Defaulting banks - where will it stop?

[Jan Klimkowski]

More market transparency from those loveable bankers... :flybye:

JP Morgan to Launch New Dark Pool

Traders Magazine Online News, November 20, 2009

Peter Chapman

JP Morgan Chase is on the verge of launching a new dark pool, sources close to the big bank say.

Called JPM-X, the platform is based on technology built by Bear Stearns, and will replace an earlier dark pool called Lighthouse.

JP Morgan launched Lighthouse early in 2008, just before the bank acquired a floundering Bear Stearns.

Lighthouse is still operational as an internal cross, sources say, but is in the process of being decommissioned. The system was never registered as an alternative trading system.

JPM-X, on the other hand, is an ATS. It is expected to be considerably larger than Lighthouse due to the acquisition of Bear Stearns. The deal brought to JP Morgan a large prime brokerage operation as well as Bear’s clearing and retail businesses.

In at least one critical respect, JPM-X will operate in fundamentally different fashion from Lighthouse: it will not transmit indications of interest.

“We do not send out IOIs,” Brett Redfearn, JP Morgan’s global head of liquidity, said at a recent industry conference. “We believe—just like flash orders—there is some leakage associated with the practice.”

Some dark pool operators send out electronic messages to other dark pools or liquidity providers noting the presence of an order in their pool. Many in the industry find the practice harmful.

(New rules proposed by the Securities and Exchange Commission could sharply curtail the practice.)

A year-and-a-half ago, JP Morgan believed transmitting IOIs was a good way to increase the chances of finding a match in its pool. Lighthouse was built as both an internal crossing mechanism as well as a seeker of external liquidity. It was called Lighthouse because it scanned other dark pools much as a real lighthouse scans the darkened seas.

Redfearn, who was previously with Bear Stearns, took over JP Morgan’s electronic trading department after the merger, replacing Carl Carrie.

Sources say the system was originally built by Bear Stearns, but has been significantly augmented since the merger. The system is operational and is expected to be launched soon. JP Morgan executives would not comment for this article.

http://www.tradersmagazine.com/news/-104671-1.html

[Magda Hassan]

Mmmm... New financial instruments? Just what we need.

By Samuel Shen and Doug Young - Analysis
SHANGHAI/HONG KONG (Reuters) - Chinese banks, under government pressure to shore up their finances, are set to unleash a wave of billions of dollars in capital raising that could strain equity markets but also spur innovation in debt instruments.
The banks could go to the market with a slew of new stock and bond offers as they look to raise as much as 300 billion yuan ($44 billion) over the next few years, according to some estimates.
The move would follow a surge in bank lending in the first half of this year, encouraged by the central government under its broader 4 trillion yuan economic stimulus plan. But now the regulator, worried about a lending bubble, is cautioning banks to ensure their capital is adequate.
Three of the country's top four listed banks, Bank of China Ltd (601988.SS) (3988.HK), China Construction Bank (601939.SS) (0939.HK) and Bank of Communications (601328.SS) (3328.HK) have already started work on fundraising proposals, a source told Reuters on Monday.
"There's no doubt there will be a massive wave of fund raising from Chinese banks, but the key question is when, where and how," said Fan Kunxiang, analyst at Haitong Securities Co. "If banks all rush to sell shares within a short period, it would unavoidably be a blow to the stock market."
The Chinese lenders aren't the only ones in Asia looking to raise capital. Japan's banks, for instance, could be raising tens of billions of dollars to meet stricter capital rules. Mitsubishi UFJ Financial Group (8306.T), Japan's top bank, said last week it would raise $11 billion to meet coming regulations.
In the latest wake-up call to lenders, China's top banking regulator Liu Mingkang warned in an article published on Tuesday that banks need to protect themselves from credit risk caused by changes in the country's industrial structure.
Analysts said small- and medium-sized lenders could be the first to feel the pinch, lacking the resources of larger lenders.
In a potential sign of things to come, mid-sized Industrial Bank (601166.SS) said on Monday it would raise up to $2.64 billion in a rights issue to plug a capital shortfall.
Earlier this year, rivals Shanghai Pudong Development Bank (600000.SS) and China Minsheng Banking Corp (600016.SS) announced plans to raise a total of about 53 billion yuan via share sales.
'ROOM FOR INNOVATION'
Chinese banks must keep their capital adequacy ratio -- a key measure of their ability to absorb losses -- above 8 percent by law. But regulators late last year urged small- and mid-sized listed lenders to aim for 10 percent or higher.
The China Banking Regulatory Commission has used various measures to tighten those rules this year and repeatedly warned against reckless lending.
Bank of China's capital adequacy ratio stood at 11.6 percent as of September 30, compared with 12.6 percent for ICBC (1398.HK), China's largest lender, and 12.1 percent for China Construction Bank. All were well above the 8 percent regulatory minimum.
Concerns about new capital raising have weighed on banking stocks since mid-year when the regulator first started signaling its caution.
Shanghai-listed shares of ICBC (601398.SS) are up a scant 1.3 percent since mid-year, while Bank of China is up 2.3 percent and China Construction Bank is up 4.2 percent. All those are well behind a 13.2 percent rise for the broader market .SSEC.
The need for more capital could continue to weigh, and even spread if the broader market cannot absorb the huge sums of new funds required.
"The market has largely priced in expectations of fund-raisings by banks," said Wu Yonggang, analyst at Guotai Junan Securities. "But if regulators suddenly raise ratio requirements ... all banks will be short of capital, and that would scare investors in the stock market."
The looming pressure is already forcing market players to look at other ways of raising capital.
Some of those, including use of debt markets, could provide an opportunity for China to introduce innovative financial instruments, such as bonds with deferrable interest payments, said Liao Qiang, an analyst at Standard & Poor's.
"Compared with overseas markets, China has very limited types of instruments in the debt market that banks can use to replenish capital," Liao said. "There's room for innovation."
Other analysts pointed out the new capital raising could come over a longer period, which would lighten the load on markets.
None of China's dual-listed banks need new equity now, but there may be such a need over the next two to three years, Citigroup said in a November 19 report. Bank of China also said on Tuesday it is studying various ways to raise capital but has no plans for now to do so.
"I think big banks such as Bank of China and China Construction Bank are not in a hurry to raise capital, but it's natural for them to start thinking about it," said Guotai's Wu.
(US$1=6.832 Yuan)
(Additional reporting by Michael Wei; Editing by Muralikumar Anantharaman)
http://www.reuters.com/article/newsOne/i...24?sp=true

[Jan Klimkowski]

Amusing but accurate take on the Dubai meltdown from Market Ticker's Karl Denninger, comparing the financial ethics of Arab governments with those of the west:

My God, There Is A Wise Govermment
It just happens to be in the Middle East:

Nov. 30 (Bloomberg) -- Dubai’s government said it hasn’t guaranteed the debt of Dubai World, the state-controlled holding company struggling with $59 billion in liabilities, and that creditors must help it restructure.

