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This week, “The Wrap” features our view of the key events in Washington and on Wall Street over the past week. Don’t forget to watch “The Wrap” on The Julia LaRoche Show  every Saturday on YouTube to catch our discussion of what’s hot and what’s not in the world of finance and investing.  March 13, 2026 | What were the top events of the past week? First is the continued unwind of private credit and also private equity, with JPMorgan (JPM) saying that it is market down private loans and pulling back on credit available to these clients. We published a recap of our thinking on private equity in The Daily Reckoning , which was picked up in Zero Hedge .  "Private credit has expanded significantly over the past decade and forged linkages with traditional financial institutions, the Office of Financial Research reported this week . "While vulnerabilities within this sector appear contained, counterparty exposures between banks and private credit funds are the main channel for risk transmission. This channel merits close monitoring given the industry’s rapid growth." In DC, the Senate passed a housing bill that reads like the agenda of Senator Elizabeth Warren (D-MA) . The House is going to make a lot of changes, but President Donald Trump  is not really paying attention to housing. Foreign policy and bombing Iran is a lot more fun. As things stand today, the Senate-passed housing legislation could easily die in the House. "There is an incredible amount to like in this bill, from the modernized treatment of manufactured housing to the focus on small-dollar mortgages,” said Isaac Boltansky , Head of Public Policy at PennyMac (PFSI) . “Nevertheless, there is clearly room for improvement in both certain technical matters and the SFR section. To truly move the needle, we should ensure the final language doesn't create unintended headwinds for supply, consumers, or lenders." We wrote a long comment on housing finance in our last issue (“ Countrywide II: UWMC + TWO = ? Loan Depot Flops, Again ”). Thirdly Fed Vice Chair for Supervision Michelle Bowman  outlined bank-friendly Basel III endgame and GSIB surcharge proposals, reports Ian Katz at CapitalAlpha in Washington. Bowman say the proposal will be released in a week. Overall, the changes will result in a small decrease in capital requirements for the largest banks and more significant changes for smaller institutions. We’ll be responding to the request for comment on Basel III.  Gold and silver prices continued to move sideways, but oil prices remained just below $100 or roughly double prices that prevailed most of the past year. We expect oil prices to remain elevated unless and until the Straight of Hormuz is reopened. Iran is basically seeking a cessation to airstrikes in return for negotiating an end to attacks on merchant ships in the Persian Gulf. Gold vs Silver Futures Data on the U.S. labor market unexpectedly deteriorated, with a net loss of 92,000 jobs in February, contradicting forecasts that predicted a gain of 50,000. This marked a significant, unexpected setback, compounded by downward revisions to employment figures for the previous two months.  The poor jobs data led to increased concern in some quarters about a potential economic "hard landing," but higher oil prices may constrain the Fed and other central banks from easing. In fact, central banks ought not to factor the oil price change into the calculous because the rise of energy costs comes from a non-monetary factor, namely war. Higher oil prices must lead to higher inflation.  “An oil price shock...has some dampening effect on growth and raises total headline inflation for a time, but doesn’t really pass through much to core inflation,” former Cleveland Fed President Loretta Mester told Kathleen Hays on Central Bank Central . “They’re not going to really know how long the oil prices will stay at elevated levels, so they’ll use the models to sort of work through that.” As for the coming Fed policy meeting, Mester recommends that officials take a cautious approach. “They’d be wise to leave things where they are...until they get more evidence on how things are going to evolve in both employment and inflation.” And US Treasury Secretary Scott Bessent stated that the Federal Reserve is a long way from returning to quantitative easing. Indeed, we suspect that once Kevin Warsh is confirmed as the next Fed Chairman, the Fed is going to make changes to the bank liquidity rules that will allow another $1 trillion reduction in the size of the Fed's balance sheet. We'll be writing about this in a future comment. The Institutional Risk Analyst (ISSN 2692-1812) is published by Whalen Global Advisors LLC and is provided for general informational purposes only and is not intended for trading purposes or financial advice. By making use of The Institutional Risk Analyst web site and content, the recipient thereof acknowledges and agrees to our copyright and the matters set forth below in this disclaimer. Whalen Global Advisors LLC makes no representation or warranty (express or implied) regarding the adequacy, accuracy or completeness of any information in The Institutional Risk Analyst. Information contained herein is obtained from public and private sources deemed reliable. Any analysis or statements contained in The Institutional Risk Analyst are preliminary and are not intended to be complete, and such information is qualified in its entirety. Any opinions or estimates contained in The Institutional Risk Analyst represent the judgment of Whalen Global Advisors LLC at this time, and is subject to change without notice. The Institutional Risk Analyst is not an offer to sell, or a solicitation of an offer to buy, any securities or instruments named or described herein. The Institutional Risk Analyst is not intended to provide, and must not be relied on for, accounting, legal, regulatory, tax, business, financial or related advice or investment recommendations. Whalen Global Advisors LLC is not acting as fiduciary or advisor with respect to the information contained herein. You must consult with your own advisors as to the legal, regulatory, tax, business, financial, investment and other aspects of the subjects addressed in The Institutional Risk Analyst. Interested parties are advised to contact Whalen Global Advisors LLC for more information.

Justice Louis D. Brandeis Time Magazine, July 7, 1930 January 2, 2018 | This week in The Institutional Risk Analyst , we feature a blog post by Christopher Whalen originally published by The National Interest that tries to explain the false narrative about lower corporate taxes resulting in the repatriation of trillions in offshore cash. Many economists have spent months waxing ecstatic about the potential investment surge that will result, but sad to say it ain't so. We'll be following up with a more technical discussion of variable interest entities (VIEs) and tax fraud in a future post for The IRA. Till then, as you enjoy this week's comment, ponder the fact that not all VIEs are used for tax avoidance, but no VIE can really ever be a "true sale" that meets the draconian test established in 1925 by the U.S. Supreme Court. As Justice Louis Brandeis wrote in Benedict v. Ratner, an incomplete sale "imputes fraud conclusively." Suffice to say that the Internal Revenue Service gets the joke. Punta del Este | When the founders of the United States framed the US Constitution, one of the concerns that guided their work was the knowledge that popular democracy would eventually become an entirely commercial proposition. This fear is clearly illustrated by the tax “reform” legislation just passed by the Republican majority in Congress. It seeks to buy votes next November with reductions in federal tax revenue that must ultimately be funded with ever larger amounts of public debt. Of course, all of us hope that the various provisions of the tax bill will in fact lead to more investment, higher productivity and increased economic growth. Yet if we examine the narrative that helped to win passage of the legislation, many of the assertions made by politicians and their allies in the world of economics make little sense. In particular, the notion that lower corporate tax rates will lead to repatriation of corporate cash stashed offshore, thereby funding increased investment and productivity, and ultimately crating more jobs in the US is, upon reflection, a complete nonsense. First and foremost, corporate investment decisions are based upon the cost of capital and the prospective equity returns that new investment can generate, not the availability of cash. In a world where corporate bond yields are at all time lows and equity market valuations are at all-time highs, the effective cost of capital for many multinational companies is arguably negative. The problem is not funding new investments, but finding new endeavors in which to deploy cheap and plentiful capital. The economists who largely control the major central banks in the industrialized nations may be able to manipulate markets and cancel excessive debt through open market operations, but they cannot manufacture attractive investments. Indeed, the low interest rate regime put in place by the Federal Reserve, European Central Bank and Bank of Japan arguably retards new productive investments by driving cash into real estate, commodities and speculative whimsies such as crypto currencies. One of the most outrageous fallacies put forward by economists over the past year is that lower US corporate tax rates will cause the repatriation of offshore cash balances. This view, which is widely endorsed by many analysts, fails to reflect the true nature of offshore tax schemes and how problematic it will be to reverse these complex transactions. In 2016, Karen C. Burke and Grayson M.P. McCouch the University of Florida published an article entitled “Sham Partnerships and Equivocal Transactions” for the American Bar Association’s journal Tax Lawyer . The understated article provides an in-depth look at how US corporations have stashed literally trillions of dollars in offshore venues since the 1990s to avoid domestic taxes. The authors state: “Corporate tax shelters proliferated during the 1990s, exploiting the flexible partnership tax rules of Subchapter K to defer or eliminate tax on hundreds of billions of dollars of corporate income. The corporate tax shelters were typically structured as a financing transaction in which a U.S. corporation leased its own assets back from a partnership, generating a stream of deductible business expenses while shifting taxable income to a tax-indifferent party such as a foreign bank. Since the transaction allowed the U.S. corporation to raise capital in a tax-advantaged manner in connection with its regular business operations, it was assumed that the transaction had economic substance. Nevertheless, in scrutinizing these shelters, courts have invoked a sham partnership doctrine, derived from the longstanding Culbertson intent test, which disregards a partnership that lacks a bona fide purpose (or, alternatively, a purported partner whose interest does not constitute a bona fide equity participation).” The Internal Revenue Service is on to these fraudulent scams for which, of note, there is no statute of limitations. Significantly, in January of 2017, the US Supreme Court declined to hear an appeal involving an adverse tax decision by the IRS against an affiliate of Dow Chemical known as Chemtech. The hundreds of corporations that have used offshore transactions to hide revenue knew that Dow’s appeal was their last hope to avoid sanctions by the IRS. General Electric is another example of a US corporation that has been forced by the IRS to reverse a bogus offshore “asset sale” transactions. The IRS process of disallowing sham offshore transactions can be catastrophic. Consider the 2012 bankruptcy of tanker operator Overseas Shipholding Group (OSG). When the IRS disallowed half a billion dollars in offshore “asset sale” transactions, the company was forced to file bankruptcy and restate years of financial statements. A torrent of litigation ensued. Violations of US tax laws can lead to both civil fines and criminal prosecution for the corporate managers and their legal counsel who designed these schemes. In the case of OSG, the company’s tax counsel was sued for negligence in the bankruptcy. OSG’s tax lawyers then sued OSG’s senior executives. The competing claims were eventually settled, but none of this has created any value for OSG’s shareholders much less any new jobs. The 2017 tax law begins a new regime for future corporate taxes, but it may also compel recognition of huge past-due tax liabilities. All previous offshore corporate tax avoidance scams will now be exposed to IRS review. Dow and General Electric were required to pay back taxes, interest and penalties (up to 60% in Dow’s case). Dow and General Electric, however, escaped the criminal prosecution other corporate managers (and their legal counsel who designed these schemes) have faced. The process of reconciling offshore revenues is going to be exceeding painful for corporate managers and investors alike. Fessing up to past acts of tax avoidance is hardly likely to result in a wave of new corporate investments that increase productivity and economic growth. Indeed, while the process of coming to Jesus in the world of offshore financial partnership may generate a lot of revenue for the US Treasury, it is unlikely to boost corporate investments or even result in the actual return of cash to the US. Some investors are already anticipating that the tax legislation will result in a bonanza of stock repurchases that will boost share prices above current levels, but in fact the opposite may be the case. With an appropriate level of enforcement by the IRS, the notion that a lower tax rate on future revenue will lead to increased levels of cash for US corporations that