Previous Columns    Auction Rate Preferreds.
9.00 AM EST Thursday, April 24, 2008: Credit Suisse is Switzerland's second-biggest bank. This morning it reported $5.2 billion of writedowns linked to deteriorating credit markets. According to this morning Bloomberg,

"The world's biggest banks and securities firms have reported credit losses and writedowns of about $290 billion linked to the collapse of the U.S. subprime mortgage market."

And the losses and writedowns keep coming. The classic Cockroach problem.

Yesterday my bank manager (the still have such things) whispered that many of his customers were seriously worried about banks in general and his bank in particular. Yesterday, the CFO of a huge real estate company asked me what she should do with her cash. Of late, the financial press has run headlines like"These Days Even Cash is Dubious," (The New York Times), "What if your broker goes belly up?" (Business Week) and "Too Dumb To Fail," (The New Yorker").

My broker told that one Goldman Sachs government money market fund -- i.e. one that purported to be chock full of Federal government bonds (treasurys etc.) -- contained only -- wait for this -- 4% government securities.

My favorite financial reporter, James Surowiecki , writes in the New Yorker,

... one of the biggest problems in the market in the past decade has been that lenders, clients, and even ordinary small investors have put far too much faith in the magical abilities of Wall Street firms, and have failed to give their promises and performance proper scrutiny. Markets require trust to work well, but when trust is blind they are almost guaranteed to go haywire.

The issue is no longer yield. It's safety of principal. Today's nightmare is waking up with tomorrow's auction rate preferreds. Overnight from 100% liquidity to 100% illiquidity and potential principal loss.

My grandfather believed in Mattress Money. He put cash in his mattress. He was brought up in the 1930s. For a flavor of that, Kate Zernike wrote recently in the New York Times.

TAKING office in 1933, Franklin D. Roosevelt confronted a country in crisis. Four in 10 working-age Americans were jobless. Banks were collapsing. There were long lines outside tellers’ windows as people rushed to withdraw their savings.

On March 4, Roosevelt gave his now famous inaugural address, promising that “the only thing we have to fear is fear itself.” Within days he had secured legislation guaranteeing the banks, and on March 12, he took to the radio for the first of his fireside chats. “When the people find out that they can get their money — that they can get it when they want it — the phantom of fear will soon be laid,” he soothed an anxious nation. “I can assure you, it is safer to keep your money in a re-opened bank than under your mattress.”

When banks re-opened the next morning, the lines were gone, as Robert A. Caro recounted in the first volume of his biography of Lyndon Johnson, “The Path to Power.” People put money back in, so much that on the first day after the chat, deposits outweighed withdrawals by $10 million.

It was the legislation, but mostly, Mr. Caro writes: “Their confidence was restored by his confidence. When he smiled on the crisis, it seemed to vanish.”

Today we have Roosevelt's insurance (of sorts). It's not the 1930s, though you'd never know it from the way the banks are operating. I'm not predicting a return to the 1930s or anything much worse that we already have in today's capital markets -- which is pretty bad.

But, it's useful to ask ourselves, "What else can turn overnight into locked auction rate securities --i.e. from cash to oblivion in one day?"

I have no brilliant ideas. I still smart from $3.5 million tied in Nuveen auction rate preferreds (ARPS) I can't liquidate, except at 12% or so loss. That smarts. Heck, Wall Street told me (and thousands of others) that ARPS were as safe as cash, as safe as money market funds (though I'm dubious about some of them, too).

There are money market funds. In its race to juice performance, Wall Street has been juicing money market funds with leverage and lousy (i.e. junk) debt. Not all money market funds are alike. They range the continuum from absolute crap to high quality. I have a government money market fund at Vanguard that only has government securities. It has no debt and nothing else. Allegedly.

Then there are overseas bank accounts. It's not hard to see what's happened to, and is happening to the U.S. dollar. Two-year Australian government bonds are paying nearly 7% and will shortly pay over 7% when rates are raised in May (to counter Australia's growing inflation). The Australian dollar will shortly be at par with the American dollar. I remember when one Australian dollar could be bought for 50 U.S. cents. In those days, they called it "The Pacific Peso." No more. The description applies more now to the American dollar.

Of course, there's insurance. The Federal government insures bank accounts to $100,000. One ruse is to open ten accounts, each of $90,000, with different banks. You open with less than $100,000 to allow for the interest. You want that insured also.

