I am not making this up! The US economy has fallen for the third quarter in a row at a rate which would be 6.1% if annualised. If there is any crumb of comfort, the rate for the previous quarter was 6.9%, so the rate of decline is reducing, but not as quickly as analysts thought, having forecast a decline of 4.9%.
Wednesday, 29 April 2009
I am not making this up! The US economy has fallen for the third quarter in a row at a rate which would be 6.1% if annualised. If there is any crumb of comfort, the rate for the previous quarter was 6.9%, so the rate of decline is reducing, but not as quickly as analysts thought, having forecast a decline of 4.9%.
I have no briedf to defend the rich, but the logic is appalling. He went on to say htat the raise was necessary because of the "extraordinary circumstances" of the recession.
Well he didn't fix the problem and we still have a £173 billion deficit after the £1 billion raised by this measure, so the argument of necessity seems weak.
He said he still wanted people to see the UK as a good place to do business. Of course he does, but seeing their post tax income drop by 10% of the gross or 17% of the net is hardly going to encourage them to do so. He can say the same thing when the tax rate hits 80%, but it won't work then either.
But then he goes on to say "I don't think there's a single item of government expenditure that you can't say: let's have a look at it, do we need to spend this money, can we spend it better and more efficiently?"
So that blows the necessity argument out of the window. According to the chancellor every item of government expenditure probably incorporates some waste. But instead of working on reducing it, he chooses to put up taxes to pay for it.
Let me speak up on behalf of a British centre of excellence that is succeeding during the recession. The number of pupils in the UK being taught in private schools rose by about 3,000 last year to 514,531.
The reasons are clear. According to the OECD Pisa study British private schools offer the best education in the world and attracts increasing numbers from overseas. About a third of pupils, 168,564, received assistance with fees, up 6.08% on 2008. Nearly 80% of these had financial help from their schools.
Private schools may provide a better introduction into a culturally diverse world, because 78% of their pupils would be classified as white British and 21% from minority ethnic backgrounds, compared with 85% and 14% in state schools.
Demand remains highj because many parents worked in sectors that had not seen many layoffs, and about a quarter were in the public sector, which speaks volumes for the merits of state education.
Monday, 27 April 2009
Let's assume government expenditure was cut so that borrowing could be reduced to 3% of GDP. Well if we say GDP is around £1.4 trillion, that means net borrowing of £42 billion, so that means expenditure cuts of £131 billion, but that reduces GDP even more and also means that the government receives about £50 billion in tax and other revenues. Anyway with a bit of tweaking, assuming that all exchequer revenues are proportional to GDP, we have an outcome that looks like this: So let's call that a 28% cut in government spending and a 14% cut in GDP. This is a back of the envelope calculation, but should be in the right ballpark and closer than any forecast that you'll ever get out of this government.
Some quick conclusions:
- Far from stimulating the UK economy, increased UK government spending has choked the growth of the UK private sector.
- Private sector growth was flat due to a lack of investment long before the banks blew up.
- The current public sector deficit was entirely predictable and was only exacerbated by problems in the financial sector.
It is also hard to see where the government's future 3% GDP growth will come from. 80% of the growth in GDP since 2001 and 100% of the growth since 2006 has come from an increase in government spending. That is now restricted by the government's borrowing capacity and is quite likely to fall slightly.
So the 3% growth mist come from a 6% increase in non-government activity, having averaged only 2% since 2001. Not only is it highly improbable when recovering from any recession, we also see from the graph that the rate of growth of the private sector slows as the percentage of GDP represented by government spending increases. This is hardly surprising. Loading the economy with extra taxes, or borrowings that will have to be repaid by future taxes, is not a great invitation to investors, which is why the private sector activity declines. The graph implies that private sector activity will not pick up until there is more investment and that won't happen until the level of government activity in the economy declines.
Which is why Gordon Brown's statement that he doesn't like raising taxes is so dishonest. He wouldn't have to if he didn't spend as much money.
Sunday, 26 April 2009
Some fancy footwork may be causing banks to overstate their profits, and in particular may explain why many banks showed a substantial profit in their fixed income (bond trading/swaps/derivatives) divisions when the rest of the economy is deteriorating. It is all down to what are known as “Own credit CVAs”.
A CVA is a “credit value adjustment”, the mark-to-market a bank puts on a derivative asset or liability. Historically if a bank held an asset or liability, then it held the asset on its books at the same value irrespective of the market price until it made a provision against the asset, and likewise all borrowings were held on the books at the same price.
But then as finance became more complicated and we got into the world of fancy derivatives everything started to be marked to market. If a bank held an asset, perhaps an in the money swap, then the value would be adjusted according to market prices, and if the market price was not easily discernible, the asset would be valued using a proxy such as risk free rate plus a credit default swap margin. As the risk free rate and margins move the asset would be repriced and the difference would be booked to profit and/or loss.
Now the same thing would happen with borrowings, only this time when a bank’s credit spread widens, the discounted value of its obligations goes down in mark-to-market terms, so in those terms it is “better off” and books lower liability and corresponding gain. Think about it. The banks market rating deteriorates, so it books a gain on its borrowings. Of course this results in higher later funding costs – effect of the gain and is reflected in higher future costs.
But still, without actually doing anything, the banks book a profit because their market perception deteriorates. Take a scenario: Bank B is rumoured to hold a portfolio of incredibly weak mortgage assets that the rest of the market won’t touch. The share price drops and the credit spread on Bank B CDS’s widens. The board of directors swear that everything is hunky dory with the portfolio and in the absence of any market proxy or even requirement to mark the assets to market Bank B continues to hold the assets at 100% of face value. Meanwhile in its fixed income division, the widening of Bank B credit spreads means that they book a profit on some exotic borrowing dressed up as a derivative.
So how much of this shows up in the UK banks:
RBS - Page 207 of the2008 annual report shows own credit gains of £2.823bn ($4.15bn)
HSBC - Page 31 of the 2008 annual report shows $6.57bn of own credit gains, on $6.5bn of profit for the year.
