The market was 500 trades away from Armageddon on Thursday, traders inside two large custodial banks tell The Post.
Had the Treasury and Fed not quickly stepped into the fray that morning with a quick $105 billion injection of liquidity, the Dow could have collapsed to the 8,300-level – a 22 percent decline! – while the clang of the opening bell was still echoing around the cavernous exchange floor.
According to traders, who spoke on the condition of anonymity, money market funds were inundated with $500 billion in sell orders prior to the opening. The total money-market capitalization was roughly $4 trillion that morning.
The panicked selling was directly linked to the seizing up of the credit markets – including a $52 billion constriction in commercial paper – and the rumors of additional money market funds “breaking the buck,” or dropping below $1 net asset value.
Amazing, isn’t it? The Islamic terrorists tried to destroy the US financial system by launching two planes into the World Trade Center – they failed. Certain of our lenders, realtors, and home buyers who willingly made, or had a hand in making bad mortgage loans, and certain of our investment company heads, who were willing to bundle these dubious loans into structured securities, almost managed to take us down.
Too bad Franklin Raines, Jim Johnson, and Stan O’Neal can’t be arrested and charged.
Deutsche Bank’s exposure alone amounted to about 80 percent of Germany’s 3.3 Trillion GDP. Their gearing (leverage) was about 60:1, and a distressing percentage of the underlying assets of the bank were shares in AIG and other troubled US banks. The choice of bailout beneficiaries was not an entirely [i]domestic[/i] issue.
Stepping back for a broader view, the real problem is that people think finance functions along a bell-curve, or Gaussian distribution. In such distributions the truly catastrophic events are also truly rare, somewhere out around 10-sigma (essentially once in umpteen thousand years).
Finance functions much more as a power distribution, with the result that “nearly-impossible” events may actually come along every few years. This is the critical change we must make. We mistake precision for accuracy and thus get caught out because natural variations within the system upon which we’re betting are much wider than the precise tolerances upon which we’ve constructed our profit model.
Slide rules never let you get sloppy about significant figures. Calculators and computers are terribly unreliable in that regard. All the time. The bill for such intellectual laziness cross-bred with greed … is now coming due.