Why things snowball out of control

Has anyone seen the docu-drama covering the Lehman period? Hank Paulson, Tiny Tim (POMO) Geithner, the whole cast from the major Wall Street banks, Jamie, Lloyd, etc?


If you saw it Lehman went from a bad situation to an impossible situation in days. In their 10Q filings you can even see (for those that are really sharp) in the footnotes (out of the view of where most people look), their Pledgeable assets dropped by 50%, Wall Street knew there was blood in the water. I'd like to take the time and look at JPM's pledablle assets to se if there's a similar reaction. What this means is the lack of Pledgeable assets or you may have heard the term "Re-hypothecated" assets, means that hedge funds weren't doing business with Lehman, to the tune of a 50% drop off in business, this is how things spiral out of control very quickly.


We had a quiet period in Europe after the Greek bailout was "finalized" (plenty of sarcasm there), you may recall me saying, "The EU is about to come roaring back in to the spotlight" over 2 months ago, two weeks later it did. 


Spain is the domino that can take down all of Europe, Greece is another, but for now lets consider Spain. The benchmark 10 year yield on their sovereign debt has climbed above 6%, countries (especially those who can't unilaterally deflate their currency-like everyone using the Euro) simply cannot sustain those yields and make the debt payments, it becomes nearly impossible for them to go to market for funds so they turn to the EU/ECB for a bailout like Greece did at 6%, Ireland at 6% and Portugal at 6%.


However we now have a banking crisis which has actually been in place since last year, it has just gotten worse, especially since the bank runs and the downgrades. Certain investment funds cannot hold assets that are rated below a certain level, so when these sovereign or banking downgrades come, that means legally some funds HAVE to sell their holdings. That's one aspect-the other is no one wants to hold garbage.


The Spanish Banking sector was just downgraded and who holds the majority of Spanish sovereign debt? The Spanish banking sector. Today LCH Clearnet (just recently in fact), upped the margin maintenance on ALL Spanish Bonds with a duration of more than 1.25 years. This means that the severely undercapitalized Spanish banking sector has to post additional margin on their holdings, the problem? They don't have the money.


And this is exactly why tops are very unpredictable and why when things start to go south, they snowball out of control very quickly. An impossible situation was just made a LOT worse.