Barclays - Page 4 of the 2008 annual report shows own credit gains of £1.663bn ($2.44bn)
Now remember this item from the Barclays 2008 accounts>
“In an exceptionally challenging market environment Barclays Capital profit before tax decreased 44%(£1,033m) to £1,302m(2007: £2,335m). Profit before tax included a gain on the acquisition of Lehman Brothers North American businesses of £2,262m.Absa Capital profit before tax grew13% to £175m (2007: £155m).”
So we can update our earlier comments Barclays Capital made £1,302 million of which £2,262 million came from a gain on buying Lehman (Barclays decided it was worth £2.2 billion more than they paid, but nobody else thought it was worth paying the extra), and £175 million from Absa, so the rest of Barclays Capital lost £1,135 million, but it seems we can take off £1,663 million because that was just gains from own credit CVA’s, so Barclays Capital actually lost £2,798 million.
If you think it is bad now, you haven’t seen anything yet. I am not an out and out pessimist, nor even a pessimist hiding under the cloak of “realism”, but I do believe that if something is too good to be true, then it probably won’t last. Markets. like water flowing under gravity flow inexorably to an equilibrium point.
For many years I have been involved in what might loosely be called industrial finance, or more precisely financing the factories, power stations, communication systems and modes of transport that make our daily lives. For as long as anyone alive can remember those industries, were the bedrock of our prosperity, and it was because of that prosperity that we in the first world have been able to live a lifestyle far in advance of the rest of the world.
That prosperity spawned a host of service businesses and well paid professions that in turn were able to pay for ever more sophisticated products, and at the same time to spawn a welfare state and system that grew and grew. The initial laudable effect of that welfare state was to relieve the causes of poverty, but as it has grown in size relative to the economy, it exists not only to relieve poverty but also now to provide a viable economic existence to many who have never and will never take part in the economy.
At the same time the connection between industry and prosperity has been broken, with much industry transferred to Asian countries, and the west making what they thought was a more valuable living from services and research and development, laudable but largely hollowing out the productive economy. Rather than respond to the pressures of globalisation which effectively undercut western production (an Anglo-Dutch steel rolling mill will find it hard to compete with a Middle Eastern mill powered at Abu Dhabi energy prices and staffed with Bangladeshi labour), western countries continued to spend as though their technological supremacy was impregnable, which it clearly wasn’t. Governments and banks deluded themselves over the west’s loss of competitive advantage and encourage the growth of personal and government indebtedness think that economies would continue to grow.
They were sadly deluded, and the consequences are becoming more evident every day. It is not the failure of banks, whose recapitalisations can be measured in tens of billions, but the annual budget deficits of large countries which run to hundreds of billions, which should cause the most concern. In the case of the UK, this will probably run to at least £1 trillion over the next 5 years.
And the problem is that the cash to fund their spending may not be there. China, Venezuela and Russia, whose economies have both contracted, have reduced the amount of overseas investment they are making, preferring to divert their funding to domestic uses. Only Middle Eastern oil states remain net outward investors, but they can cerry pick the whole world. This is going to cause considerable problems for European countries. The ones with the biggest problems will be the heavily indebted Euro countries who can’t print more money at the whim of the government, and Eastern European countries who borrowed in foreign currencies. The other country that has a serious problem is the UK, which spends £4 for every £3 it collects in taxes. There are rumours in the bond markets, that some government bond auctions are only succeeding because the government has patsies that sweep up any excess. No doubt the UK government’s ownership of Lloyds and RBS may help them as they try to borrow £200 billion every year for the next 5 years.
The National Institute for Economic and Social Research (NIESR) said last week that since UK debt topped 200% of GDP after the Second World War, so we can manage the debt-load in this debacle (80% to 100%). Not so. After the Second World War, every country had similar problems and the UK still had many competitive advantages over the third world in terms of education and technology, which have largely disappeared.
Moreover, the 80%-100% indebted ness is a vast understatement of the indebtedness of the country because it only includes the direct debt obligations of the government. The pension liabilities for civil servants are not included in that figure on the basis that the government does not know how much and when each pension will cost. This is a poor excuse. What is certain is that there are liabilities and many of them, and any actuary can come up with a figure for the present value of those liabilities. Actuaries do it all the time to determine whether pension funds are fully funded. Some would say the current figure for government liabilities for public sector pensions is over £ 1 trillion. The United States federal pension fund invests in treasuries issued by the government. No cash need change hands until redemption, but the net result is that a fair value of the liabil;ity shows up in the US National Debt.
This UK government’s argument for the non-inclusion is a poor and is similar to arguments for the non-inclusion of National Rail’s government backed borrowings and the value of liabilities under the banks’ asset insurance schemes. If the bank pays good money for insurance under a scheme where the banks is taking a first loss on the assets, it is a good bet that it expects to get wiped out on its first loss (because otherwise there would be no point in taking out the second loss insurance). So we can conclude that it is a reasonable presumption that UK bank losses are understated because they haven’t written down their losses by anything like the guaranteed amounts. Moreover, if the bank feels sufficiently adequately protected that it doesn’t have to write down the value of the assets beyond the first loss position, then it seems in appropriate that the government does not show any for those guarantees, although it will be quite happy to book the premium received as income.
So my guess is that the market for UK government debt will collapse in 2009 and that as a result this government or the next will have to annual cut government spending by the amount of the deficit, say 12% of GDP or 25% of government spending, so figure at least another 2 years of decline in GDP.
Friday, 24 April 2009
If putting the top UK marginal tax rate higher than the US wasn't enough to drive American and Japanese bankers to Switzerland then a draft EU (who asked them) regulation might do the trick.
Bankers' bonuses and golden parachutes would be capped in all European Union countries under a draft policy circulating in Brussels. The European Commission will ask the 27 EU countries to bring in tougher remuneration rules for financial institutions with an office inside their borders, covering all staff whose jobs affect the firm's risk position. The new rules would also apply to all subsidiaries of EU-based parents, wherever located.
Directors' termination payments would be limited to two years fixed remuneration and share options could not vest in less than 3 years.
EU Recommendations are not binding on member states, but hey, why take the risk? The golf may not be up to much but the skiing beats the hell out of the People's Socialist Republic of Londonistan.
Thursday, 23 April 2009
For these people income that is paid into a pension is taxed at 30% when first received from the employer and then the income that it produces is then taxed at a further 50% or 40% when paid out. The only benefit of holding the money in a pension fund is the tax free accrual of income although there are no credits for withholdings on dividends.
