year to date."

The hedge funds betting on collapse and default have hired former Securities and Exchange Commission chairman Harvey Pitt to publicly state their complaint against the mortgage bankers who are not foreclosing on homeowners they have squeezed. Pitt reportedly coined the phrase "corporate Darwinism" to credit law-of-the-jungle immorality as the cause of higher economic efficiency.

On May 15, Federal Reserve Board chairman Ben Bernanke told the 2007 Financial Markets Conference on credit derivatives, "We should ... always keep in view the enormous economic benefits that flow from a healthy and innovative financial sector. The increasing sophistication and depth of financial markets promote economic growth by allocating capital where it can be most productive."

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