are compelled to come forward and confess their sins with respect to past tax returns and financial disclosure seems fanciful. Many economists will be surprised to learn that the new tax bill does not actually require repatriation of offshore cash. Treasury is instead employing "deemed repatriation," which means the IRS taxes you on your unrepatriated foreign earnings whether you bring the cash back to the US or not. Taxes will be applied over eight years in an end-weighted formula which means you make your biggest payment, roughly 25% of taxes due, in year eight. The tax rates reportedly will be 15.5% on cash balances and 8% on non-cash balances. Just imagine what a compliance nightmare this creates. What is the definition of "cash"? More astute corporate managers and legal counsel who have participated in past tax avoidance transactions may approach the IRS and try to cut a deal. We could even see a formal tax amnesty proposed by the Trump Administration, but Washington insiders give such an idea long odds in the near term. “Treasury would consider offering an amnesty only if corporations evinced a real fear that they were about to be caught up in its maw,” notes one respected tax analyst in Washington. “I’m not 100% sure we are there yet. We did this with Swiss bank accounts only when we had them dead to rights.” Treasury is already working on the implementing regulations for this “virtual repatriation.” Another veteran Washington observer says that earnings return provisions of the tax bill are the highest priority item, followed by the anti-base erosion provisions, and then the worldwide regime on Global Intangible Low Tax Income--with a great acronym, “GILTI.” In theory, Treasury is going to put in place the deemed repatriation rule to raise the roughly $200 billion over ten years they need to move to a system which excludes most foreign-sourced active business income from U.S. taxation. This is the aptly named “participation-exemption system” that the US business community has been lobbying to get for years. But of course none of this is likely to result in a wave of new investments or job creation – unless you are a tax lawyer or consultant. One way or another, Treasury is going to collect its money. Perhaps that’s how House Speaker Paul Ryan plans to cover the increased deficits intentionally implemented by the new tax legislation. And for all of you economists and hedge fund moguls who think that the new tax legislation will result in a cash repatriation bonanza that will benefit stock prices or the economy, better think again. #deemedrepatriation #taxfraud #Brandeis #truesale #variableinterestentities #GILTI #taxes #corporatetaxes #OverseasShipholdingGroup #DowChemtech #GE

To read our post in The American Conservative on the growing bitcoin fraud, see the link at the end of this issue. Happy holidays! December 19, 2017 | The US housing market is completing another year of rising home prices in many – but not all – parts of the country. We’ve been in a sellers market for single family homes since 2012, fueled first by low prices, then by low interest rates, then lower FHA premiums, and also the relative dearth of new home construction. So with interest rates slowly normalizing and significant changes to the tax code, what does the future hold in store for housing finance? For the past eight years, the FOMC has been boosting housing with low interest rates and purchases of MBS. More, for the past half century, public policy in the US has encouraged home ownership with a variety of subsidies and tax breaks. Now, however, Congress is turning the thrust of public policy away from encouraging home ownership in a way that could have serious negative implications for an important part of the US economy. Chart 1 below shows the Case-Shiller home price index since 2007. As the tax legislation takes effect, a number of observers are predicting that high-cost markets on the east and west coasts could see prices fall by double digits – this despite the continued squeeze on supply. Over the longer term, notes Jonathan Miller of Miller Samuel, the loss of deductions for state taxes and mortgage interest will put downward pressure on prices in high cost markets. Think Scarsdale NY. Elimination of mortgage deductions for second homes and home equity lines also will negatively impact affluent destination markets around the US. The impending tax reform legislation in Washington could not only mark a significant change in the price dynamic for home prices, but it may also signal a negative credit trend for investors in 1-4 family mortgages. As households are forced to pay out more cash for federal taxes and mortgage payments, there will be less remaining cash flow in these households overall. Price compression will also affect perceived wealth and also aspirational pricing. But the big question is how the tax bill will impact overall volumes for home purchases and new mortgages. The latest data from The Mortgage Bankers Association shown in Chart 2 shows a slight uptick in mortgage lending volumes for Q3 and Q4 2017, a welcome bit of good news for the industry after the single-digit profitability seen in the first half. Even today, lending profitability spreads are running a tad under a quarter of 2007 levels, putting intense pressure on non-bank lenders especially. Source: MBA The good news is that the MBA estimates show total mortgage debt volumes growing 10% to $11 trillion by 2019, this due to expectations of rising interest rates and lengthening durations on mortgage-backed securities (MBS). Purchase mortgages are expected to grow steadily while refinance transactions are flat-lined at around $100 billion per quarter in the MBA estimates. More than a little of that increase in total mortgage debt, however, comes in the form of rising home prices and mortgage balances. Of the 1.7 million loans originated in Q4 2016, the average of the $461 billion in originations was about $275,000 per loan. Of note, the average size of purchases mortgages is now around $310,000 vs $260,000 for a mortgage refinancing, as shown in Chart 3. Source: MBA The big question near-term is whether all of the talk about higher interest rates will actually result in higher yields for the benchmark 10-year Treasury bond. In the wake of the latest rate hike by the Federal Open Market Committee, spreads actually tightened. We continue to believe that the size of central bank portfolios globally means low volatility and no significant selling pressure on long-dated government debt in 2018. Even if the FOMC were to take our advice and start selling MBS outright, we don’t believe that long rates would rise very much if at all. As we noted last week in our conversation with Bob Eisenbeis of Cumberland Advisors , the FOMC is more worried about losing money on the Fed’s portfolio than it is about the impact of QE on the bond markets. The result will be a flat yield curve and spread compression for leveraged investors such as banks and REITs. But the forward Treasury issuance calendar suggests at least some upward pressure on rates in the medium terms, as mortgage finance maven Rob Chrisman opines: “Foreign central banks that use Treasuries to manage currency exchange rates are not facing the market forces that would require a return to the amount of accumulation seen over the last decade. As a result, the private domestic and foreign sectors would be left as a principle buyer of Treasuries. Baring another financial crisis, it is unlikely that a significant increase in demand for safe-haven assets is on the horizon. If demand for Treasury debt does not keep up with the expected increase in supply, yields will need to rise.” We think that the supply/demand scenario in US Treasury bonds becomes an issue, ironically, when the Fed accelerates its planned asset reduction and thereby allows volatility and volume to return to the trading markets. The FOMC ought to be concerned with restoring something like normal function in the bond markets after years of induced monetary coma, even if it means taking a loss on the system portfolio. It will be interesting to see how Chairman Powell deals with this sticky political issue of losses on the Fed’s huge securities book, particularly in an environment where the FOMC continues to raise short-term rates. Historically, the 10-year Treasury has floated about 2% above inflation, but as Jim Glassman at JPMorgan ("JPM") noted in June: “The slump in Treasury yields is almost entirely due to quantitative easing distorting the ‘real’ component of interest rates.” Ditto. The FOMC currently has Fed funds targeted at 1.5% and hopes to move this benchmark rate to 2.75% over the next couple of years. With statistical measures of inflation still at or below the 2% target for prices, this suggests a 10-year bond closer to 3% than to 4% -- at least in normal circumstances. But with global central banks still sitting on $20 trillion in securities and still buying, market conditions are hardly normal. Central bank positions in US Treasury and MBS suppress both volatility and trading volumes, reducing upward pressure on long-term yields. We believe that one of the better trades for 2018 may be a long position in the 10-year Treasury with a short on the 2-year Treasury note! Looking at estimates from the MBA and other economic estimates, the consensus seems to have the Fed funds rate hitting 2 ½% by 2019 and the 10-year over 3%. We wonder, however, if the continued purchases by the ECB and Bank of Japan, and the go-slow policy of crawling normalization adopted by the Fed, won’t keep an effective cap on long-term interest rates. We see the possibility of a rally in the 10-year in 2018 with tighter spreads and an inverted yield curve, a turnabout that could have an interesting impact on housing finance. The tight spread regime engineered by the Fed and other central banks has negatively impacted all manner of consumer lenders, with effective loan pricing near all-time lows. Large banks fight for jumbo prime mortgages at pricing that makes no sense – but they simply want the assets. The same pricing logic governs credit spreads in auto paper or commercial real estate and other types of business lending. The fact that most of the major investment banks have guided down, again, on trading revenues reflects the fact that QE and low rates have sucked the life out of the private financial markets. With most global asset classes still largely correlated, predicting what happens out beyond 2019 becomes real guesswork. Until the Fed and other central banks agree to stop accumulating securities, the private markets measured by volatility or volume or trading profits will suffer accordingly. How is this helpful? Final thought on housing. One other impact of the tax reform legislation is that the reduction in corporate tax rates will cause a proportional reduction in the value of tax loss assets to shelter future revenue. Citigroup ("C") will reportedly write-down $16 billion alone, but will still have plenty of accumulated losses to shelter income for years to come. And the erstwhile GSEs, Fannie Mae and Freddie Mac, will likewise need to write down capital to reduce the value of tax loss assets. In the event, both GSEs are likely to need additional capital draws from the US Treasury. We wonder if the Trump Administration will use the fact of the additional advances to the GSEs as a legal pretext to put both of the entities into receivership. Without new legislation, the only way to end the conservatorship of the GSEs is to put them through a formal receivership process. While for many in the housing industry restructuring the GSEs is truly thinking the unthinkable to borrow the title of Herman Kahn’s classic book, “On Thermonuclear War”, receivership has been discussed as a policy option at the White House and would be supported by many Republicans. In the event President Donald Trump decides that housing finance may provide some political leverage, all of the comfortable assumptions about mortgage production or credit spreads or even interest rates will fall by the wayside. Next year is an election year, after all, and tax cuts and reforming the GSEs makes for good conservative political fodder. The Institutional Risk Analyst (ISSN 2692-1812) is published by Whalen Global Advisors LLC and is provided for general informational purposes only and is not intended for trading purposes or financial advice. By making use of The Institutional Risk Analyst web site and content, the recipient thereof acknowledges and agrees to our copyright and the matters set forth below in this disclaimer. Whalen Global Advisors LLC makes no representation or warranty (express or implied) regarding the adequacy, accuracy or completeness of any information in The Institutional Risk Analyst. Information contained herein is obtained from public and private sources deemed reliable. Any analysis or statements contained in The Institutional Risk Analyst are preliminary and are not intended to be complete, and such information is qualified in its entirety. Any opinions or estimates contained in The Institutional Risk Analyst represent the judgment of Whalen Global Advisors LLC at this time, and is subject to change without notice. The Institutional Risk Analyst is not an offer to sell, or a solicitation of an offer to buy, any securities or instruments named or described herein. The Institutional Risk Analyst is not intended to provide, and must not be relied on for, accounting, legal, regulatory, tax, business, financial or related advice or investment recommendations. Whalen Global Advisors LLC is not acting as fiduciary or advisor with respect to the information contained herein. You must consult with your own advisors as to the legal, regulatory, tax, business, financial, investment and other aspects of the subjects addressed in The Institutional Risk Analyst. Interested parties are advised to contact Whalen Global Advisors LLC for more information.