If we assumed that the time that the pension is held in the port is relatively short or the interest rate is very low then there is no benefit from holding the money in the pension fund, because the any pension money that is paid to the pensioner has effectively taxed at 80%. A better solution is to receive income net of tax at 50% and to invest the money outside the pension fund, where any income accrued will be taxed, but the capital may be drawn on free of tax.
So the strategy would be high earner contributes to pension fund until age 60, but continues working until 65 receiving taxed income which is invested. After retiring at age 65, pensioner draws on capital invested since age 65 but only draws on pension at a later date having agreed with the pension provider to defer the pension for a higher annual pension.
Putting the top rate of tax up by 10% will raise £1 billion, so Brown won't fix the deficit unless he puts up the top rate of tax to 1750%. Does not compute.
What it also shows is how little impact the well paid actually have on the overall economy. That £1 billion of tax implies that all of their UK taxable income would only amount to £10 billion out of a GDP 140 times that figure, so don't believe the protestations of all those who would bemoan the departure of a lot of wealth creators.
The simple fact is that wealthy people and their money are very mobile. The fact that somebody is resident in the UK does not mean that they invest in the UK. The large number of non-doms who keep their investments in businesses and property offshore are evidence of this (although they are largely unaffected by the change in UK tax rates because they bring very little taxable income onshore). Conversely, large parts of British business are owned from offshore including by Britons resident overseas. Philip Green (BhS etc) is a good example but Monaco, Jersey and the Isle of Man are full of expat Britons running UK businesses largely outside the scope of UK personal taxation.
What Brown's higher tax rate does do is discourage the potential British entrepreneurs and people in medium high positions from excelling. Why bother if the government is going to swipe more than 50% of what you produce. It is easier to take an overseas posting where the stress may be lower but the post tax income considerably higher. It happened 30 years ago here, 10 years ago in France and it is happenning again in the UK.
Wednesday, 22 April 2009
The devil is always in the detail in the Budget.
Personal allowances will withdrawn for anyone earning people who earn over £100,000, with a cut of £1 of allowance, for every £2 earned over £100,000. This year (2009/10) the personal allowance is £6,475, so for every £2 of income between £100,000 and £112,950, the tax payer will lose £1 of personal allowance, and thus be liable for an additional 40p tax because of the lost allowances.
So that is 120p tax, and lest we forget 2p rising to 3p National Insurance on each £2 of marginal income, or 61.5%.
It doesn't stop there. To pay the employee the 38.5% net, the employer, assuming the employee is not contracted out of SERPS would have to pay 12.8% employer's NIC's on the gross, and the 12.8% is due to go up by 0.5%. This means that the employee actually receives 34% of the gross pay and the government receives 66%.
Relief on pension contributions will be limited to basic rate for higher rate tax payers.
40% writing down allowances for plant & machinery.
More ROC's for offshore wind.
2-4 demonstration carbon capture projects.
CHP projects will be exempted from climate change levy.
The UK government will try to issue more than £200bn worth of gilts this financial year, about £50 billion more than the Debt Management Office estimated last month.
About £25 billion of gilts fall due for redemption in the same period, so public borrowing is set to rise by £175 billion in the year.
Spread equally across the whole population, the proportionate share of the additional debt for a typical family of four would be equal to the cost of buying an extra TV license.
Every week for a year.
Tuesday, 21 April 2009
This is a graph of 12 month changes in RPI simce 1991 (remember the last recession?).
Inflation is down, surely that is a good thing?
You mean like low blood pressure is "good thing"? I am not a doctor but to me if that graph is a heartbeat monitor then the patient just died.
Monday, 20 April 2009
Apparently not, judging by the following report from the CBI via the FT.
Worst of recession over, says CBI
By Daniel Pimlott, Economics Reporter
That sounds good.
The bulk of the recession has already past, according to CBI forecasts, but a recovery is not expected to begin until the spring of 2010. Estimates by the employers’ group suggest the first quarter of this year was the worst period of the recession so far, with a 1.8 per cent decline in output compared with a 1.6 per cent fall in gross domestic product in the final quarter of last year and a 0.7 per cent drop in the third quarter.
But that brings the fall in output to 4 per cent so far, which is about four-fifths of the total 5.1 per cent fall in GDP that the CBI expects. “It is fair to say we are past the worst but it is too early to call this a recovery,” said Ian McCafferty, chief CBI economist.
Mr McCafferty said the “rate of contraction will moderate quite noticeably from the second quarter of this year” but forecast 2010 would see at best a fragile recovery that would not produce growth strong enough to reduce unemployment.
To summarise, the economy has still further to fall, there will be further unemployment and even if there is a pickup in economic output, there will be no pickup in employment in 2010, which means that there are some people who have still to lose their jobs who will still be unemployed at the start of 2011.
So how does that mean we are over the "worst"? Past the point of steepest decline in productivity, but not yet at the bottom. With that standard of analysis, can this report be taken seriously?
First we have this:
Darling '£15bn spending cuts due'
Alistair Darling is set to announce £15bn of Whitehall spending cuts over the next few years in his Budget.
It turns out that this is £5 billion of savings over the next 2 years and £10 billion in the 2 after that. That really doesn't add up to much when the annual budget deficit is £160 billion, or more than £3 billion per week. At that rate it would take 64 years of savings to cover 1 years deficit.
Conveniently for the government, the BBC omitted to mention that Alistair Darling has decided to announce that the bill for bailing out the banks could be as high as £60billion, and he will create a provision in the Budget which will be added to last year’s public borrowing totals and public sector debt.
So that's £60 billion of bad news we don't hear about and £15 billion of goodish news that we do.
Then we have this:
Recession an opportunity, says PM
The recession presents the UK with an "enormous opportunity" to reform its economy and become more competitive, Gordon Brown has insisted. The prime minister said the country had to harness its "scientific, intellectual and cultural genius".
Which of course is a load of baloney. Every day has always been an "enormous opportunity", but this government has failed to understand how the world works. If the country there was all this "scientific, intellectual and cultural genius" it wouldn't be in this position. Does anybody really think that there are millions of geniuses out there, who would be doing great things but for having not been "harnessed" by the government?
