Posted on May 6th, 2008 in Daily Stock Market / Economic News - The Real Story

Merrill is getting very good at the number one game on Wall Street, ‘Hide the Mortgages’. When worthless mortgage paper is presenting a problem to your financial sitaution, move them to your Level 3 books, mark them at par or better and put out a press release saying ‘we don’t need to raise anymore capital’. Merrill’s top competitors in this game are Goldman, Lehman, Citi, Chase, Morgan, Bear etc. The usual suspects…the ones (other than Citi) that posted ‘really great earnings’ last quarter.

Merrill says it’s most difficult to value Level 3 ‘assets’ jumped big-time in Q1.  It’s ratio of Level 3 to total assets rose to 8 percent from 5 percent. What the didn’t tell you was that Level 3 ‘assets’ as a percent of shareholder equity was 130% (see chart inside). Good de-leveraging job guys!

But, what about your $770 BILLION in Level 2 ‘assts’ John? Maybe they are not all ‘illiquid’ as are the Level 3 assets, but are they really worth par? Level 3 is where most have stuck the subprime, home equity, alt-a etc paper, however, Level 2 also contains certain residential and commercial mortgages.

So, this is what being “80% done with the credit crisis” looks like. Untradable, marked-to-myth assets surge, as banks neatly get their books in order putting all their toxins on their Level 3 books, awaiting the day the Fed comes in and saves everyone? But until that day comes and even as the Fed, Treasury and the banks themselves preach ‘deleveraging’, the banks are levering up.


Level 3 ‘assets’ among the many of the nations largest US banks (listed below – thanks NinjaTF) add up to nearly $500 BILLION! That is more than the Fed has left! “.  If you look over to column 5, you see the level 3 assets as a percentage of equity (column 6). For example, Morgan Stanley (MS) has Level 3 assets (column 4) that total 235% (column 5) of equity (column 6)…oops. Columns, 2, 3, and 4 are total Level 1, 2 and 3 assets respectively.

But wait a minute. What the heck are those Level 2 assets?’ Finding a bid for those in this market is likely as to close to impossible as a Level 3 ‘asset’ bid. BUT THOSE ASSETS ADD UP TO NEARLY $5.5 TRILLION!  That makes the Fed’s $400 Billion or so they have left look miniscule.

This makes the news released simultaneously regarding Merrill being investigated by various Gov’t agencies for their part in the Auction-Rate Securities nightmare look trivial.

Last night in Singapore, John Thain said he “sees no need for more capital as the subprime crisis nears an end, but expects U.S. banks with large exposure to consumers to be the next problem area”. Two comments on this…he said the same thing about a month ago while in Japan and subsequently raised capital two weeks later saying ‘I meant only through issuing common stock’. As if, taking on more debt to raise capital doesn’t count for anything. Second, he actually may not need to raise capital this time because of the news above. The toxic items on the books that would require a capital backstop were moved to Level 3 and marked to myth, instantly taking care of the need to additional capital. 

Wouldn’t it be great if Merrill and other brokers let you mark your portfolio to what you believed the assets to be worth on those dreaded days on which you receive a margin call?  

All joking aside, this is an absolute disaster in the making. The Fed does not have enough reserves to take care of many of the nations largest banks, who as you can see, are OVER their ears on Level 2 and Level 3 ‘assets’, of which much has not been able to be priced for months. Much of it never will.

Level 1, 2, and 3 assets are ways of classifying a company’s assets based on the degree of certainty around the assets’ underlying value. Level one assets can be valued with certainty because they are liquid and have clear market prices. At the other end of the spectrum, Level 3 assets are illiquid and estimating their value requires inputs that are unobservable and reflect management assumptions. – Best, Mr Mortgage

  • Level I: Mark to Market – readily observable market prices. 

  • Level II: Assets that aren’t actively traded, but have quoted market prices for similar instruments – otherwise known as ‘mark to model.’

