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Dear Mr. Buffett_ What an Investor Learns 1,269 Miles From Wall Street Part 10

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43 Carol J. Loomis,"Buffett's Big Bet," Carol J. Loomis,"Buffett's Big Bet," Fortune/CNNMoney.com, 9 June 2008. 9 June 2008.

Chapter 5: MAD Mortgages-The "Great" Against the Powerless 1 Berkshire Hathaway 2003Annual Report, Berkshire Hathaway 2003Annual Report, 5. 5.

2 OHC Liquidation Trust, et al v. Credit Suisse First Boston et al., OHC Liquidation Trust, et al v. Credit Suisse First Boston et al., U.S. Bankruptcy Court, Delaware. Civil Action No. 07-799 JJF (Chapter 11 Case No. 02-13396) Memorandum Opinion June 9, 2008. (Partial Summary Judgment) Oakwood provided both mortgage loans and retail installment sales contracts (RICs) to buyers of its homes. Credit Suisse First Boston and subsidiaries (CSFB) provided Oakwood with a warehouse facility. CSFB received a warrant to purchase just under 20 percent of Oakwood's common stock and earned fees for the warehouse facility and for structuring real estate mortgage investment trusts (REMICs) backed by Oakwood's loans. CSFB was also the underwriter and marketer. CSFB bought the REMIC Certificates and sold them to investors. On November 15, 2002, Oakwood filed for protection under Chapter 11 of the Bankruptcy Code. From 1994 to 2002, CSFB underwrote $7.5 billion of Oakwood's securitizations, of which $1.3 billion were done in 2001-2002. In 2001-2002 alone CSFB earned around $21 million in fees. Oakwood's liquidator wanted $50 million for the decline in its value while it was sinking and to get back $21 million in fees it paid in 2001-2002 to Credit Suisse. In 1999, one of CSFB's credit officers had written that Oakwood posted "real/immediate bankruptcy risk issues/concerns," and that Oakwood "is the weakest company in its [industry]" 5. Oakwood's liquidator was unsuccessful in its claim.What applied here is U.S. Bankruptcy Court, Delaware. Civil Action No. 07-799 JJF (Chapter 11 Case No. 02-13396) Memorandum Opinion June 9, 2008. (Partial Summary Judgment) Oakwood provided both mortgage loans and retail installment sales contracts (RICs) to buyers of its homes. Credit Suisse First Boston and subsidiaries (CSFB) provided Oakwood with a warehouse facility. CSFB received a warrant to purchase just under 20 percent of Oakwood's common stock and earned fees for the warehouse facility and for structuring real estate mortgage investment trusts (REMICs) backed by Oakwood's loans. CSFB was also the underwriter and marketer. CSFB bought the REMIC Certificates and sold them to investors. On November 15, 2002, Oakwood filed for protection under Chapter 11 of the Bankruptcy Code. From 1994 to 2002, CSFB underwrote $7.5 billion of Oakwood's securitizations, of which $1.3 billion were done in 2001-2002. In 2001-2002 alone CSFB earned around $21 million in fees. Oakwood's liquidator wanted $50 million for the decline in its value while it was sinking and to get back $21 million in fees it paid in 2001-2002 to Credit Suisse. In 1999, one of CSFB's credit officers had written that Oakwood posted "real/immediate bankruptcy risk issues/concerns," and that Oakwood "is the weakest company in its [industry]" 5. Oakwood's liquidator was unsuccessful in its claim.What applied here is in pari delicto potior est condition defendentis. in pari delicto potior est condition defendentis. It is an equitable defense barring someone from profiting from his own wrong. It is an equitable defense barring someone from profiting from his own wrong.

3 Berkshire Hathaway 2003Annual Report, Berkshire Hathaway 2003Annual Report, 5. 5.

4 Housing Vacancies and Homeownership (CPS/HVS), U.S. Census Bureau. In 2002, 67.8 million U.S. (and region) residents owned homes; in 2004, 68.6 million owned homes; in the first quarter of 2008 the number of homeowners was back down to 67.8 million, and at 68.1 million in the second quarter of 2008. Housing Vacancies and Homeownership (CPS/HVS), U.S. Census Bureau. In 2002, 67.8 million U.S. (and region) residents owned homes; in 2004, 68.6 million owned homes; in the first quarter of 2008 the number of homeowners was back down to 67.8 million, and at 68.1 million in the second quarter of 2008.

