Deal With Bondholders Cleared the Way for GM Bankruptcy


“Pssst…hey kid… You, in the red robe…

“You’re just graduating from college, right?

“You wanna make some real money?

“Then, rush to Detroit. Set up a law firm specializing in bankruptcy.”

More advice to college graduates follows…(below)…

Two auto-parts suppliers have already filed under Chapter 11. GM is expected to do so momentarily.

Too bad about GM. It was set up in 1916. If it had been able to hold together for another 7 years, it would have gone 100 years without having to declare bankruptcy.

All people die. All companies die, too. That’s why ‘buy and hold’ is wishful thinking. Buy and hold long enough and you are sure to go broke. And die.

Eventually the undertakers and bankruptcy lawyers get you. And today…business is good in Detroit. What cleared the way for the GM bankruptcy was a deal with the bondholders…in which they take equity in exchange for their debt and agree not to contest the bankruptcy filing. Still, the deal – and other deals relating to it…including the presence of one very big and very odd shareholder, the government of the United States of America – is so complicated, it’s bound to give bankruptcy lawyers plenty of work for many years.

But business seems to be picking up everywhere…at least, that’s the impression you get from reading the paper. The war against capitalism seems to be going pretty well, in other words.

Yesterday, the rally continued on Wall Street, with the Dow up 103 points. Oil rose too. It is trading at $65 a barrel this morning. And look at gold – the old yellow metal is at $963 and still going up.

Does this mean the feds are winning the war?

“Signs of life return to California market,” says the Financial Times.

Houses in many areas are selling for 60% less than they did two years ago. Two years ago, the average family couldn’t come close to buying the average house. In didn’t take a genius to figure out that that couldn’t last. Who were they going to sell the average house to if not to the average family? Well, now the $600,000 dump from ’07 has been foreclosed and is now on sale for $200,000. That means that the average family that still has a job can buy it.

And it doesn’t hurt that the feds make it easier – distorting the market with an $8,000 tax credit and EZ financing from the FHA.

Wait a minute! Wasn’t it easy financing that got us into this mess? Of course it was. But that little insight doesn’t stop the feds. They’re convinced that if they can just put out enough new credit, it will somehow make the problems caused by having too much credit before go away.

So here’s the deal. You can get the FHA to finance a house, long-term, at just 4.9%. That’s just 0.3% higher than the long-term Treasury yield. Even without opening the closet door, we smell a rat. How can lenders expect to make any money – after delinquencies, defaults, foreclosures, resales…to say nothing of legal and administrative work – on a 0.3% margin? And that’s assuming their cost of money is the same as the feds’ cost – the long term T-bond rate.

Maybe they should read the paper. John Authers, writing in the Financial Times:

“The latest US mortgage delinquency figures are horrendous, with more than 6% of prime mortgages in arrears – more than double the long-term norm. A quarter of sub-prime loans are delinquent.”

And although one in 6 homeowners is underwater…

“The peak of foreclosures has yet to come,’ Harvard historian Niall Ferguson adds. ‘They will go from 40 percent of all home sales to literally 100 percent by the end of the year.'”

Well, the bankers – as everyone knows – are a lot smarter than we are. They’re probably up to the old trick: borrowing short, lending long. The spread between the long rate and the short rate has never been great. We explained why yesterday. The Chinese don’t trust Tim Geithner to keep his word. For that matter, neither do we. They’ve switched from buying long bonds to buying short bills. So, the bankers – including those working for the FHA – can borrow very cheaply in the short-term market. And they can make cheap mortgage loans, long-term. And then, when the short rates go up…and they need to roll over their short- term loans…they can get in line at the courthouse, behind GM and the parts manufacturers…

..and pick out a gaudy casket too.

Bill Bonner
for The Daily Reckoning Australia

Bill Bonner

Bill Bonner

Best-selling investment author Bill Bonner is the founder and president of Agora Publishing, one of the world's most successful consumer newsletter companies. Owner of both Fleet Street Publications and MoneyWeek magazine in the UK, he is also author of the free daily e-mail The Daily Reckoning.
Bill Bonner

Latest posts by Bill Bonner (see all)



  1. I assume that we are half way though the mortgage foreclosure process in the US and half way thought the corporate deleveraging and mark-to -market processes. My other assumptions for the moment are a convergence of sovereign government risk in Eastern Europe, energy supply constraints, interest rate risk and inflation risk (for consumer goods)and continued money printing. Where am I getting to?

    So far, many of these issues have, to some extent, counter balanced each other and the USD has, as a consequence, remained relatively stable. The sting to the USD may come when deleveraging slows to a point (or threshold) that removes the temporary equilibrium. The USD would then drop sharply. If the derivatives market is like a fighter on the ropes – all it will take is a few more body blows (like this) to drop him as well. A derivatives market failure could, inturn, further cook the dollar.

    If (when) such a convergence the ASX and the Aussie will also drop like stones.

    This all sounds negative but is it? Maybe these events need to happen to enable a true recovery. For my part, I’m now try to pick resource stocks with a strong rebound potential. These firms will be positioned to pick up distressed peers at fire sale prices (even if USD proceed commodities go for a bit of a roller coaster ride).

