SEC: Citi designed bad security for investors, bet against it

Citigroup is paying hundreds of millions to settle a lawsuit accusing it of betting against its own clients on a mortgage-backed security that the bank had designed to fail.

Citi will pay $287 million to settle the lawsuit filed Wednesday by the Securities and Exchange Commission. The complaint involves a security that derived its value from subprime mortgages -– known as a collateralized debt obligation -- that Citi helped structure and sell to clients just as the mortgage meltdown was beginning in early 2007.

Without telling the clients who were buying the $1 billion security, which carried the name Class V Funding III, Citi packed it with credit default swaps that were likely to fall in value as the mortgage market collapsed, according to the complaint. Citi traders then bet against the security, or shorted it, eventually making money at the expense of its clients, the complaint says.

One industry expert said at the time that it was “possibly the best short EVER!” according to the complaint.

The case recalls a previous case brought against Goldman Sachs for the now infamous Abacus security. While Citi is paying less than Goldman to settle its case, Citi was more integrally involved in the wrongdoing alleged in its case.

Whereas in the Goldman case, the Abacus security was designed by an outside hedge fund investor who wanted to bet against it, in the Citi case, it was Citi employees who designed the security, marketed it to investors and bet against it, eventually making $160 million from the deal.

Citi told clients that Credit Suisse had been responsible for choosing the components of Class V Funding and did not acknowledge that Citi employees had chosen half of the components itself, the complaint says. When the Citi employee responsible for the deal was putting it through he wrote that Credit Suisse "agreed to terms even though they don’t get to pick the assets."

Class V Funding defaulted in November 2007, about eight months after it was marketed to investors. The 15 clients who bought it lost most of their investment, the SEC said.

In addition to the lawsuit against Citi, the SEC filed suit against the Citi employee who oversaw Class V Funding, Brian Stoker. Stoker did not settle and the suit will move forward.

Stoker’s lawyer could not immediately be reached for comment.  

In a statement, Citi acknowledged that it made money from Class V Funding, but noted that it had lost money on other collateralized debt obligations –- debts that nearly helped bring Citi down as the crisis reached its heights in 2008.

“We are pleased to put this matter behind us and are focused on contributing to the economic recovery, serving our clients and growing responsibly,” Citi said in the statement.

The SEC also filed suit and settled with Credit Suisse. Credit Suisse paid $2.5 million to settle the case.

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Seaport traffic will grow slightly through the end of the year

Global Port Tracker, the monthly study of retail goods imported to the U.S. through the nation's largest seaports, has greatly reduced its expectations for the remainder of 2011. The numbers suggest the economic recovery is weaker than  previously believed.

One month ago, the report's authors, Hackett Associates, had been expecting a nearly 12% increase in imported goods in September. The jump in September was also to have been followed by a slow tapering off of holidays sales traffic, but the initial surge never materialized.

Now, Global Port Tracker says that cargo imports through the ports of Los Angeles, Long Beach, Oakland, Seattle Tacoma, New York-New Jersey, Virginia, Savannah, Charleston and Houston rose by just 2.7% in September when compared to the same month a year ago.

October is now expected to show a 2.6% increase in import traffic compared to a year earlier, but the National Retail Federation was putting the numbers in the best possible light.

"Retailers are poised to succeed in maintaining the careful balance between inventory and sales that keeps customers happy while keeping retailers profitable,” said Jonathan Gold, vice president for supply chain and customs policy for the National Retail Federation.

The National Retail Federation is also forecasting 2.8% growth in holiday sales this November and December, for a total of $465.6 billion, compared to the same two months at the end of last year.

Although the numbers aren't a strong as the National Retail Federation would have liked, Hackett Associates founder Ben Hackett said that it could have been much worse.

“General economic indicators are giving us a mixed set of signals,” Hackett said. “Yet at the same time there are indications that things are not quite that bad. We are of the opinion that the probability for economic growth is higher than the probability of recession.”

Also: Cargo surge takes a holiday

Cleaner engines for short line railroad

 Southern California needs this jobs generator

--Ronald D. White

Photo: A Pacific Harbor Line locomotive on the right hauls cargo containers of imported goods bound for the nation's store shelves. Credit: Katie Falkenberg / Los Angeles Times

 

Hubert Humphrey III to head new consumer office for seniors

The Obama administration has tapped former Minnesota Atty. Gen. Hubert H. "Skip" Humphrey III to head a new office in the Consumer Financial Protection Bureau focused on issues affecting older Americans.

Humphrey, 69, the son of former Vice President and U.S. Sen. Hubert H. Humphrey Jr., is the second person with a well-known name to be appointed to a top position at the new agency. The head of the Office of Servicemember Affairs is Holly Petraeus, the wife of former Army Gen. David Petraeus, who now serves as director of the Central Intelligence Agency.

Like Holly Petraeus, who had been active on financial issues facing members of the military for years, Humphrey III has a long history in his own right of working on consumer protection. He was Minnesota attorney general for 16 years and served 10 years in the state Senate. Since 2008, he has been an AARP board member.

