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We’ve only touched on the Wall Street soap opera that is the Bear Stearns funds being hammered by devaluation and margin calls from Merrill Lynch and others; but this story is only going to get more familiar as we move through the summer. Brookstreet, a local fund has shut down and notified the NASD that is has run out of capital as it had to pay margin calls on its holdings of collateralized mortgage obligations (CMOs) after the holdings’ values were severely reduced.
An email from the owner, Stanley Brooks to the Orange County Register is below:
"A group of brokers had client accounts invested in CMO bonds. Some
were on margin. The declines in value forced many into negative equity.
Those amounts are charged to the firm’s net capital. The accounts were
liquidated by the clearing firm which further accelerated the net
deficits. Brookstreet went from 17mm of net equity at the end of May to
minus 17mm of net equity and the liquidations are not over. Few firms
can sustain this devastation. The firm started in 1990 with 16m of
capital. It had over 650 registered representatives. It employed 105
staff. We have notified the NASD and SEC that we are out of capital and
have been placed on sell only status for client accounts. All client
accounts are carried by National Financial, a Fidelity Investments
company, and the client assets are safe. This devastation took one
week. I have been in the business 30 years, I have never seen anything
like this.
Talk about your fast turn about on this stuff - Brookstreet went from having $17 million in capital to negative $3 million in the span of about of a week. This loss of capital puts them in violation of all sorts of securities laws that require them to cease operations and to liquidate their remaining client accounts. More from Matt at the OC Register.
…the company went from $16 million in capital Friday to being
$3 million underwater Wednesday because its clearing firm, National
Financial Services, sold the securities, which had lost value as Wall
Street confidence in Bear Stearns & Co’s hedge funds of
mortgage-backed securities collapsed .
When we talked about my company losing a large sum of money (for us) on one loan we were talking about tens-of-thousands of dollars. These types of loan buybacks wiped out hundreds of smaller correspondent lenders. Brokerage shops were wiped out when production tanked. With Bear Stearns we are talking hundreds of millions of dollars in debt obligations and Brookstreet is suffering the loss of millions.
I predict that this will continue to unravel hedge funds as these CMOs or CDOs continue to unravel due to valuation issues. I can see many funds scrambling as fast as possible to reduce margin exposure for all of their CMO/CDOs that they current have in their fund.
For more insightful coverage check out Calculated Risk.
