A graphic showing how the USD7.8 Trillion Total Bailout Commitment is broken down

The Carnoustie effect is defined as the degree of mental and psychic shock experienced on collision with reality by those whose expectations are founded on false assumptions. This also sounds familiar with the lax interest policy that ignores bubbles, demonstrating a classic reality check for Citigroup.

Citigroup had been acquiring more short-term funding and rolling over short-term liquidity daily. Imagine you have to refinance 20% of your mortgage every day. “But when the music stops, in terms of liquidity, things are complicated”, especially if bursting of bubble affects banking sector triggering a credit crunch.

This week the margins eroded the capital base of Citigroup and equity shrank, and if they cannot get a capital infusion they will be forced to sell assets at fire sale prices. This loss spiral will eventually drive Citigroup hanging on to others, and taking positions that may drag others down. It is important to understand that the capital and leverage ratios do not capture the aspect of overnight borrowing.

Making matters worse, Citigroup announced that it would reclassify $80 billion in assets into categories that are not marked to market. The evident hitch here is that it gives the impression that the board is trying to mask how dire the books are, playing the role of Leonardo Di Caprio in the movie “Catch Me if You Can”.

Unfortunately, any other financial institution will be cautious about making a deal with Citigroup until it can be assured that the bank’s books are done exploding, focusing on maturity mismatch and market liquidity of assets. That ultimately means providing clarity to those Level 2 and Level 3 assets. Until it does so, Citigroup just looks like a ticking time bomb that has a detonating mechanism that can be set to go off any time soon.

Slides presented by Hyun Shin – Crisis on Wall Street
Slides presented by Markus Brunnermeier – Thoughts on a New Financial Architecture
Slides presented by Harrison Hong – How We Got Here and Some Lessons?
Slides presented by Paul Krugman – Notes on the bailout

Without doubt, US broker-dealers’ efforts to diversify their funding sources have not gone far enough, with most of the large groups still largely reliant on repo, a type of cheap financing which contributed to the fall of Lehman.

In the bankruptcy filed, Lehman listed Citigroup among its biggest unsecured creditors, with about $138 billion in bonds as of July 2. The Bank of New York Mellon Corp. was listed as holding about $17 billion in debt. As of May 31, Lehman had assets of $639 billion and debt of $613 billion.
- Based on the Largest Unsecured Claims (Page 7), Lehman has surpassed WorldCom as the largest U.S. bankruptcy ever.
- Lehman had about $639 billion in assets, while WorldCom had about $107 billion when it filed for bankruptcy protection in 2002.

The following document is the filed for Chapter 11 protection in the U.S. Bankruptcy Court in the Southern District of New York.

Lehman Bankruptcy Filing

Also, the affidavit of Ian T. Lowitt explaining Lehman’s trouble.

Affidavit Explaining Lehmans’ troubled

Filing for Chapter 11 protection allows Lehman to restructure while creditor claims are held at bay. The company most likely chose to file under Chapter 11, rather than a Chapter 7 liquidation, so it could retain more control over the selling off of assets

Rafael Nicolas Fermin Cota