“The company received financing based on its project schedule, not a government guarantee,” Abdulrahman Al Saleh, director general of the emirate’s Department of Finance, said in an interview with Dubai TV, when asked whether the government was backing the debt. “Lenders should bear part of the responsibility.”

Ding ding ding ding ding ding.

You make a bad loan predicated on a bunch of pump-monkey nonsense instead of sound underwriting, and it goes bad, you are going to take a big fat loss!

How come we can't get this right? Why is it that we protect creditors while slamming debtors? Are you going to tell me that the only place there is a "free market" left in lending is in the freaking middle east?!

“The times of implicit support are clearly over,” said Philipp Lotter, vice-president of Moody’s Investors Service in Dubai. “In the past entities such as Dubai World certainly represented themselves as quasi-government entities, whereas there was no legal obligation on behalf of the government to support, and that has certainly shifted with last week’s announcement.”

Where have we heard that before? Oh yeah...

(Fannie Mae letter at url.)

Of course in this case, even though there is a black-letter disclaimer - a disclaimer repeated in the 10Qs up to and including the most-current one, both The Fed and Government have dumped close to $100 billion into this insolvent trashpile along with its red-headed cousin, Phoney.

Nor are they alone. GM and Chrysler anyone? AIG?

Lenders “have deemed Dubai World as part of the government and that is not true,” al-Saleh said.

Lenders deemed Fraudie and Phoney part of the government too, and rather than force those who made bad loans to eat them the government shifted the cost to you and I.

And by the way, those who try to claim that this was "impossible to foresee" are lying. Fraudie and Phoney were running with leverage ratios of anywhere from 80:1 to 200:1, depending on how you computed it. At 80:1 you need just a bit over a 1% loss to go bankrupt, and at 200:1 you need only a 0.5% loss.

There is no business in this land that is safe to lend to at these leverage ratios, nor is there any reasonable expectation in any business that you will never suffer a loss of JUST ONE PERCENT - yet such a loss was and is sufficient to bankrupt the firm long before they were taken into conservatorship.

http://market-ticker.org/archives/1677-M...mment.html

[Jan Klimkowski]

Zero Hedge has noticed that, after zombifying its own financial system and creating the notorious and disastrous Yen carry trade with its own sovereign currency, the Bank of Japan is now considering Quantitative Easing.

Excuse me whilst I guffaw: :rofl:

In other words, Japan is contemplating printing yet more toilet paper and using it to buy... toilet paper...

Where's the: :nurse:

Japan Preparing To Launch Quantitative Easing; What Are Three Lost Decades Among Hyperdeflationary Friends
Submitted by Tyler Durden on 11/29/2009 23:06 -0500

As if the newsflow from the last few days could get any more surreal, Dow Jones concludes the ticker with this stunner:

Japan Hirano: Expect BOJ Gov, PM To Discuss Quantitative Easing

TOKYO (Dow Jones)--Japan's top government spokesman said he expects Prime Minister Yukio Hatoyama and Bank of Japan Gov. Masaaki Shirakawa to exchange opinions on the economy and to discuss the possibility of the central bank adopting a policy of quantitative easing, local media reported Monday.

The BOJ head and the prime minister will also talk about whether they share similar views on the economy, Nikkei News cited Chief Cabinet Secretary Hirofumi Hirano as saying at a press conference earlier in the day.

Questions, questions, questions: Does that mean the Yen will be the carry currency of choice once again? And if so, will the dollar shorts promptly bail as they flee for the traditionally shorted Japanese currency? Will Japan now pay investors to borrow and short its currency? Is Richard Koo, well, Koo-Koo? Just how thin is the thin white line between deflation and dementia-induced hyperdeflation (and here we were thinking only the Chairman was able to come up with such brilliance)? Will Japan issue exclusively dollar denominated debt as this action does nothing to moderate the trade deficit as the world forgets what foreign trade is all about? And will the US return the favor and start raising 30 Year denominated in Yen? Does anybody even give a rat's ass anymore?

[Jan Klimkowski]

Spookily-connected Telegraph hack Ambrose Evans-Pritchard and those loveable Morgan Stanley analysts are piling on the gloom and predicting a UK sovereign debt crisis.

You don't have to pay me like a fat cat to get my "advice", which is that they're correct. But why are they pontificating thusly to their clients and readers now?

After all, AEP and Morgan Stanley certainly don't have my, or your, best interests at heart.

Vultures circling for one last chowtime as the rats prepare to abandon the sinking ships are the hackneyed images that flash past my weary eyes... :bandit:

Morgan Stanley fears UK sovereign debt crisis in 2010

Britain risks becoming the first country in the G10 bloc of major economies to risk capital flight and a full-blown debt crisis over coming months, according to a client note by Morgan Stanley.

By Ambrose Evans-Pritchard

Published: 4:09PM GMT 30 Nov 2009

The US investment bank said there is a danger Britain’s toxic mix of problems will come to a head as soon as next year, triggered by fears that Westminster may prove unable to restore fiscal credibility.

“Growing fears over a hung parliament would likely weigh on both the currency and gilt yields as it would represent something of a leap into the unknown, and would increase the probability that some of the rating agencies remove the UK's AAA status,” said the report, written by the bank’s European investment team of Ronan Carr, Teun Draaisma, and Graham Secker.

“In an extreme situation a fiscal crisis could lead to some domestic capital flight, severe pound weakness and a sell-off in UK government bonds. The Bank of England may feel forced to hike rates to shore up confidence in monetary policy and stabilize the currency, threatening the fragile economic recovery,” they said.

Morgan Stanley said that such a chain of events could drive up yields on 10-year UK gilts by 150 basis points. This would raise borrowing costs to well over 5pc - the sort of level now confronting Greece, and far higher than costs for Italy, Mexico, or Brazil.

High-grade debt from companies such as BP, GSK, or Tesco might command a lower risk premium than UK sovereign debt, once an unthinkable state of affairs.

A spike in bond yields would greatly complicate the task of funding Britain’s budget deficit, expected to be the worst of the OECD group next year at 13.3pc of GDP.

Investors have been fretting privately for some time that the Bank might have to raise rates before it is ready -- risking a double-dip recession, and an incipient compound-debt spiral – but this the first time a major global investment house has issued such a stark warning.

No G10 country has seen its ability to provide emergency stimulus seriously constrained by outside forces since the credit crisis began. It is unclear how markets would respond if they began to question the efficacy of state power.

Morgan Stanley said sterling may fall a further 10pc in trade-weighted terms. This would complete the steepest slide in the pound since the industrial revolution, exceeding the 30pc drop from peak to trough after Britain was driven off the Gold Standard in cataclysmic circumstances in 1931.

UK equities would perform reasonably well. Some 65pc of earnings from FTSE companies come from overseas, so they would enjoy a currency windfall gain.