    Coffee Addict
    June 1, 2009
  2. Minsky didn’t care much for the theory of equilibrium. Indeed, his FIH approach speaks more to reality.

    Maybe ‘the hidden hand’ has Parkinson’s …

  3. CA, wheat has recently gone from $5 to 6.75 tracking the rise in bond yields. Oil started its rebound earlier and continued although northern summer always gives it a kick.

    The money to inflate is out there, we all agree it was genuine illiquidity down to real losses (incl the unwinding of false crony booked profits in past accounting periods) and not just irrational fear induced illiquidity and we can see that they have done this massive printed/mezzanine leveraged (on crappy assets now on govt balance sheets) turnaround in liquidity in the shortest time. Bernanke either starts making good on bringing back all the short term treasuries and making the banks move on the off balance sheet FASB rule in advance of the Jan 1 2010 deadline or I fear you are right on the hyperinflation.

    The regionality on the status of the US mortgage mark-to-market process on the mortgages strikes me. It isn’t as Greenspan always claimed a regional hot/cold spot issue so there remains an inbuilt lie when the worst are along way down the path in the rust belt and the Nevada’s and California’s but the US average is not far progressed like you say. There is either more national average US property deflation to come like you say or otherwise the US mortgage market is actually being rational and waits for a severe inflationary episode and wages breakout that will enable those with 30 years fixed to gain at the expense of the banks and US govt yet again. Here we don’t have 30 years fixed but our banks are still heading to a dark place on bad debt / uirban unemployment and the eventual drying up of offshore funds when guarantees start being ridiculous and govt sees real money in out rather than a never never promise. Just look at Ireland.

  4. Your $200k house is actually only worth $100k – when you compare it to a house in the ‘real’ world : the 3rd world.

    America itself, indeed the entire English speaking world, is actually in the same position as that graduate.

    Factor that one in.

  5. Ross. I tend to agree with your analysis. I don’t have the latest stats on marks-to-market for residential mortgage backed derivatives and admit to basing my guestimate on the synthetic stuff flogged to local councils and the like in Australia (and elsewhere).

    Lachlan kindly put me on the right path concerning the definition and gross face value ($1000t) of financial derivatives out there. My view has been that central bank actions are aimed at allowing at least some of this stuff to mature (durations for these instuments are generally around 5 years) rather than default. Whether of not the central banks succeed in this has always been a high stakes gamble.

    Re Australian real estate – all I have is the house that I live in. Due to the generational policies of (often corrupt) local councils and (perhaps less corrupt) planning authorities we have an exteme market failure situation. The fact that land prices have to fall, does not I think, obviate the need for more construction. Indeed, the construction industry could boom in some areas IF land prices were allowed to return to more realistic levels.

    I don’t actually expect hyperinflation because I don’t believe that wages in debtor countries will keep up with (non rent) consumer price inflation. 15% to 20%pa inflation on your weekly shopping costs may be a realistic guess me thinks.


    Coffee Addict
    June 2, 2009
  6. Mark to market!
    But this has been dropped as an accounting standard because the Banks would have been bankrupt and to keep their doors open the TARP would have had to grow by upteen fold. The U.S government and therefore the U.S tax payers couldn’t afford that and a deficit to recapitalise them to that extent would be unsupported around the World where the actual money is coming from.

    So please stop referring to mark to market it is not in the economic equation anymore because we didn’t like the answer when it was a factor.

  7. Joe

    I clarified in my post that I was referring to the Australian situation. The relevant extract from AASB 136 is:

    “9. An entity shall assess at each reporting date whether there is any
    indication that an asset may be impaired. If any such indication
    exists, the entity shall estimate the recoverable amount of the asset.”

    As far as I can tell AASB136 is still current given that my organisation as done a $30m mark-to-market write down on CDS type stuff. It has been reported so there are no confidentialities to breech here.

    I note that the FASB does not follow the IASB on these issues. I also understand that the Australian accounting authorities are currently lobbying the IASB not to follow the lead of the FASB.

    Regardless of the accounting treatment selected, a lot of the junk is as good as dead anyway. All the FASB has done is defer the hour of the execution. The hangman is simply on a longer lunch break than usual.

    Coffee Addict
    June 2, 2009
  8. CA FASB standards are far tougher than AASB if you exclude the off balance sheet loophole. And it isn’t all as suggested by the self interested Aust spinners (derived from Sarbanes-Oxley). If you look at goodwill in particular the disciplines under AASB are as weak as. Under AASB fuzzy law and you pay too much for dud assets you write it up with a little story of your own choosing and if shareholders or creditors ever get to contest it in court it will be after it has already blown up. Meanwhile a motza of accounting and legal advisory fees are taken exploring the limits.

    If you look at a diversified company that has both US and Australian assets and then compare the treatment of goodwill on its US versus Australian books after acquisitionjs in particular you will see chalk vs cheese. All this flows through to asset valuations and the 3 monkey approach taken by Australia versus the asset price adjustments accepted as inevitable in the US. Watching groups like Sims and Westfield and Boart Longyear that must report under both jurisduictions will reveal reporting tensions and likely surprises as head office here tries to dodge bullets there.


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