Tags: BlackRock | Fink | Fed | debt

BlackRock Execs Pioneered Debt Securitizations That Damaged Our Economy

Friday, 06 Sep 2013 07:57 AM

By Barry Elias

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Debt securitization was the primary cause of the recent financial crisis, since it enabled unqualified candidates to secure risky mortgage loans that could not be adequately serviced.

By the end of 2008, more than half of the entire $14.6 trillion mortgage market — or $7.6 trillion — were securitized. Nearly $5 trillion of these securitized products were effectively guaranteed by the U.S. taxpayer through government-sponsored enterprises, including Fannie Mae, Freddie Mac and Ginnie Mae, according to the Federal Reserve.

The packaging and marketing of these high-risk securities began three decades ago by current executives at BlackRock, the largest asset manager in the world with roughly $3.7 trillion under management.

As a result of the financial crisis, $29 trillion of liquidity was provided to the banking system by the Federal Reserve in the form of financial asset purchases, direct loans and loan guarantees, according to a 2011 study by the Levy Economics Institute of Bard College.

As a pioneer of mortgage-backed securities at First Boston, current-BlackRock Chairman and CEO Larry Fink presented a collateralized mortgage obligation product to Freddie Mac in 1983 to remove $1 billion in mortgages from their balance sheet to insure a profit. Recollecting an experience in 1986, Fink said, "I lost $100 million in one quarter, and I didn't know why. And we made $130 million the quarter before, and I didn't know why we made so much money. So we should have been fired the quarter we made the money," according to CNNMoney.

By 1987, he headed the mortgage security group at First Boston, but left a year later to join BlackRock, a fixed-income division of Blackstone at the time.

Craig Phillips has led the financial markets advisory and client solutions teams for BlackRock Solutions as managing director since 2008. Phillips is recognized as a leader in the development of debt securitized markets, such as mortgage-backed securities. He served as managing director of Credit Suisse First Boston from 1984 to 1994 and as managing director of Morgan Stanley's fixed-income division from 1994 to 2006, overseeing its global securitized products group.

In 2000, BlackRock formed a division called BlackRock Solutions to provide risk management and trade processing tools to large, sophisticated institutional clients. In 10 years, this portfolio grew to more than $10 trillion of outstanding securities.

Despite this extraordinary level of expertise in securitization and risk analysis, BlackRock was intimately involved in the largest commercial mortgage bankruptcy in U.S. history in January 2010, when its consortium defaulted on a bond payment for the Stuyvesant Town and Peter Cooper Village complexes in Manhattan.

The result was a $4.4 billion loss over four years, or 70 percent of the initial investment of $6.3 billion. Nearly half the financing was provided by mortgage securitization that was sold to Fannie Mae and Freddie Mac and implicitly guaranteed by the U.S. taxpayers. In this deal, BlackRock was fortunate to lose only $112 million. Other principal investors experienced losses as well, including $250 million for the Florida pension system; $100 million for Calstrs, a California pension fund; $112 for Tishman-Speyer; and possibly $775 billion for the Government of Singapore Investment Corporation.

This suggests a severe misinterpretation of the real estate market and the related derivative products by BlackRock, which may have negative ramifications for the community in the years and possibly decades to come.

'"It's the poster child for the entire housing bubble," said Daniel Alpert, managing partner of Westwood Capital. "There'll be some other spectacular blowups, but this will be at the top of the pecking order,"' according to The New York Times. The economic consequences of this action still reverberate through the community, including an ill-conceived plan to wrongly evict rent-stabilized tenants to optimize future rent revenue streams at market rates.

Fink, who has been mentioned as a possible Treasury secretary, suggested the credit bubble was present in 2006 and he recognized it would implode. However, he acknowledged his timing of the crisis was grossly inaccurate, according to Businessweek.

The waning credibility of Moody's, Standard & Poor's and Fitch resulted from their highly flawed rating assessments that may have involved serious conflicts of interest with the investment bank originators of these securities. While this has bolstered BlackRock's stature in risk analytics, recent activities need to be examined thoroughly.

Its reputation has been questioned by some due to its involvement as an adviser and market participant with governments. During the financial crisis, BlackRock advised the Fed in pricing bank assets that they were then able to bid on. In addition, the U.S. government has awarded them contracts to advise without a competitive bidding process, according to The Economist.

More worrisome is whether BlackRock's risk assessment models are sufficiently accurate. '"If you're worried about market declines, you have to be worried about BlackRock," Fink said. "We're the largest investor in the world. We have more beta [market exposure] than we ever had before," The Economist reported.

Fink also suggests that "regulators are no longer putting up with dodges like structured investment vehicles that took leverage off the balance sheet but didn't actually reduce risk," according to Time Business & Money. However, these are the very securities that he and Phillips helped pioneer and develop over the past three decades.

Fink believes these derivatives need to trade on exchanges to increase transparency and minimize financial and economic disruption. This is essential to our financial and economic health. However, Fink claims he has not seen evidence of this occurring, Time Business & Money reported.

Unfortunately, this crisis is not over.

The fiscal and monetary policies exercised by the federal government have not had great impact on promoting global economic stability. Pimco's Bill Gross, who manages the world's largest bond fund, suggests the expansive money supply and low interest rates have threatened investment in the real economy of goods and services, as opposed to financial assets, such as equities and bonds.

"Why invest in financial or real assets if bond prices could only go down, and/or stock prices could no longer be pumped up via the artificial steroids of QE?" Gross asked, referring to the quantitative easing by the Fed over the past four years.

The probability of future financial debacles remains uncomfortably strong without serious reform of our financial services industry.

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