Sunday, November 05, 2006

Paulson re-activates secretive support team to prevent markets meltdown

Monday view by Ambrose Evans-Pritchard: Paulson re-activates secretive support team to prevent markets meltdown Judging by their body language, the US authorities believe the roaring bull market this autumn is just a suckers' rally before the inevitable storm hits.

Hank Paulson, the market-wise Treasury Secretary who built a $700m fortune at Goldman Sachs, is re-activating the 'plunge protection team' (PPT), a shadowy body with powers to support stock index, currency, and credit futures in a crash.

Otherwise known as the working group on financial markets, it was created by Ronald Reagan to prevent a repeat of the Wall Street meltdown in October 1987.

Mr Paulson says the group had been allowed to languish over the boom years. Henceforth, it will have a command centre at the US Treasury that will track global markets and serve as an operations base in the next crisis.

The top brass will meet every six weeks, combining the heads of Treasury, Federal Reserve, Securities and Exchange Commission (SEC), and key exchanges.

Mr Paulson has asked the team to examine "systemic risk posed by hedge funds and derivatives, and the government's ability to respond to a financial crisis".

"We need to be vigilant and make sure we are thinking through all of the various risks and that we are being very careful here. Do we have enough liquidity in the system?" he said, fretting about the secrecy of the world's 8,000 unregulated hedge funds with $1.3trillion at their disposal.

The PPT was once the stuff of dark legends, its existence long denied. But ex-White House strategist George Stephanopoulos admits openly that it was used to support the markets in the Russia/LTCM crisis under Bill Clinton, and almost certainly again after the 9/11 terrorist attacks.

"They have an informal agreement among major banks to come in and start to buy stock if there appears to be a problem," he said.

"In 1998, there was the Long Term Capital crisis, a global currency crisis. At the guidance of the Fed, all of the banks got together and propped up the currency markets. And they have plans in place to consider that if the stock markets start to fall," he said.

The only question is whether it uses taxpayer money to bail out investors directly, or merely co-ordinates action by Wall Street banks as in 1929. The level of moral hazard is subtly different.

Mr Paulson is not the only one preparing for trouble. Days earlier, the SEC said it aims to slash margin requirements for institutions and hedge funds on stocks, options, and futures to as low as 15pc, down from a range of 25pc to 50pc.

The ostensible reason is to lure back hedge funds from London, but it is odd policy to license extra leverage just as the Dow hits an all-time high and the VIX 'fear' index nears an all-time low – signalling a worrying level of risk appetite. The normal practice across the world is to tighten margins to cool over-heated asset markets.

The move is so odd that conspiracy buffs are already accusing SEC chief Chris Cox of juicing the markets to help stop the implosion of the Bush presidency...

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