We heard similar noises from Harold Wilson, but it didn't do him any good. The trouble is that these days politicians know they can make vacuous statements without being taken to task by the press.
Terry Smith, last heard of running Collins Stewart, published a book in 1992 that caused up an uproar in the City and beyond, and as a result he lost his job at UBS. The 12 techniques identified by Smith weee all perfectly legal but misled investors. All of the described practices tended to do one of 2 things: increase reported profits or make a company's balance sheet look stronger. The book caused a stir not just because it explained the accounting tricks then employed quite legally, but it also listed the practices undertaken by various large UK companies.
What made it all hang together was the fact that several companies such as British & Commonwealth, Polly Peck, Brent Walker and Coloroll suddenly collapsed having apparently prospered in previous years. In all these cases, an apparently whizzy business was growing solidly and reporting healthy profits although doubts surrounded the presentation of their financial position and the availability of finance. Eventually as confidence wanes, the bubble burst and the accounting tricks required no longer worked and the finance dried up.
Inevitably this was followed by the presentation a disastrous set of accounts and the collapse of the company.
It would be interesting to hear Mr Smith's reaction to the Chancellor's budget statement on Wednesday.
Sunday, 19 April 2009
The chancellor is expected to revise his economic forecasts in the Budget. The economy is no longer in free fall and a recovery next spring is likely, a renowned economic think tank has said. Stabilising markets and the easing of credit conditions may well mean that the worst of the recession is over, The Ernst & Young Item Club said. It is forecasting the economy to shrink by 3.5% this year and by 0.1% in 2010.
But if you think everything is turning rosy read on to see what Peter Spencer, chief economic adviser to the Item Club has to say:
"We face another 12 to 18 months of serious grief. Around 900,000 jobs will be lost this year and half a million next," he said. He also predicted a gloomy next 12 months for the housing market and the high street. World trade is expected to decline by 9% in 2009, he added.
Still, if you work for the Beeb or the la-la land that is the government with guaranteed income for the next 2 years, you will believe all this.
Friday, 17 April 2009
Staying the Course: The Role of Investment Style Consistency in the Performance of Mutual Funds
Keith C. Brown
University of Texas at Austin - Department of Finance
W. Van Harlow
University of Texas at Austin - Department of Finance; University of Texas at Austin - Red McCombs School of Business
March 2, 2009
While a mutual fund's investment style influences the returns it generates, little is known about how a manager's execution of the style decision affects portfolio performance. Using both returns- and holdings-based techniques to measure the consistency with which managers approach their investment mandates, we demonstrate that, on average, more style-consistent funds significantly outperform less style-consistent funds on a risk-adjusted basis. This result differs from portfolio turnover and expense ratio effects and is robust with respect to the period used to measure future returns. We also show that fund style consistency and the persistence of risk-adjusted performance over time are distinct influences and demonstrate the potential profitability of trading strategies based on their combined impact. We conclude that deciding to maintain a consistent investment style is an important aspect of the portfolio management process.
Fund managers with a consistent investment style outperform. But duh, managers that are out performing are hardly going to change. Picture this Monday morning breakfast meeting:
Fund Manager #1: Good morning.
Fund Manager #2: Morning. I figured maybe we should change the fund management style. Maybe lighten up on the European industrials, take on a little more pharma and get some exposure to emerging markets.
Fund Manager #1: Why would we do that?
Fund Manager #2: Performance. We have to keep ahead of the market.
Fund Manager #1: How are we doing compared to this time last year?
Fund Manager #2: 18% up.
Fund Manager #1: And the FTSE?
Fund Manager #2: Down 12.
Fund Manager #1: So what’s to change? And anyway, what do you know about that stuff?
If there is one thing the world needs less right now than fund managers it is researchers into fund management.
As reported earlier Citibank/corp/group Vikram Pandit (should we call him CitiCEO) said he wouldn’t take home more than $1 per annum until the bank was profitable again, and lo! it was done!
Today Citigroup reported its first profit in six quarters, claiming like its rivals that it is benefiting from “a rise in trading activity” The world economy is in total meltdown and somehow the major banks seem to be able to trade proitably and with higher volumes? That does not really make sense..The US bank announced today it made a net profit of $1.6bn compared with a net loss of $5.1bn a year earlier, marking its highest earnings since the second quarter of 2007. Revenue doubled to $25bn amid a boom in trading fixed income and equities.
Then we come to the reason: writedowns of toxic assets were a fraction of last year’s in part because of a change in fair-value accounting rules. The Financial Accounting Standards Board voted earlier this month to allow banks more freedom to use their own valuation models, rather than current market prices, for assets where markets have become illiquid. A second rule change means banks will only have to recognise a part of any impairment in their profits.
Not only does this mean that the banks will have been able to write back some earlier provisions based on fair market valuations, it also means when some pesky auditor comes to ask some difficult questions about some nebulous paper last traded or offered way below book value they can .. “La, la, la! I’ve got my fingers in my ears I can’t hear you. La, la, la!”
Thursday, 16 April 2009
Last week the Telegraph ran a story quoting a senior cabinet minister, possibly Stephen Timms but the paper wasn't clear, as saying:
"Previously, a country would only go if they were in a very bad state. It was a bit like going to accident and emergency to get urgent help. This new facility will not be like that. It is a bit more like getting wellbeing care or even like going to a spa to recuperate."
The recuperation this country needs is a wheening from the idea that headline GDP numbers are a measure of economic health. We can expect government spending to be up again this year when overall economic activity is in slight decline, which means that non-government spending is falling off rapidly. But we can't cut spending now say the neo-Keynesians because that will reduce activity further with a downward spiral. But that ignores reality, a bit like an aircraft on the point whose pilot insists that the nose must be kept pointing upwards because they can't afford to point down.
The truth is that the aircraft like the economy must be allowed to fall. Government spending cannot continue to be funded by borrowing and higher taxation will simply drive investment away. The government will have to live within its means and if tht means the current administration can't fulfill their manifesto commitments, well, no surprises there. Perhaps the current electorate will learn the same lesson that was learned in the 1970's. If a government clings to power by promising goodies in excess of the economies capacity to pay for them, if it mismanages the resources then eventually it will be pushed out of power.
