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Did Banks ‘Fake’ Demand For Niche, Housing Products?

Friday, 27 Aug 2010 | 12:50 PM ET

A story from public-interest journalism siteProPublica is grabbing the attention of the Fast Money traders.

The report is somewhat incendiary and before we go any further, it’s important to note that this report reflects the opinions of the report’s authors – not Fast Money. But with that said – the Fast traders do think developments are well worth watching.

Now the details...

In a nutshell, the story’s authors make the case that a handful of banks created artificial demand for their highly lucrative CDO or Collateralized Debt Obligation business as investor interest waned in late 2006 and 2007.

Specifically they write:

An analysis by research firm Thetica Systems, commissioned by ProPublica, shows that in the last years of the boom, CDOs had become the dominant purchaser of key, risky parts of other CDOs, largely replacing real investors like pension funds.

It's clear thatProPublica did a great deal of research and they provide mountains of it on their website.However the circumstances are kind of confusing so we're cutting right to the chase and presenting the heart of their argument, here.

Suffice it to say that mortgages were at the heart of the financial products in question. And as the housing market began to slow, big investors became concerned. They didn't like some of the risky holdings. So, the banks sliced up the mortgages and...

67 percent of those (less desirable) slices were bought by other CDOs in 2007, up from 36 percent just three years earlier. The banks often orchestrated these purchases. In the last two years of the boom, nearly half of all CDOs sponsored by market leader Merrill Lynch bought significant portions of other Merrill CDOs.

ProPublica also found 85 instances during 2006 and 2007 in which two CDOs bought pieces of each other's unsold inventory. These trades, which involved $107 billion worth of CDOs, underscore the extent to which the market lacked real buyers. Often the CDOs that swapped purchases closed within days of each other, the analysis shows.

It remains unclear whether any of this violated laws.

The SEC has said that it is actively looking at as many as 50 CDO managers as part of its broad examination of the CDO business' role in the financial crisis.

Jake Bernstein and Jesse Eisinger wrote the story.

Fast Money Midday Market Check
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Hear what they tell the Fast Money desk in a live interview on the Halftime Report. And find out whether the traders think this could present overhang for the bank stocks.

Watch the video now!

* Our conversation with Bernstein and Eisinger begins at the 7 minute mark.

Click here to go to ProPublica's webiste and read "Banks’ Self-Dealing Super-Charged Financial Crisis"




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Trader disclosure: On August 27th, 2010, the following stocks and commodities mentioned or intended to be mentioned on CNBC’s Fast Money were owned by the Fast Money traders; Najarian Owns (CELG), (TCK), (CNI), (TEVA); Najarian Owns (HPQ) Calls; Najarian Owns (V) Calls; Najarian Owns (STX) Calls; Najarian Owns (WDC) Calls; Najarian Owns (MU) Calls; Karabell owns (C), (GS); Terranova Owns (AXP), (GS), (IBM), (QCOM), (AAPL), (GOOG), (BRCM), (TER), (MSFT), (C), (MRVL), (BMO), (V), (POT), (OXY), (GLD), (SU), (FCX), (APA), (XBI)

For Zach Karabell
River Twice owns (GS)
River Twice owns (DD)
River Twice owns (POT)

For Patty Edwards
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Edwards owns (HPQ)
Edwards owns (MOT)
Edwards owns (BAC)
Edwards owns (WFC)
Edwards owns (C)
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Edwards owns (GLD)
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Edwards owns (SYT)

For Joe Terranova
Terranova is chief market strategist of Virtus Investment Partners, LTD.
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For Brian Tunick
Men's Wearhouse is or was in the past 12 months a client of JPMSI; during the past 12 months, JPMSI provided to the company investment banking services, non-investment banking securities-related services and non-securities-related services.

JPMSI or its affiliates received in the past 12 months compensation for investment banking services from Men's Wearhouse.

JPMSI or its affiliates expect to receive, or intend to seek, compensation for investment banking services in the next three months from Men's Wearhouse.

JPMSI has received compensation in the past 12 months for products or services other than investment banking from Men's Wearhouse. An affiliate of JPMSI has received compensation in the past 12 months for products or services other than investment banking from Men's Wearhouse.


CNBC.com with wires.

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