December 10, 2017 | In this issue of The Institutional Risk Analyst , let’s first ponder last week’s revelations that the European Central Bank is taking a loss on its purchase of bonds issued by Steinhoff International , the high flying (and highly levered) South African-based home retailer that was struck down by an accounting fraud scandal. This event illustrates how central banks have distorted the credit markets and allowed inferior borrowers access credit at investment grade spreads. This notion of central bankers booking trading losses on their extraordinary open market intervention over the past decade is important because it provides context to understand their decision making. For example, based on our conversation last week with Bob Eisenbeis , Cumberland Advisors’ Vice Chairman and Chief Monetary Economist, we’re pretty certain that the Federal Open Market Committee will further flatten or even invert the Treasury yield curve in 2018 and for reasons that will astound and amaze many investors. Going back as early as 2010 (“ MBS – WHEN WILL THE PURCHASES END AND WHAT WILL HAPPEN TO MORTGAGE RATES? ”), Bob has been writing timely analysis for Cumberland describing the dynamics of the Fed’s large scale asset purchases, euphemistically known as “quantitative easing,” and what would happen to the bond markets once QE ended. Now that the end of QE is in sight, we ask Bob if the return to normal will be as “beautiful” as Mohamed A. El-Erian suggests in his effusive Bloomberg commentary . The IRA: Thanks for speaking with us Bob. We wanted to talk a bit about your recent comment on Marvin Goodfriend’s nomination to the Fed Board but also talk about your broader view of the normalization process. You may have seen Mohamed A. El-Erian’s fulsome public praise for the FOMC’s policy direction. We’ve always been of the view that the Fed should have stopped after QE1. How do you see it? Eisenbeis: When you look at the research on QE, the opinions are all over the map both inside and outside of the Fed. I think there is a consensus that there were diminishing returns in the additional QEs that were engaged in after QE1. Then it’s a question of what are the costs and benefits of getting out of the program. Those who suggest that QE has been a huge success are premature in my view. You don’t really know until we are completely out. It looks to me like we are going to be OK on balance, but what really bothers me is this constant drum beat inside the Fed and by some outsiders about the huge “profit” earned from QE. They have the accounting all wrong. The IRA: Well, the board is aligning itself with the idiocy on Capitol Hill, where the interest earned by the Fed is viewed as “income” for budget purposes. Most members have not read your 2016 testimony on the Fed's fiscal relationship with Treasury . But Bob, really, is it possible that PhD economists don’t understand the financial relationship between the Treasury and the central bank? We always like to remind people that the US Treasury issued the original $150 million in greenbacks directly into the market to help Abraham Lincoln fund the Civil War. The Fed is the Treasury’s alter ego and is an expense to the government, which is subtracted from the earnings on the portfolio and then returned to the Treasury. Eisenbeis: Correct. The Fed almost by definition cannot make a profit. It baffles me how people inside the system can fail to see the accounting reality here. The Fed issues short term liabilities to buy Treasuries taking duration out of the market. The Treasury makes interest payments to the Fed who takes out its operating costs, including interest payments on reserves and returns the remainder to the Treasury. If this intra governmental transfer were settled on a net basis like interest rate swaps, there would always be a net payment from the Treasury to the Fed. It is too obvious, yet I am not privy to the sidebar conversations on this issue. But back to the point on QE, if the Committee can run off the portfolio through attrition, then they’ll probably escape any need for additional action barring some unforeseen change in the economy. The current path for growth and employment in the third quarter seems pretty positive. The IRA: Does the FOMC understand how their actions and the actions of the ECB, Bank of Japan, etc has not only pushed down the price of credit, but has suppressed volatility since these positions are not hedged? Just as with the Volcker Rule and bank investment portfolios, there is no trading around Treasury and mortgage backed securities (MBS) positions held by central banks. As we told CNBC , " Financial sector on fundamental basis is considerably overvalued ," it's no surprise to see Citigroup (C) and other banks guiding the Street lower on trading results for the year. The dearth of duration and trading volumes is a direct result of QE, correct? Eisenbeis: The volatility impact of QE is not something that was on anybody’s radar screen at the time to my knowledge. The bigger concern was that the longer you keep rates low, you start to get dislocations that take place in various markets. Everybody is looking for a bubble here or a bubble there, but the only place you can really argue a bubble exists is in the stock market. But that is really the concern, not the volatility issue or the impact on the markets. The IRA: That suggests a remarkably linear view of the bond market on the part of the Fed. In the $1.7 trillion MBS portfolio, the Fed has sequestered a huge amount of duration extension risk. If prepayments fall due to rising rates, the effective maturity of the security extends and the price of MBS can fall faster than that for benchmark Treasuries. But nobody is hedging the Fed or ECB or BOJ or Bank of China holdings of MBS. As a result, we seem to be headed for a flat or even inverted yield curve environment and with flatlined volatility. Do the folks at the Board understand what the combination of passive central bank portfolios and falling trading volumes is having on large bank earnings? Eisenbeis: If you would see anybody in the system focused on this question it would be the Fed of New York. You mentioned the May 2014 FRBNY blog post on convexity of MBS in your comment earlier . I haven’t seen anything in the FOMC minutes suggesting that Bill Dudley raised the volatility issue during his tenure. But I think the Fed is going to go very cautiously on rates for reasons you suggest. With a new Chairman and governors, you might think there would be room for some change, but in fact they are going to go very slowly. The Fed staff is going to describe to the new governors why certain things were done and under what circumstances. The IRA: So you don’t see a lot of change in policy under Chairman Powell? Eisenbeis: Not a chance. He and the new governors are going to move slowly in terms of any change in direction. They are looking for a community banker for the Board and that person will also tend to be cautious. And the appointment process in the Senate is likely to be slow and contentious. Marvin Goodfriend is too experienced to come onto the FOMC and start rocking the boat. The four bank presidents who are economists and voting on policy in 2018– Bostic, Dudley, Mester and Williams -- are all very solid and experienced, so I’d look for a pretty slow and steady process from the Fed. Some of the governors (Powell and Quarles) and presidents, who will be FOMC participants this year, are not economists, which has a big impact on the policy process from a research perspective. The IRA: Well, back to the market, the folks at the Fed who brag about making money on QE are about to let the markets take the risk on a bunch of FNMA 3s and 3.5s that contain a lot of duration extension risk. As this paper is held by private investors, the positions will be hedged and volumes and volatility should be restored or not? Eisenbeis: What that will do is essentially put upward pressure on rates. This would moderate the need to make policy changes. We published a comment on the runoff of the Fed’s portfolio and when it would come into “equilibrium” so to speak in terms of size. There is no coincidence that MBS on the System Account are paying down about $20 billion per month and the Fed has chosen $20 billion threshold number for monthly portfolio reductions. We estimate that according to the Fed’s plan, the portfolio necessary to restore the currency-to-GDP ratio to its pre-crisis level, would be about $1.9 trillion and normal runoff would achieve this objective in the fall of 2023. Just from a runoff perspective, though, the impact on the markets is not going to depend so much on the Fed as on the Treasury as their issuance needs increase. The Fed is going to reinvest portfolio maturities across the yield curve in proportion to the Treasury issuance. The IRA: Well, precisely. This goes back to the earlier point about profitability. The Fed and the Treasury are one and the same. Different faces of a Hindu deity. Eisenbeis: But this is precisely why these MBS cannot be sold. The IRA: Is this an institutional issue for the Fed? Are they avoiding sales of MBS to avoid taking a loss on the portfolio and thereby eroding the need for chest thumping about the profitability of QE? Eisenbeis: I think that is a good bit of it. If you recall, the Treasury robbed the Fed’s capital a few years back to fund spending for a highway bill. There’s a cap now on Fed equity at $40 billion. And the Fed cut a deal with Treasury that if the Fed takes a loss on the sale of assets they don’t have to write it off against capital. They create a “negative asset” account. What is that? You can do the math and see that the bank’s net worth may be negative. The IRA: It’s like a net operating loss for a central banker. But Bob are you suggesting that the Fed is more worried about the possibility of embarrassment over taking a loss on the sale of MBS than they are about the impact of policy on the financial markets? Even to the extent of seeing a negative yield curve in the Treasury market? How can we do three hikes in 2018 and not have an inverted curve? Eisenbeis: Substantively as we’ve discussed, it is the Treasury that backs everything up. But it’s the optics that matter. The optics of the Fed losing money or being insolvent are bad, both in Washington or around the world. Thus they will run off the MBS naturally via prepayments to the extent possible and avoid losses on sales. More important, though, it is very clear that we will have a flat yield curve both on the long end with continued demand and on the short end with the Fed raising benchmark rates. But all of this means that the Fed will go slow. The IRA: Thanks Bob The Institutional Risk Analyst (ISSN 2692-1812) is published by Whalen Global Advisors LLC and is provided for general informational purposes only and is not intended for trading purposes or financial advice. By making use of The Institutional Risk Analyst web site and content, the recipient thereof acknowledges and agrees to our copyright and the matters set forth below in this disclaimer. Whalen Global Advisors LLC makes no representation or warranty (express or implied) regarding the adequacy, accuracy or completeness of any information in The Institutional Risk Analyst. Information contained herein is obtained from public and private sources deemed reliable. Any analysis or statements contained in The Institutional Risk Analyst are preliminary and are not intended to be complete, and such information is qualified in its entirety. Any opinions or estimates contained in The Institutional Risk Analyst represent the judgment of Whalen Global Advisors LLC at this time, and is subject to change without notice. The Institutional Risk Analyst is not an offer to sell, or a solicitation of an offer to buy, any securities or instruments named or described herein. The Institutional Risk Analyst is not intended to provide, and must not be relied on for, accounting, legal, regulatory, tax, business, financial or related advice or investment recommendations. Whalen Global Advisors LLC is not acting as fiduciary or advisor with respect to the information contained herein. You must consult with your own advisors as to the legal, regulatory, tax, business, financial, investment and other aspects of the subjects addressed in The Institutional Risk Analyst. Interested parties are advised to contact Whalen Global Advisors LLC for more information.

December 4, 2017 | We think 2017 will be remembered as the Year of the Bubbles. Everywhere you look, whether its stocks or real estate or even overt acts of fraud like bitcoin, the value of fiat paper dollars measured in prices for other “assets” is falling. Crypto currencies, to be clear, are more a class of felony than investable assets, but the crypto games provide supply for demand in an age of scarcity engineered by the central banks. During a visit to the Atlanta Fed last week, we had a fascinating dinner with a group of institutional investors. Like many metros around the US, Atlanta real estate is booming after years of post-crisis lethargy and ample amounts of monetary gasoline from the FOMC. Our friend Dick Hardy organized the dinner. He noted, going back to crypto, that bitcoin is really about a shrinking float of available tokens, an ingenious aspect of the bitcoin scheme. But in the world of bank credit, scarcity and abundance exist simultaneously. Bank earnings in 2018 are likely to continue to rise with asset returns, and expenses are likely to fall as regulatory changes ripple through the world of banks and non-banks alike. The big wild cards are an inverted yield curve in the US and an economic slowdown in China, as we discussed in our interview with Lee Miller of China Beige Book . But in terms of valuations for financials, current equity and asset returns for US banks remain significantly below pre-crisis levels. Chart 1 below shows asset and equity returns for all US banks. Source: FDIC For the past five years, there has been a bull market in residential and commercial real estate, albeit for properties that are decidedly up-market. With the increased cost of regulation, the minimum threshold for a residential mortgage that somebody actually wants to service has risen proportionately. If the mortgage has a unpaid principal balance of say $300k or less, it is just marginally profitable for many servicers – especially those located in CA. We note in this regard that Walter Investment Corp (WAC) just filed for bankruptcy court protection. Other non-bank players in the residential mortgage space are struggling. During our discussion last week in Atlanta, MBA chief economist Mike Fratantoni reported that non-bank lenders managed to get profit margins back up to about 40bp in Q3 ‘17 from single digits in the first half of the year, but depositories fared far worse in the MBA survey. A decade ago, residential lending returns were over 2%. Consider high-touch First Republic Bank (FRC), the San Francisco based lender that focuses on managing assets for high-income clientele and making jumbo mortgages for same. As of Q3 ’17, the gross spread on all of the bank’s real estate loans – which is 80% of FRC’s loan book – was just over 3%. The overall 3.1% yield for FRC’s entire loan book is half a standard deviation below its peers, according to the TBS bank Monitor. Chart 2 below shows FRC’s gross loan spread vs its asset peers. Source: FDIC/TBS Bank Monitor FRC has never particularly focused on smaller mortgages, preferring the well-bid world of jumbo loans, which the bank sells into securitizations managed by the likes of Redwood Trust (RWT) with servicing retained. Most other banks large and small have fled the low end of the residential mortgage market and focus primarily on tri-coastal jumbos over $1 million. Chase, Wells Fargo (WFC) and Bank America (BAC) are super competitive on jumbos over $1 million in urban markets. The larger institutions win business by offering APRs and other terms that are well-below that of conforming loans half that size – and barely make money. They typically keep prime jumbo loans in portfolio. Having escaped the below-prime world of FHA mortgages, overall bank loan credit in 1-4 family mortgages is pristine. The net charge-off rate in Q3 ’17 was just 0.04%, largely because home prices are rising so fast thanks to the Yellen Inflation that banks are having a hard time losing money when that rare mortgage default event occurs. In Chart 3 below, note that past due 1-4 family loans remain stubbornly high at 2.6% in Q3 ’17, this due to the backlog of foreclosures that remain in the judicial states of the Northeast. The glacial pace of foreclosures in judicial states, which often exceeds 1,000 days from default to resolution, is just one aspect of the cost of “consumer protection” for MBS investors. Source: FDIC The positive impact of rising home prices on bank credit is shown in Chart 4. In Q3 ’17, loss-given default (LGD) in 1-4s reach a new low of just 24%, the lowest observation for this metric since at least 1990. The 30-year average LGD for 1-4s is 66%, a fact that will perhaps be of note to our friends at the Board of Governors in Washington. The plummeting LGD for residential mortgages owned by banks illustrate very graphically how the actions of the Fed have boosted home prices and greatly advantaged home sellers. Source: FDIC Since banks avoid the bottom third of the US mortgage market in terms of credit quality, the credit