5 Eliot Spitzer, "Predatory Lenders' Partner in Crime," Eliot Spitzer, "Predatory Lenders' Partner in Crime," Washington Post, Washington Post, 14 February 2008. 14 February 2008.

6 "Roland E. Arnall, 68; Founded High-Risk Lender Ameriquest," "Roland E. Arnall, 68; Founded High-Risk Lender Ameriquest," Washington Post, Washington Post, 20 March 2008. Roland E. Arnall died in March 2008. 20 March 2008. Roland E. Arnall died in March 2008.

7 Gerri Willis discussed 2007 foreclosures during an interview with Jon Stewart on Comedy Central's Gerri Willis discussed 2007 foreclosures during an interview with Jon Stewart on Comedy Central's The Daily Show The Daily Show on January 30, 2008. on January 30, 2008.

8 Gerri Willis, Andy Serwer, Paul Krugman, Janet Tavakoli, and Peter Dunay, "Busted! Mortgage Meltdown," CNN, March 28, 2008 (first airing). Gerri Willis, Andy Serwer, Paul Krugman, Janet Tavakoli, and Peter Dunay, "Busted! Mortgage Meltdown," CNN, March 28, 2008 (first airing).

9 Ibid. Ibid.

10 Aaron Krowne, entrepreneur and head of Planet Math, started this website ( Aaron Krowne, entrepreneur and head of Planet Math, started this website (http://ml-implode.com) in late 2006 to chronicle unfolding events in the troubled US mortgage lending market.

11 "New Century Financial Corporation to Restate Financial Statements for the Quarters Ended March 31, June 30 and September 30, 2006," "New Century Financial Corporation to Restate Financial Statements for the Quarters Ended March 31, June 30 and September 30, 2006," PR Newswire, PR Newswire, 7 February 2007. 7 February 2007.

12 Amanda Beck, "KPMG allowed fraud at New Century, report says," Amanda Beck, "KPMG allowed fraud at New Century, report says," Reuters, Reuters, March 27, 2008. March 27, 2008.

13 Vikas Bajaj and Christine Haugney, "Tremors at the Door," Vikas Bajaj and Christine Haugney, "Tremors at the Door," New York Times, New York Times, 26 January 2007. 26 January 2007.

14 Warren Buffett's to Liz Clayman, CNBC interview,13 March 2007. Warren Buffett's to Liz Clayman, CNBC interview,13 March 2007.

15 Tom Hudson and Janet Tavakoli, "Fed's Role in the Subprime Meltdown," Tom Hudson and Janet Tavakoli, "Fed's Role in the Subprime Meltdown," First Business Morning News, First Business Morning News, 19 March 2007. 19 March 2007.

16 Berkshire Hathaway 2003 Annual Report, Berkshire Hathaway 2003 Annual Report, 5. 5.

17 Floyd Norris, "Color-Blind Merrill in a Sea of Red Flags," Floyd Norris, "Color-Blind Merrill in a Sea of Red Flags," New York Times, New York Times, 16 May 2008. 16 May 2008.

18 Ibid. Ibid.

19 "Subprime Winners and Losers," "Subprime Winners and Losers," Squawk Box, Squawk Box, CNBC, 3 August 2007. Segment with Janet Tavakoli, Joe Kernen, and Becky Quick. CNBC, 3 August 2007. Segment with Janet Tavakoli, Joe Kernen, and Becky Quick.

20 Antonin Scalia to Leslie Stahl, Antonin Scalia to Leslie Stahl, 60 Minutes, 60 Minutes, CBS, 27 April 2008. CBS, 27 April 2008.

