With all the ado the last couple of days about Lehaman, Merril Lynch and reports on AIG it would do us all well to review a few of the basics of our economic system and the real world implications of any bankruptcy of these companies. Of course the politicians will put their own spin on events to promote their personal agendas–which is to get elected, not necessarily solve any problems. We are told that this is a credit and liquidity problem and that may be partially true but for whom is it a problem. Per the stats at least 95% of you have a job and 98% of you are current on your mortgage and other debts. The default rates remember are very small and clustered mostly around the government mandated loans of just the last few years to people who in fact were not credit worthy enough to get a loan on their own merit or they were speculators buying second, third or even fourth homes in the hopes of flipping them for a quick profit. You make your investment and take your risk like the rest of us.
The creditors of Lehman or Merril Lynch are the ones who face losses. More than likely that won’t be any of you. To keep the explanation simple, if you bought your stocks in your 401 or just in your own account with either of the brokerages you will be fine. You are not a creditor as such. Those are your assets, not theirs. They in effect are the guardians for you assets. I know they buy lots of the shares in “street” name but that really doesn’t change the fundamentals. Also the SPIC has protection up the $500K which will cover most you if it is needed. The reality is that the straight, heads up brokerage business will be sold by both of them in or out of any bankruptcy. That is a money making proposition for the buyers and there will be plenty of other brokerages that would love to step into their shoes and take over your account for you. That far and away is the most likely scenario. It is the creditors of Lehman and Merrill who might suffer harm. They actually loaned money to Lehman and are owed money. They may have to settle for cents on the dollar. When they took their position they had counted on a nice profit. But they did their own reserarch and are big boys. They have the same consequences you and I do when we loan money or make an investment. I know everyone says it will affect credit generally and that it will cause values to fall farther and make it harder to get a loan for a house or car. There may be some effect but the consequences of this are being exaggerated wildly. Hell, go back and read the comments in the early ’30’s or from 1987 after the market lost 22% of its value in one day! We always think what is happening right now is the most important and stupendous event ever and lose sight of historical context. Yeah, things might be a little slow for a bit, but this is not the end of the world as we know it; in fact you can’t even see the end of the world from here. The only fly in the ointment would be the Government stepping in to “solve” the problem. As usual they muck things up more than they ever help. Remember the operations of Fannie and Freddie were completley controlled by Congress for decades. Those institutions did what they were told to do by Congress. You are also reminded that corrective action was proposed by the Republicans several times over the last decade or so but it was blocked by the Democrats in the Senate and House even when the Republicans were in the majority. This is not a defense of the Republicans. They could have pushed harder and didn’t. Let’s hope that time will heal most of the wounds from this before Congress can do any more damage. The market will correct itself. The “market” is us and we’ll make decisions in our best interest if we are allowed to.
AIG is similar in that the consequences really won’t affect you. First when they speak of bankruptcy they are talking about the parent company, the holding company, not the individual insurance companies. Insurance companies are not allowed to file bankruptcy under the Bankruptcy Code. Insurance companies are controlled and regulated by the States and if they get into trouble they go into Receivership. What happens then is that their “block of business” (the policies) is usually sold to another insurance company. If you had a car insurance policy with an AIG company you would keep paying the premiums and the policy would remain in force. The insurance companies are required to have collateral if you will behind the policy obligations they might owe. Even if there were no buyers for the policies then the States all have a requirements where they would make other insurance companies in their respective States take over all the policies. So, the ordinary Joe with a policy for life, property, or homeowners coverage would have nothing to fear if AIG went down. It is not burden for the insurance companies taking over the policies because they would get all those new customers and the cash stream of their premium payments.
It is the creditors of AIG who are at risk. Apparently that includes many foreign banks and sovereign investors. I don’t care if they get paid or not. When I have lost money on a stock purchase I never noticed anyone moaning about it and certainly no one stepped forward to bail me out of my bad investment. Again the sound and fury from some quarters will be dramatic. Please think about why they are squealing so much. Is it possibly because it is their ox being gored? The big boys on Wall Street promoted these deals and were paid handsome fees for their time. And I ask who put their ox in that position in the first place. It sure as hell wasn’t me or you. The market will recover. The American economy will be Ok after a short while. The WORLD needs our economy. They all want a piece of this American pie. Never forget that. The last thing any of them want is for the US to have long term financial difficulties. We are their primary source of revenue–think China and the Arab States.
God bless to all.