Armaggedon Time? Or Just Another Brick In The Wall?

First posted at The Smirking Chimp, September 15, 2008.

If you haven't heard the news yet, Merrill Lynch went under yesterday, their assets to be purchased by Bank Of America. Lehman Brothers filed for bankruptcy, the largest bankruptcy filing ever.
The broader markets have lost over 3% of their value today. Money is running to US Treasuries, which is not a smart move, in my opinion. Running up prices on UST's will only make it easier for the Treasury to borrow even more money, and default there is looking more likely all the time.
In the investment industry, this is much more significant news than even the Bear Stearns failure earlier this year. Merrill Lynch was supposed to be the one wirehouse (what we call a broker-dealer that can clear its own trades) that was just too big to fail. They were supposed to be picking over the carcasses of their smaller competitors, not having their incinerated remains ingested by BOA.
The snowball keeps rolling downhill. It's not rolling as fast, or picking up as much mass, as some of the economic doomsayers around here have been predicting for some years now, but things are steadily deteriorating. Next up, look for an insurance crisis. AIG is the world's largest insurance company, and they have serious balance sheet problems.

Yes, all of these companies overinvested in mortgage-backed derivatives, but that was a symptom, not the disease. The fact is, just a few years ago, nobody in the banking or investments industry would have dared to create derivative securities that were completely removed from their underlying "collateral" assets.
I work in one of the most heavily regulated sectors of the investments business. I manage investments for individuals. The requirements that the government and the regulatory agencies have put on this area are among the strictest in the entire industry, and justifiably so. I've seen plenty of evidence of misconduct by my colleagues and competitors.
But when Bush was inaugurated in 2001, it was party time for the large banks and brokerages. They no longer had anything much to fear from the Justice Department or the SEC. There are laws already on the books that could have been used to prevent much of this. The subprime lending debacle itself could not have been legally stopped, but the securitizing and selling of non-collateralized risk could have been the subject of fraud prosecutions and regulatory estoppel.
But the laws are only as good as the enforcement, and the Bush administration let it be known that there wouldn't be much of that. Many Clinton-era investigations were stopped in their tracks.
Lax enforcement, coupled with the economy-crushing borrow and spend policies of Republican rule, conspired to send our economy into a slow death-spiral. This is yet another reason why it is important to elect Barack Obama President.
Bill Clinton's Justice Department and SEC took actual enforcement actions--maybe not as vigorous as we'd have liked to have seen, but still far better than the anything-goes attitude under the current resident. There is good reason to believe that Obama's approach would be similar to Clinton's.
OTOH, McCain is as cozy with the investment/banking firms as they come, and his veep pick is a person who literally isn't afraid of Armageddon.
For those of you whose portfolios took a big hit today, I extend my sympathies. But you can at least take cold comfort in the fact that today, this time, the big firms and the wealthiest Americans also took it in the shorts.