While the report – “Tougher Times in 2010” – is not linked to the Dubai debacle, it is a reminder that countries merely bought time during the crisis by resorting to fiscal stimulus and shunting private losses onto public books. The rescues – though necessary – have not resolved the underlying debt problem. They have storied up a second set of difficulties by degrading sovereign debt across much of the world.

Morgan Stanley said Britain’s travails are one of three “surprises” to expect in 2010. The other two are a dollar rebound, and strong performance by pharmaceutical stocks.

David Buik, from BGC Partners, said Britain is in particularly bad shape because the tax-take is highly leveraged to the global economic cycle: financial services provided 27pc of revenue in the boom, but has since collapsed.

The UK failed to put aside money in the fat years to offset this time-honoured fiscal cycle. It ran a budget deficit of 3pc of GPD at the peak of the boom when prudent countries such as Finland and even Spain were running a surplus of over 2pc.

“We need to raise VAT to 20pc and make seriously dramatic cuts in services that go beyond anything that Alistair Darling or David Cameron are talking about. Nobody seems to have the courage to face up to this,” said Mr Buik.

The report coincided with news that Britain is now officially the only G20 country still to be in recession. Canada reported that its economy grew by 0.1pc in the third quarter. Britain, by contrast, shrank by 0.3pc, the latest estimates show.

http://www.telegraph.co.uk/finance/econo...-2010.html

[Jan Klimkowski]

Blacks hit hard by economy's punch
34.5 percent of young African American men are unemployed

By V. Dion Haynes
Washington Post Staff Writer
Tuesday, November 24, 2009

These days, 24-year-old Delonta Spriggs spends much of his time cooped up in his mother's one-bedroom apartment in Southwest Washington, the TV blaring soap operas hour after hour, trying to stay out of the streets and out of trouble, held captive by the economy. As a young black man, Spriggs belongs to a group that has been hit much harder than any other by unemployment.

Joblessness for 16-to-24-year-old black men has reached Great Depression proportions -- 34.5 percent in October, more than three times the rate for the general U.S. population. And last Friday, the Bureau of Labor Statistics reported that unemployment in the District, home to many young black men, rose to 11.9 percent from 11.4 percent, even as it stayed relatively stable in Virginia and Maryland.

His work history, Spriggs says, has consisted of dead-end jobs. About a year ago, he lost his job moving office furniture, and he hasn't been able to find steady work since. This summer he completed a construction apprenticeship program, he says, seeking a career so he could avoid repeating the mistake of selling drugs to support his 3-year-old daughter. So far the most the training program has yielded was a temporary flagger job that lasted a few days.

"I think we're labeled for not wanting to do nothing -- knuckleheads or hardheads," said Spriggs, whose first name is pronounced Dee-lon-tay. "But all of us ain't bad."

Construction, manufacturing and retail experienced the most severe job losses in this down economy, losses that are disproportionately affecting men and young people who populated those sectors. That is especially playing out in the District, where unemployment has risen despite the abundance of jobs in the federal government.

Traditionally the last hired and first fired, workers in Spriggs's age group have taken the brunt of the difficult economy, with cost-conscious employers wiping out the very apprenticeship, internship and on-the-job-training programs that for generations gave young people a leg up in the work world or a second chance when they made mistakes. Moreover, this generation is being elbowed out of entry-level positions by older, more experienced job seekers on the unemployment rolls who willingly trade down just to put food on the table.

The jobless rate for young black men and women is 30.5 percent. For young blacks -- who experts say are more likely to grow up in impoverished racially isolated neighborhoods, attend subpar public schools and experience discrimination -- race statistically appears to be a bigger factor in their unemployment than age, income or even education. Lower-income white teens were more likely to find work than upper-income black teens, according to the Center for Labor Market Studies at Northeastern University, and even blacks who graduate from college suffer from joblessness at twice the rate of their white peers.

Young black women have an unemployment rate of 26.5 percent, while the rate for all 16-to-24-year-old women is 15.4 percent.

Victoria Kirby, 22, has been among that number. In the summer of 2008, a D.C. publishing company where Kirby was interning offered her a job that would start upon her graduation in May 2009 from Howard University. But the company withdrew the offer in the fall of 2008 when the economy collapsed.

Kirby said she applied for administrative jobs on Capitol Hill but was told she was overqualified. She sought a teaching position in the D.C. public schools through the Teach for America program but said she was rejected because of a flood of four times the usual number of applicants.

Finally, she went back to school, enrolling in a master's of public policy program at Howard. "I decided to stay in school two more years and wait out the recession," Kirby said.
On a tightrope

The Obama administration is on a tightrope, balancing the desire to spend billions more dollars to create jobs without adding to the $1.4 trillion national deficit. Yet some policy experts say more attention needs to be paid to the intractable problems of underemployed workers -- those who like Spriggs may lack a high school diploma, a steady work history, job-readiness skills or a squeaky-clean background.

"Increased involvement in the underground economy, criminal activity, increased poverty, homelessness and teen pregnancy are the things I worry about if we continue to see more years of high unemployment," said Algernon Austin, a sociologist and director of the race, ethnicity and economy program at the Economic Policy Institute, which studies issues involving low- and middle-income wage earners.

Earlier this month, District officials said they will use $3.9 million in federal stimulus funds to provide 19 weeks of on-the-job training to 500 18-to-24-year-olds. But even those who receive training often don't get jobs.

"I thought after I finished the [training] program, I'd be working. I only had three jobs with the union and only one of them was longer than a week," Spriggs, a tall slender man wearing a black Nationals cap, said one afternoon while sitting at the table in the living room/dining room in his mother's apartment. "It has you wanting to go out and find other ways to make money. . . . [Lack of jobs is why] people go out hustling and doing what they can to get by."

"Give me a chance to show that I can work. Just give me a chance," added Spriggs, who is on probation for drug possession. "I don't want to think negative. I know the economy is slow. You got to crawl before you walk. I got to be patient. My biggest problem [which prompted the effort to sell drugs] is not being patient."

The economy's seismic shift has been an equal-opportunity offender, hurting various racial and ethnic groups, economic classes, ages, and white- and blue-collar job categories. Nevertheless, 16-to-24-year-olds face heavier losses, with a 19.1 percent unemployment rate, about nine points higher than the national average for the general population.

Their rate of employment in October was 44.9 percent, the lowest level in 61 years of record keeping, according to the Bureau of Labor Statistics. Employment for men in their 20s and early 30s is at its lowest level since the Great Depression, according to the Center for Labor Market Studies.
Troubling consequences

Unemployment among young people is particularly troubling, economists say, because the consequences can be long-lasting. This might be the first generation that does not keep up with its parents' standard of living. Jobless teens are more likely to be jobless twenty-somethings. Once forced onto the sidelines, they likely will not catch up financially for many years. That is the case even for young people of all ethnic groups who graduate from college.

Lisa B. Kahn, an economics professor at Yale University who studied graduates during recessions in the 1980s, determined that the young workers hired during a down economy generally start off with lower wages than they otherwise would have and don't recover for at least a decade.

