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Distressed Pools Flood Market


Assets being dumped at fire sale prices.

The credit market's eye of Sauron has shifted, providing a temporary respite for the ailing municipal bond market, where investors like Wilbur Ross are scooping up assets.

The focus is back on mortgages as opportunistic buyers seize on loans out for bid by troubled sellers. The Wall Street Journal reports Carlyle Capital Corporation -- a unit of private equity firm the Carlyle Group -- missed a margin call on its $27.1 billion loan portfolio and may be forced to dump assets to pay back lenders. The company has just $670 million in equity supporting the portfolio, or a leverage ratio of 32 times.

Borrowing short to lend long doesn't work when chaos in short-term funding markets prevents borrowers from rolling over credit lines. Carlyle uses repurchase facilities (or repo lines) that act like lines of credit to finance its portfolio. The Journal reports that as early as Monday the firm assured lenders like Bank of America (BAC), Bear Stearns (BSC) and Citigroup (C) that its funding facilities were secure. Carlyle satisfied three of its seven margin requests, which totaled $37 million.

Repos are a common funding method for mortgage investors and often contain cross-default provisions, whereby a borrower is forced into default on multiple lines if it violates lending covenants on a single facility. This protects lenders in the event a portfolio starts to go sideways.

The news spooked investors after forced selling has rocked numerous mortgage companies in the past week. Thornberg Mortgage (TMA) shares have tumbled in recent days after the firm had trouble selling assets to meet margin calls in excess of $300 million. In addition, Marketwatch is reporting that UBS (UBS) sold $24.1 billion of Alt-A mortgages to Pimco at a 30 point discount to par. That a portfolio of such size sold at just 70 cents on the dollar is indicative of a market in need of buyers.

Just as equity investors look for capitulation selling to indicate a bottom, forced selling is often a sign markets are healing themselves. However, many argue that such low prices should be blamed on liquidity, rather than assets' underlying credit quality. And while this argument may have some merit, the always astute Minyan Peter offered yesterday on the Buzz & Banter that "in a deflationary environment, liquidity trumps all other cards in the deck. Credit wounds. Liquidity kills."
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