21 David Enrich, "Banks Find New Ways to Ease Pain of Bad Loans," David Enrich, "Banks Find New Ways to Ease Pain of Bad Loans," Wall Street Journal, Wall Street Journal, 19 June 2008. Thrift holding company Astoria Financial Corp's non-performing loans were $106 million at the end of 2007, but the following quarter, it changed its internal policy to define "non performing" loans as missing 19 June 2008. Thrift holding company Astoria Financial Corp's non-performing loans were $106 million at the end of 2007, but the following quarter, it changed its internal policy to define "non performing" loans as missing three three payments instead of payments instead of two. two. Wachovia and Washington Mutual started using OFHEO data for first quarter results. Wachovia and Washington Mutual started using OFHEO data for first quarter results.

22 Betsy McKay, Wells Fargo's Net is Better Than Expected, Earnings Decline But Beat Estimates; Stock Rallies 33%," Betsy McKay, Wells Fargo's Net is Better Than Expected, Earnings Decline But Beat Estimates; Stock Rallies 33%," Wall Street Journal, Wall Street Journal, 17 July 2008. 17 July 2008.

23 Robin Sidel, "Banking's Winners and Sinners Part Ways," Robin Sidel, "Banking's Winners and Sinners Part Ways," Wall Street Journal, Wall Street Journal, 19 July 2008. 19 July 2008.

24 "Remarks by Chairman Alan Greenspan, "Remarks by Chairman Alan Greenspan, Consumer Finance, Consumer Finance," at the Federal Reserve System's Fourth Annual Community Affairs Research Conference, Washington, D.C. April 8, 2005. Greenspan said the following: With these advances in technology, lenders have taken advantage of credit-scoring models and other techniques for efficiently extending credit to a broader spectrum of consumers. . . . Where once more-marginal applicants would simply have been denied credit, lenders are now able to quite efficiently judge the risk posed by individual applicants and to price that risk appropriately. These improvements have led to rapid growth in subprime mortgage lending.

The full text is available at http://www.federalreserve.gov/BoardDocs/speeches/2005/20050408/default.htm.

25 Janet Tavakoli and Thalia a.s.suras, "Making the Most of the Market," Janet Tavakoli and Thalia a.s.suras, "Making the Most of the Market," CBS Evening News, CBS Evening News, 4 August, 2007. 4 August, 2007.

26 Janet Tavakoli to Warren Buffet, e-mail correspondence, 15 August 2007. The following is the gist of my remarks: Janet Tavakoli to Warren Buffet, e-mail correspondence, 15 August 2007. The following is the gist of my remarks: a.s.set-backed conduits that issue commercial paper have been investing in very risky credit linked notes (CLNs). The risk is linked to leveraged structured products including subprime and other mortgage loan debt. Some are also linked to corporate leveraged loans (private equity buyout debt and other debt).The credit linked notes employ credit derivatives technology. [This is related to my comments about super senior mark-to-market manipulation. Many firms put leveraged super senior linked notes (CLNs) in the conduits to avoid the unpleasantness of marking them to market.] . . . Investors can be left holding the bag, because ent.i.ties that provide the liquidity facilities sometimes refuse to buy the paper based on "technicalities (foreseen technicalities)." Nice kids. I call this the "Wiffelwaferdooper Exception." It appears in many forms in many doc.u.ments. This is what seems to be happening right now in Canada.

27 "Bracing for Regulation," CNBC, 13 August 2007. Segment with Steve Forbes, Janet Tavakoli, Carl Quintanilla, and Eugene Ludwig, "Bracing for Regulation," CNBC, 13 August 2007. Segment with Steve Forbes, Janet Tavakoli, Carl Quintanilla, and Eugene Ludwig, 28 Becky Quick, "Buffett Eyes Countrywide," CNBC, 21 August 2007. Becky Quick, "Buffett Eyes Countrywide," CNBC, 21 August 2007.

29 Katherine Graham, Katherine Graham, Personal History Personal History (New York: Random House, 1997), 534. (New York: Random House, 1997), 534.

30 Harlan Levy, "The Finger Is Pointing toward the Underwriters," Harlan Levy, "The Finger Is Pointing toward the Underwriters," Journal Inquirer Journal Inquirer (Connecticut), 9 October 2007. (Connecticut), 9 October 2007.