  • Level III: Assets that have model derived valuations in which one or more significant inputs or significant value drivers are unobservable-otherwise known as ‘mark to myth’ or ‘mark to management’s best guess,’ ‘mark to a hope & a prayer,’ etc…

    18 Responses to “MERRILL LEVEL 3 ASSETS SURGE NEARLY 70% TO $82.4 BILLION IN Q1”

    1. […] Original post here […]

    2. […] Read the rest of this great post here […]

    3. I think many savy traders know that there is so much lying going on right now that no one knows what to do. The US really is at zero hour.

      The government cant support a 15-20 trillion dollar market. Instead of looking for real world solutions now, we’re trying to drag this out for as long as possible.

    4. Buy Gold!

    5. Mr. M–

      I am floored by the whole Fannie/Freddie Fiasco right now!! They are declaring huge losses and predicting massive weakness in housing for years to come, and yet OFEHO just REDUCES THEIR CAPITAL REQUIREMENTS while every lender in town dumps their worst, most TOXIC JUNK onto them?!!!!! How is this not criminal?? Where are our elected leaders?!!!! SOS SOS SOS

      They have a measly 4.2 billion in capital, and back TRILLIONS in loans right now as we just continue to load them up!!!!! Don’t you think we are setting the GSE’s up for a complete bailout???!! Why not just let market forces take effect nowwww??? Check out this chart–great visual!!

    6. Have the banks put their portfolios of “liar loans” into “liar levels?”

    7. This is going to end in the worst disaster the US has ever had.

      Instead of letting the stock market fall from the begining they decided to pin the market up via the Plunge Protection Team.

      Falsely pinning the market up long enough until problems disappear or I believe this is what their plan is. What a disaster it will be when people expect normal profits and they aren’t there for years.

      They are allowing a bubble to build in the stock market to replace lost funds by banks. This seems to be the strategy and it’s a really bad one.

    8. Buy gold. Buy rice. Buy oil. Buy gas. Buy soja, wheat. Oh, I forgot, get out of the US dollar. And if you can get out of the USA as well, do it. All the gang will be supporting the markets with their lies until the elections. After that, watch out. And don’t even buy US treasure bonds. Don’t lend money to those bums. Stay away from paper of any kind.

    9. it’s vs its

      Great blog + info BTW.

    10. knew Thain was lying…just announced they raised $1.75 billion.

    11. You have to laugh at all these clowns. In reality these smugs and arrogant bastards from Fannie Mae and Freddie Mac are expecting a huge bailout from the US taxpayer and foreign sovereign funds.

    12. […] MERRILL LEVEL 3 ASSETS SURGE NEARLY 70% TO $82.4 BILLION IN Q1 Blogroll […]

    13. I couldn’t understand some parts of this article MERRILL LEVEL 3 ASSETS SURGE NEARLY 70% TO $82.4 BILLION IN Q1, but I guess I just need to check some more resources regarding this, because it sounds interesting.

    14. I read similar article also named MERRILL LEVEL 3 ASSETS SURGE NEARLY 70% TO $82.4 BILLION IN Q1, and it was completely different. Personally, I agree with you more, because this article makes a little bit more sense for me

    15. It’s MARGIN CALL time. Either these banks take the hit or it will be passed to all of you courtesy of your thieving Congress.

    16. […] on May 2nd I posted a story on Merrill playing ‘hide the CDO’ for reference and have updated my chart on 25 of the top financials and their Level 1, 2 and 3 […]

    17. […] on May 2nd I posted a story on Merrill playing ‘hide the CDO’ for reference and have updated my chart on 25 of the top financials and their Level 1, 2 and 3 […]

    18. […] on May 2nd I posted a story on Merrill playing ‘hide the CDO’ for reference and have updated my chart on 25 of the top financials and their Level 1, 2 and 3 […]

    Leave a Reply

    XHTML: You can use these tags: <a href="" title=""> <abbr title=""> <acronym title=""> <b> <blockquote cite=""> <cite> <code> <del datetime=""> <em> <i> <q cite=""> <s> <strike> <strong>