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Robert Trigaux

Deeper look at how Wall Street's self-dealing led to housing bubble cites role of Clearwater financier



bryanzwan2002scottkeeler.jpgWake up and good morning. If some of you wonder why the business media is not taking a deeper "what the heck happened" look at the financial meltdown of recent years, take heart. ProPublica, an independent, non-profit newsroom that produces investigative journalism in the public interest. has begun publishing a series about how, in the middle of America's housing bubble, Wall Street bankers perpetrated one of the greatest episodes of self-dealing in financial history.

 And in the latest part of that series, just published, we here in Tampa Bay are reacquainted briefly with Bryan Zwan (see photo, by Scott Keeler of St. Petersburg Times), a one-time hotshot with a Clearwater tech firm that soared and burned during the tech boom of the 1990s. Now he's apparently funding a firm that's caught up in the latest questionable trend in packaging mortgage-backed securities.

Stay with me now. I'll keep this simple and provide a link to ProPublica's far more extensive coverage.

The story starts this way. Faced with increasing difficulty in selling the mortgage-backed securities that had been among their most lucrative products, the banks hit on a solution that preserved their quarterly earnings and huge bonuses: They created fake demand.

ProPublica's analysis shows for the first time the extent to which banks -- primarily Merrill Lynch, but also Citigroup, UBS and others -- bought their own products and cranked up an assembly line that otherwise should have flagged. The products they were buying and selling were at the heart of the 2008 meltdown -- collections of mortgage bonds known as collateralized debt obligations, or CDOs. Here's how ProPublica describes the start of massive self-dealing:

"As the housing boom began to slow in mid-2006, investors became skittish about the riskier parts of those investments. So the banks created -- and ultimately provided most of the money for -- new CDOs. Those new CDOs bought the hard-to-sell pieces of the original CDOs. The result was a daisy chain that solved one problem but created another: Each new CDO had its own risky pieces. Banks created yet other CDOs to buy those.

This is key. Daisy chains crop up in financial history as a device used to both hide and delay the discovery of bad assets, passing along the worst remains of a financial deal repackaged in a new deal, which in turn gets repackaged again with the remains of the already lousy deal into a new offering. Here's a more detailed definition of daisy chain.

By 2006, ProPublica, daisy chaining CDOs had gone from the strategy used by individual firms to "common industry practice." ProPublica found that in the last years of the housing boom, CDOs had become the dominant purchaser of key, risky parts of other CDOs, largely replacing real investors like pension funds. By 2007, 67 percent of those slices were bought by other CDOs, up from 36 percent just three years earlier. The banks often orchestrated these purchases. In the last two years of the boom, nearly half of all CDOs sponsored by market leader Merrill Lynch bought significant portions of other Merrill CDOs.

CDOcrossownershipgraphicpropublicafromTheticaSystems.gifIn other words, Wall Street had built a house of cards, buying and selling each other's repackaged and increasingly risky CDOs. (See ProPublica chart of CDO cross ownership, from Thetica Systems data.)The ProPublica story deserves your close read, so look at it in its entirety here. Then ask yourself. How could this happen? Where were our federal (and state) regulators like the Securities and Exchange Commission? Where were the internal auditors and legal departments of thee wall Street firms that should have blown the whistle on this obviously manipulative, self-serving and ultimately self destructive practice? It was if Wall Street took the best of Enron's accounting manipulations and turned it loose on the housing market.

And we wonder why Wall Street has such low credibility and why the nation just suffered through another round of painful legislative and regulatory reform of the financial industry.

This blog posting is meant only to whet your appetite for a closer look at how we all got scammed. And to briefly mention how Clearwater's Bryan Zwan got caught up in the ProPublica coverage.

Zwan, for those with long memories here in the Tampa Bay area, founded a company called Digital Lightwave that made communications equipment near St. Petersburg-Clearwater International Airport.. At one point Digital Lightwave stock traded on the Nasdaq and its stock soared to an amazing $150 a share, earning the company a front page, right-hand column feature story in the Wall Street Journal. The company later crashed and no longer exists after many years and millions spent by Zwan trying to revive it. Zwan's tale, and his relationship with the Church of Scientology, was told in this investigative piece in 2002 by St. Petersburg Times writers.

Now Zwan is back and, among other pursuits, financing a business managing a Merrill Lynch-created CDO called Forge 1. Says ProPublica:

"Forge has its own intriguing history. It was the only deal done by a tiny manager of the same name based in Tampa, Fla. The firm was started less than a year earlier by several former Wall Street executives with mortgage experience. It received seed money from Bryan Zwan, who in 2001 settled an SEC civil lawsuit over his company's accounting problems in a federal court in Florida."

"After seemingly coming out of nowhere, Forge won the right to manage a $1.5 billion Merrill CDO," the story says. Zwan and Forge executives, ProPublica states, didn't respond to requests for comment. 

The ProPublica cites a Forge employee recalling how amazed he was that Merrill had been able to find buyers so quickly. "They were able to sell all the tranches" -- slices of the CDO -- "in a fairly rapid period of time," said Rod Jensen, a former research analyst for Forge. Why? Because Merrill sold the slices to other CDOs, many linked to Merrill. The ProPublica analysis shows that two Merrill CDOs, Maxim II and West Trade III, each bought pieces of Forge. Small managers oversaw both deals.

Forge, in turn, was filled with detritus from Merrill. Eighty-two percent of the CDO bonds owned by Forge came from other Merrill deals.

Kudos for getting this far. I realize this is complicated but trying to understand such Wall Street shenanigans is not easy. It really boils down to the creation of CDO garbage which begat even fouler CDO garbage which begat even stinkier CDO garbage. And it all helped spur the financial crash that's got us all in one big, prolonged economic mess. And Zwan, with his seed money for the folks managing the Forge CDO, was one bit player in this fiasco, according to ProPublica.

-- Robert Trigaux, Times Business Columnist







[Last modified: Monday, August 30, 2010 7:25am]


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