The real story is that if the size of the economy is dropping 3% this year, government activity which is now 48% of all activity is growing at 6% a year for the next to years in an effort to boost GDP, what doies that tell you about the other 52% (proabably less) of the economy. A little basic maths tells us that it must be falling at around 11% or so. That is the real issue, and has been for years. Higher government spending may be a boost in the short term as it keeps shops open and optimism up, but in the long term, wasteful spending to feed the GDP fetish is just a burden on the economy, discouraging inbound investment and eventally leading to higher unemployment bankruptcy and ruining lives. That is what we are seeing coming through now.
The current fiscal deficit has been like watching a cartoon character running over the edge of a cliff. For the past five years the government has been doing the running on thin air trick, but now they are is loooking down into the canyon.
I am afraid the prognosis is not good. The FT is reporting that the budgeted borrowing requirement is £175 billion for each of the next two years. That is because government spending has been fixed until 2011, but economic growth has not turned out as forecast. Now let's not get emotional over this. I will do that in a later post. Let us just calmly reflect on what it means.
Government financed activity is going to amount to 48% of the economy according to the FT, the highest it has been for 27 years they say somewhat glibly. In fact it is probably far worse than that. First of all those figures do not take account of the tax redistribution through tax credits which the government nets against tax receipts (on the basis that its net receipts don't include the money given away as a credit, which may seem reasonable to the government but disingenuous to the tax payer).
More importantly the economy is very different from 27 years ago. In 1982, the government owned vast portions of the economy which are now in the private sector, BT, BG, parts of Corus, British Airways, half of BP, the NCB, the railways, the gas and electricity utilities, the water companies, and a whole lot more. How much of this was accounted for as public expenditure in 1982 is hard to tell, but there are clearly substantial amounts of economic management and supervision no longer carried on by the government, and the activities of many research organisations like DERA (Qinetiq) and Amersham International are now clearly in the private sector numbers when they were previously in the public sector.
So on the one hand the 48% figure is probably a net understatement and there are substantial economic activities taken on by the government in 1982 which they do no longer. So what does the tax payer get for all this spending?
Well, more spending on the NHS, but not as much to show for it, although there are plenty of highly paid administrators and the highest paid GPs in Europe.
Then there are thousands of council workers on 6-figure salaries and pension packages, which they are only able to justify by pointing out the bonuses earned by Goldman Sachs bankers and Fred Goodwin's payoff. And lots and lots of public sector non-jobs.
And who will pay for it all? We are just talking about the current spending here, not the extra spending to cover all of the PFI commitments that will have to be picked up, only the 25% of this year's government spending that is not covered by this year's tax receipts. The simple answer is the current cost is paid for by your pension fund, by diligent Chinese peasants and factory workers and Middle Eastern countries whose are assured that your children and your grandchildren will be brow-beaten into paying for the government lavishness and wastefulness that the current generation cannot afford.
Time to consider a fashionable practice of the rich and famous in the 70's and 80's and emigrate?
Wednesday, 15 April 2009
Tuesday, 14 April 2009
Drivers catch green lights 'wave'
The government aims to cut road transport CO2 emissions. Motorists should face fewer red lights following the relaxation of government guidance on the flow of traffic. Local councils can adopt "green wave" systems of sensors, where vehicles at or just below the speed limit trigger a succession of green lights. Environmental and motoring groups say carbon emissions will be reduced.
Previously the Department for Transport (DfT) had discouraged the systems which reduce fuel use, resulting in less tax being paid to the Treasury. But now, rather than seeing green wave systems as a "cost" to the public purse, the DfT views them as a "benefit".
Ha! Just as we always suspected. That pesky fuel duty, that, togather with VAT, makes up about 75% of the cost of the petrol that we pay at the pump, has nothing to do with environmental protection. No, it seems the DfT wanted us to drive as aggressively as possible in order to use as much petrol as we could to generate as much tax as possible for the Treasury.
Monday, 13 April 2009
A Florida-based a registered investment adviser has recently started a blog called "Facts about Goldman Sachs" – the web address for which is goldmansachs666.com. The bank isn't too happy about this and they have called in Chadbourne & Parke to get the website closed down. According to Chadbourne & Parke's letter of April 8, the site "violates several of Goldman Sachs' intellectual property rights" and also "implies a relationship" with the bank itself.
Maybe on the first point, not so sure about the second, except perhaps in the way that divorced couples have an implied relationship, mostly in the courts. Nevertheless, one point on the website appears worth repeating, at the risk of another letter wining its way to Megabank from Regis House.
Goldman was one of the beneficiaries of the government bailout of AIG receiving the proceeds of a cash injection into AIG as compensation for losses that Goldman may have sufered on AIG CDS's. But before AIG's collapse Goldman were insisting that they were hedged, but of course not necessarily through arrangements with AIG, but possibly with other counterparties. If so what happened to those hedges? Did the hedges pay out to Goldman on AIG's collapse, and did Goldman's share of the government bailout amount to an unexpected windfall profit for the bank?
Well if they did, surely that would show up in bumper profits? Well lo and behold something did. Yesterday Goldman had to reported that it had turned its performance round between January and March, recording net revenues of $7.1bn.
Better still for the employees, all no doubt saddened at the loss of 4,000 former colleagues, business was so good, the bank managed to increase its total compensation and benefits by 18% year on year, so that on average Goldman staff have had to get by on $56,000 a month, nearly 25% more than last year.
In fact business was so good that the bank is even looking to dilute existing shareholders by 5% by raising money to pay back all the TARP money so that directors' bonuses are no longer capped. That doesn't necessarily mean anybody can see the green shoots of recovery, perhaps only that some people can make money in bad markets.
I guess that is what happens when the Treasury brings in bankers to advise on how to stimulate the economy. They ensure that the stimulus should be introduced through their own checking accounts.
You have been operating in a low risk industry with high margins. With little investment cost and ongoing expenses paid to middlemen only due on success, this looked a good short term business proposition.
Entirely predictably, that has led to a significant number of new entrants, but has also an adverse reaction from responsible governments, with retaliatory action now taking place. With low barriers to entry and a greater threat of governmental retaliation, things are not looking good for current industry participants.
On a more serious note, to all pirates, if you are 300 miles out to sea in a covered life boat holding, when you are surrounded by the US Navy do the sensible thing and give yourself up.