"In your first job, you're accumulating skills on how to do the job, learning by doing and getting training. If you graduate in a recession, you're in a [lesser] job, wasting your time," she said. "Once you switch into the job you should be in, you don't have the skills for that job."

Some studies examining how employers review black and white job applicants suggest that discrimination may be at play.

"Black men were less likely to receive a call back or job offer than equally qualified white men," said Devah Pager, a sociology professor at Princeton University, referring to her studies a few years ago of white and black male job applicants in their 20s in Milwaukee and New York. "Black men with a clean record fare no better than white men just released from prison."

http://www.washingtonpost.com/wp-dyn/con...04092.html

[Jan Klimkowski]

American eugenics...

NEW YORK – Turns out those discredited rumors of a possible Chelsea Clinton wedding last summer were mostly just premature: The 29-year old daughter of former President Bill Clinton and Secretary of State Hillary Rodham Clinton has become engaged to her longtime boyfriend, 31-year old investment banker Marc Mezvinsky.

The couple sent an e-mail to friends Friday announcing the news, saying they were looking at a possible wedding next summer. Matt McKenna, a spokesman for the former president, confirmed the engagement Monday.

Mezvinsky is a son of former Pennsylvania Rep. Marjorie Margolies-Mezvinsky and former Iowa Rep. Ed Mezvinsky, longtime friends of the Clintons. Ed Mezvinsky was released from federal prison last year after serving a nearly five-year sentence for wire and bank fraud.

Margolies-Mezvinsky served just one term in Congress before losing her seat in 1994 after voting in favor of President Clinton's 1993 budget, which was controversial at the time.

At the State Department Monday, Hillary Clinton had one brief encounter with reporters but took no questions. Later, her spokesman, Ian C. Kelly, was asked about the reported engagement but said it would be inappropriate for him to comment.

"I have a daughter who's around, she's 22 years old. And the last thing I would want would be for the State Department spokesman to talk about the personal plans of my daughter, so I am going to decline any comment on that," Kelly said.

The former first daughter and her fiance became friends as teenagers in Washington and both attended Stanford University. They now live in New York, where Mezvinsky works at G3 Capital, a Manhattan hedge fund, and Clinton is pursuing a graduate degree at Columbia University's School of Public Health.

Before returning to graduate school, Clinton worked at Avenue Capital, a hedge fund run by prominent Democratic donor Marc Lasry. She also worked at McKinsey and Company, a management consulting firm.

Since her debut on the public stage as a curly haired 12-year-old during her father's 1992 presidential campaign, Clinton has maintained a fairly low public profile. That changed in 2008, when the press-shy Clinton stepped out on the campaign trail to help her mother's bid for the Democratic presidential nomination.

Before beginning a relationship with Mezvinsky, Clinton dated Ian Klaus, a Rhodes Scholar she met while studying international relations at Oxford in 2002. Klaus dedicated his first book, "Elvis is Titanic," about his experience teaching in the Kurdistan province of Iraq, to Clinton.

Earlier this year, Hillary Clinton was forced to tamp down speculation that her daughter and Mezvinsky were already engaged and would marry in August on Martha's Vineyard. President Barack Obama, who was vacationing on the island at the time, was rumored to be on the guest list.

Aides to Hillary Clinton, citing Chelsea's privacy, declined to disclose whether she has received an engagement ring or any other details about wedding plans. It will be an interfaith marriage; Mezvinsky is Jewish, while Clinton grew up attending Methodist Church with her mother. Bill Clinton is Southern Baptist.

http://news.yahoo.com/s/ap/us_chelsea_cl...engagement

[Jan Klimkowski]

In the Wake of the Dubai Financial Meltdown: More Contraction, more Defaults, more Brushfires

by Mike Whitney

The Dubai virus has been contained. There won't be another financial system meltdown. But the lessons of Dubai are hard to ignore. Global shares started tumbling at the first whiff of trouble; no one bothered waiting for the details. Someone yelled, "Fire" and the panic began. It's a good indication of how jittery investors still are.

Surprisingly, the dollar remained relatively flat throughout the crisis, hovering between $1.49 to $1.50 per euro. That's good news for the big banks and brokerage houses that are betting on the carry trade. If Dubai flops, the dollar will get stronger, and they'll lose a bundle. Market analysts predict that the zero-rate dollar is now funding over $1 trillion in one-way bets. It's a risky business which could lead to another disaster.

Dubai World's call for a debt moratorium triggered an immediate shift away from emerging markets which rely on cheap credit to fund their projects. Credit spreads have widened on countries throughout Eastern Europe and the developing world. Investors are skittish and want to see how much red ink is on business balance sheets. The possibility of a sovereign default is more likely now than ever before. Even if Dubai escapes the chopping block, others won't be so lucky.

For now, risk-aversion is the name of the game. Even before Dubai blew up, 3-month T-Bills had slipped into negative territory while the 2 year Treasury fell to record lows. That means that investors aren't buying the "green shoots" hype. They've pulled their savings from money markets and stuffed it into government bonds, still the safest bet around. Here's a clip from the New York Times:

"Trying to prevent a run on its banks, and financial turmoil that some fear could spread globally, the United Arab Emirates said on Sunday that it would lend money to banks operating in Dubai, amid concerns about excessive borrowing around the world.

The central bank’s move was an attempt to head off the kind of crisis of confidence that froze credit markets last year and brought the global economy to the brink of failure, threatening everyone from hedge fund billionaires to retirees who had their savings in supposedly safe investments." ("Arab States Move to Stifle Dubai Crisis", Vikas Bajaj and Graham Bowley, New York Times)

The financial system is so fragile that a default on a paltry $60 billion can send the dominoes skittering through world markets. That sounds like a system on its last legs.

From the New York Times again:

"Central bankers and government officials around the world will be watching nervously for signs that the fears of contagion are contained or spreading as markets open in Europe and New York. They are looking to see if investors begin pulling money not just from companies and banks connected to Dubai, but also from other countries that may have taken on more debt than they can afford to repay.

Already, investors fled the stocks last week of banks with outstanding loans to the tiny emirate and its investment arm, Dubai World. Now, analysts will be watching to see whether investors flee highly indebted companies too.

While Dubai is not big enough to directly ignite financial repercussions outside the Mideast, the main fear is that investors could flee risky markets all at once in search of safer havens for their money — much as they did in September 2008, when the failure Lehman Brothers heightened worries about all financial institutions, regardless of their strength.

Those fears were allayed only after the United States announced a huge bank bailout, and began guaranteeing a variety of borrowing that slowly helped credit markets begin functioning again. That many of these measures remain in place could help contain any possible contagion from Dubai now."

The Times is full of it. The "fears were never allayed" because the system was never fixed. Instead of nationalizing underwater banks and forcefully reducing leverage in the financial sector, the Fed provided a blanket guarantee on all types of toxic garbage. That helped calm the markets, but the deeper problems still remain. There's been no new regulations and Wall Street's gigantic looting operation has continued without pause--only now--every-time a deadbeat developer misses a payment in some far-corner corner of the earth, all hell breaks loose. The way it's shaping up, central banks and finance ministers will be spending all their time putting out fires. That's because the so-called "new architecture" of the financial markets--including securitization and complex debt-instruments--doesn't work. We already know that, because the system collapsed. Remember?

