I remember sitting at my desk at Merrill Lynch as the Head of Canadian Credit Trading ( a front row seat to watch the world unwind) in the summer of 2007. Most people recognize Sept 2008 as the "financial collapse" and, to be sure, that is when things really went pear-shaped. But our job as portfolio managers is to do the research and spot these pear-shaped events before they happen so we can avoid big losses or draw downs.
So in the Summer of 2007, there was great weather, sunshine, candy floss and unicorns but behind all that utopia were a few lurking issues in the financial markets.
The first, were two Bear Stearns hedge funds that were largely comprised of Collateralized Debt Obligations (CDO's) that were filled with residential mortgage backed debt. After the typical management oversight shuffle in June 2007, the funds were effectively "Gated" (investors cannot redeem) and then ultimately by August 2007 they were bankrupt.
The second harbinger of the beginning of the financial crisis also began in the Summer of 2007 and this one I did really have a front row seat to watch. There was a local firm in Toronto called, Coventree Capital. Coventree was what was called a "conduit" but they were basically a fund that borrowed very short term debt, like a lot of overnight money, and invested in...you guessed it...US residential mortgages. Great gig, until it isn't. Now, the funding of the assets was critical because Coventree was relying on all kinds of domestic and foreign banks to help them receive overnight funding should the commercial paper market not grant them funding, which was called a "liquidity event due to a market disruption clause". The banks were supposed to step in and lend to Conventree if such a market disruption occurred. While on Aug 13, 2007, Coventree couldn't "Roll" or "Refinance" its commercial paper so they went to all of these banks to declare a market disruption clause so that the banks would provide funding. But the banks said, "we didn't have a problem rolling our overnight commercial paper so there is no market disruption clause and liquidity provided". Coventree got the same answer from each bank. Given my position at Merrill, I, along with a couple of other folks, were called into the President's office (Lynn Patterson who was my direct boss at the time and is now a Deputy Governor at the Bank of Canada). "What are we to do?" Well the rest is history as the late, great, Purdy Crawford had to unwind the mess over several years. When Coventree broke, I took phone calls from my Merrill colleagues from all over the world, Frankfurt, London, Tokyo, NYC, asking who the hell they were and why there were specific "outs" in the Canadian Liquidity Providing Market. Very interesting.
So when people ask me about the financial crisis, I am sure to tell them it actually started in the Summer of 2007, especially if you were involved and paying attention to the tell-tale signs.
Fast forward to today and we can see over the past 24 hours that two UK-based Life-co funds have been "gated" in the same way. First, Standard Life Investments gated a 2.9bln Sterling commercial real estate open-end fund. Redemptions were so great that they gated it for 28 days and marked the net asset value (NAV) by 5%. Intuitively seems like a joke to me...5% cut in NAV.,..that is all? Same as all the dealers and banks back in 2007; no one wanted to write the portfolio down in one swoop...they inched it down. Like the market will run right back up. I have been trading my entire career and that never happens. And today, Aviva Investors Property Trust also gated a closed-end fund. Same story.
Probably pays to pay attention to news like this.