Don't get them riled by asking for a $2 million ransom. If you are lucky they will laugh at you, but they might angry.
All things considered you pirates don't have a strong hand:
- The US Navy can wait for as long as it takes. You only have whatever food and water is on the lifeboat.
- The US Navy have unlimited backup. You have a few guys who need to sleep from time to time. The US Navy can keep you awake with loud music.
- The US Navy will shoot you if you go out on deck, but you can only shoot them if they come in through the main hatch. The US Navy on the other hand probably have all sorts of gizmos that tell them where you are in the lifeboat and unlike you, they suffer no downside from shooting at you through the side of your plastic boat.
Abject poverty sucks, but it beats dying at sea. Come on guys. Face the facts. The odds are stacked against you. The smart money will pack it in now.
Sunday, 12 April 2009
Thursday, 9 April 2009
Having battled through earlier rounds with convincing victories over the Phillipines, Malaysia and a notable success against Ukraine, the Somali Pirates were looking good over the last few days until as we reported yesterday the Somalis took on the Alabama Vikings, a US team with a Danish owner.
The Somalis started enthusiastically taking the ship and holding the entire crew, but the Americans overcame their early setbacks driving the pirates off their ship, capturing one Somali but losing their captain to the other side.
The Somalis were offered a man for man swap but realising the superior value of their captive they reneged on the deal, although during the failed bargain, the Somali captive manage to break free and become a free agent.
However things are not looking good for the Somalis as we start day 2 with the Somalis and their hostage surrounded 300 miles offshore by US battleships carrying pursuit helicopters and drone surveillance aircraft. Worse still for the Somalis, the US have called in FBI hostage "negotiators".
The Somalis should realise that (i) if they get to shore the US cannot prosecute them and (ii) the average Somali hostage taker made more money than the average merchant sea captain last year, and the pirates have more assets to lose. Who is the hostage now, and who may have to pay up to go free?
UPDATE: Latest reports are that the "Pentagon are very engaged about this". So the combined minds, firepower and other military resources of the world's largest superpower are now concentrated on 3 men in a small lifeboat 300 niles out to sea in the Indian Ocean.
.. but about currency risk. It seems that the Foreign Office are finding their cashed squeezed, particularly for their overseas embassies where many of the costs are paid in foreign currencies. This didn't used to be a problem because the budget was agreed three years forward and the Treasury worried about the currency risk, so they aklways had enough. It seems that in the last budget cycle, the Treasury said they were going to stop the currency hedging and it would be up to the FCO to do the same, wheich after a lot of civil servant bumbling they did, but they didn't hedge all of their exposure, so now they have a problem because their unhedged foreign currency costs have risen but their sterling budget is fixed.
But that isn't the story. A similar thing happened over 20 years ago to a large European state run airline. OK, it was Lufthansa. For many years, Lufthansa bought Boeing aircraft and paid for them in dollars. Being state owned, loss-making and because at the time their was no European manufactured equivalent of the larger aircraft in their fleet, they resigned themselves to the paying for the Boeing aircraft in dollars. After all, much of the non-salary costs in the industry (planes, spare parts, landing fees, fuel) are fixed in dollars and the IATA fare structures were largely dollar based as well. So when a plane was ordered a few years in advance of delivery, the contract was drawn up and settled on delivery in dollars. When it came time to pay for the planes the finance director reported the deutschmark equivalent of the dollars spent and everybody went home happy.
Then one day some bankers paid a visit on the treasurer and suggested that as he had large forward commitments to spend dollars on airplanes he might like to transact a forward purchase of dollars to fix the cost in deutschmarks because there was a general feeling that the dollar would strengthen, ebven though it would be a change from past practice. The treasurer listened to the bankers and fell for their smooth talking, but being a cautious German, he decided that he would only hedge half of the exposure.
I know what you are thinking, but no, the dollar did indeed strengthen and the partial hedge was effective in saving the airline millions of dollars. When the day came to tell the board about the money that had been spent on aircraft, the treasurer accomapnied the finance director to the meeting and explained about the money that had been saved through the hedging strategy.
"But what", replied various board members, "about the unhedged dollars? We have lost millions by not hedging all of the dollars". And they fired him.
Moral #1: Currency hedging is all about deciding where you want to be and fixing that position. There will always be another position that would have had a better payoff.
Moral #2: Germans have no sense of humour. They shouldn't have fired the treasurer, but simply cut his salary by 50%.
Wednesday, 8 April 2009
The approval ratings of Austrian rapist Josef Fritzl have fallen below Gordon Brown's according to a Daily Mirror YouGov poll published today which suggests that Brown would win a 20-seat majority at the next election if the Conservative Party were led by Fritzl.
Just over 7% of those polled said they were satisfied with the prime minister’s performance, compared to 3% for Fritzl, and 11% for burglars. Brown must hold an election by June 2010 or declare himself Lord Protector.
The imprisonment and rape of his daughter may be taking a toll on Fritzl's approval ratings, particularly among women voters, the survey found. The Prime Minister scored higher than Fritzl on law and order and family values, though voters trusted Fritzl more to manage the economy.
Brown, who repeatedly raped the British economy during a horrific 12-year ordeal, has seen his approval ratings fall below Nigerian spammers and dog arsonists, though he retains a narrow lead over the Liberal Democrats.
Lloyd Blankfein, Goldman Sachs' chief executive called for an overhaul of bankers' pay yesterday. Mr Blankfein told fund managers in Washington that some industry decisions on pay looked "self-serving and greedy" and called for future changes.
Mr. Blankfein (2007 bonus: $70m, 2008 bonus: nil) said that senior executives should be paid mostly in deferred stock. Bonuses should be clawed back from underperforming bankers, the Goldman (share price fall in 2008: 58.4%) executive (let's say it again to hammer home the point, 2008 bonus:nil) added, without a hint of irony.
The Financial Crimes suggests that the board of Goldman Sachs might like to consider a different business model. Many firms in the past have operated very successfully on the basis of a partnership. This means that the risks in the business are borne wholly and exclusively by the partners who are executives in the business. It focuses the mind wonderfully.
This morning's government "pwned media" (the BBC and the Independent to be precise) enlighten us that Mr Brown has pledged to aid economic recovery by 'building a greener Britain' .