Whether Dubai muddles through or not, there's more pain to come. The world's economies are now strung together with trillions of dollars of counterparty deals that are traded outside of any regulated index. No one knows who is sufficiently capitalized and who isn't. It's one big guessing game. On top of that, credit is tightening and rolling over debt is getting harder. That means more volatility, more uncertainty, and more Dubais ahead. No wonder public confidence in government is in the dumps.


Mike Whitney is a frequent contributor to Global Research.

http://www.globalresearch.ca/index.php?c...&aid=16342

[Keith Millea]

I think this might be a repeat.Dr. Hudson speaks with great knowledge of the long history of our financial world.Worth a listen......

http://kpfa.org/archive/id/56464


Guns and Butter - Encore broadcast of "Financial Barbarians at the Gate"

Encore broadcast of "Financial Barbarians at the Gate" with financial economist and historian, Dr. Michael Hudson. Europe; the worsening financial situation and indebtedness; the history
of banking and the criminalization of the banking system; tax policy; real estate asset inflation; US imperialism via the monetary system; neoliberal/neofeudal economics; classical political economy; finance capital breaking away from industrial capital; the financial crisis
leading to a political crisis; similarities with the Roman Republic; what measures labor should take.

:ciao:

[Jan Klimkowski]

Larry Summers is Obama's Director of the White House's National Economic Council, and was a Secretary of the Treasury under Bill Clinton.

He approved the economic catastrophe below when he was President of Harvard. :lollypop:

“You can be very big and very rich and very smart and still get things wrong,” Shapiro said.

You can also be an incompetent fool.

Harvard Swaps Are So Toxic Even Summers Won’t Explain (Update3)
By Michael McDonald, John Lauerman and Gillian Wee
December 18, 2009 16:28 EST
http://www.bloomberg.com/apps/news?pid=2....

Dec. 18 (Bloomberg) -- Anne Phillips Ogilby, a bond attorney at one of Boston’s oldest law firms, on Oct. 31 last year relayed an urgent message from Harvard University, her client and alma mater, to the head of a Massachusetts state agency that sells bonds. The oldest and richest academic institution in America needed help getting a loan right away.

As vanishing credit spurred the government-led rescue of dozens of financial institutions, Harvard was so strapped for cash that it asked Massachusetts for fast-track approval to borrow $2.5 billion. Almost $500 million was used within days to exit agreements known as interest-rate swaps that Harvard had entered to finance expansion in Allston, across the Charles River from its main campus in Cambridge, Massachusetts.

The swaps, which assumed that interest rates would rise, proved so toxic that the 373-year-old institution agreed to pay banks a total of almost $1 billion to terminate them. Most of the wrong-way bets were made in 2004, when Lawrence Summers, now President Barack Obama’s economic adviser, led the university. Cranes were recently removed from the construction site of a $1 billion science center that was to be the expansion’s centerpiece, a reminder of Summers’s ambition. The school said last week they will suspend work on the building early next year.

‘Case Study’

“For nonprofits, this is going to be written up as a case study of what not to do,” said Mark Williams, a finance professor at Boston University, who specializes in risk management and has studied Harvard’s finances. “Harvard throws itself out as a beacon of what to do in higher learning. Clearly, there have been major missteps.”

Harvard panicked, paying a penalty to get out of the swaps at the worst possible time. While the university’s misfortunes were repeated across the country last year, with nonprofits, municipalities and school districts spending billions of dollars on money-losing swaps, Harvard’s losses dwarfed those of other borrowers because of the size of its bet and the length of time before all its bonds would be sold.

In December 2004, Harvard completed agreements that locked in interest rates on $2.3 billion of bonds for future construction in Allston, with plans to borrow $1.8 billion in 2008 after they broke ground and the remaining $500 million through 2020. At the time, the benchmark overnight interest rate set by the U.S. Federal Reserve was 2.25 percent. The agreements backfired last year after central banks slashed lending rates to zero and the value of the contracts plunged, forcing the school to set aside cash.

‘Education Business’

Borrowers use swaps to match the type of interest rates on their debt with the rates on their income, which can help reduce borrowing costs. Lenders and speculators use swaps to profit from changes in the direction of interest rates. A bet on higher rates, for example, means paying fixed rates and receiving variable. At Harvard, nobody anticipated some interest rates going to zero, making the university’s financing a speculative disaster.

Harvard’s woes stemmed from misunderstanding its role, said Leon Botstein, president of Bard College in Annandale-on-Hudson, New York. “We shouldn’t be in the banking business, we should be in the education business,” Botstein said in a telephone interview.

Making Sense

The financing plan using the swaps was developed by the university’s financial team and discussed with the Debt Asset Management Committee, an oversight group, according to James Rothenberg, a member of the President and Fellows of Harvard College, or Harvard Corp., and the school’s treasurer, a board position.

The swaps plan was then approved by Harvard Corp. and implemented and monitored by the financial team, Rothenberg said in an e-mail.

Summers, who left Harvard in 2006, declined to comment. As president and as a member of the Harvard Corp., the university’s seven-member ruling body, Summers approved the decision to use the swaps.

The strategy made sense in the economic climate of the time, Rothenberg said in another e-mail. Rothenberg is chairman of Capital Research & Management Co., the investment advisory unit of Capital Group Cos. in Los Angeles.

“Rates were at then-historic lows, and the university was contemplating a major, multibillion-dollar campus expansion,” Rothenberg said. “In that context, locking in our financing costs so that we would achieve some budgetary certainty had definite advantages.”

Demanding Cash

Harvard’s failed bet helped plunge the school into a liquidity crisis in late 2008. Concerned that its losses might worsen, the school borrowed money to terminate the swaps at the nadir of their value, only to see the market for such agreements begin to recover weeks later.

Harvard would have avoided paying the costs of its swap obligations by waiting. Its banks, including JPMorgan Chase & Co., headed by James Dimon, were demanding cash collateral payments -- ultimately totaling almost $1 billion -- that Harvard in 2004 had agreed to pay if the value of the swaps fell. At least $1.8 billion of the swaps the school held were with JPMorgan, said a person familiar with the agreements. Dimon, a 1982 Harvard Business School alumnus, declined to comment on the agreements through a spokeswoman, Jennifer Zuccarelli.

Darkest Days

Drew Faust, Harvard’s president since 2007, said in an interview about the financial crisis she experienced some of her darkest days as she watched the collapse of U.S. markets that deepened the school’s losses.

“Someone would say that this happened, that had happened, they were going to bail out AIG or Lehman is failing,” Faust recalled in an interview, referring to the September 2008 bankruptcy of Lehman Brothers Holdings Inc. in New York and the subsequent government bailout of American International Group Inc. in New York. “We were wondering what was going to happen tomorrow.”