What is your broker goes belly up? That was the subject of a recent BusinessWeek piece:

If my brokerage firm fails, are the assets in my account safe?
They should be. Unless a broker has run off with your assets, the securities you own will be available, even if the firm files for bankruptcy. Your biggest worry becomes how long it will take to get your money, but that's only a cause for concern if the back-office operations of the firm are in disarray. In the event of a financial crisis, an organization known as the Securities Investor Protection Corp. (SIPC) will step in to make sure that customer accounts are transferred to a financially sound institution. That's what happened when Cincinnati-based Donahue Securities collapsed in 2001.

How long will it take to get access to my investments if my broker goes belly up?
If history serves as a guide, it won't take long. For example, bad loans caused MJK Clearing, a Minneapolis brokerage firm, to fail in 2001. Clients were able to tap most of their money in about a week after their assets were transferred to another firm. Less than 5% of the $10 billion in total assets took six months to transfer.

Doesn't SIPC cover any losses?
There has been some confusion about SIPC's role. It steps in to cover losses only when assets disappear due to wrongful conduct, such as misappropriation, by the broker. In that case, SIPC covers losses up to $500,000 per account. (Only $100,000 may be in cash.) Most brokerage firms carry excess coverage for losses above this amount. You won't be covered for losses due to a drop in security prices.

What if I have a margin account?
If you purchased securities on margin and your broker has folded, things get much more complicated. That's because most of your purchase has been funded by money you've borrowed from your broker. If your broker suddenly needs cash, it can ask you to pay back the loan immediately—a margin call. That could force you to sell securities at a loss.

If I want to move my money somewhere else, will there be any problem?
The fastest way to move your account is with an "in-kind" transfer: Your portfolio is simply moved from Brokerage Firm A to Brokerage Firm B. Transferring accounts from one major brokerage firm to another can often be done in less than a week, since most firms work on the same electronic platform.

Are there any special issues if I own proprietary investments?
Many brokerage firms offer their own branded mutual funds, hedge funds, and other types of investments. Typically, these kinds of assets cannot be transferred. They must be liquidated, which takes time. Selling also raises capital gains issues when the sale results in a profit or a loss.

Searching for a place to put cash is urgent. The only answer I have at present is the old standby -- diversification. If someone has don't have all the answers. If someone has some better ideas, I'd welcome an email.

Lady Astor: Mr. Churchill, You are drunk.
Churchill: Lady Astor, you are ugly. Tomorrow I’ll be sober.

Lady Astor: If I were your wife, Mr. Churchill, I’d put poison in your breakfast.
Churchill: If you were my wife, Lady Astor, I’d eat it.

Churchill apropos Major Attlee "A modest man with a lot to be modest about.”

Keating apropos John Hewson: A shiver looking for a spine to run up.

Winston had devoted the best years of his life to preparing his impromptu speeches” F. E. Smith on Winston Churchill.

“A sheep in sheep’s clothing” Winston Churchill on Clement Attlee.

“There but for the grace of God goes God” Winston Churchill on Sir Stafford Cripps.

“The Prime Minister clings to data the way a drunkard clings to lampposts” Romano Prodi on Silvio Berlusconi.

“He has not a single redeeming defect” Benjamin Disraeli on William Gladstone.

“She probably thinks Sinai is the plural of sinus” Jonathan Aitken on Margaret Thatcher.

“It’s like being savaged by a dead sheep” Denis Healey on being attacked by Geoffrey Howe.

“When she speaks without thinking, she says what she thinks” Lord St John of Fawsley on Margaret Thatcher.

This column is about my personal search for the perfect investment. I don't give investment advice. For that you have to be registered with regulatory authorities, which I am not. I am a reporter and an investor. I make my daily column -- Monday through Friday -- freely available for three reasons: Writing is good for sorting things out in my brain. Second, the column is research for a book I'm writing called "In Search of the Perfect Investment." Third, I encourage my readers to send me their ideas, concerns and experiences. That way we can all learn together. My email address is . You can't click on my email address. You have to re-type it . This protects me from software scanning the Internet for email addresses to spam. I have no role in choosing the Google ads on this site. Thus I cannot endorse, though some look interesting. If you click on a link, Google may send me money. Please note I'm not suggesting you do. That money, if there is any, may help pay Michael's business school tuition. Read more about Google AdSense, click here and here.
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