Thursday, June 21, 2007

Merrill Backs Away From Selling CDOs

From Bloomberg:

Merrill Lynch & Co. backed away from a threat to dump about $850 million of securities it seized from Bear Stearns Cos. hedge funds, according to a person with knowledge of the firm's plans.

Merrill sold a small portion of the collateralized debt obligations through an auction, said the person, who declined to be identified because the decision hasn't been announced. The firm plans to hold onto the remaining securities for now, the person said, without being more specific.

The decision removes the risk that a large amount of securities would be liquidated immediately. Merrill set the sale in motion to reclaim its loans to the two hedge funds, which had posted losses of as much as 20 percent by betting on CDOs. The plan may have confirmed that other funds were overvaluing their holdings of similar securities, potentially causing a chain reaction of writedowns causing billions in losses.

If this story is true and Merrill backs away from selling these securities, the market can breath a huge, collective sigh of relief. In short, Merrill blinked. They knew what would happen if the sale went through and the prices they received were really low. They didn't want to be responsible for that carnage in the market. They will simply hold onto their losses for now.

However, the problem is still out there. There are a ton of CDOs and other risk management tools out there is various portfolios that are probably mispriced. I doubt this is the last time we're going to have a story like this is the financial press.