Harvard speculated in the swap market as early as 1994, according to rating companies’ reports. Under Jack Meyer, former chief executive of Harvard Management Co., the school’s endowment used swaps to profit from interest-rate changes. The university also used them to fix borrowing costs for capital projects.

Summers became president in July 2001, after serving as U.S. Treasury Secretary. He earned a Ph.D. in economics from Harvard, and became a tenured professor there at age 28. He served from 1991 to 1993 as chief economist at the World Bank, which initiated the first interest-rate swap with International Business Machines Corp. in 1981.

Feeling Flush

In the 1990s, Harvard began amassing 220 acres (89 hectares) for construction near Harvard Business School and its football stadium, located in Allston. In June 2005, Summers unveiled his vision for a campus expansion replete with new laboratories, dormitories and classrooms, renovated bridges and a pedestrian tunnel beneath the water. The Allston project was to transform an industrial and working-class neighborhood of two-family wood homes and small shops by building two 500,000- square-foot (46,000-square-meter) science complexes and a redrawn street grid.

Harvard was flush at the time, with an endowment of $22.6 billion that had returned an average of 16 percent during the previous 10 fiscal years. Summers told Faculty of Arts & Sciences professors in May 2004 that he hoped they wouldn’t be “preoccupied with the constraints imposed by resources, for Harvard was fortunate to have many deeply loyal friends,” according to minutes of a faculty meeting.

Forward Swaps

“Harvard would be able to generate adequate resources,” according to the minutes. “The only real limitation faced by the Faculty was the limit of its imagination.”

When the plan was made public in 2005, Harvard’s financial team had been busy for more than a year behind the scenes, devising a financing strategy for the project using interest- rate swaps. These derivatives enable borrowers to exchange their periodic interest payments. They typically involve the exchange of variable-rate payments on a set amount of money for another borrower’s fixed-rate payments.

In 2004, Harvard used swaps for $2.3 billion it planned to start borrowing four years later. The AAA-rated school would have paid an annual average rate of 4.72 percent if it had borrowed all the money for 30 years in December 2004, according to data from Municipal Market Advisors. The swaps let it secure a similar rate for bonds it planned to sell as it constructed the campus expansion during the next two decades.

‘Relatively Rare’

The agreements were so-called forward swaps, providing a fixed rate before the bonds were actually sold. Harvard was betting in 2004 that interest rates would rise by the time it needed to borrow. The school was also assuming the expansion would proceed on the schedule set by Summers and his advisers.

While the university could have paid banks for options on the borrowing rates, the swaps required no money up front.

That time frame, along with the size of the position, was unusual, said Peter Shapiro, an adviser at Swap Financial Group Inc. in South Orange, New Jersey.

“There have been lots of forward swaps, but out longer than three years is relatively rare,” Shapiro said in a telephone interview. That duration increases the risk, because the longer the term of the contract, the more volatile the value of the swap, he said.

Columbia, Yale

Columbia University is breaking ground on a $6.5 billion expansion in New York City, and last year used an interest-rate swap for its borrowing of $113 million of bonds sold seven months later. Yale University in New Haven, Connecticut, is also AAA-rated. It had 32 separate swap agreements totaling $975 million as of Oct. 31, hedging the school’s $1.4 billion variable rate debt and commercial paper, according to Moody’s Investors Service Inc.

Corporations might use derivatives to lower their borrowing costs as many as four years before a bond sale, according to bankers who sell derivatives. Anadarko Petroleum Corp. used the swap market in December 2008 and January 2009 to secure rates for $3 billion it plans to refinance in October 2011 and October 2012, according to the Houston, Texas-based company’s third- quarter report from Nov. 3. Matt Carmichael, a company spokesman, declined to comment.

Key Player

Rothenberg, a Harvard College and Harvard Business School graduate, said he was among the key players involved in developing the financing strategy. His Los Angeles-based company, Capital Group, operates American Funds, the second- biggest family of stock and bond mutual funds in the U.S. He had been Harvard’s treasurer for six months when the school arranged the Allston swaps in December 2004.

Ann Berman, Harvard’s chief financial officer at the time, also played a role in developing the plan, Rothenberg said. Berman declined to be interviewed. She stepped down in 2006 when she was named an adviser to the president, according to the school’s Web site. A certified public accountant, Berman got her master’s in business administration at the University of Pennsylvania’s Wharton School of Business in Philadelphia and had earlier served as a financial planner and adviser for Harvard’s dean of the Faculty of Arts & Sciences.

Rubin, Reischauer

Other members of Harvard Corp. in 2004 and 2005, who served with Summers and Rothenberg, were former U.S. Treasury Secretary Robert Rubin, Summers’s previous boss and predecessor at the U.S. Treasury, who was an instrumental supporter of his bid for the Harvard presidency; Robert D. Reischauer, former director of the Congressional Budget Office, who was a colleague of Summers and Rubin’s in Washington; Conrad K. Harper, a lawyer at Simpson Thacher & Bartlett LLP in New York; Hanna Gray, former president of the University of Chicago; and James R. Houghton, chairman of Corning Inc., the world’s biggest maker of glass for flat-panel televisions, in Corning, New York.

All except Rothenberg declined to comment or didn’t return telephone calls.

Harvard University’s finance staff worked with JPMorgan to develop the size and the length of the forward-swap agreements, said a person familiar with the contracts. Final negotiations to set the rates were left to Harvard Management, which oversees the endowment, because it had swap contracts in place with JPMorgan dating back to 1996 that set terms for the agreements, according to a copy of the agreement obtained by Bloomberg News.

The original swap contract between Harvard Management and JPMorgan was approved by Michael Pradko, the endowment’s risk manager, the copy shows. Pradko left Harvard Management in 2005, along with Jack Meyer, the endowment’s head, to join Convexity Capital Management LP in Boston, the hedge fund Meyer started. Pradko declined to comment.

Impeccable Timing?

When Harvard Management completed its swap contracts for the school, the timing was encouraging. U.S. Federal Reserve Chairman Alan Greenspan had just begun raising the overnight target rate as the economy rebounded from the bursting of the technology bubble. In the second half of 2004, he lifted it to 2.25 percent from 1 percent.

For more than 20 years, investment banks such as Goldman Sachs Group Inc., JPMorgan, and Citigroup Inc., all based in New York, have been selling swaps as a way for schools, towns and nonprofits to reduce interest costs and protect against rising interest payments on variable-rate debt. The swap agreements can be terminated if either the bank or the issuer is willing to pay a fee, which varies with interest rates.

Posting Collateral

“Swaps have become widely accepted by the rating agencies as an appropriate financial tool,” according to a slide entitled “Swaps Can Be Beneficial” that was used in a 2007 Citigroup presentation to the Florida Government Finance Officers Association. Debt issuers can “easily unwind the swap for a market-based termination payment/receipt,” the slide said.