31 E. Scott Reckard, "Countrywide Financial Chairman Angelo Mozilo's e-mail sets off a furor," E. Scott Reckard, "Countrywide Financial Chairman Angelo Mozilo's e-mail sets off a furor," Los Angeles Times, Los Angeles Times, 21 May 2008. 21 May 2008.

32 James R. Hagerty, "Rainmaker Mozilo Exits under a Cloud," James R. Hagerty, "Rainmaker Mozilo Exits under a Cloud," Wall Street Journal, Wall Street Journal, 28 June 2008. 28 June 2008.

33 David Wighton, "Reputations to Restore at Unforgiving Merrill," David Wighton, "Reputations to Restore at Unforgiving Merrill," Financial Times, Financial Times, 10 October 2007. 10 October 2007.

34 Janet Tavakoli, "Subprime Mortgages: The Predator's Fall," Janet Tavakoli, "Subprime Mortgages: The Predator's Fall," GARP Risk Review, GARP Risk Review, no. 35 (March-April 2007). This article was published on April 13, 2007. I wrote the original draft in February 2007. no. 35 (March-April 2007). This article was published on April 13, 2007. I wrote the original draft in February 2007.

35 "Inside Merrill Lynch," "Inside Merrill Lynch," Squawk Box, Squawk Box, CNBC, 24 October 2008. Segment with Janet Tavakoli, Joe Kernan, Jack Welch, and Charlie Gasparino, CNBC, 24 October 2008. Segment with Janet Tavakoli, Joe Kernan, Jack Welch, and Charlie Gasparino, 36 Stan O'Neal, "Risky Business," Stan O'Neal, "Risky Business," Wall Street Journal, Wall Street Journal, 24 April 2003. 24 April 2003.

37 "More than 400 Defendants Charged for Roles in Mortgage Fraud Schemes as Part of Operation 'Malicious Mortgage' Federal Bureau of Investigation Press Release,Washington, 19 June 2008. "More than 400 Defendants Charged for Roles in Mortgage Fraud Schemes as Part of Operation 'Malicious Mortgage' Federal Bureau of Investigation Press Release,Washington, 19 June 2008.

38 Ruth Simon, "Countrywide's Pressures Mount," Ruth Simon, "Countrywide's Pressures Mount," Wall Street Journal, Wall Street Journal, 26 June 2008. 26 June 2008.

39 Andrew Harris, "Countrywide Sued by Florida Over 'Deceptive' Loans," Andrew Harris, "Countrywide Sued by Florida Over 'Deceptive' Loans," Bloomberg News, Bloomberg News, 1 July 2008. 1 July 2008.

40 Illinois Attorney General Lisa Madigan made these comments when Tom Hudson interviewed her for a segment, "Countrywide in the Crosshairs," on Illinois Attorney General Lisa Madigan made these comments when Tom Hudson interviewed her for a segment, "Countrywide in the Crosshairs," on First Business Morning News, First Business Morning News, which aired June 25, 2008. which aired June 25, 2008.

41 Ruth Simon, "Countrywide's Pressures Mount," Ruth Simon, "Countrywide's Pressures Mount," Wall Street Journal, Wall Street Journal, 26 June 2008. 26 June 2008.

42 Damian Paletta and David Enrich," Crisis Deepens as Big Bank Fails," Damian Paletta and David Enrich," Crisis Deepens as Big Bank Fails," Wall Street Journal, Wall Street Journal, 12 July 2008. Senator Charles Schumer (D. N.Y.) had written to the Office of Thrift Supervision about IndyMac's solvency and depositors withdrew around $1.3 billion in following 11 days.The largest two bank failures before 2008 were Continental Illinois National Bank and Trust (Chicago) in 1984; it had $40 billion in a.s.sets, and First Republic Bank (Dallas) in 1988; it had $32.5 billion in a.s.sets. 12 July 2008. Senator Charles Schumer (D. N.Y.) had written to the Office of Thrift Supervision about IndyMac's solvency and depositors withdrew around $1.3 billion in following 11 days.The largest two bank failures before 2008 were Continental Illinois National Bank and Trust (Chicago) in 1984; it had $40 billion in a.s.sets, and First Republic Bank (Dallas) in 1988; it had $32.5 billion in a.s.sets.

