Another Note On SIV Ownership

As I discussed recently in this post, it appears that the money center banks which created the SIVs which hold so much of the questionably-valued CDO assets, do not own those SIVs.

As structured, it appears that some 'senior note holders' stand as equity participants in the vehicles, by virtue of their reaping the gains, net of financing costs and management fees, accruing to the entities.

One thing I neglected to cover in my prior SIV-related posts (found by reading the posts under the 'SIV' label located on the right side of the page) is why commercial banks, or other entities managing an SIV which they created, are unlikely to assume the SIV liabilities, i.e., take back the commercial paper issued to fund the SIVs.

If a commercial bank, such as Citigroup, were to voluntarily offer to take back the commercial paper issued by an SIV which it created and operates, or simply absorb the SIV's balance sheet onto its own balance sheet, thus bringing it 'on balance sheet,' it could well be subject to lawsuits by some of its institutional investors.

By having structured SIVs as separate entities, companies like Citigroup specifically and legally sidestepped ownership of liabilities connected with the SIVs. To now assume those liabilities, which might default if left alone on an SIV's balance sheet, would be effectively assume an obligation with no adequate offsetting benefit.

It's hard to believe a major commercial bank's institutional investors would stand by silently while a company in which they hold substantial positions engages in such foolish use of its capital.

I think that's why the M-LEC structure is being used, with cover from the Treasury's blessing.

Participating in the M-LEC isn't technically taking back and/or owning any of the SIVs' commercial paper. But it is supposed to, under ideal conditions, liquify the SIVs' assets, in order to provide them with cash with which to pay commercial paper holders. By investing in the M-LEC, banks in effect issue commercial paper through this entity, to replace the individual SIV commercial paper, without, per se, owning the latter.

If the M-LEC can somehow manage to not lose money on the same 'borrow short, lend long' basis that the SIVs employed, but, instead, borrow short and lend short, by effectively doing repurchase agreements on the better quality SIV assets, then the commercial banks might be able to mitigate the losses of commercial paper holders of the SIVs which the same commercial banks created and operated.

I think, in retrospect, that the M-LEC structure was originally conceived in part to avoid the legal problems of the relevant banks attempting to take ownership of SIVs which would only saddle them with more liabilities than assets, at this time.

It remains to be seen, however, whether the M-LEC will actually be created, and whether it will avoid some of the challenges predicted for it, and cited in some of my prior posts on the topic.