Rothenberg said officials throughout Harvard were monitoring the school’s swap position, including members of the financial office, the budget office, the controller’s office and Harvard Management. Although the contracts required Harvard to post collateral, or set aside cash when the values reached certain thresholds, such provisions weren’t unusual, Rothenberg said.

“I think there are lots of swaps with collateral postings,” Rothenberg said in an interview. “From fiscal years 2005 through 2008, these swaps were in place and there were collateral postings. It was not a pressing concern for the University, even though you can look at the financial statements and see that there was at least an unrealized loss in certain years.”

‘Rapid Meltdown’

“I think the unusual nature of these swaps were two things,” Rothenberg said. “One, they were large, but the anticipated capital spending program was large; and two, they were longer-dated than most people are used to thinking about, because the capital spending program was expected to last over a number of years. The problem resulted from the rapid meltdown in the markets, which culminated in November when short-term interest rates and swaps rates collapsed.”

After credit markets seized up in 2007, central banks worldwide pushed some bank lending rates to zero in their effort to rescue the financial system.

While Harvard Corp. is ultimately responsible for the school’s financial decisions, the losses sustained by the school in almost every financial domain -- the endowment, cash account and swaps -- suggest that oversight was lax, said Harry Lewis, a Harvard alumnus, computer science professor and former dean of Harvard College.

‘Structural Problem’

Harvard not only lost money on the swaps last year. The value of its endowment tumbled a record 30 percent to $26 billion from its peak of $36.9 billion in June 2008, and its cash account lost $1.8 billion, according to Harvard’s most recent annual report.

“They have a structural problem,” Lewis said in a telephone interview. “There’s something systemically wrong with Harvard Corp. It’s too small, too secretive, too closed and not supported by enough eyeballs looking at the risks they are taking.”

Summers’s departure as president came in 2006, after he questioned women’s innate aptitude for math and science. Summers apologized formally and repeatedly for the remarks made in a speech, which he said were misconstrued, and the school said it would spend $50 million to help women succeed in science and engineering. He resigned after the faculty passed a no- confidence motion against him.

Successor Faust

That left Faust, the Civil War historian and prize-winning author who succeeded Summers as president in July 2007, to manage the Allston plans. Faust committed to its first phase: beginning construction of a $1 billion science center that would house researchers from the Harvard Stem Cell Institute, the Harvard School of Public Health and the Wyss Institute for Biologically Inspired Engineering.

By June 2005, the value of the swaps tied to Harvard’s debt was negative $460.8 million, meaning that’s how much it would have to pay the banks to terminate the agreements, according to the school’s annual report that year.

By 2008, Harvard had 19 swap contracts on $3.5 billion of debt with JPMorgan, Goldman Sachs, New York-based Morgan Stanley, and Charlotte, North Carolina-based Bank of America Corp., including the swaps for Allston, according to a bond- ratings report by Standard & Poor’s released on Jan. 18, 2008.

Financial Burden

The swaps became a financial burden last year as their value fell and collateral postings rose. In a contract with Goldman Sachs, the school agreed to post cash if the swaps’ value fell below $5 million, according to a copy obtained by Bloomberg News. The collateral postings with the banks approached $1 billion late last year as central banks slashed their target rates, according to people familiar with the situation.

Michael Duvally, a spokesman for Goldman Sachs, Mary Claire Delaney, a spokeswoman for Morgan Stanley and Kerrie McHugh, a spokeswoman for Bank of America, all declined to comment.

Harvard wasn’t alone in being forced to set aside cash last year to meet such margin calls. The difference was the scale.

Cornell University in Ithaca, New York, posted $38 million of collateral on $1.5 billion of swaps, according to a Moody’s report on the Ivy League School. Hanover, New Hampshire-based Dartmouth College, also in the Ivy League, didn’t post collateral on their swaps because their investment banks agreed to waive the requirement to win the business, according to a person familiar with the contracts. The Ivy League is a group of eight elite schools in the northeast U.S., including Harvard.

Markets Unravel

After a year during which central banks provided an unprecedented amount of money to rescue financial institutions, the credit markets unraveled along with the stock market in September 2008. Lehman Brothers filed the largest bankruptcy in history on Sept. 15. Two weeks later, the House of Representatives rejected a $700 billion bailout plan, sending the Dow Jones Industrial Average down 778 points, its biggest point drop ever.

The value of Harvard’s swaps plunged and its need for cash soared. Under contracts signed in 2004, Harvard had to post larger and larger amounts of collateral to cover the negative value of the swaps; the total amount would approach $1 billion.

At the same time, the usual sources the university relied on to generate cash -- the endowment and its operating cash account -- were hemorrhaging. The school’s endowment tumbled, losing 22 percent from July 2008 through October 2008.

Asset Allocation

The Harvard endowment had more than 50 percent of its assets allocated to private equity, hedge funds and other hard- to-sell assets. The university already had borrowed to amplify gains, with leverage targeted at 3 percent of assets as of last year. When Jane Mendillo took over as chief executive officer of Harvard Management on July 1 last year, one of her top priorities was to raise cash. The school couldn’t get acceptable prices from the $1.5 billion of private equity stakes Mendillo tried to sell.

Outside managers investing Harvard’s endowment were either performing poorly or preventing Harvard from withdrawing cash. Citigroup CEO Vikram Pandit shut down Old Lane Partners in June 2008. Ospraie Management, in New York, closed its biggest hedge fund in September and Farallon Capital Management, in San Francisco, put up a so-called gate, prohibiting clients from taking out cash.

Checkbook Fund

Making matters worse, Harvard disclosed Oct. 16 that its checkbook fund, the general operating account, lost $1.8 billion in the year ended June 30. Lumping the cash account with the endowment was risky, said Louis Morrell, who managed the endowment for Radcliffe College, which is part of Harvard, until 1990.

“They put the operating funds in the endowment --it’s like the guy who has his retirement income in company stock,” said Morrell, who is also the former treasurer of Wake Forest University in Winston-Salem, North Carolina.

Rothenberg, Mendillo and Daniel Shore, Harvard’s chief financial officer, decided last year as the credit crisis deepened that the school needed to borrow money. Shore became acting CFO last year after Elizabeth Mora, who was Berman’s successor, stepped down in May 2008. Shore was named to the position permanently in October 2008.

It was at this point, in October, that Harvard officials contacted Ogilby, their bond lawyer at Ropes & Gray LLP in Boston. A 1980 Harvard College graduate, Ogilby is head of the firm’s Public Finance Group. E-mails show that Craig McCurley, the director of Harvard’s treasury management office, and his associate director, Tom Balish, contacted Ogilby, who in turn reached out to the Massachusetts Health & Educational Facilities Authority, which sells bonds for the state’s nonprofits. Ogilby declined to comment.

Needing Cash

Harvard needed cash to pay bills, refinance outstanding debt and break its money-losing swap agreements, according to a series of e-mails beginning on Oct. 31 last year between Ogilby and staff members of the state authority that were obtained by Bloomberg News. School officials asked whether the agency could omit from a public hearing that some of the bonds would finance swap termination payments.