43 Mich.e.l.le A. Danis and Anthony Pennington-Cross, "The Delinquency of Subprime Mortgages," Federal Reserve Bank of St. Louis (Working Paper 2005-022A), March 2005, 15. Mich.e.l.le A. Danis and Anthony Pennington-Cross, "The Delinquency of Subprime Mortgages," Federal Reserve Bank of St. Louis (Working Paper 2005-022A), March 2005, 15.

44 AP New York,"S&P: Subprime delinquencies continue to climb," 22 May 2008. AP New York,"S&P: Subprime delinquencies continue to climb," 22 May 2008.

45 James Tyson, "Fannie, Freddie Surplus Capital Requirement Is Eased," James Tyson, "Fannie, Freddie Surplus Capital Requirement Is Eased," Bloomberg News, Bloomberg News, 19 March 2008. 19 March 2008.

46 James R. Hagerty, Ruth Simon, and Damian Paletta, "U.S. Seizes Mortgage Giants," James R. Hagerty, Ruth Simon, and Damian Paletta, "U.S. Seizes Mortgage Giants," Wall Street Journal, Wall Street Journal, 8 September 2008. 8 September 2008.

47 Dan Levy, "U.S. Foreclosures. .h.i.t Record in August as Housing Prices Fell," Dan Levy, "U.S. Foreclosures. .h.i.t Record in August as Housing Prices Fell," Bloomberg News, Bloomberg News, 12 September 2008. 12 September 2008.

48 Gretchen Morgenson and Charles Duhigg, "Loan Giant Overstated the Size of Its Capital Base," Gretchen Morgenson and Charles Duhigg, "Loan Giant Overstated the Size of Its Capital Base," NewYork Times, NewYork Times, 7 September 2008. 7 September 2008.

49 Caroline Baum, "No Limit to Greenspan's Once-In-A-Century Events: Caroline Baum," Caroline Baum, "No Limit to Greenspan's Once-In-A-Century Events: Caroline Baum," Bloomberg News, Bloomberg News, 18 August, 2008. 18 August, 2008.

50 Berkshire Hathaway 1999 Annual Report. Berkshire Hathaway 1999 Annual Report. 15. 15.

51 Berkshire Hathaway 2000 Annual Report. Berkshire Hathaway 2000 Annual Report. 12. 12.

52 Berkshire Hathaway 2003 Annual Report, Berkshire Hathaway 2003 Annual Report, 5. 5.

53 Ibid. Ibid.

Chapter 6: Sh.e.l.l Games (Beware of Geeks Bearing Grifts).

1 Matthew Goldstein, "Bear Stearns Shakes the CDO Honey Pot," Matthew Goldstein, "Bear Stearns Shakes the CDO Honey Pot," TheStreet .com, TheStreet .com, 5 August 2005. 5 August 2005.

2 Ibid. Ibid.

3 Elizabeth MacDonald, " Elizabeth MacDonald, "Did the SEC Miss Warning Signs at Bear Stearns?" FoxBusiness.com, 23 June 2008. 23 June 2008.

4 Floyd Norris, "A Lesson in Fraud for Chris c.o.x," Floyd Norris, "A Lesson in Fraud for Chris c.o.x," New York Times, New York Times, 29 July 2005. 29 July 2005.

5 Ibid. Ibid.

6 Ibid. Ibid.

7 Aaron Johnson, "TABS CDO Auction Recoups Just 3% of Total Debt," Aaron Johnson, "TABS CDO Auction Recoups Just 3% of Total Debt," Securitization News, Securitization News, 4 April 2008. 4 April 2008.

8 Michael Mackenzie, "Credit Vehicle Defaults Reach $170 billion," Michael Mackenzie, "Credit Vehicle Defaults Reach $170 billion," Financial Times, Financial Times, 24 April 2008. 24 April 2008.

9 Jody Shenn, "State Street, BlackRock Manage Some CDOs in Default," Jody Shenn, "State Street, BlackRock Manage Some CDOs in Default," Bloomberg News, Bloomberg News, January 4, 2008. This is excerpted from the Tavakoli Structured Finance, Inc. client note of December 7, 2007. January 4, 2008. This is excerpted from the Tavakoli Structured Finance, Inc. client note of December 7, 2007.