outlook for banks is quite positive – but we still expect to see defaults slowly rise from the current low levels. Seeing a 24% LGD is a skew, an outlier. Because of the sharp supply shortage of 1-4 family homes as well as affordable apartments in many markets, we do not expect to see prices decline appreciably as the Fed ends QE. But as we told the audience in Atlanta on Friday, we don’t expect to see mortgage interest rates rising because of the dearth of duration in the bond market. Last week in The Institutional Risk Analyst , we talked about how the fact of the Fed’s ownership of $4 trillion in Treasury paper and MBS has taken away upward pressure on bond yields. Since none of the global central banks that collectively own $20 trillion plus in debt and equity hedge their positions, there is no selling pressure to push bond prices lower and yields higher. Banks and other fixed income investors are trapped in the world of “lower for longer” so long as the central banks retain their bloated securities holdings. Indeed, as we predicted during the discussion at the FRB Atlanta, we expect to see an inverted yield curve in Q1 ’18. Last week, Peter Cecchini , chief market strategist at Cantor Fitzgerald, called the flattening yield curve “the most important thing to have a clear idea about now.” This is especially true for banks and other financials, which have surged past the S&P 500 and other equity market benchmarks in the collective madness surrounding stocks in the runup to the tax cutting legislation. Sure, net-interest margins have been rising for banks, however we believe that the prospect of a flat or inverted yield curve will give investors and FOMC members reason for pause. Chart 5 illustrates the recent upturn in bank interest income even as interest expenses have risen far more slowly. So far, banks seem to have managed to keep hungry depositors at bay as yields have risen from 2015 lows, but the Fed is still effectively transferring $80 billion per quarter from depositors to banks. Note how wide the net interest margin grew in 2009 when the Fed slashed rates but yields on earning assets were still relatively high compared with today. Source: FDIC As we’ve noted in previous missives, bank returns on the $16 trillion or so in earning assets are still quite subdued at just shy of 80bps. And the market for new bank loans in sectors such as C&I and commercial real estate remain extremely competitive for larger banks, putting an effective cap on loan yields. So unless bond spreads expand and loan yields actually rise from current levels – something we think is unlikely – the bullish improvement in bank interest earnings may slow. More, if as we suspect the yield curve inverts next year, the FOMC may need to rethink its schedule for benchmark rate increases. Bank credit metrics look quite good at present – too good really. Negative net loss rates for multifamily loans and construction & development exposures remind us that the FOMC has greatly skewed the world of credit – in some cases by several ratings notches. This anomaly will eventually be reversed, revealing tens of billions worth of mispriced exposures on the books of US banks. As Chart 6 below suggests, the cost of credit for construction and development loans in the US remains badly skewed and has been negative since 2015. The degree of downward deviation from the 30-year average LGD of 60% suggests that the adjustment could be far more severe than the 2007 financial crisis – if and when a more general deflation of asset prices occurs. But it remains to be seen whether asset prices can adjust in the near term. Source: FDIC So the good news is that bank earnings likely will to continue to improve with relatively low credit costs, but a flat Treasury yield curve may change that trend. Asset and equity returns for US banks remain 1/3 below pre-2008 levels. Loan growth will probably continue to decelerate from the torrid levels of 2015 and 2016. Whether or not anyone on the FOMC gets the joke in the near term and starts to sell MBS and long-dated Treasury bonds is perhaps the most important question facing bank investors as 2017 comes to a close. The Institutional Risk Analyst (ISSN 2692-1812) is published by Whalen Global Advisors LLC and is provided for general informational purposes only and is not intended for trading purposes or financial advice. By making use of The Institutional Risk Analyst web site and content, the recipient thereof acknowledges and agrees to our copyright and the matters set forth below in this disclaimer. Whalen Global Advisors LLC makes no representation or warranty (express or implied) regarding the adequacy, accuracy or completeness of any information in The Institutional Risk Analyst. Information contained herein is obtained from public and private sources deemed reliable. Any analysis or statements contained in The Institutional Risk Analyst are preliminary and are not intended to be complete, and such information is qualified in its entirety. Any opinions or estimates contained in The Institutional Risk Analyst represent the judgment of Whalen Global Advisors LLC at this time, and is subject to change without notice. The Institutional Risk Analyst is not an offer to sell, or a solicitation of an offer to buy, any securities or instruments named or described herein. The Institutional Risk Analyst is not intended to provide, and must not be relied on for, accounting, legal, regulatory, tax, business, financial or related advice or investment recommendations. Whalen Global Advisors LLC is not acting as fiduciary or advisor with respect to the information contained herein. You must consult with your own advisors as to the legal, regulatory, tax, business, financial, investment and other aspects of the subjects addressed in The Institutional Risk Analyst. Interested parties are advised to contact Whalen Global Advisors LLC for more information.

March 12, 2026  | In this   edition of The Institutional Risk Analyst , we look at the world of housing finance as the collapse of UK mortgage lender MFS continues to unwind. Then we ponder the American mortgage finance scene as Q4 2025 earnings finally end here in the second week of March 2026. Barclays Plc (BCS)  and Castlelake LP, a unit of Brookfield Asset Management (BAM) , have alleged fraud in a UK court on the part of MFS CEO Paresh Raja , Bloomberg  reports . The Times of London describes the tawdry scene: "The case will increase questions over MFS and the due diligence of those who worked with it. Wall Street and City institutions and private investors are caught up in the failure of the bridging and buy-to-let property lender, which was placed into administration this month after a judge said insolvency practitioners needed to investigate separate 'very serious' claims of fraud." The MFS debacle is notable because some of the smartest people in mortgage finance were apparently taken to the cleaners. As we discussed earlier, the Atlas SP unit of Apollo Management (APO) was previously owned by Credit Suisse and literally recreated the market for financing private loans and mortgage servicing rights (MSRs) from the ashes of 2008. Credit Suisse owned the last significant servicer of non-agency loans. Yet somehow the crowd at MFS got the better of them. Of course, there is fraud and then there is fraud in the City of London. We'll never forget when around 1986 a certain Managing Director at Bear, Stearns & Co., a retired Marine colonel who was usually on his second Cuban cigar at 8AM, returned to his posh London residence only to find the entire house emptied of all his possessions. Everything, gone. Meanwhile in the US, mortgage bankers have spent the past several weeks trying to explain to institutional investors why their firms are not like PennyMac Financial (PFSI) . As we noted last month (“ The Wrap: Pulte Crushes PennyMac; Kevin Warsh's Conflict of Visions ”), PFSI missed Q4 earnings and other key metrics such as loan recapture, causing the entire sector to crater in the debt and equity markets. Leading residential mortgage firms typically recapture two-thirds of loan prepayments, but PFSI was reportedly below 30% in Q4, according to several industry observers with sharp pencils. Does UWMC + TWO = < 2? Also under scrutiny is United Wholesale Mortgage Corp (UWMC) , which announced the acquisition of Two Harbors (TWO)  in December and has since seen its stock sink to a five-year low. UWMC released OK earnings for Q4, but then spooked investors by not taking any questions from Street analysts. CEO Mat Ishbia touted UWM’s Q4 2025 results as a dominant finish to an "amazing year," highlighting a $164.5 million net income and $49.6 billion in originations. He emphasized that 2025 solidified UWM as the top overall and wholesale lender for the fourth consecutive year, with strong momentum for 2026 driven by in-house servicing, the Bilt partnership, and the Two Harbors acquisition. UWMC has since revised earnings guidance for Q1, and done a live call with investors sponsored by their loyal investment bankers, but the highly leveraged mortgage lender is struggling to gain shareholder approval for the TWO acquisition in a vote scheduled for this Monday March 16th. Will an upward revision in Q1 earnings guidance be sufficient? “What might be driving this announcement is how UWM's stock price has declined since the deal was announced on Dec. 17,” writes Brad Finklestein  of National Mortgage News . “The previous day, UWM closed at $5.12 per share. After the deal was publicized, UWM fell to $4.81. Its consideration is a fixed exchange ratio of 2.33 times Two Harbors shares for each share of UWM.” The fixed exchange ratio offered by UWMC implies a significant discount to the book value of TWO. Since peaking at $13.66 in mid-January, the valuation of TWO has collapsed along with the share price of UWMC, closing yesterday below $10 per share or a market cap of about $1 billion. Once again, the management of TWO seems to have managed to destroy shareholder value in great bloody chunks. Given that the mortgage servicing rights of TWO had a book value of $2.4 billion at the end of Q4, it seems fair to ask whether the best trade for TWO shareholders is to vote against the merger with UWMC and simply sell the MSR.  If this wretched transaction goes ahead, we suspect that the management of TWO may face some new litigation from aggrieved shareholders. Sell the MSR and keep the REIT, right? What are we missing? Try as we may, it is difficult to understand the motivation of TWO to proceed with a transaction that seems to badly prejudice its long suffering shareholders, again. You can bet that the trial lawyers are cheering! We do not have a position in UWMC or TWO. Countrywide II In terms of the business model and risk profile, we like to think of UWMC as the spiritual heir to Countrywide Financial. The big issue with the all-stock offer from UWMC is that the acquisition currency has not been performing very well over the past year and more. The aggressive business model pursued by UWMC enables them to claim mortgage market leadership in terms of loan purchase volumes, but with very aggressive pricing on its loans and MSRs, and continued consumption of operating cash ( See Page 70 of the 2025 10-K ). UWMC has also seen loans available for repurchase double in the past year, a troubling sign of poor asset quality. More, the Detroit-based company has considerably more non-funding debt liabilities than MSR. Why is the balance between MSR and non-funding debt mot used to finance new loan production important? Because the MSR represents an intangible representation of the net present value of future cash receipts . In a classical analysis used by bank, mortgage and insurance regulators, you exclude all intangible assets and subtract them against capital. What's left is the real business. This is why both Basel III and the Ginnie Mae risk-based capital rules require lenders to subtract the MSR from capital. When Fed Vice Chairman Michelle Bowman proposed to allow banks to stop subtracting excess MSRs from capital, that is a big deal as we wrote in National Mortgage News . Insurance regulators (and countries other than the US using IFRS) don't recognize intangibles at all, but this does not prevent US insurers from lending against MSRs on a secured basis. The current style of the rating agencies, of note, is to give one or more notches of credit uplift for "secured" MSR financings that are placed at the very top of the credit waterfall. In 2025, as in the previous year, UWMC sold $2.4 billion in MSRs for cash to offset operating losses. The high prices paid for loans in the broker channel flows into equally high valuations for UWMC’s MSRs. Looking at the 10-K for 2025, the reported capitalization of the UWMC MSRs appears to be north of 7x annual servicing income. Selling these valuable intangible assets at a lower price than cost to raise cash strikes us as a losing trade long-term. More, UWMC appears to be upside down on its debt, with the fair value of $4.1 billion of MSRs significantly below the total $2.5 million in combined MSR credit lines from Citigroup (C)  and Goldman Sachs (GS) , and the $2.9 billion in senior notes. UWMC cannot really accumulate servicing because of the need to sell assets to offset cash operating losses. UWMC says that the combination with TWO “has the potential to unlock substantial value, a stronger balance sheet, and streamlined operations,” but we think this deal could be a case where 1 + 1 = < 2. Both TWO and UWMC have lost significant amounts of value over the past five years, with UWMC down more than 50% and TWO down almost 70%. Are the largely retail, income-oriented shareholders of the TWO REIT going to be long-term holders of UWMC, a stock with no regular dividend?  Probably not. Loan Depot in Loss Again Going from the sublime to the ridiculous, we look at the year-end results for loanDepot (LDI) , one of the better performing and volatile mortgage stocks, but also one of the worst operations among large mortgage lenders. Net loss of $108 million was down 47% in 2025, compared with net loss of $202 million in the prior year, primarily a result of higher revenue. What this means is that LDI still has not reduced enough operating cost from the COVID years to be profitable. “In the fourth quarter we originated the most volume since 2022, gained share in an expanding market and achieved a 71% recapture rate from our in-house servicing platform,” said Founder and Chief Executive Officer Anthony Hsieh . “These results reflect progress in our return to the core competencies that enabled the scaling to become the 2 largest retail lender nationally during our first decade." OK Anthony, but why aren't you profitable?? As we’ve noted in the past, LDI is under water on its debt, with more non-funding debt liabilities ($2.1 billion) than MSR ($1.6 billion).  LDI also has over $1 billion in loans eligible for repurchase, which are defaulted loans in GSE, Ginnie Mae and private label MBS pools. As with UWMC, this line item is likely to increase as the year goes on and delinquency rates rise.   The LDI bonds due 2028 have widened 300bp in recent weeks to yield 12.5%, a striking indication of how investors have reacted to the earnings volatility that began with PFSI. Bottom line on LDI is that the low stock price makes it an ideal plaything for retail investors. To quote Eric Hagen at BTIG on LDI: “It's an inexpensive way to position for higher refinance volume in the retail channel without paying as much of an earnings premium to be in Rocket (RKT, Buy, $25 PT) , although we're also prepared for LDI's stock valuation to take on a wider range when interest rate volatility picks up.” The Institutional Risk Analyst (ISSN 2692-1812) is published by Whalen Global Advisors LLC and is provided for general informational purposes only and is not intended for trading purposes or financial advice. By making use of The Institutional Risk Analyst web site and content, the recipient thereof acknowledges and agrees to our copyright and the matters set forth below in this disclaimer. Whalen Global Advisors LLC makes no representation or warranty (express or implied) regarding the adequacy, accuracy or completeness of any information in The Institutional Risk Analyst. Information contained herein is obtained from public and private sources deemed reliable. Any analysis or statements contained in The Institutional Risk Analyst are preliminary and are not intended to be complete, and such information is qualified in its entirety. Any opinions or estimates contained in The Institutional Risk Analyst represent the judgment of Whalen Global Advisors LLC at this time, and is subject to change without notice. The Institutional Risk Analyst is not an offer to sell, or a solicitation of an offer to buy, any securities or instruments named or described herein. The Institutional Risk Analyst is not intended to provide, and must not be relied on for, accounting, legal, regulatory, tax, business, financial or related advice or investment recommendations. Whalen Global Advisors LLC is not acting as fiduciary or advisor with respect to the information contained herein. You must consult with your own advisors as to the legal, regulatory, tax, business, financial, investment and other aspects of the subjects addressed in The Institutional Risk Analyst. Interested parties are advised to contact Whalen Global Advisors LLC for more information.

