Fraud and Deception in the Financial Markets: Crisis may make 1929 look a ‘walk in the park’


What is fraud? It is "the intentional deception resulting in injury to another person."  The Scripture has several stories containing fraud.  Jacob defrauded is brother.  Laban defrauded Jacob.  The list goes on.  Typically, fraud has scarcity connected to it.  Jacob thought that Isaac’s blessing was going to Esau and there would be nothing left for him.  Fear caused him to deceive his father and injure his brother.  Where was the revelation of Love?  Love sacrifices "self" for the benefit of others.  Love knows that THE FATHER will come through no matter what the circumstances appear to be.  The perception of scarcity breeds deception.  The Scripture is full of assurances of abundance.

The sub-prime mortgage crisis may be the unraveling of the current credit system.  When a system is built on credit and perception, the tipping point of failure is akin to the "domino effect".  If a thousand dominoes are lined up together, only one critical domino will bring the thousand down.  As mentioned in an earlier writing, a financial institution’s capital structure determines its ability to loan and invest.  If the capital structure is 10% of the total balance sheet, a 10% loss or devaluation of assets wipes out its capital structure.  The result is bankruptcy.  In recent weeks, the larger investment bankers have found it necessary to search for investors to inject serious amounts of cash into their institution.  China’s Wealth Fund recently injected over $5,000,000,000 into Morgan Stanley (  Morgan Stanley claimed losses of $5.7 Billion and received a cash injection of$5 Billion.

Another more subtle issue to the average person is the "insurance" or derivatives behind the credit instruments.  THE DERIVATIVE INSTRUMENT IS ONLY AS GOOD AS THE BALANCE SHEET OF THE LOSING PARTY OF THE TRANSACTION.  Derivatives are so complex that the CEO’S of most companies participating in these financial instruments do not have a clue to the risks involved.  They are simply assured by a subordinate that they are "covered".  What happens if the losing party goes bankrupt?  You may want to do an internet search on "Long-Term Capital Management".  MBIA (who in the world is this?) recently disclosed its exposure to the CDO derivatives.   The impact to their stock was historic.  As an investor, how would you like to lose 70% of your investment in 90 days?



Of course the average investor is the last to know about the company’s exposure.  The product of this company was "insurance" of a bet made by another company.  It looks like these companies ought to move their corporate headquarters to Las Vegas.

How did all this sub-prime mortgage crisis begin?  Some financial industry guru initiated adjustable rate mortgages (ARM’S) so that the home buyer could buy a bigger house than his balance sheet and income statement could afford.  This in itself defies the lending principles taught by the Dunn & Bradstreet Credit Course taught to all loan officers in the 1970’s.  (While in banking, I took the course.)  From the onset of making this type of loan, every lender in essence committed fraud as defined by the definition above.  The regulators looked the other way.  The CEO’S looked the other way.  The Ratings agencies looked the other way.  Alan Greenspan and the Federal Reserve promoted ARM’S.  The consumer was the neophyte in the transaction yet he will be the one to lose in the end.  The experts assured him that the loan was solid and it was justified.

Expect to hear the word "FRAUD" more often in upcoming financial news reporting.  The lawyers are going to make a lot of money in the world of "high finance".  We are at the beginning of this bubble popping event.  Litigation will keep the Federal Courts busy.  MBIA’S disclosure caused the ratings agencies to downgrade the securities they guarantee from "investment grade" to "junk status".  Since pension funds can only invest in investment grade instruments, they will be forced to liquidate their holdings in the affected securities.  This will cause a spiraling decline in value of the investments.  Someone is going to lose a lot of money.  "1929" is now being mentioned in the press with regard to this global financial event.


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