"Skip is a great leader. He's a great consumer protector," said Raj Date, the Obama administration adviser heading the consumer bureau until the Senate confirms a director. "He knows that consumer education is a critical complement to tough enforcement measures."

When Congress created the consumer bureau -- the centerpiece of the financial reform law enacted last year -- it mandated that the agency look at financial issues affecting specific populations, including older Americans.

Since the financial crisis, senior citizens have become targets of scams, in part because of the estimated $3 trillion in equity of the homes they own. Consumers Union reported last year that older Americans were particularly vulnerable to being misled on reverse mortgages and called for more government oversight.

Humphrey said that he will focus on increased education to help senior citizens deal with the "confusing and complicated financial services marketplace."

"For most seniors, our retirement savings -- if we have any -- and our homes are all we have," he told reporters on a conference call Wednesday. "If we want to keep a good standard of living and enjoy our retirement years, we need to hang on to these assets."

Seniors lose an estimated $3 billion a year to financial scams, Humphrey said.

In a blog post on the Consumer Financial Protection Bureau website, Humphrey alluded to his father's commitment to public service in talking about how he would run the new office.

"I grew up in a household where it wasn’t enough to just have a point of view," he wrote. "My parents taught me that if I had a problem, I needed to do something about it. Here at the Office of Older Americans, we’ll be embracing this do-something attitude from day one."

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Photo: Hubert Humphrey III. Credit: AARP

New home construction surges in September; recovery still elusive

New residential construction surged 15% in September, turning in its best performance in 17 months, though economists warned that a housing recovery has yet to take hold.

While new construction is key to getting the economy going, much of the new building came from the apartment sector, which can be very volatile. Many economists also noted that permits pulled for new construction, also an important measure of builders’ plans for the future, declined in September.

Nevertheless, the news of the increase cheered investors on Wall Street as well as several housing analysts who follow the numbers closely.

“A strong residential construction number is a welcome relief for an economy struggling to hang on to expansion and a hopeful harbinger of better days to come,” Celia Chen, a housing economist with Moody’s Analytics, wrote in a research note Wednesday morning. “Caution, however, needs to be taken in interpreting the surprisingly strong top-line housing starts for September.”

Builders started new residential units at a seasonally adjusted annual rate of 658,000 in September, a 15% increase over the prior month and up 10.2% from the same month the year before, according to the U.S. Commerce Department.

Single-family homes were built at a rate of 425,000 units, which is only 1.7% above a revised August estimate, meaning the bulk of the increase came from the building of structures with five or more units.

News of the increase in new home starts came one day after builder confidence in the market rose, according to a closely watched index that measures builder sentiment. The National Assn. of Home Builders/Wells Fargo Housing Market Index jumped by four points to 18 in what was the biggest one-month gain since April 2010, when a tax credit for buyers was fueling purchases. Sentiment remains pretty dismal, however, as a number above 50 indicates more builders view conditions as good than poor.

“A stagnant economy and labor market has meant that housing recovery over the past year has been painfully slow, but we do believe that housing is gradually healing and recovering,” Nishu Sood, a home-building analyst with Deutsche Bank, wrote in a research note Wednesday.

Despite that cautious optimism, economists also pointed to the housing permits number released Tuesday by the Commerce Department, which signaled a more mixed picture for housing. New residential building permits were issued at a seasonally adjusted annual rate of 594,000 units, which is 5.0% below the revised August rate, though still up 5.7% from September 2010.

“We would warn against getting too excited as the fundamental picture has not changed; household formation is still too low and the excess supply is still too high to warrant a major rise in home building,” read part of an analysis by Capital Economics.

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Photo: Homes under construction in Southern California. Credit: Getty Images

Are Employers Requiring People to Work Longer Hours?

Casey B. Mulligan is an economics professor at the University of Chicago.

Employees are working fewer hours, on average, since 2007, dedicated studies of time use show.

Today’s Economist

Perspectives from expert contributors.

As employers have sharply cut back employment since 2007, at least one survey asserted that existing employees have to work a lot more in order to maintain what was produced by the formerly larger work force.

Perspectives from expert contributors.

The Census Bureau’s monthly household surveys do not suggest that such a pattern is widespread, because they measure that average weekly hours worked per employed person have fallen to 37.8 in 2009 from 39.0 in 2007. Another survey also measures hours worked, with a similar result. So it seems that the number of people employed and the hours they work have fallen, creating a huge drop in the economy’s total work hours.

But sometimes surveys can be misleading about hours worked, because people tend to report round numbers like “40 hours” or “35 hours” even when actual hours worked are not a round number (more than 40 percent of employed people in the monthly household survey reported that they worked 40 hours in the reference week, compared with a mere 0.4 percent who reported 39 hours of work). It is logically possible that a number of employed people were working more hours in recent years, but continued to report the round number of 40.