"Gold is money. Everything else is credit" J.P. Morgan 1912 March 10, 2026  | In this   Premium Service  edition of The Institutional Risk Analyst , we update our readers on the   WGA Precious Metals Top 25  in the wake of the war with Iran and various other developments in the world of risk. The good news is that the US bond market has largely run in place and most major sectors outside of credit and energy are stable. Could it be that the world is eventually going to shrug off the US-Israeli military onslaught against Iran?   When we saw the vicious backwardation in oil prices this week, and the equally steep slope down in the price of oil going into the out months, we were struck by this dichotomy.  Likewise the relative stability in the US Treasury market, with the ten-year note still confined to that 4.10-4.20% range that has prevailed all year and long-before the new conflict with Iran, suggests that the current kerfuffle in the media is overdone. Equity markets closed up yesterday, oil prices were down 24% and the key 10-year Treasury note fell in yield. Source: dataCollab That said, the price of oil has basically doubled in a few weeks and is likely to remain elevated for weeks or months more unless and until the US Navy and the militaries of other nations can re-open the Strait of Hormuz. Higher oil prices may be a fact of life for months ahead, a result that is unlikely to be helpful to the Trump Administration in the approaching midterm elections. Shanaka Anslem Perera   wrote in an excellent post on Substack :  “At midnight Greenwich Mean Time on 5 March 2026, seven of the twelve International Group Protection and Indemnity clubs that collectively insure roughly 90% of the world’s ocean-going tonnage executed identical cancellation notices for war-risk coverage across the Persian Gulf, the Gulf of Oman, and Iranian territorial waters… This is not a geopolitical risk overlay. This is the first live demonstration of Actuarial Warfare: a paradigm in which private reinsurance desks, operating under regulatory capital constraints, exercise de facto sovereignty over the planet’s most critical maritime chokepoint more durably than navies, missiles, or executive orders.” In simple terms, the global insurance coverage for oil shipments must be restored before energy and chemicals will move and oil prices will come down. But so far the forward oil market is suggesting that prices will fall in a matter of weeks or months. In comments to CBS News  Monday afternoon, President Donald Trump said the war in Iran is "very complete, pretty much," and that the US is "very far" ahead of the timelines the military had projected. Notice that like banks, Perera notes, the global risk insurers are also laboring under regulatory capital constraints that change their behavior in the markets. Watch oil prices for delivery later this year for a good measure of how that process of re-opening Hormuz is proceeding. In the meantime, will the oil price spike and/or the collapse of private credit take down the rest of the global financial market? We think not. Symbolizing the pervasive Street pessimism, Wall Street icon Ed Yardeni  raised the probability of a market meltdown to 35% for the rest of the year, up from 20% previously,   Yahoo Finance reports . “At the same time, he slashed the odds of a meltup — a rally driven more by investor enthusiasm than underlying fundamentals — to just 5% from 20%,” Yahoo Finance  opined. But looking at the broad market including banks and large financials, the picture is placid. Meltup is pretty much been the characteristic of the US markets for the past several years. That said, the difference in performance between the leading banks represented by JPMorgan (JPM) , BlackRock (BLK)  and private credit giant ARES Management (ARES)  is striking. JPM is still up double digits over the past year, BLK is barely down and ARES is down double digits. But these particular performance trends were already established  before the Iran conflict began as shown in the chart below. Are the gyrations of the major credit shops a systemic risk to the markets? In our view, no. The non-depository financial institutions that we track in our finance group are tiny. Indeed, outside of insurance, most nonbank finance companies in all industry sectors are tiny. This is not to suggest that they don’t matter to the markets or the economy, but the typical nonbank like Apollo or Areas is not nearly systemic. Indeed, the entire private credit sector could collapse tomorrow and the major result would be losses to credulous investors and a great deal of litigation.   Meanwhile, the patterns impacting the metals markets also remain strong. We have warned previously that metals will be volatile because they are the ultimate macro assets. Gold and silver combine the long-term attraction of a monetary asset with the industrial demand of technology, two reasons why we follow the physical markets in metals as well as oil to figure out what is really happening. Premium Service subscribers to The IRA may login to review the latest results for   The WGA Precious Metals Top 25 and also download the entire 36-name test group. Some thoughts on the performance of the Precious Metals Top 25 group follow below.

This week, “The Wrap” features our view of the key events in Washington and on Wall Street over the past week. We also include a special review of market opportunities for our Premium Service subscribers. On Monday we’ll be updating the WGA Precious Metals Top 25  rankings. Don’t forget to watch “The Wrap” on The Julia LaRoche Show  every Saturday on YouTube to catch our discussion of what’s hot and what’s not in the world of finance and investing.  Private Credit: Repricing Lazy Leverage March 6, 2026 | This week is one of those classic risk-off periods that financial professionals will painfully remember for many years. Through much of last year, the accumulation of leverage behind all manner of assets, good and bad, seemed to have no cost, but this was never true. QE drove asset prices up and apparent credit expense and market risk down, but only for awhile. As we noted in 2017 in one of our first comments for The Institutional Risk Analyst  (“ Trump and the Age of Magical Thinking ”):  “Anyone taken as an individual is tolerably sensible and reasonable – as a member of a crowd, he at once becomes a blockhead.” Friedreich von Schiller Quoted by Bernard Baruch  The year 2025 was another year of magical thinking ℅ Donald Trump , a man whose mere presence in the room causes everyone else to descend to their most base level. Trump came to Washington as a president who spurned convention and embraced crypto currencies. He rejected New Deal regulation and shamelessly encouraging greed and self-interest in a way not seen since the years following WWI. The impact on financial markets is profound and may continue for some time.  The credit shops are getting shellacked in the equity markets, as we predicted months ago, but that is the price of 1) being public and 2) selling credit crapola to retail investors. The Iran conflict serves nicely as an accelerant for contagion, both for shorting the stock of credit managers and the affiliated funds. Risk arb traders dream of days like the past week. But as discussed below, market contagion ℅ President Donald Trump also creates opportunities. When Apollo (APO)  CEO Marc Rowan  said that this past week is "a shake out," we hope he is not talking about himself. APO unit Atlas SP got rolled in the MFS default in the UK, where the bankrupt firm doubled pledged collateral a la First Brands.  The successor to the storied real estate finance group of Credit Suisse , Atlas seemingly committed a total failure of risk management with respect to this UK mortgage issuer. Yet MFS is just the latest omission in a lengthening list of financial disasters in the post COVID years. APO is down 20% in the past 90 days. Is it a buy?  BlackRock TCP Capital Corp (TCPC) , a public business development company (BDC) managed by BlackRock (BLK) , reported a nearly 20% decline in net asset value in January 2026. The stock price of TCPC has been cut in half in 2026, hitting record lows. BDCs have relatively low leverage, but they are vulnerable to credit losses. The entire BDC universe is trading at a 30-40 point discount to par today. The drop in TCPC was largely attributed to a few bad investments, including exposure to e-commerce aggregators and the bankrupt Renovo Home Partners.  BLK is down only single digits over the past 90 days, but new revelations about losses in its credit portfolio may force the stock lower.  How can anyone believe a word from BLK officials when these revelations keep trickling out? Like many private equity schemes, Revco suddenly f iled for Chapter 7 bankruptcy liquidation in Delaware on November 3, 2025. This move followed an abrupt cessation of operations in October, 2025, which left thousands of customers with unfinished projects and employees without notice or pay. BLK has no offered to make the creditors of Revco whole. BlackRock’s Scott Kapnick , who leads the firm’s private credit business, said at a Bloomberg event that the biggest players will capitalize on the current industry turmoil while some of its smaller lenders may get left behind. “Most of the big managers are very good at managing risk, and the scaled players are going to continue to benefit from this period,” Kapnick opined.  Only days later, BLK was forced to declare another loan valued at 100 cents on the dollar in December, a $25 million advance to Infinite Commerce Holdings, as having zero value today. The investment was a second-lien loan. The company reportedly had been using a payment-in-kind (PIK) mechanism, allowing them to defer interest payments on debt. We hear that some BDC’s, asset managers, insurers, or hedge funds have pressed banks to expand non-recourse financing transactions for private credit loans which they own---but cannot sell or monetize. Fund sponsors lack sale liquidity and portfolio cashflows to meet rising investor redemption demands, as loans increasingly are moving to payment-in-kind (PIK) and Principal Onto Original Principal (“ POOP”) , which accretes in lieu of defaulted interest/principal cashflows . (H/T Victor Hong) As we noted in The IRA Bank Book Q1 2026 , major banks are already well above their eyeballs with private credit non-recourse financing transactions and regulators are watching.  Just as private credit managers had to see a run on funds when retail investors became involved, non-recourse bank loans to busted private equity companies must end up in total loss.  The selloff in the financial markets was accelerated by the widening war between Iran and the US and Israel. A number of pundits have asked about the “endgame” in the US decision to launch attacks on Iran, but the truth is that there is nobody to negotiate with in Iran as long as the revolutionary leadership remains in place. The US and Israel are simply degrading Iran’s military capabilities with brute force.  There is no endgame. In Washington, another Republican legislator has announced retirement. “Sen. Steve Daines  (R-Mont.), the 63-year-old former NRSC chair, announced late Wednesday that he won’t seek a third term in the Senate,” Punchbowl News reports . “Daines withdrew from the November ballot just minutes before the 5 p.m. filing deadline. That was around the same time that Kurt Alme — the U.S. attorney for Montana — filed to run for the seat.” As of early March 2026, 32 Republican representatives have announced they will retire from the House after this year, according to a report in The Washington Post . A dozen members of the Senate have announced their retirement, mostly Republicans. Including both House and Senate, this represents a historically high rate of turnover by members of both parties. Trumpian Analogs   It is worth reminding our readers that the Teapot Dome scandal (1921–1924), which involved the secret leasing of federal oil reserves to private companies by Interior Secretary Albert Fall , was one of the precursors to the Great Crash of 1929. Like Donald Trump, President Warren Harding (1921-1923) promised a “return to normalcy” after years of inflation and economic recession following WWI.  Trump ran against "the endless wars" of Joe Biden, but now has made common cause with Israeli leader Benjamin Netanyahu in attacking Iran .