“There is some sensitivity at Harvard about not specifically flagging the swap interest unwind payments,” Ogilby wrote on Nov. 12 to Deborah Boyce, an analyst at the authority. “They still would like the ability to finance them, but would prefer to delete those references if they can do so.”

Timely Information

Benson Caswell, the bond authority’s executive director responded Nov. 13 that the swap agreements would have to be identified and that the authority needed “timely, accurate and unfiltered information, including a balanced presentation,” from issuers. Harvard disclosed the use of the bond proceeds, and only wanted to avoid telegraphing potential activity in the swap market, said Christine Heenan, a school spokeswoman.

“The spirit of our inquiry was whether prematurely disclosing plans for what are inherently market transactions would in any way jeopardize the execution of those transactions,” she said in an e-mail.

At its Nov. 13 monthly meeting in Boston’s financial district, the agency’s seven-member board approved a Harvard bond issue of up to $2.5 billion, about the amount of debt it sells for all schools and borrowers in a typical year. The board usually takes two meetings to approve a bond sale. In Harvard’s case it took just one meeting.

Nothing Special

“I can assure you that Harvard doesn’t get any special treatment,” Caswell said. “Other borrowers have received the same service.”

Caswell said one board member, Marvin Gordon, is a Harvard graduate and that as long as there is no conflict of interest between his business and the use of the bond proceeds, a board member may vote on approval of a bond sale.

Gordon said while he didn’t have a conflict in voting to approve Harvard’s bond issue, “they never should have been in the position where they had to get out” of the swaps.

Harvard unwound the swaps at possibly the worst moment in the history of financial markets, said Shapiro, the municipal swap adviser. Just as Harvard’s request for approval to sell tax-exempt bonds arrived in the state offices, the swap market began sliding, according to Bloomberg data. While the school waited for permission to raise money, the price to break the swap agreements escalated.

Tumbling Index

On Nov. 13, the index used to value the agreements, the U.S. dollar 30-year swap rate, closed at 4.247 percent. By the time Harvard held its bond sale Dec. 8, the swap index had tumbled to 2.7575 percent. Harvard exited three of its swaps tied to $431 million debt on Dec. 9, when the benchmark fell again to 2.6885 percent. The interest-rate swap market reached a record low of 2.363 percent on Dec. 18.

Harvard’s decision to borrow money came at a time when the difference, or spread, between yields on corporate and U.S. Treasury securities was the widest since at least 1990, according to data from Barclays Plc. That meant AAA-rated Harvard was selling bonds when the market was demanding the biggest premium in at least 18 years.

“December 2008 was, by an enormous amount, the worst time in history” to terminate the swaps by borrowing money, said Shapiro.

Harvard sold $1.5 billion of taxable and $1 billion of tax- exempt bonds, using $497.6 million of the proceeds to pay investment banks to extract itself from $1.1 billion of interest-rate swaps, according to its annual report released Oct. 16. Separately, the school agreed to pay another $425 million over 30 years to 40 years to the banks to terminate an additional $764 million of the swaps, Harvard’s Shore said.

Unwinding Swap

The school on Dec. 12 paid JPMorgan $34.5 million from the tax-exempt bond proceeds to unwind a swap tied to $205.9 million of variable-rate bonds it sold for capital projects, according to documents obtained from the Massachusetts financing authority. It also paid Goldman Sachs $41.6 million on Dec. 9 and $23.2 million on Dec. 11 to end agreements on another $226.8 million of existing debt. Harvard didn’t disclose recipients of the other termination payments because it paid them from the taxable bonds.

The timing was “less than ideal, but the surrounding context was less than ideal as well,” said Shore.

Harvard and JPMorgan celebrated the bond issue by hosting a cocktails-and-dinner party at the French restaurant Mistral, in Boston’s South End neighborhood, where appetizers start at $15 and entrees cost about $40, according to e-mails obtained from the state finance agency. JPMorgan invoiced the agency $388.78 for three employees who attended: Caswell, Marietta Joseph and Danielle Manning.

Recovering Values

Since then, some of the values in the swap market have recovered to their levels of December 2004 when Harvard signed the forward contracts.

“If Harvard had waited, the cost of terminating may well have been lower, but they weren’t willing to take that risk,” said Matt Fabian, managing director at Municipal Market Advisors in Westport, Connecticut.

Shore said that he, Mendillo and “a lot of us in senior management” contributed to the decision to break the swap agreements. That group included Ed Forst, the former executive vice president, who returned to Goldman Sachs after less than a year at Harvard, Shore said. Shore also cited Harvard Corp.’s role as bearing the school’s ultimate fiduciary responsibility. Forst didn’t return calls seeking comment.

Waiting didn’t appear to be an option at the time, Shore said.

Stability, Safety

“In evaluating our liquidity position, we wanted to get ourselves some stability and some safety,” he said in an Oct. 16 interview this year at Harvard. “It was to take the losses now rather than run the risk of having further losses if we continued to hold on to the positions.”

No one expected the indexes used for valuing swaps to fall as fast and as much as they did, said Chris Cowen, managing director of Prager, Sealy & Co. in San Francisco.

“What we ended up with was an outlier event,” said Cowen, who advised Harvard as it unwound its position last year. “I was taken by surprise by the falling rates.”

Harvard, in the meantime, has cut its capital spending estimate for the next four years in half to about $2 billion. Before the credit crisis, it planned on spending $10 billion over a decade on capital projects, including Allston. Faust is building a team to study “financially and structurally” how Harvard can expand, she said in an e-mail announcing the planned work stoppage in Allston.

Opposing Regulation

Summers, along with Rubin and Greenspan opposed the U.S. Commodity Futures Trading Commission’s attempt in 1998 to regulate so-called over-the-counter derivatives, which included agreements like interest rate swaps. At the time, Summers was Rubin’s deputy secretary.

Now Summers is leading the Obama administration’s effort to write stricter rules for the derivatives market “to protect the American people,” he said in October at a conference in New York sponsored by The Economist magazine.

Universities would have been better served if they had stayed away from the more complicated financial instruments being sold by Wall Street, said David Kaiser, a Harvard class of 1969 alumnus who has been critical of the high salaries paid to managers of the school’s endowment.

“They used many of the investment strategies of the big banks and hedge funds, and when things went badly they could not get a bailout,” said Kaiser, a history professor at the U.S. Naval War College in Newport, Rhode Island. “It would clearly be better for any nonprofit on whom many people depend to pursue safer, more stable strategies.”

Taxpayer Funds

Pennsylvania State Auditor General Jack Wagner said Nov. 18 that the state should ban local governments from entering into derivative contracts tied to bond issues, a practice he termed “gambling” with taxpayer funds.

Harvard might have considered it a conservative step to lock in rates when they were low, said Shapiro, the New Jersey- based swap adviser. “You can be very big and very rich and very smart and still get things wrong,” Shapiro said.