Since 2003, the Census Bureau has supplemented its population survey with the American Time Use Survey, dedicated to measuring time use. Participants in that survey are asked to account for all their waking hours in a specific day, listing various activities, including eating, watching television, working, traveling, caring for children and so on.

The diary study therefore has no bias toward finding that masses of people work exactly eight hours every day for exactly five days a week. It would be interesting to know if the recent recession looks different when the economy’s work hours are measured from the diaries, rather than from the population surveys as the product of employees and hours per employee.

The chart below displays the results. Eight calendar years are sampled, from 2003 to 2010. The blue line is based on the household survey and is an index (normalized to 100 in the year 2007) of the average number of hours worked by adults. It shows about a 2 percent increase in hours worked from 2003 to 2006. Hours worked were about the same in 2007 as in 2006. For each of the three years after 2007, work hours were significantly below the previous year.

The red line is also an index of hours worked per person — but based on the time diary methodology (here I look at the sum of hours spent at work and in “income-generating activities”). The time diary actually suggests there was a mild recession in 2004, because hours worked per person were lower that year than in the surrounding years. Also unlike the household survey, the time diary suggests that work hours in 2007 were abnormally high by comparison with all previous years.

The time diary closely agrees with the household survey measures for the years 2008-10, confirming that hours worked dropped sharply after 2007. Although a few employers may require their workers to work longer hours, the typical pattern since 2007 is fewer hours per employee, and fewer employees.

Consumer prices rise on higher food and energy costs

If you noticed higher prices at the supermarket and gas station last month, you're not alone.

The consumer price index rose 0.3% in September, less than the 0.4% increase in August, the Labor Department said Wednesday. Excluding food and energy, so-called core prices increased 0.1%, the smallest increase since March.

But if you're a consumer, of course, food and gas prices matter. Food prices rose 0.4% in September, pushed up by big increases in dairy, cereals and fruits and vegetables. Gas prices rose 2.9%. Costs of medical care, airline fares and tobacco also increased.

Dairy prices have jumped 10.2% in the past year. Gas prices have soared 33.3%. Those increases are big reasons why inflation has jumped 3.9% in the 12 months ending in September -- the largest year-over-year increase in three years. 

The annual increase in consumer prices means that 55 million Social Security beneficiaries will receive higher benefits next year. They will get a 3.6% cost-of-living increase, the first since 2009. That's because Social Security checks are tied to the consumer price index.

There was some good news in the September report. Apparel prices declined after a series of sharp increases, and prices for used cars and recreation fell. New-vehicle prices stayed flat. 

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Photo: Shoppers check out at a Costco in Mountain View, Calif. Credit: Associated Press

Lessons From the Financial Crisis

BOSTON — What did the financial crisis teach central bankers?

The Federal Reserve chairman, Ben S. Bernanke, said Tuesday that the great lesson was the need to juggle two jobs: the traditional work of managing the pace of inflation and the forgotten job of maintaining financial stability.

Mr. Bernanke’s speech largely amounted to a defense and explanation of the Fed’s conduct during the crisis. The lessons he described included the propriety of the Fed’s existing approach to monetary policy and the necessity of its various innovations, including lending dollars to other countries.

But the Fed chairman acknowledged, as he has before, that the Fed and other central banks had neglected the work of financial supervision.

“The crisis has forcefully reminded us that the responsibility of central banks to protect financial stability is at least as important as the responsibility to use monetary policy effectively,” Mr. Bernanke said at an annual policy conference hosted by the Federal Reserve Bank of Boston.

One of the great questions left by the housing crash is whether the Fed could have popped the bubble at an earlier stage, limiting the damage. Mr. Bernanke said Tuesday that the Fed does have a responsibility to address emerging problems, something that central bankers long described as impossible or inappropriate.

Mr. Bernanke said, however, that he agreed with “an evolving consensus” that this work required different tools than those for monetary policy.

“In my view, the issue is not whether central bankers should ignore possible financial imbalances — they should not — but, rather, what ‘the right tool for the job’ is to respond to such imbalances,” he said.

The Fed, by adjusting interest rates, can deflate the economy, but there is no obvious mechanism for focusing the impact on a specific asset class, like housing.

Instead, Mr. Bernanke said that the tools of financial regulation were the best means for maintaining financial stability, through limits and requirements on the ways financial institutions lend and borrow.

Mr. Bernanke said that the crisis had tested what he described as the consensus model of monetary policy but that in his view it had emerged largely unscathed.

He described this model as “flexible inflation targeting,” meaning that the Fed seeks to maintain a steady rate of increase in prices and wages of about 2 percent a year, with a willingness to make short-term adjustments to encourage employment growth, and an emphasis on communication and transparency.

He closed with a reminder that it would take some time to fully understand the lessons of the crisis. Perhaps he was thinking of his own academic career, devoted to the mechanics of the Great Depression, 80 years ago. Or perhaps it was a recognition that this crisis remains very much in progress.