Page 1 of 2 Depravity at the GM wheel
By Julian Delasantellis
If you're looking for a study of the depths of moral depravity and
licentiousness to which the human species can fall, you could do a lot worse
than Karel Reisz's 1974 movie The Gambler, very loosely based on the
1867 novel of the same name by Fyodor Dostoevsky.
In the film, Alex Freed (James Caan) is a young man who seems to have it all. A
popular literature professor at a prestigious New York university, he had
Lauren Hutton playing his girlfriend; in the 1970s, guys who had girlfriends
who looked like Lauren Hutton were very lucky indeed.
But he is throwing it all away with an absolutely uncontrollable gambling
addiction. He bets his own money, loses it, and then, when the bookies demand
payment, goes to his elderly mother
and guilt-trips her sufficiently to drain her life savings, which he then also
loses.
The bookies now force him into an act of unspeakable moral debauchery. One of
his students is on the college basketball team; he offers the student a cut in
his winnings if he makes sure that the team does not win its next game by too
many points; this practice, called "point shaving" is a crime regularly
prosecuted by American law enforcement, and the discovery that a player has
done it usually finishes his college and professional athletic career. The
student accepts the offer; Freed's degeneracy has now spread past the
boundaries of his own person, infecting and spreading like a cancer those
around him.
What effrontery and immorality! If people like Freed want to act with such
perverted vitiation, they should go to a place where such behavior is not
scorned but rewarded and appreciated, like present-day Wall Street.
Two years ago, I gave a talk to a community group on how the then-nascent
financial crisis might ultimately affect the American commercial landscape. "At
its worst", I speculated, it might take down the two giants of American
commerce, Citigroup and General Motors.
A few gasped, but a few more chuckled: another alarmist, sensationalist
doomsayer trying to sell a book - not that I had one to sell. But, as Americans
slow down for their Memorial Day holiday, the traditional start of their
summer, it looks like both will soon be proven true. Citigroup is already long
gone; it has been haunting the halls of the financial system's undead since
receiving the first of many government support injections since last fall. Now,
it's GM's turn.
Had it not been for the US$14 billion in Troubled Asset Relief Program (TARP)
funds granted to the company in January, funds that now will almost certainly
not be paid back to the Treasury, GM would have declared bankruptcy months ago.
But when President Barack Obama chose not to renew the government funds in
February, it became obvious that the proud behemoth's days were numbered. Obama
gave GM until June 2 to file a re-structuring plan to return it to
profitability; as that is considered a virtual impossibility, many, if not
most, observers expect a bankruptcy court filing very soon - perhaps within
hours.
Very few sane or rational people would normally consider this a propitious
development. The stockholders, who have already seen the value of their shares
fall from above $90 a share at the previous market top in 2000 to just over $1
last Friday, would probably be stripped away of that last buck in equity by the
bankruptcy court. GM's employees, both union manufacturing workers and mostly
non-union white-collar managerial types, would also see their jobs and
interests threatened as well.
GM's hourly employment, at present at around 50,000, down from over 100,000 in
2005 and over 700,000 at the peak in 1979, would probably take a further hit,
as the court mandates that debtors promptly be paid off as the company was
being brought back to profitability. If the bankruptcy court was to order a
more radical Chapter 7 filing, mandating the company's rapid total liquidation,
in six to 12 months no employees would be working for the company at all.
One group that usually shares a whole heaping dollop of pain in a bankruptcy
proceeding is the bondholders. Unless another buyer can come in to make the
bondholders whole or nearly whole, the bondholders would only get back the
value of what assets the company has left and can be sold by the bankruptcy
court. In a very simplified example, if a company had a $1 billion in
bondholders' debt, but its assets sold off for only $100 million, the
bondholders would get back only that 10 cents for every dollar of debt they
were owed.
Doesn't sound like all that good a deal for the bondholders, many of whom got
into the company's bonds for the sole purpose of avoiding the wilder volatility
of stock ownership. Then why are reports surfacing that a select group of GM
bondholders are not seeming to fear bankruptcy, but are doing everything in
their power to usher it in faster?
Well, as Captain Reynaud said in the 1942 movie Casablanca, "Let's round
up the usual suspects." Lately, in this, as in most cases of financial market
perfidy and malfeasance, number one on the most-wanted list is, as usual, the
unregulated credit default swap (CDS).
In and of themselves, credit default swaps, much like the atom bomb, cannot be
said to be evil - they have no soul, so they cannot be said to be capable of
moral choice. But, just as its hard to see nuclear weapons being used as a
force of good (clearing through a new canal in Panama? Deflecting huge
asteroids in space?), it seems like all we ever hear about CDS is how they are
being used for anything but good. Like Prometheus stealing fire from Olympus to
give to the human race, maybe the power of the credit default swap, just like
the atomic fire, is a substance the human race is just not yet ready to
possess.
I've written here many times about the heavy responsibility of CDOs in the
mortgage mess, as investors used credit default swaps as a sort of insurance
policy to guarantee against the possibility of principal loss from default in
the new-fangled and highly leveraged collateralized debt obligations (CDO) and
collateralized mortgage obligations (CMO) that were constructed from standard
mortgage securities during the boom.
Only now do we know how false a sense of security that actually turned out to
be - just because you had a CDS insuring a CMO full of mortgages on overpriced
real estate bought by people who would not be able to make the payments when
the interest rates reset, it still didn't mean that you were going to get your
money back.
In the case of CDOs written on general corporate debt, like that issued by GM,
the motivations are clearer - on the surface at least. A bond investor might
have eyed fondly the higher interest rates and payments available on corporate
bonds compared with US Treasuries, but he still may be circumspect, fearing the
very real possibility - as evidenced by today's headlines - of a GM default. Voila!
He purchases a GM corporate bond credit default swap, which will pay off should
the company ever find its way into bankruptcy court, and everybody's happy -
right?
Sort of.
On the surface, this is a very similar procedure to a homeowner purchasing fire
insurance on his new house - it's safe, cautious and prudent. But what if,
instead of buying $200,000 insurance on his home of the same value, he
purchases $2 million, $20 million or more? Worse still, what if the
over-insured homeowner is then seen stocking drums of gasoline in his house,
and then sharing company with some of the worst, arsonist pyromaniac firebugs
in town?
That's what a lot of Wall Street observers are saying is going on with the
corporate debt of many endangered companies such as GM.
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