Adams Square Funding I had collateral consisting of both cash and synthetic (pay-as-you-go credit default swaps) of ABS CDOs on mezzanine subprime among other items. The conflicts of interest between the collateral manager, Credit Suisse Alternative Capital (CSAC), and other affiliated ent.i.ties, including the Leveraged Investment Group (LIG) of Credit Suisse Securities (CSS) are [disclosed in the prospectus]. This is the kind of moral hazard from which I stated investors should walk briskly away [See p. 194 Collateralized Debt Obligations Collateralized Debt Obligations (John Wiley & Sons, 2003).] Rating agencies models do not capture the risks of moral hazard, and the rating agencies even failed to capture the obvious magnitude of the collateral risks. . . . Monolines rated "AAA" are not laughing, however, nor are the lower rated monolines. Writing guarantees on super-senior tranches seemed fine according to generic models, but many of these tranches have substantial princ.i.p.al risk. . . . [and] would require substantial capital increases. (John Wiley & Sons, 2003).] Rating agencies models do not capture the risks of moral hazard, and the rating agencies even failed to capture the obvious magnitude of the collateral risks. . . . Monolines rated "AAA" are not laughing, however, nor are the lower rated monolines. Writing guarantees on super-senior tranches seemed fine according to generic models, but many of these tranches have substantial princ.i.p.al risk. . . . [and] would require substantial capital increases.

10 Prospectus for Adams Square Funding I, Ltd. CreditSuisse offering memorandum, January 22, 2007, 34, 35. Prospectus for Adams Square Funding I, Ltd. CreditSuisse offering memorandum, January 22, 2007, 34, 35.

11 Carrick Mollenkamp and Serena Ng, "Wall Street Wizardry Amplified the Credit Crisis," Carrick Mollenkamp and Serena Ng, "Wall Street Wizardry Amplified the Credit Crisis," Wall Street Journal, Wall Street Journal, 27 December 2007. 27 December 2007.