Trials of electric cars, a roadside network of vehicle-charging points and incentives for environmentally-friendly carmakers are among planned measures, but Mr Brown told the Independent there was scant room for further fiscal stimulus.
He went on to say that green energy will create 400,000 jobs, a figure as much picked out of the air in the same way as his $5 trillion global financial stimulus last week. Don't get me wrong, electric cars are great. I love the Wrightspeed X1 (an Ariel Atom Lithium Ion deathtrap on wheels), and Tesla is making cars that look and feel like real cars. We don't need massive subsidies for green technology, but we would do well to emulate the German and just-about-everywhere-else system of feed in tarifffs. These don't have to be massively expensive, but a fixed minimum tariff and a guaranteed priority dispatch means that small project develeopers have a strong hand to play when they negotiate against the electricity companies. At present they get kicked from pillar to post by the large energy companies with the crummy ROC's - no price guarantees and no fixed term - so they can't get finance because all of the banks and funds have decamped off to the safer waters of German, French, Italian and Spanish projects. London is still the centre of European environmental project finance, but all the deals are on the other side of the channel.
Anyway, back to Brown's claims about non-existent stimuli and jobs. I remember the days when we called this lying. It fills me with as much confidence as claims by the government after WTC/911 that there were about 700, well 600, 500, 400, 300 and eventually an ever so quietly mumbled 72 British dead, although I would say the real figure is actually 48. It all depends what you mean by British, although I concede the government didn't have much wriggle room over the term "dead". At the time this troubled me greatly, and now I am beginning to see why.
If you put somebody in charge of a country, a company or any great endeavour, you want them to have a grasp of the situation, an appreciation for reality and an ability to run a back of the envelope calculation and come up with a meaningful answer. I have no idea whether Brown's $5 trillion fiscal stimulus has any basis. At $900 per person in the world I suspect not. Most people in the world don't earn that much in a year, and most of the money that has been spent so far is not stimulus but wound dressing. As for the 400,000 jobs, Brown doesn't say whether these are additional or replacement jobs - a job manufacturing electric cars may simply replace a job manufacturing petrol cars, and in the long term I would expect fewer car manufacturing jobs because electric cars are much simpler (no fuel tank, ignition, carburettor, alternator, petrol engine, smaller gear box, no crankshaft, probably no clutch etc).
So is there any basis for this 400,000 job statement? Probably not, but it is just another number thrown out by a dishonest politician who neither knows, cares nor understands its accuracy.
Tuesday, 7 April 2009
I have never been a fan of the asset management, wealth management, whatever you want to call it industry. The premise of the investment manager is as follows:
"You Mr. Investor have a lot of money, and I, though I have less money than you, am actually better at investing than you, even though that might seem hard to believe because, as I said, I have so much less than you."
"Nevertheless, because you are so busy and have so little time to read the news wires and crunch numbers, I will do it for you, but instead of being paid according to the time and resources I dedicate to the task, you can pay me according to the value of funds that I manage for you. That way I get to be more profitable simply by adding new clients with no extra work at making investment decisions."
"But I don't expect you to just pay me for the service that I offer. No, in order to incentivise me to actually succeed in my endeavours, you will agree to pay me according to the return on your investments, say 20% of any return over a stated benchmark."
"But since you will appreciate that as well as being dynamic and creative, I also have a cautious side, I will ask you to measure my performance not so much against the actual return you make, but against the performance of the market in general and also against the performance of other fund managers. In practice this means that you pay extra for my skill and judgement not because I am good at my job, but because I am not as dumb as the next guy".
So who falls for this crap? Well, quite a lot of people actually because Andrew Cuomo, the New York attorney-general, on Monday filed civil fraud charges against the hedge fund manager Ezra Merkin, alleging he channelled more than $2.4bn to Bernard Madoff’s Ponzi scheme in exchange for lucrative fees.
The move is the second action in two weeks against one of the feeder funds that sent billions of dollars to Mr Madoff, who pleaded guilty to one of history’s biggest investment frauds. Mr Merkin, a leading figure in the New York charity community and former chairman of financing company GMAC, of steering money from charities, universities and non-profit organisations to Mr Madoff and being paid about $470m in fees for his three funds.
Hang on a minute there. $470m in fees for $2,400m in investment? Merkin passed over $2,400m of client money and Madoff paid 20% of that money back as commission, and Merkin didn't bat an eyelid? He really thought Madoff was so good at investing that he could give the market a 20% head start and still earn enough to pay management and performance fees to Merkin and Madoff? What do you think?
So what of Ms Horlick, who as you may remember won our Financial Crime of the Year Award in 2008, not for investing with Bernie Madoff, but for crying foul when Madoff was accused of fraud. Investment managers are supposed to know what they are investing in. That after all is why they are paid (see above). But if Merkin was paid 20% commissions by Madoff, how much was Ms Horlick paid for delivering her clients' capital?
Monday, 6 April 2009
2.7% more? More than what? I think we could accept a deficit that was 1/30th of a previously announced figure. No, what the BBC mean is it is higher than the previous figure by 2.7% of the value of GDP, and the difference is about £39 billion, which is about 50 or 60% higher than previous forecasts.
Way to go BBC, but why stop there? Why not give us the figure as a percentage of another totally irrelevant figure? Let's go with the total net worth of China, the United States and Saudi Arabia, and then you could come up with an increase of 0.0001%, which we can all forget about.
Saturday, 4 April 2009
Mr Brown repeated a claim at the IMF that that 90 per cent of $14,000bn of world trade is financed by trade althoough this is disputed by trade economists at the World Bank, who point out that the original research from which the figure comes suggests trade credit and cash finance the trade. Much trade is also within companies and so not reliant on trade finance.
More importantly, what Brown omits or doesn't understand is that much of this trade for oil and other commodities is transacted by cash backed letters of credit, which has nothing to do with the export credit agencies which finance exported capiyal goods over the long term.
In the former case a buyer puts cash in an account at his local bank and that bank issues a letter of credit which is presented to the buyers bank together with all of the paperwork for the sale of goods. The seller's bank takes the risk of settlement on the buyer's bank, but nobody is taking a risk on the buyer because he has aleady put up the cash.
