Even Big Boys Cry!

WSJ: Carlyle Capital Corp. said late Wednesday it expects its lenders will seize its assets, causing the likely liquidation of the fund, which until recently owned US$21.7 billion in mortgage securities. The fund's likely collapse would be a major black eye for Carlyle Group, the powerful Washington-based private-equity firm whose executives own 15% of the fund. Though it's registered in Guernsey, U.K., and trades in Amsterdam, Carlyle Group runs Carlyle Capital out of its New York offices. Early Thursday in Amsterdam, the shares plunged 70% to US$0.83 each. The stock has lost around 83% since the company first disclosed its funding problems last week.

The news comes just one week after Carlyle Group began pleading with some of the world's largest banks to hold off on margin calls and the liquidation of its mortgage assets. Several of the lenders, led by Deutsche Bank and J.P. Morgan Chase & Co. ignored Carlyle's request. Wednesday night, they began selling the fund's assets, which were committed as collateral against huge borrowings. By Monday, dealers had sold US$5.7 billion of the fund's assets. The fund said that through yesterday it had defaulted on approximately US$16.6 billion of its loans, and expects to default on the rest. Other dealers that sold Carlyle Capital's collateral included Merrill Lynch & Co. and Bear Stearns Cos., according to people familiar with the fund.

The fund's collapse shows how Wall Street's biggest players have begun playing hardball with some of their best clients. And they reveal how jittery banks have become about their own loan exposures. In the case of Carlyle, 12 banks had lent the fund about US$21 billion, or US$20 for every dollar of initial capital. It also illustrates how the credit crunch has moved far beyond subprime mortgages. Carlyle Capital's portfolio consisted exclusively of AAA-rated mortgage backed securities issued by Fannie Mae and Freddie Mac. They are considered to have the implied guarantee of the U.S. government and pay par at maturity.

Carlyle Capital's investment strategy looked like easy money at first. The fund would exploit the difference between the interest earned on its investments in mortgage securities and the costs of financing those investments. Like so many other hedge-fund blowups, Carlyle's troubles came from borrowing too much money. The secret to making money was borrowing massive sums. Carlyle Capital managed only US$670 million in client money, but used borrowings to boost its portfolio of bonds to US$21.7 billion. Until last week, when the dealers started selling the fund's collateral, it was about 32 times leveraged, a level one mortgage-company analyst called "astronomical." The leverage, combined with severe dislocation in the credit markets, has proved to be Carlyle Capital's undoing. With their balance sheets under extreme pressure, banks have tightened their purse strings and are now requiring more collateral for loans. And in Carlyle Capital's case, the prices of the collateral -- the residential mortgage backed securities, or RMBSs -- have dropped to levels not seen in more than 20 years. The fund said in its statement late Wednesday that the value of the RMBS collateral continues to drop.

Comments: Why Carlyle? Its newsworthy because of the people behind the company. Just look at the list below. Unfuckingbelievable. Connections seemingly can only get you so far.

Notable current and former employees and affiliated persons

Business

Politics and public service

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p/s photo: Isabella Leong
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