“I'd say on Sarbanes ... [it's] probably been the best thing that's happened to our business [as a private-equity firm] and one of the worst things that's happened to America.... I find corporate managers more or less quite defeated by Sarbanes. I think it's taken a lot of the entrepreneurial zeal out of a lot of corporate managers, and as a result of that, when we talk to them about going private, they're really quite excited about it.” Stephen Schwarzman Chairman, CEO, and Co-founder The Blackstone Group LP to Charlie Rose, May 2006 March 9, 2026  | When people ask us how the world of private equity and credit grew into the trillions of dollars, the short answer is the Sarbanes-Oxley legislation of a quarter century ago. Combined with the equally prescriptive Basel Accord a decade later, the Sarbanes-Oxley Act of 2002 attempted to legislatively prohibit securities fraud. When you squeeze the proverbial investment sausage via excessive regulation, the piquant filling simply squirts out elsewhere. As we all know, fraud is only possible in a free society.    SOX, as the Sarbanes-Oxley law is known, drove the world of finance out of the light of public ownership and markets, creating a dank private cesspool of conflict and chicanery that has done enormous damage to the US economy. Combined with later acts of legislative hubris such as the 2010 Dodd-Frank law, SOX forced the investment bankers to take refuge behind opaque private markets and non-disclosure agreements in order to earn their expected 20% annual fees. Whole firms arose to pursue the noble goal of adding value in private schemes that were always inferior to public investments.  Today the world of private equity and credit is a rancid pool of conflicts and illegality that cannot possibly be seen as superior to public markets. Private equity executives even enjoy special tax provisions from Congress for "carried interest" to reward them for their efforts in soaking investors. Advocates of private schemes like crypto tokens, which are explicitly not considered securities, buy and sell Members of Congress like chattel. While PE firms are subject to SEC oversight, including the Investment Advisers Act of 1940, they are exempt from many of the disclosure and compliance requirements that protect public market investors. Our friend Victor Hong describes the hideous mess created for investors in a post last week on LinkedIn :  “Institutions which are diversified across many Private Equity funds AND Private Credit funds now find that portfolio companies in the former often are identical to (or affiliated with) borrowers in the latter.  So, as Fund LP’s, they own entirely BOTH the equity and debt of the same distressed company.  In that case, why are the Private Equity and Private Credit fund managers charging any base or performance fees to the LP’s, and for what value-added services (like a chauffeur charging for my bus ride)?  Worse yet, in cases where the portfolio company has defaulted on its debt, the Private Equity and Private Credit fund managers have hired their own SEPARATE legal teams to battle out OPPOSING restructuring/bankruptcy plans.  Peter fighting Paul is senseless when Peter IS Paul.  This amounts to a Zero-Sum Game for the LP’s which own both its debt and equity.  Peter cannot beat Paul; or vice versa. After ensuing (intended pun) extraordinary fees paid to both the Private Equity and Private Credit fund managers plus their respective lawyers, the LP’s are contractually forced to play a Negative-Sum Game. Cutting a pizza into seventeen even slices, rather than eight, leaves only less for eating but more crumbs for COCKROACHES.” Chuck Bowsher & Sarbanes Oxley One of the key fathers of the Sarbanes-Oxley legislation was our old friend Charles A. Bowsher , the former partner of Arthur Andersen who became a giant figure in the world of accounting and public policy in the 1980s. Bowsher was a close friend and contemporary of Richard J. Whalen , who at the time was the sous chef  in the Reagan kitchen cabinet. Appointed in 1981 by President Ronald Reagan to a fifteen-year term as Comptroller General of the United States, Bowsher aggressively pursued the mandate of the GAO and increased the visibility and effectiveness for the agency.  And he would later use the Enron crisis as a vehicle for imposing tough new restrictions on public companies and markets. The catalyst for SOX was the collapse of Arthur Andersen in 2002 following the firm’s conviction for obstruction of justice regarding the destruction of documents related to the Enron scandal . The firm was found guilty on June 15, 2002 , and subsequently surrendered its licenses to practice as a CPA firm, effectively ceasing operations by August 2002.  In January of that fateful year, Bowsher and four other members of the Public Oversight Board (POB) had resigned in protest of an SEC proposal by Chairman Harvey Pitt  to create a new oversight body for accounting firms in the wake of the massive Enron and WorldCom frauds. Bowsher stated that the SEC proposal sponsored by Pitt was a "sham" designed to give the auditing industry more power to discipline itself, rather than submitting to true independent scrutiny. Pitt himself left the SEC in November 2002. By publicly resigning from the POB, Bowsher made the existing self-regulatory system untenable, forcing Congress to adopt stricter, independent oversight mechanisms. The initial sponsors of the Sarbanes-Oxley Act of 2002 were Senator Paul Sarbanes (D-MD)  and Representative Michael G. Oxley (R-OH) . Title I of the Sarbanes-Oxley Act created the Public Company Accounting Oversight Board or “PCAOB.” Of course, the securities industry continued under a self-regulation model.  Bowsher used the painful experience of Enron and the collapse of Arthur Andersen to force Congress to adopt tough new rules for public companies .  He provided crucial expert testimony to the Senate Banking, Housing and Urban Affairs Committee regarding the need for independent oversight of the accounting profession  in the wake of the Enron (2001) and WorldCom (2002) debacles.  The collapse of Enron and WorldCom cost investors billions of dollars and revealed widespread, systemic corruption and inadequate auditing. The examination function of the PCAOB was initially headed by a former Marine helicopter pilot and SEC veteran, George Henry Diacont , who worked to instill a “regulatory attitude” in the former auditors who became PCAOB inspectors. The new PCAOB imposed a high level of scrutiny on public accounting firms and public companies that, over the intervening 24 years, encouraged the expansion of the private equity and credit markets.  When the US economy cratered in 2008, half of the residential mortgage market was private and the bid for private loans quickly fell to zero. Bowsher resigned as chairman of the Federal Home Loan Bank system's Office of Finance in 2009  because he was uncomfortable with the way banks were valuing their mortgage securities, according to the Wall Street Journal . Bowsher said, "I decided I didn't have confidence in the financial statements," confirming remarks he made previously to Bloomberg News . In the intervening years, banks have left the residential mortgage market due to punitive Basel III risk weights on residential housing assets adopted in 2012 . Most housing loans today are fully documented and carry agency or government guarantees. Nonbank firms now dominate much of the world of secured housing finance, but a growing share of equity finance is also controlled by nonbanks and is now deliberately based upon private rather than public markets. And in these ersatz private "markets," investors have no rights. Private Markets Predominate The private equity market has expanded dramatically since 2008, with global Assets Under Management (AUM) growing from approximately $2 trillion in 2008 to over $13.7 trillion by 2023, reports S&P Global. Private equity increased nearly 600%, driven by massive capital inflows into private markets, which now often exceed public market fundraising. But the private markets of today are little different than the rigged equity markets which prevailed prior to the Great Depression. Over the past century, markets have come full circle back to the opaque and deceptive financial offerings that proliferated prior to the 1929 crash and the passage of financial reform legislation in the 1930s. Examples of financial fraud in the 1920s included Ponzi schemes, stock market manipulation, investment trusts, fictitious oil company investments, sales of fractional shares of real estate in FL, and fraudulent public utility holding companies.  In the late 1920s, Goldman Sachs (GS) publicly launched several entirely opaque closed-end investment trusts, most notably the Goldman Sachs Trading Corporation launched in December 1928 under Goldman partner Waddill Catchings . Goldman also listed the Shenandoah Corporation and the Blue Ridge Corporation in 1929, two highly leveraged closed-end vehicles that failed spectacularly following the great market crash. In his 1955 book The Great Crash, 1929 , economist John Kenneth Galbraith  famously used the Goldman Sachs Trading Corporation as the ultimate example of the speculative madness and "financial insanity" that defined the period leading up to the 1929 market crash. Catchings' aggressive actions nearly caused the failure of Goldman Sachs and he was eventually forced to leave the firm in disgrace. Echoing the claims today made about the superiority of private markets, Galbraith highlighted Catchings as a prominent businessman and author (co-author of Profits and Business Without a Buyer ) who argued that the economy had entered a "new era" where traditional economic rules did not apply. If this sounds like the public statements of Marc Rowan , CEO of Apollo (APO) , you are right. Galbraith portrayed Catchings as a leading example of the dangerous overconfidence and flawed economic thinking that fueled the 1929 stock market bubble. The same sort of dangerous thinking is visible in the leaders of major private equity and credit sponsors such as Apollo, Black Rock (BLK) and Ares Management (ARES) . Back to the Future The private equity and credit markets of the 2020s are much the same thing as the financial markets a century ago, but are protected by private contracts and non-disclosure agreements. Investors in the 1920s were targeted by scams promising high returns, often fueled by illegal "boiler room" tactics and mail fraud. Today private sponsors openly offer private credit strategies to retail investors with no fear of legal or regulatory sanction. Purveyors of private credit investments and crypto token schemes play the same role as the bad actors of the 1920s, but with no interference from the SEC and other agencies. Private investment schemes are often deceptive, especially in performance reporting, and they don't consistently beat simple index funds after fees, liquidity and other risks are considered. Not only are the private markets now big enough to threaten the stability of public markets, but the messy action of the past week in private credit suggests that a major correction is inevitable. The fact that Black Rock had to suspend redemptions on a fund takes us back to June 2007, when Bear Stearns allowed two unlisted funds invested in private-label mortgage securities to fail. The resulting contagion eventually led to the sale of Bear Stearns to JPMorgan (JPM) in March 2008 at a 90% discount to the firm’s price the day earlier. By raising the cost of public ownership, SOX made "going private" a more attractive option, driving a surge in takeovers by private equity firms,” wrote Robert P. Bartlett (2009) of the University of Georgia , and noted that the cost of SOX disproportionately burdened smaller firms. Bartlett predicted correctly “that going-private transactions should migrate away from high-yield debt financing after 2002 given the costs of SOX compliance and the abundance of other forms of "SOX-free" debt financing.” Needless to say, we have told readers of our Premium Service that we are not taking on new exposures in banks or other financials at the present time. Like the sage of Omaha, Warren Buffett  at Berkshire Hathaway (BRK) , we’ve been raising cash and also allocating more assets to income producing assets, and gold and silver exposures. No crypto please. As we told our friend Daniela Cambone last week , the collapse of private equity and credit could be one of the biggest busts we've ever seen on Wall Street. Why? Because the world of private equity and credit is entirely illiquid, something that retail and even institutional investors cannot tolerate in times of market stress. Apollo or Ares or Blackrock can suspend redemptions on a fund, but you cannot stop a run on reputation. In our next issue of The Institutional Risk Analyst, we'll update our WGA Precious Metals Top 25 rankings. The Institutional Risk Analyst (ISSN 2692-1812) is published by Whalen Global Advisors LLC and is provided for general informational purposes only and is not intended for trading purposes or financial advice. By making use of The Institutional Risk Analyst web site and content, the recipient thereof acknowledges and agrees to our copyright and the matters set forth below in this disclaimer. Whalen Global Advisors LLC makes no representation or warranty (express or implied) regarding the adequacy, accuracy or completeness of any information in The Institutional Risk Analyst. Information contained herein is obtained from public and private sources deemed reliable. Any analysis or statements contained in The Institutional Risk Analyst are preliminary and are not intended to be complete, and such information is qualified in its entirety. Any opinions or estimates contained in The Institutional Risk Analyst represent the judgment of Whalen Global Advisors LLC at this time, and is subject to change without notice. The Institutional Risk Analyst is not an offer to sell, or a solicitation of an offer to buy, any securities or instruments named or described herein. The Institutional Risk Analyst is not intended to provide, and must not be relied on for, accounting, legal, regulatory, tax, business, financial or related advice or investment recommendations. Whalen Global Advisors LLC is not acting as fiduciary or advisor with respect to the information contained herein. You must consult with your own advisors as to the legal, regulatory, tax, business, financial, investment and other aspects of the subjects addressed in The Institutional Risk Analyst. Interested parties are advised to contact Whalen Global Advisors LLC for more information.