In the sort of credit arrangement transacted by the ECA's a foreign buyer, perhaps supported by his own government gauarntees, is granted a long term (up to 10 years) line of credit to finance the purchase a new exported capital goods from the ECA's country.
Brown appears not to understand the difference.
Friday, 3 April 2009
The BBC has been fined £150,000 over the row about phone calls made by Andrew Sachs and Jonathan Ross and Russell Brand.
Ofcom say the fine reflected "the extraordinary nature and seriousness of the BBC's failures" and the "resulting breaches" of its code. The BBC said it accepted Ofcom's findings and added that the material "should never have been broadcast".
But hang on a moment. Who is paying for this? It is the license payer who is getting £150,000 less spent on programmes that it has already paid for. So having had their collective intelligence and sensibilities insulted by Mr Brand, Mr Ross and the management of the BBC, license payers have to pay for the privilege.
Thursday, 2 April 2009
- $500bn for the IMF to lend to struggling economies
- $250bn to boost world trade
- $250bn for a new IMF "overdraft facility" countries can draw on
- $100bn that international development banks can lend to poorest countries
But no agreement on fiscal stimuli.
But read carefully. It is an "additional package", but not necessarily additional funding. Let us start with the "$250 billion to boost world trade over two years". This is nothing more than the existing export credit guarantee facilities that have been in place for years (ECGD, Coface, Hermes, EXIM, JEXIM) that finance almost every exported Airbus and Boeing airplane, German power station and major export project. At $125 billion a year that is no more than is already on offer. The catch with this finance is that to get it, an importer has to buy export capital goods and fund the balance (usually 15%-25%) of the cost, so most of the available finance doesn't get used.
So how is this different from what was available in 2008, 2007, 2006? It isn't.
Moving on to the extra $100 billion of investment by the multilateral development banks. They don't borrow from governments, they borrow from the wholesale markets, so the additional $100 billion is coming from the markets, not governments, but only if the markets want to lend. All that has happened is that their mandate to borrow and lend has been increased, but this will only happen if they are presented with suitable projects and the wholesale markets provide them with the funds.
And the IMF money is $250 billion more than the IMF asked for, so why are they getting $250 billion more? The answer is that they are not getting any extra money, but simply being permitted to print extra SDR's (Special Drawing Rights), which the IMF may sell to member countries for real money if they want to. But of course there is no obligation on any IMF members to buy the SDR's, so it is a bit like a bank with lots of unsold travellers cheques sitting in the till.
And what of the other $500 billion of IMF funding? Well that is just an increase of an aspiration for amounts that G20 countries will subscribe to the current round of funding, a bit like when the vicar doubles the target of village church roof repair fund. Sadly, nobody has reached for their cheque book this time except for the man from the Chinese takeaway who has been trying exert some influence in the parish. The Japanese manufacturer on the edge of town chipped in $100 billion last November and there is a promise from Brussels for €75 billion ($101 billion or £69 billion), but that is all history and nothing new.
Mr Wong's $40 billion (which incidentally he has not confirmed) is a lot less than his Braziliam neighbour says he should be paying if he wants a seat on the parish council, but it is the only new real money in the entire $1.1 trillion programme. The rich Americans and the Saudi have promised nothing but have noted the higher target. The rest of the $500 billion is smoke and mirrors. Still, no tax payers were hurt in the preparation of this communique.
Meanwhile, the deluded Gordon Brown has a notion that there will be £5 trillion of fiscal stimulus coming out of this, not that anyone has agreed any such thing, it's just a number he has picked out of the air. No doubt we will hear this number repeated ad nauseam in the next few weeks. "It must be true. It's in the G20 communique".
We have only just got used to the word trillion in financial terms, but already Labours spin and deceit has reached trillion dollar size proportions.
But hang on a minute, the buyback extinguishes 100% of the face value worth of Tier 2 capital, because these so-called equity-debt hybrids were previously counted as part of the banks' regulatory capital.
"Oh no", say the regulators (well the FSA mostly), "we don't count that hybrid paper any more. Only the real McCoy equity like the stuff we keep telling the banks to raise and then ponying up ourselves really counts."
"But hang on", the private shareholders might well say, "this sub debt looks as though it is sort of equity-ish, because it is still out there and trading at a discount to face value. We have paid over the odds for hybrid debt for the last 15 years on the understanding that it counted as part of our regulatory capital, and now after all these years you tell us that all extra cost was pointless? How do you explain that?"
"Err, um... April Fool?!?!"
Dominique Strauss-Kahn, the head of the IMF, says world leaders at the G20 summit are ducking the critical issue of cleaning up the toxic assets poisoning the banking system and risk prolonging the worst global recession in generations, reflecting the long-held position of this blog.
The fund's experience from 122 banking crises suggests "that you never recover before the cleaning up of the banking sector has been done". The same is true of the clean up of US S&L's, Japanese banks and every other similar crisis.
Mr Strauss-Kahn's warnings were echoed by Mario Draghi, the head of the Financial Stability Forum, the new body of regulators, finance ministers and central bankers. "The main thing we need now is to implement a sense of transparency where we can put a credible floor to the bank losses".
Amen to that.
Wednesday, 1 April 2009
Mark Carhart and Ray Iwanowski, managing directors and co-heads of its quantitative investment strategy team, have left Goldman Sachs after large losses at Global Alpha. It seems that the gurus of "new finance" watered down their pure alpha product with a bit too much beta.
If the language of Stochastic Volatility Models is all Greek you, I recommend a little Emanuel Derman.
But here is the cute part: the deal would be 60-70% financed by a loan from Barclays, which will also receive warrants worth 20% of the equity in the buy-out. So Barclays only reduces its exposure to the business by £1 billion, but increases its capita by £3 billion less X% of £2 billion (where X is a number picked by the FSA from time to time).
But hey Mr Varley, why stop there? Call me with a loan offer for 100% funding and I will buy the business for £6 billion. I will even give you warrants worth 90% of the equity. You keep nearly all the upside and you get twice as much regulatory capital increase. Surely that is an offer your shareholders can't refuse, no?
In the real world, everybody would club together (about £500 each) to buy back the papers and put the cost through on expenses. Client entertaining doesn't seem to work with the Fees Office, but "pre-printed stationary" would be worth a try.