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Strategies & Market Trends : The coming US dollar crisis -- Ignore unavailable to you. Want to Upgrade?

To: Box-By-The-Riviera™ who wrote (331)	7/12/2007 12:08:15 PM
From: stan_hughes	Read Replies (1) \| Respond to of 71412

CDO leverage math for dummies: Howie's Hedge Fund Balance Sheet Assets: Investment in CDOs - $200,000,000,000 Total Assets = $200,000,000,000 Liabilities: Loans Outstanding - $199,500,000,000 Equity: Paid-in Capital - $500,000,000 Total Assets & Liabilities = $200,000,000,000 Your Assignment: 1. Calculate what happens to the asset value of Howie's Hedge Fund if the homeowners who generate the fund's interest income fall behind on their payments, and the carrying value of the CDOs is consequently reduced to 85 cents on the dollar to reflect these deteriorating conditions. 2. Re-calculate the asset value for Howie's Hedge Fund if, in addition to the lost mortgage payments described in #1, foreclosures begin to occur that result in the CDO portfolio being revalued down to 70 due to the permanent loss of large portions of its original income stream. 3. Re-calculate the fund's value again at 50 based upon the additional impact of further losses of income due to numerous homeowners walking away from their homes and mortgages because of a collapse in the value of the houses, and before an even bigger house payment burden for them materializes due to ARMs resets and higher interest rates. 4. Estimate the amount of time in days from today before Howie's Hedge Fund can no longer get credit in order to keep the office lights on and the doors open. Bonus mark - will the fund trade at 0 before or after the locksmith comes? 5. Estimate the fund's value when all mortgage income payments cease completely. Estimate the liability from Howie's Hedge Fund that transfers to whoever provided a Credit Default Swap guarantee that this would not happen and now has to make up the loss. Bonus marks will be given to anyone who can accurately identify who is holding the biggest CDS bag (please see your instructor privately with this information and we'll split the short sale gains). Further questions for discussion: 1. How much money does Howie's Hedge Fund have left after Calculation #1? Calculation #2? Calculation #3? Discuss the concept of exponentially increasing negative returns on equity and how they can decimate 10-digit and even 100-digit-sized portfolios. 2. Why hasn't Howie already been lynched by the fund's holders after Calculation #2? Can you think of a reason why, in the United States, an investor is legally barred from suing a fund's advisors for losses, even in cases of fraud? Discuss how the system is rigged in favor of Wall Street banks. 3. Where were the crediting rating agencies before it occurred to anyone to perform Calculation #1? Calculation #2? Calculation #3? 4. Why would anyone still bid for Howie's Hedge Fund even at 2 cents on the dollar when the fund's liabilities obviously exceed the value of its assets? 5. What is the Greenspan/Bernanke Put? How did the belief in this phenomenon contribute to the formation of CDOs? How could anyone be dumb enough to put money into these things at, and even beyond, the top of the housing market in 2005? Discuss the influence of greed on investor mentality and the general irrationality of markets with other members of the study group.