November 30, 2017 | Is a conundrum worse than a dilemma? One of the more important and least discussed factors affecting the financial markets is how the policies of the Federal Open Market Committee have affected the dynamic between interest rates and asset prices. The Yellen Put, as we discussed in our last post for The Institutional Risk Analyst , has distorted asset prices in many different markets, but it has also changed how markets are behaving even as the FOMC attempts to normalize policy. One of the largest asset classes impacted by “quantitative easing” is the world of housing finance. Both the $10 trillion of residential mortgages and the “too be announced” or TBA market for hedging future interest rate risk rank among the largest asset classes in the world after US Treasury debt. Normally, when interest rates start to rise, investors and lenders hedge their rate exposure to mortgages and mortgage-backed securities (MBS) by selling Treasury paper and fixed rate swaps, thereby pushing bond yields higher. An essay on this very subject was published by Malz, Schaumburg et al in a blog post for the Federal Reserve Bank of New York in March 2014 ( “Convexity Event Risks in a Rising Interest Rate Environment” ). Since then, the size of the Fed’s portfolio has grown a bit, and volatility has dropped steadily. The key characteristic to note is that the Fed owns most of the recent vintage, lower coupon MBS that would normally be hedged by private investors and banks. For those of you who follow our work, this argument tracks that of our colleague Alan Boyce, who has long warned about the hidden duration risk in the bond market since the start of QE. The FRBNY post summarizes the situation nicely: “When interest rates increase, the price of an MBS tends to fall at an increasing rate and much faster than a comparable Treasury security due to duration extension, a feature known as the negative convexity of MBS. Managing the interest rate risk exposure of MBS relative to Treasury securities requires dynamic hedging to maintain a desired exposure of the position to movements in yields, as the duration of the MBS changes with changes in the yield curve. This practice is known as duration hedging. The amount and required frequency of hedging depends on the degree of convexity of the MBS, the volatility of rates, and investors’ objectives and risk tolerances.” Since the Fed and other sovereign holders of MBS do not hedge their positions against duration risk, the selling pressure that would normally push up yields on mortgage paper and longer-dated Treasury bonds has been muted. Thus the Treasury yield curve is flattening as the FOMC pushes short-term rates higher because longer-dated Treasury paper, interest rate swaps or TBA contracts are not being sold, either in terms of cash sales by the FOMC or hedging activity. Chart 1 shows 2s to 10s in the Treasury bond market from FRED. Source: FRED More, the volatility normally associated with a rising interest rate environment has also been constrained because the Fed’s $4 trillion plus portfolio of Treasuries and MBS is entirely passive. As the FOMC ends purchases of Treasuries and MBS, and indeed begin to sell down the portfolio, presumably the need to hedge by private investors and financial institutions will push long-term rates up and with it volatility. As Malz notes, “the biggest change [between 2005 and 2013] is the increase in Federal Reserve holdings, partly offset by a large reduction in the actively hedged GSE portfolio.” Yet since the modest selloff in 2013, volatility in the Treasury market has continued to fall. While it is clear that some smart people at the FRBNY understand the duration dilemma, it is not clear that the Fed staff in Washington and particularly the members of the Board of Governors get the joke. Unless you believe that the FOMC is intentionally pursuing a flat yield curve as a matter of policy, it seems reasonable to assume that the folks in Washington do not understand that reducing the size of the System portfolio is a necessary condition for normalizing the price of credit. George Selgin at Cato Institute wrote an important post this week talking about Chair Janet Yellen’s defense of paying interest on excess reserves (IOER) held by banks at the Fed (“ Yellen's Defense of Interest on Reserves ”). Selgin’s analysis raises a couple of important issues. The fact that Yellen and the FOMC will not manage IOER at or below the market rate for Fed Funds is quite telling, particularly since doing so would address many of the key criticisms of the policy. This suggests two things, first that there really is no "free" trading in Fed Funds anyway and the Fed is the market. Second that the FOMC somehow thinks that it must push higher the bottom of the band -- this despite the huge net short duration position of the street and the $4 trillion passive Fed portfolio. The more urgent question is Yellen's view of a trade off between QE/open market operations and IOER that Selgin illustrates very nicely. The FOMC seems to think that merely not growing the portfolio or slowly selling is an option while they raise benchmark rates like IOER and Fed Funds. In fact, reducing the portfolio always was the first task, before changing benchmark rates. Especially if one is cognizant of current market conditions. Unless the FOMC changes its approach to managing its $4 trillion securities portfolio, either through outright sales or active hedging, it seems likely that the Treasury yield curve will invert by Q1 ’18. The Fed could sell the entire system portfolio and the street would probably still be short duration due to low rates and continued QE purchases by ECB, BOJ, etc. And to repeat once again, the agency mortgage securities market is down 30% on issuance YOY. Again, the FOMC does not seem to appreciate that the yield curve must invert, unless the bond trading desk at the FRBNY is actively selling and/or hedging all of the MBS and even longer dated Treasury paper. Some analysts such as Ed Hyman ( Barron’s , “ A Smooth Exit Seen for Mortgage Securities, ” 11/20/17) believe that banks will increase purchases of agency paper as the Fed unwinds QE. We beg to differ. Bank holdings of MBS as a percentage of total assets has barely moved in years. But more to the point, one has to wonder if Yellen and other members of the FOMC appreciate the trap that has been created for holders of late vintage MBS. The Fed has suppressed both interest rates and volatility via QE, as shown in Chart 2 below: Source: Bloomberg As and when the balance between buyers and sellers in the MBS market slips into net supply, volatility will explode on the upside and the considerable duration extension risk hidden inside current coupon Fannie, Freddie and Ginnie Mae MBS could prove problematic for the banking industry. “The duration extension risk goes turbo if we see rates up, volatility up and a curve steepening,” notes Boyce. Or as Malz noted succinctly in 2014: “When interest rates increase, the price of an MBS tends to fall at an increasing rate and much faster than a comparable Treasury security due to duration extension, a feature known as the negative convexity of MBS. Managing the interest rate risk exposure of MBS relative to Treasury securities requires dynamic hedging to maintain a desired exposure of the position to movements in yields, as the duration of the MBS changes with changes in the yield curve. This practice is known as duration hedging. The amount and required frequency of hedging depends on the degree of convexity of the MBS, the volatility of rates, and investors’ objectives and risk tolerances.” The Institutional Risk Analyst (ISSN 2692-1812) is published by Whalen Global Advisors LLC and is provided for general informational purposes only and is not intended for trading purposes or financial advice. By making use of The Institutional Risk Analyst web site and content, the recipient thereof acknowledges and agrees to our copyright and the matters set forth below in this disclaimer. Whalen Global Advisors LLC makes no representation or warranty (express or implied) regarding the adequacy, accuracy or completeness of any information in The Institutional Risk Analyst. Information contained herein is obtained from public and private sources deemed reliable. Any analysis or statements contained in The Institutional Risk Analyst are preliminary and are not intended to be complete, and such information is qualified in its entirety. Any opinions or estimates contained in The Institutional Risk Analyst represent the judgment of Whalen Global Advisors LLC at this time, and is subject to change without notice. The Institutional Risk Analyst is not an offer to sell, or a solicitation of an offer to buy, any securities or instruments named or described herein. The Institutional Risk Analyst is not intended to provide, and must not be relied on for, accounting, legal, regulatory, tax, business, financial or related advice or investment recommendations. Whalen Global Advisors LLC is not acting as fiduciary or advisor with respect to the information contained herein. You must consult with your own advisors as to the legal, regulatory, tax, business, financial, investment and other aspects of the subjects addressed in The Institutional Risk Analyst. Interested parties are advised to contact Whalen Global Advisors LLC for more information.

November 26, 2017 | The term “Greenspan Put” was coined after the stock market crash of 1987 and the subsequent bailout of Long Term Capital Management in 1998. The Fed under Chairman Alan Greenspan lowered interest rates following the fabled event of default and life continued. The idea of the Greenspan Put was that lower interest rates would cure the market’s woes. Unfortunately, the FOMC has since fallen into a pattern whereby longer periods of low or even zero interest rates are used to address yesterday’s errors, but this action also leads us into tomorrow’s financial excess. As one observer on Twitter noted in an exchange with Minneapolis Fed President Neel Kashkari: “Central Bankers are much like the US Forest Service of old. Always trying to manage 'nature' and put out the little brush fires of the capitalist system, while they seem incapable of recognizing they are the root cause of major conflagrations as a result.” When the Federal Open Market Committee briefly allowed interest rates to rise above 6% in 2000, the US financial system nearly seized up. Long-time readers of The Institutional Risk Analyst recall that Citigroup (C) reported an anomalous spike in loan defaults that sent regulators scrambling for cover. The FOMC dropped interest rates at the start of 2001 – nine months before the 911 terrorist attacks – and kept the proverbial pedal to the metal until June of 2004. Interest rates rose to 5.25% by 2006, but missed the previous highs of 2006 by a full point, a long-term trend reflected in lower earnings for banks and other credit market investors. Chart 1 below shows the return on earning assets for all US banks. The good news is that returns for US banks are rising after hitting a 40-year low at 0.75%. The bad news is that the peak return on assets will probably peak at 0.9%, a full 5bp below the levels of 2008 10bp below the 2000 peak of 1%. Source: FDIC Now 5bp may not seem like a big number, but when you are talking about $15.6 trillion in earning assets held by US banks, that number represents almost $8 billion missing from the industry's quarterly net income of $45 billion. The unfortunate dynamic of the “Greenspan Put” has been to slowly erode the earning power of banks, pensions and other savers in our economy by driving interest rates ever downward. But following the 2008 financial crisis, Chairman Ben Bernanke and later Janet Yellen doubled down. Call if the “Yellen Put.” Not content with merely driving short-term rates down to near zero, the committee embarked on a fantastic speculative adventure of market manipulation. The FOMC supposed that open market purchases of trillions of dollars in securities would somehow help the economy and get the heavily qualified measures of inflation like the Consumer Price Index to rise to a 2% target. Since then, statistical measures of inflation have barely moved, but asset prices for stocks, housing and commodities have galloped along at double digits. The true goal of the FOMC was not to restore full employment much less price stability, as required by law. Instead the US central bank was and is still today fixated on preventing a general debt deflation. Thus pumping up asset prices seemed the logical idea, even if it did not fit into the Fed's policy narrative. The fact that overall debt levels have surged thanks to the Fed’s use of low interest rates obviously begs the question: what was really accomplished? It also proves the wisdom that the monthly payment is all that matters, both to consumers and to heavily indebted governments. The global reality for the Fed, Bank of Japan and European Central Bank is the relentless increase in public debt. The Yellen Put has increased the debt load in the US and globally, but left the financial markets even more fragile than in 2007. A key measure of this danger was illustrated recently in Grant’s Interest Rate Observer , quoting Asset Allocation Insights , which notes that since 2008 the duration of the Bloomberg Barclays US Aggregate Bond Index has increased 62% to 6.2 years. Simple translation: Via manipulation of the credit markets, the FOMC has temporarily suppressed growing bond market volatility measured by duration. The Yellen Put means that bond prices will likely move at a brisk pace as and when volatility returns, a pace that will stun complacent investors. But meanwhile, the weight of the Fed’s $4 trillion bond portfolio first is going to result in an inverted yield curve. As the spread on 2s vs 10s in the US Treasury market relentlessly closes in on zero, the FOMC is grudgingly being forced to admit that open market purchases of securities may not actually impact the CPI or job creation. And remember, as Grant’s notes with understandable pleasure, that the bond market is now dominated by long-dated Treasury paper and corporate debt with minuscule coupons. And there is also a hidden duration extension risk event buried inside the $10 trillion market for mortgage backed securities, which will fall much faster in price than corporate debt. Again, the relevant terms here are volatility and option-adjusted duration. Not only has Chair Yellen and her colleagues created a time bomb of volatility in the US bond sector when it comes to market risk, but the extended