12 Ibid. Ibid.

13 Janet Tavakoli, "Dead Calm: No One Trusts You: A Letter to Certain Banks and CDO Managers,"Tavakoli Structured Finance, Inc. 30 July 2008.The following is an excerpt: Janet Tavakoli, "Dead Calm: No One Trusts You: A Letter to Certain Banks and CDO Managers,"Tavakoli Structured Finance, Inc. 30 July 2008.The following is an excerpt: Some market pundits say that 'disclosure' is the answer to the "dead calm" of a securitization market adrift in the doldrums.That is not it guys. It is one thing to have doc.u.ments that disclose risks-many of the doc.u.ments of death spiral collateralized debt obligations (CDOs backed by private-label residential mortgage backed securities) in 2007 disclosed eye-popping risks-it is quite another to bring deals to market that you knew or should have known were overrated and deeply troubled the day the deal closed.The real issue is timely, complete and continuing disclosure. If you knew or should have known your "triple-A" tranches deserved a junk rating on the day the deal closed, that should have been specifically disclosed, no matter what the rating agencies, or your attorneys, said. As the investment bank securitizing the deal and selling the securities, it was down to you. You thought the disclaimers in the doc.u.ments protected you-well how is that working out? You are now suffering some of the consequences.The SEC may say you were within the "rules" (let's see what happens), but the market is holding you responsible. Investors shun you.The reason no one trusts securitizations is not "disclosure" of loan data.The reason is that you, the securitization departments of several investment banks and the "friendly" CDO "managers," that "managed" their death spiral CDOs, have no credibility. If securitization professionals failed to perform appropriate due diligence, they have a problem. If they performed due diligence, but suppressed the reports, they also have a problem. Going forward, investors may not even trust "disclosures" of due diligence, because loan data can be manipulated. Your current lack of credibility means your former customers will be reluctant to believe your data and your doc.u.ments in future.So, how did the CDOs that Merrill Lynch brought to market in 2007 perform? All of the deals I captured are in serious trouble at the "triple-A" level. [The deal names are: Lexington Cap Fundg III; Port Jackson CDO 2007-1; Highridge ABS CDO I; Maxim High Grade CDO I; Broderick CDO 3; Kleros Real Estate CDO IV; Norma CDO I; Maxim High Grade CDO II; Newbury Street CDO Ltd.; South Coast Funding IX; Euler ABS CDO I; Glacier V; Lexington Capital Funding V; Libertas Preferred Funding IV; Silver Marlin; Kleros Preferred Funding VII; NEO CDO 2007-1; Forge ABS High Grade CDO I; IMAC CDO 2007-2; Mars CDO I; Brookville CDO I; Fourth Street Funding Ltd.;Wester Springs CDO; Jupiter High Grade CDO VI; Tazlina Funding II; West Trade Funding CDO III; Robeco HG CDO I; Durant CDO 2007-1; Biltmore CDO 2007-1; Bernoulli High Grade CDO II].All have one or more originally "triple-A" rated tranches downgraded below investment grade (junk) by one or more rating agencies. Of the 30 CDOs, 27 have even the topmost original "triple-A" tranche now ranked as junk by one or more rating agencies.As of June 10, 2008, of 30 CDOs totaling more than $32 billion in notional amount, 19 have declared an event of default, are in acceleration, or have been liquidated. Ten others are "toast," as evidenced by downgrades of their "triple A" tranches to junk status, yet I could find no record of a declared event of default (EOD).The remaining CDO has "triple-A" tranches downgraded to junk, but the two topmost tranches are still rated investment grade (the topmost is Aa1 neg/ AAA neg and the formerly "triple-A" tranche below that is Baa2 neg/ BBB+ neg). The EOD may be undeclared due to doc.u.ments that avoid that declaration so that investors cannot trigger acceleration or liquidation (or the declaration may be pending).Merrill had pieces of other investment banks' deals embedded in many of the CDOs, and likewise other investment banks had pieces of Merrill's CDOs in their deals. And, of course, their credit derivatives desks bought and sold protection on each others CDOs.As far as I can tell, disclosing loan data is not the problem. The problem is that investment banks knew or should have known they packaged damaged product to sell to unwary investors.Granted, some of these investors were sophisticated and should have known better; investment banks and "sophisticated" investors, like the bond insurers can slug it out with each other. But there is a difference between an account with a lot of money and a "sophisticated" investor. Many smaller munic.i.p.alities and other retail-like accounts may have been saddled with dodgy products.Investment banks and the rings of highly paid managers, securitization professionals, and lax CDO managers have an enormous amount of responsibility for the collateral damage done to the U.S. housing market and "insured" bond markets.One can argue that the bond insurers were willing victims, but munic.i.p.alities paying higher funding costs were not. One can argue that some homeowners knowingly overextended themselves, but many others were victims of predatory lending practices. U.S. taxpayers are unwilling victims, paying either directly or indirectly for housing market a.s.sistance, turmoil in munic.i.p.al bond markets, frozen auction rate securities, and bailouts of errant mortgage lenders and investment banks.The Federal Reserve Bank is now providing liquidity for many investment banks either directly or indirectly. Investment banks may not be "borrowing," but the Fed's willingness to accept "AAA" a.s.sets in exchange for treasuries is a back-door bailout.

14 Elinor Comlay, "Merrill Lynch 2007 CDOs under water-consultant," Elinor Comlay, "Merrill Lynch 2007 CDOs under water-consultant," Reuters, Reuters, 31 July 2008. 31 July 2008.

15 Greg Newton,"Thos 2007 Merrill CDOs in Foole," Greg Newton,"Thos 2007 Merrill CDOs in Foole," Seeking Alpha, Seeking Alpha, 31 July 2008. 31 July 2008.

16 Yalman Onaran, "Banks Hide $35 Billion in Writedowns From Income, Filings Show," Yalman Onaran, "Banks Hide $35 Billion in Writedowns From Income, Filings Show," Bloomberg News, Bloomberg News, 19 May 2008. 19 May 2008.

