"If God Had Not Meant Them to Be Sheared, He Would Not Have Made Them Sheep!" Blogging
Over at Seeking Alpha, Roger Ehrenberg writes:
Nothing New About 'Liquidity Puts': "Liquidity puts" - yet another new and ominous sounding term for something that has been in existence for a long, long time.... [D]on't sit there and tell me that these risks are new, special and different. They're not. It is only that certain investors have been awakened from their heavenly slumbers by a heaping dose of reality. And whose fault is that? If you want to play in the world of complex instruments than read the documents. Very. Carefully. Don't rely on the rating agencies - they won't save you. And don't count on clear and useful accounting rules or detailed company disclosures to bail you out. You've got only your own brains, perspective and diligence to count on. And if any of these three are lacking - look out...
The other view, of course, is that your brains, perspective, and diligence are to be applied in looking at a firm's balance sheet--that if it is not on the balance sheet, it is not an asset or a liability of the company. And Ehrenberg quotes from Fortune:
Citi... insert[d] a put... into... CDOs that were backed by subprime mortgages.... The put allowed any buyer of these CDOs who ran into financing problems to sell them back - at original value - to Citi...
And from Wikipedia:
Securitization occurs when a company groups together assets or receivables and sells them in units to the market through a trust.... Companies often do this in order to remove these assets from their balance sheets and monetize an asset. Although these assets are "removed" from the balance sheet... that does not end the company's involvement. Often the company maintains a special interest.... Any payments from the trust must be made to regular investors in precedence to this interest.... The aforementioned brings into question whether the assets are truly off balance sheet given the company's exposure to losses on this interest...
And Ehrenberg goes on:
Liquidity puts and its variants are strewn across the entire securitization landscape and have been for a few decades, and any investor that buys and sells the shares of financial institutions without understanding this concept is in for a lot of pain. The likelihood of incurring this pain has always been there, it is only that today's markets being as they are that the fat tail of the distribution has finally come along...
Perhaps I am naive. But I think that any company that writes out-of-the-money puts should carry them on its balance sheet.
