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LATE  TO EARLY : BILLIONS IN SUBPRIME LOSSES 

Former CEO O’Neal told FCIC investigators he had not known that the com-
pany was retaining the super-senior tranches of the CDOs until Lattanzio’s presen-
tation to the Finance Committee. He was startled, if only because he had been under
the impression that Merrill’s mortgage-backed-assets business had been driven by
demand: he had assumed that if there were no new customers, there would be no
new offerings. If customers demanded the CDOs, why would Merrill have to retain
CDO tranches on the balance sheet? O’Neal said he was surprised about the re-
tained positions but stated that the presentation, analysis, and estimation of poten-
tial losses were not sufficient to sound “alarm bells.” Lattanzio’s report in July

indicated that the retained positions had experienced only  million in losses. 
Over the next three months, the market value of the super-senior tranches plum-
meted and losses ballooned; O’Neal told the FCIC: “It was a dawning awareness
over the course of the summer and through September as the size of the losses were
being estimated.” 
On October , Merrill executives gave its board a detailed account of how the
firm found itself with what was by that time . billion in net exposure to the su-
per-senior tranches—down from a peak in July of . billion because the firm had
increasingly hedged, written off, and sold its exposure. On October , Merrill an-
nounced its third-quarter earnings: a stunning . billion mortgage-related write-
down contributing to a net loss of . billion. Merrill also reported—for the first
time—its . billion net exposure to retained CDO positions. Still, in their confer-
ence call with analysts, O’Neal and Edwards refused to disclose the gross exposures,
excluding the hedges from the monolines and AIG. “I just don’t want to get into the
details behind that,” Edwards said. “Let me just say that what we have provided
again we think is an extraordinarily high level of disclosure and it should be suffi-

cient.” According to the Securities and Exchange Commission, by September ,
Merrill had accumulated  billion of “gross” retained CDO positions, almost four
times the . billion of “net” CDO positions reported during the October  con-
ference call. 
On October , when O’Neal resigned, he left with a severance package worth

. million —on top of the . million in total compensation he earned in
, when his company was still expanding its mortgage banking operations. Kim,
who oversaw the strategy that left Merrill with billions in losses, had left in May 
after being paid  million for his work in , which was a profitable year for
Merrill as a firm. 
By late , the viability of the monoline insurers from which Merrill had pur-
chased almost  billion in hedges had come into question, and the rating agencies
were downgrading them, as we will see in more detail shortly. The SEC had told Mer-
rill that it would impose a punitive capital charge on the firm if it purchased additional
credit default protection from the financially troubled monolines. Recognizing that
the monolines might not be good for all the protection purchased, Merrill began to
put aside loss allowances, starting with . billion on January , . By the end of
, Merrill would put aside a total of  billion related to monolines and had
recorded total write-downs on nearly  billion of other mortgage-related exposures.