17 Yalman Onaran, "Subprime Losses Top $396 Billion on Brokers'Writedowns: Table," Yalman Onaran, "Subprime Losses Top $396 Billion on Brokers'Writedowns: Table," Bloomberg News, Bloomberg News, 18 June 2008. 18 June 2008.

18 Yalman Onaran and Dave Pierson, "Banks' Subprime Market-Related Losses, Capital Raised," Yalman Onaran and Dave Pierson, "Banks' Subprime Market-Related Losses, Capital Raised," Bloomberg News, Bloomberg News, 16 October 2008. 16 October 2008.

19 Huw Jones,"IMF sticks by $1 trillion U.S. subprime fallout," Huw Jones,"IMF sticks by $1 trillion U.S. subprime fallout," Reuters, Reuters, 16 July 2008. 16 July 2008.

20 Warren Buffett to Janet Tavakoli, private conversation, 10 January 2008. Warren Buffett to Janet Tavakoli, private conversation, 10 January 2008.

21 Benjamin Graham, Benjamin Graham, The Intelligent Investor The Intelligent Investor (New York: Harper & Row, 1973), 300. (New York: Harper & Row, 1973), 300.

Chapter 7: Financial Astrology: AAA Falling Stars.

1 Based on data from Berkshire Hathaway annual reports for 2002 to 2007. Based on data from Berkshire Hathaway annual reports for 2002 to 2007.

2 Aline van Duyn and Francesco Guerrera, "Wall St. Banks Face $10bn Cost," Financial Times, 11 June 2008. Aline van Duyn and Francesco Guerrera, "Wall St. Banks Face $10bn Cost," Financial Times, 11 June 2008.

3 Jo Johnson,"Questions Raised over Fitch's Credibility," Jo Johnson,"Questions Raised over Fitch's Credibility," FinancialTimes, FinancialTimes, 20 July 2003. 20 July 2003.

4 Ibid. Ibid.

5 Warren Buffett, memo dated September 27, 2006, Warren Buffett, memo dated September 27, 2006, Financial Times Financial Times 9 October 2008. 9 October 2008.

6 Ibid. Ibid.

7 Arturo Cifuentes, "CDOs and Their Ratings: Chronicle of a Foretold Disaster," Arturo Cifuentes, "CDOs and Their Ratings: Chronicle of a Foretold Disaster," Total Securitization, Total Securitization, 4 June 2007. 4 June 2007.

8 Charles Bachelor,"Agencies Under Fresh Pressure on Rating Worth" Charles Bachelor,"Agencies Under Fresh Pressure on Rating Worth" Financial Times, Financial Times, 23 December 2003. 23 December 2003.

9 Ibid. Ibid.

10 Janet Tavakoli, "Investors Are the Gullible Ones if They Rely on Ratings as Indicators of Financial Robustness," Janet Tavakoli, "Investors Are the Gullible Ones if They Rely on Ratings as Indicators of Financial Robustness," Financial Times, Financial Times, 29 December 2003; and Janet Tavakoli, 29 December 2003; and Janet Tavakoli, Collateralized Debt Obligations & Structured Finance Collateralized Debt Obligations & Structured Finance (Hoboken, N.J.: John Wiley & Sons, 2008), 386-388. (Hoboken, N.J.: John Wiley & Sons, 2008), 386-388.

11 Paul J Davies, "Questions Lie Behind CPDO Hype," Paul J Davies, "Questions Lie Behind CPDO Hype," Financial Times, Financial Times, 14 November 2006. 14 November 2006.

12 Sam Jones, Gillian Tett and Paul J. Davies, "Moody's Error Gave Top Ratings to Debt Products," Sam Jones, Gillian Tett and Paul J. Davies, "Moody's Error Gave Top Ratings to Debt Products," Financial Times, Financial Times, 20 May 2008. 20 May 2008.

13 Ibid. Ibid.

14 Karen Richardson, Kara Scannell, and Aaron Lucchetti, "The Hits Keep on Coming at Moody's," Karen Richardson, Kara Scannell, and Aaron Lucchetti, "The Hits Keep on Coming at Moody's," Wall Street Journal (Deal Journal), Wall Street Journal (Deal Journal), 23 May 2008. 23 May 2008.

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