U.S. Economic/Financial News
Mutual Funds Fraud Probe Expands; Threat to Global Market Mooted
The U.S. Securities and Exchange Commission (SEC) and New York Attorney General Eliot Spitzer have expanded their investigations against illegal trading practices by the U.S. mutual fund industry, which presently holds about $7 trillion in assets. The firms being investigated by Spitzer include the Wisconsin-based mutual fund, Strong Capital Management; the Phoenix-based retirement fund, Security Trust Co.; the New York broker, DC Capital LLC; the Janus Capital Group; as well as well Bank of America Corp. and Bank One Corp. On Nov. 4, the U.S. arm of Deutsche Bank became the latest target by Spitzer. All these financial institutions are believed to have engaged in illegal "late-trading" or "market-timing." The firms allowed "special" customers, such as hedge funds, to trade stocks after the closing of the stock exchanges at their closing prices, but making use of latest information. If, for example, a company put out a profit warning or some other ugly news after the market closed, a customer could make an excellent deal by selling the stock at its closing price, that is, before it collapsed the next day.
Meanwhile, the SEC has accused 450 U.S. brokerage firms of systematically overcharging investors for mutual-fund purchases. At a hearing in Washington on Nov. 4, the SEC furthermore said that 10% of top U.S. mutual funds, and 25% of U.S. brokerage firms, may have been involved in illegal late trading. Senator Peter Fitzgerald, chairman of the Senate Subcommittee on Financial Management, noted that the mutual-fund industry, which once had been a safe haven for small investors, has now turned into "the world's largest skimming operation."
The investigations have already led to some dramatic consequences for the mutual fund industry. On Nov. 2, Richard Strong, chairman of Strong Mutual Funds ($43 billion in assets), had to announce his resignation. On Nov. 3, Lawrence Lasser, founder and chief executive officer of Putnam Investments ($270 billion in assets), was forced to resign. Putnam is the fifth-largest U.S. mutual fund. In the week before, state pension-plan managers had pulled out more than $4.3 billion out of Putnam funds after the firm was charged with securities fraud by the SEC. By Nov. 7, the pullouts from Putnam had already grown to $9.4 billion. These developments are unprecedented in recent history and could turn into a threat to global financial markets. If investors pull out capital from a fund, the fund first needs to generate cash, which it can only accomplish by selling assets, such as stocks or bonds.
Freddie & Fannie Pose 'Systemic Risk'
Fannie Mae and Freddie Mac are posing a "systemic risk," said U.S. Council of Economic Advisers chairman Gregory Mankiw. Addressing a conference of state bank supervisors on Nov. 6, Mankiw noted that the activities of the two mortgage-finance giants have become "gigantic" in recent years, partly because they receive government backing. While the debt of Fannie Mae and Freddie Mac is not formally guaranteed by the U.S. Treasury, the government's sponsorship is widely believed to include a public bail-out in case of financial emergency. Mankiw said, "The subsidy creates a source of systemic risk for our financial system." Even a small error in risk management by the companies could cause ripples in U.S. financial markets, he said, and then called for tougher oversight of Fannie Mae and Freddie Mac.
Fannie's Mobile Home Loans Turn into 'Trailer Trash'
Fannie Mae, one of the two giant institutions that dominate the U.S. secondary housing market, holds $9 billion of manufactured home/mobile home loans, which are in trouble, the Wall Street Journal reported Nov. 3. Some 70% of the Fannie Mae holdings of mobile-home paper is concentrated in its holdings of the loans of Conseco, the mobile-home industry leader, which filed for bankruptcy earlier this year. Moody's Investors Service had downgraded the credit rating of Conseco last year, and last month put Conseco on the watch list for review for another downgrade. Nationwide, the mobile-home industry loan default rate is 8%, and in some states much worse, where many mobile homes are being repossessed. In North Carolina, some mobile-home paper is selling at 20 cents on the dollar. The failure of mobile-home paper held by Fannie Mae, could create deep problems for Fannie's total financial paper of over $2.5 trillion, which could bring down the U.S. financial system.
Don't Believe the Hype: U.S. Job Losses Doubled in October
Despite the latest headlines hyping the miraculous turn-around in jobs, for example: "Job Growth Is Greatest Since Recession Ended" (Washington Post, Nov. 8) Chicago-based outplacement firm Challenger, Gray & Christmas, Inc. issued a report Nov. 4, which indicates that the number of job cuts more than doubled in October from September this fall. The report asserts that in October, companies announced plans to eliminate 171,874 positions, compared with 76,506 in September. This was the highest monthly level since October 2002, when similar reports said 176,010 job cuts were announced.
The hardest-hit sector was automobiles, which announced plans to eliminate 28,363 jobs in October. Next, the retail sector plans to cut 21,169 jobs, and telecommunications said it would slash 21,030 jobs.
The CEO of Challenger added that "companies' increasing productivity made it easier for them to delay hiring." A new Challenger poll of potential hirers concluded that 78% expect no significant hiring until the second quarter of 2004, while 11% said there would be no hiring rebound at all in 2004.
Bush Admin. To Halve Proposed Amtrak Funding
"Amtrak's Budgetary Crapshoot," is the headline of a New York Times editorial Nov. 3, which accuses the Bush Administration of vastly underfunding the nation's intercity rail system. The Administration proposes $700 million be spent for Amtrak for the coming Federal fiscal year 2004, half of the already paltry Republican-controlled Senate proposal of $1.35 billion. The Times says, "This is more than a little shortsighted. The development of high-speed trains along a few heavily travelled corridors is crucial in the long-term to alleviating highway and airport congestion."
As the Times correctly states, this opens Amtrak to further disasters. During the August Northeast power blackout, two out of Amtrak's three electric cables that link New York City to the rest of the country, which date back to the 1930s, went out. Loss of the third cable would have disrupted Amtrak, and most rail commuter traffic, for months.
As Lyndon LaRouche and EIR have proposed, with increasing urgency as the physical economy has collapsed, what the U.S. needs is a long-term infrastructure development policy, with hundreds of billions of dollars in investment, along the lines of FDR's TVA. Otherwise, you might as well hitch up your horse.
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