period of low interest rates has also created a hidden wave of future loan and bond defaults. By suppressing credit spreads and thus the cost of credit, the FOMC afforded interior corporate and individual borrowers access to credit at premium, investment grade prices. Now the defaults are starting to accelerate. "For the first time since January 2017, the default rate for autos, bank cards and mortgages all rose together," said David Blitzer, managing director and chairman of the index committee at S&P Dow Jones Indices. The net charge-off rate for bank owned credit card receivables was 3.4% vs the near-term low of 2.8% in 2015, when banking industry credit loss rates troughed. Meanwhile, loss given default for bank owned 1-4 family mortgages reached a half century low at 24% in Q3 ’17, a measure of just how far the FOMC has gunned home prices in this credit cycle. Big question: when and how much will US home prices correct downward – if at all? Is the home price inflation caused by the Yellen Put permanent? As we noted in a post on Zero Hedge this past Black Friday, “Bitcoin & Fiat Paper Dollars,” the currency system created by Congress in 1862 was a product of the “exigencies of war,” to paraphrase the late Senator Robert Byrd. He was speaking about the Civil War era legal tender laws that force you to accept paper money in payment. By equating money backed with gold with paper money, Congress created a coercive system that allows the US Treasury to expand the currency without practical limit – so long as public confidence in the system is maintained. A profligate Congress is eroding confidence in Abraham Lincoln’s precursor to bitcoin – the greenback. The magnitude and length of the Fed’s latest rescue for the US economy dwarfs the modest credit support provided to markets after the failure of LTCM. With the advent of bitcoin and other crypto currencies, the more independent minded members of society are voting with their feet and fleeing the post-WWII currency system created by Washington at Bretton Woods. Given that the price tag of the Yellen Put stretches into the trillions of dollars, how big will the next Fed intervention need to be? For example, will the FOMC stand by and watch the US equity markets correct as China slows in 2018, destroying trillions of dollars in paper wealth? After all, the chief priority of the FOMC arguably is not full employment or price stability, but rather preserving the Treasury’s access to the bond markets. So here’s the question: Does the Yellen Put imply an open-ended commitment to support the equity and bond markets, and purchase more Treasury debt in the systemic event? Answer is most definitely “Yes.” And this fact allows our national Congress to ponder tax cuts in the face of the largest spending deficits in the nation’s history, in peace time or war. ________________ On Friday December 1, 2017, Chris Whalen will participate in a Real Estate Industry Forum event hosted by the Center for Real Estate Analytics at the Federal Reserve Bank of Atlanta. The Institutional Risk Analyst (ISSN 2692-1812) is published by Whalen Global Advisors LLC and is provided for general informational purposes only and is not intended for trading purposes or financial advice. By making use of The Institutional Risk Analyst web site and content, the recipient thereof acknowledges and agrees to our copyright and the matters set forth below in this disclaimer. Whalen Global Advisors LLC makes no representation or warranty (express or implied) regarding the adequacy, accuracy or completeness of any information in The Institutional Risk Analyst. Information contained herein is obtained from public and private sources deemed reliable. Any analysis or statements contained in The Institutional Risk Analyst are preliminary and are not intended to be complete, and such information is qualified in its entirety. Any opinions or estimates contained in The Institutional Risk Analyst represent the judgment of Whalen Global Advisors LLC at this time, and is subject to change without notice. The Institutional Risk Analyst is not an offer to sell, or a solicitation of an offer to buy, any securities or instruments named or described herein. The Institutional Risk Analyst is not intended to provide, and must not be relied on for, accounting, legal, regulatory, tax, business, financial or related advice or investment recommendations. Whalen Global Advisors LLC is not acting as fiduciary or advisor with respect to the information contained herein. You must consult with your own advisors as to the legal, regulatory, tax, business, financial, investment and other aspects of the subjects addressed in The Institutional Risk Analyst. Interested parties are advised to contact Whalen Global Advisors LLC for more information.

Trump Pavilion from the Van Wyck Expressway November 20, 2017 | Q: Besides stocks, what asset class has benefitted the most from the radical monetary policies of the Federal Open Market Committee? A: Multifamily real estate. And what asset class most worries federal bank regulators today? Same answer. By means of introduction, multifamily real estate in major urban areas has been one of the most popular and solid asset classes for US banks historically going back to WWII. Family fortunes, including that behind Donald Trump and many other New Yorkers, started in the 1950s with multifamily housing in Manhattan, Queens and the other boroughs of New York City. Net loss rates on these assets, measured over years and decades have been among the lowest of any bank loan category, but short-term changes in valuation in the 1990s and 2008 were severe. Since the passage of the 2010 Dodd-Frank legislation, regulators have made some draconian changes to limits on bank loan types and loan-to-value (LTV) ratios that, some say, are stifling responsible lending and make little sense from a credit perspective. Most recently, federal regulators have proposed regulations that replace the high volatility commercial real estate (HVCRE) regulations with a new and much simpler High Volatility Acquisition, Development and Construction (HVADC) exposure, a measure that incorporates more risk from construction and development loans. Is all of this concern warranted? Yes. Thanks to the folks who sit on the FOMC, prices for multifamily real estate have risen so rapidly since Dodd-Frank that today net default rates are actually negative. As we’ve noted in previous missives, loss-given default (LGD) for the $400 billion in multifamily loans held by US banks is negative in four of the past six quarters. In plain terms, banks are profiting from defaults on multifamily loans because collateral prices have risen so rapidly, as shown in Chart 1 below. Source: FDIC In the world of analytics, a negative net default rate is a “red flag” because it indicates that markets have reached an outlier position that cannot be sustained. The negative loss rates post-default seen today contrast with the 100% LGDs that applied during the 2008 financial crisis. Even going back to the economic slowdown of the late 1990s, LGDs on bank multifamily exposures were relatively high. Yet as an asset class, multifamily bank loans have been among the most stable credits on the books of US depositories, especially community banks in major urban metro areas. More, while bank portfolios for multifamily loans have been stable, the overall flow of funds into multifamily assets via the asset-backed security market has surged during the period of low rates and “quantitative easing,” as shown in Chart 2 from FRED. Source: FRED Often times the most powerful limits placed on banks are not contained in statutory provisions, but in the guidance institutions receive from regulators. For the past couple of years, the Office of the Comptroller of the Currency has been giving cautionary guidance to banks and thrifts about lending on multifamily real estate in major urban areas, especially multifamily rental properties. We are talking here about Washington DC, New York, Los Angeles and Dallas, among the major urban metros. The guidance for smaller banks was that such exposures should generally not exceed 300% of tier one equity capital. Ironically, the concern of prudential regulators in multifamily housing is driven by the actions of another set of regulators acting on the FOMC. Multifamily real estate as an asset class has been among the most effected by the FOMC's manipulation of credit spreads and asset prices of the past decade. Prices for high end real estate in major metros such as Denver, Seattle and Austin have soared in recent years, fueled by low interest rates and ready supplies of private equity capital sitting on the sidelines. Ed Pinto at AEI sent us Chart 3 below, which compares the growth rate of total debt with multifamily rental units. While loan-to-value ratios for urban multifamily properties have actually fallen since the crisis, dollar exposures to banks have risen with valuations. In response, regulators and particularly the OCC have been restraining community banks from exceeding the 300% guidance in terms of total exposures. Indeed, it has been made very clear to national banks who lend on small, rental and owner-occupied commercial properties that they cannot exceed the guidance. The 300% guideline on in-town multifamily assets is in fact a cap. As the OCC noted in 2015: “Although the underwriting for loans that finance these smaller properties is similar in many respects to the underwriting for loans that finance larger properties, there are important differences that are useful to consider. The biggest difference is often the borrower. These borrowers often have less experience and fewer resources than investors in larger properties.” Since that time, however, the OCC’s views have apparently hardened, bankers tell The IRA , especially in the past year. The vehicle for delivering the message to banks is the examiner in charge of inspecting that institution. This “informal” guidance has significant weight, however, and illustrates some of the subtle issues that Republicans are hoping to address in Washington as they take control of agencies such as the OCC as well as through regulatory reform. Because of the OCC’s conservative stance, state chartered banks that focus on commercial lending have a big advantage over national banks. When state regulators and the Federal Deposit Insurance Corporation work with state-chartered institutions, they typically allow a bank to exceed regulatory guidelines if that bank shows the ability to manage credit risk. A good example of such an institution is state-chartered Bank of the Ozarks (NASDAQ:OZRK), a national lender that leads its peer group in terms of credit performance. The bank is shedding its bank holding company, meaning FDIC is the sole federal regulator for this commercial lender. This gives the state-chartered OZRK a decided advantage over national banks its size or larger. It needs to be stated that the OCC’s caution regarding commercial real estate is well-considered given the froth in all types of real estate. Increased asset prices for commercial real estate have caused a commensurate increase in the dollar amount of loan exposures even as LTV ratios have fallen since the 2008 crisis. Whenever prices for real estate are rising at a rate far higher than the underlying economic growth rate, caution is advisable. That said, multifamily and related commercial loan exposures at all US banks are performing extremely well. The $400 billion in bank loans secured by multifamily real estate held by US banks showed a tiny 0.15% non-current rate at the end of Q2 ’17 and charge-offs were essentially zero. Looking back to the 1990s, multifamily loans have gone through periods when non-current rates have risen sharply as shown in Chart 4 below. Source: FDIC But net losses after default have been extremely low, both in the 1990s and more recently. This was largely because these properties are so widely sought after by local investors. With LTV ratios for multifamily assets in the 50 percent range and falling, it also needs to be said that the intensity of the OCC’s focus on risk from multifamily loans in large markets such as New York seems overdone. Not only did multifamily loans perform better than most other real estate asset types during the 2008 financial crisis, but the equity behind these loans has basically not gone down in half a century. This point is especially powerful when you consider that the agency is at times recommending that national banks substitute unsecured commercial loans for fully secured loans on multifamily real estate. We hear that it has even been suggested to some banks by OCC personnel that commercial real estate lending on beachfront property is preferable to loans on multi-family rental properties located in cities such as Seattle and Miami. Really? In order to accept as true the OCC’s apparent position that multifamily loans pose a threat to the safety and soundness of US banks, you’d need to expect that valuations for these liquid and popular real estate assets are about to be cut in half. In fact, the default and recovery statistics for multifamily real estate loans held by banks and in ABS suggest just the opposite, that there is a strong market for assets that do default and that prudently run credit exposures in these assets have considerable protection against loss given those rare default events. While there is certainly reason to be concerned about the sharp upward move in prices for all manner of real estate given the FOMC’s extraordinary policy actions, residential real estate in major urban centers is decidedly not a source of risk for banks and thrifts. Leveraged loans? Unsecured commercial credits? Sure. The real issue illustrated by frothy real estate markets is not the safety and soundness of banks, but rather asset price inflation caused by the low interest rate policies of the FOMC. The Institutional Risk Analyst (ISSN 2692-1812) is published by Whalen Global Advisors LLC and is provided for general informational purposes only and is not intended for trading purposes or financial advice. By making use of The Institutional Risk Analyst web site and content, the recipient thereof acknowledges and agrees to our copyright and the matters set forth below in this disclaimer. Whalen Global Advisors LLC makes no representation or warranty (express or implied) regarding the adequacy, accuracy or completeness of any information in The Institutional Risk Analyst. Information contained herein is obtained from public and private sources deemed reliable. 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