Sunday, July 26, 2009

CIT Group Is Going to Hurt

Its very interesting that CIT Groups capital crisis is fodder for CNBC and Bloomberg TV. That's its always usually on the WSJ front page and Bloomberg websites. But also whats very interesting is that Credit Default Swaps are near record lows and markets appear on the surface very calm. You can look at the VIX/VXN, and realize that the fear component has been taken away for the time being. Although you can thank the arb/quant/HFT traders for that.

The lender narrowly avoided a bankruptcy filing this week when it obtained $3 billion in loan commitments from its bondholders. Tuesday, CIT filed with the SEC, they laid out steps that it will take to avoid bankruptcy, though it warned that any misstep likely would lead to a Chapter 11 filing.

I posted about their Corleone like deal this past week.

Going back to CDS and the Markit iTraxx Index.

This index spread rose from 94 on Sept. 12 last year to 147 three days later, the date Lehman filed bankruptcy. The index spread peaked on March 6 this year, reaching 199, but it has since retreated to 114.

It appears that CDS spreads are near historic lows, despite a possible imminent collapse of an important commercial lender. So why haven't spreads moved significantly despite the media's scrutiny of CIT's crisis?

To most it looked like the markets clearly understood Lehman's potential counterparty risk. Market participants had factored in some sort of bailout of Lehman, when it didn't happen, we saw international credit markets freeze up.

I think the opposite is happening at CIT. Most have not grasped the risks posed by CIT's exposure to the manufacturing, retail and commercial real estate sectors. CRE is hanging on by a thread.

Its beyond strange that AIG was bailed out because of its TBTF status. That it was to interconnected with many moving parts, yet the connection is not being made with regards to CIT.

This is very dangerous. CIT assists/factors the accounts of some 1 million small businesses, by which process, it purchases their accounts receivable. In some cases, they advance cash against those purchases. Should CIT default, small businesses that believed they were borrowing from CIT would become unsecured creditors of CIT.

Many of those small businesses operate in the manufacturing, textile and garment industries. Much different then the exposure that AIG/Lehman had, but still very interconnected to our economy.

When the credit markets ceased after Lehman died, the tremendous pain that was inflicted was quite evident. The failure of CIT will likely precipitate similar seizures in both trade finance and CRE markets. Remember CRE is still a huge wild card for the US financial markets. A CIT bankruptcy which is still mainly in the cards will almost assuredly hammer the regional banks who have huge exposure to CRE.

Hey, I understand that CIT only has about 1% market share of loans to small businesses, and the market is trading off this statistic, but what's lost is the roughly 300,000 retailers and 1,900 manufacturers and importers, representing as much as $40 billion in receivables that CIT services.

CIT is more complex then the markets give it credit for.

This is a big mistake. When CIT dies, it will leave a mark.

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