>>>They whispered…

“Our trust in US Treasuries is absolutely unshakeable”said the Japanese Finance Minister Mr Yosano-san from Lecce

“I am hinting at this now so that nobody asks in half a year or so whether I was blind and whether that wasn’t an issue in international discussions”said the German Finance Minister Mr Steinbruck from Lecce, on whether some European countries may have their sovereign rating cut

“In good shape” found the US $ the Russian Finance Minister Alexei Kudrin, always from Lecce

“We are rocking and rolling” teased the BRICS their established counterparts, commenting on the fact that all important macro-economic indicators point that they are the first to recover from the crisis

“100 percent sure that U.S. prices may increase at rates close to Zimbabwe’s gains, and the U.S. economy will enter hyperinflation (because the Federal Reserve will be reluctant to raise interest rates)” is investor Marc Faber; Zimbabwe’s inflation rate reached 231m% in July ‘08

“Wall Street seems to maybe have a shorter memory about how close we were to the abyss than I would have expected” said President Obama while announcing the brave new world of financial regulation and oversight

“The panic’s hasty retreat should not be confused with robust recovery” said Fed’s Warsh

“It is an abuse of power because (Prince Charles) is not willing to debate…anyone but he would have been shown the door. We should examine the ethics of this situation. Someone who is unelected, will not debate but will use the power bestowed by his birth-right must be questioned” Architect (Lord) Richard Rogers said following the private royal correspondence between the Prince of Wales and the Qatari prime minister (commissioner of Lord Roger’s Chelsea project) that torpedoed the project

>>>Figures of the week…..

$767.9 billion, the amount of U.S. debt that China holds

$68 billion, the amount of TARP money that JP Morgan ($25 billion), Goldman Sachs ($10 billion), Morgan Stanley ($10 billion) and 7 other Banks repaid to the US Treasury; ‘thanks for the help but with all due respect do back off now’

15, the percentage of Europe’s power needs that will be supplied by the planned Sahara desert solar plant super-farm that Siemens/RWE/E.ON/Munich Re & Deutsche Bank are proposing to build

-17% p.a., the slide in Russian industrial output -the seventh consecutive decrease- during the country’s worst economic crisis in a decade

2.2% p.a., the rise in UK consumer prices, showing that UK inflation slowed less than forecast in May due to higher taxes and the weakness of the pound

234%, the 2008 profit for the Black Swan Fund of 36 South Investment Managers Ltd; the company is now raising money for a new hedge fund , betting that government efforts to pump money into economies will result in hyperinflation

>>>We whispered…..

With the summer poised for a dramatic come-back in London after a few years of absence and a devilishly well-timed gardening leave about to start, CapitalWhispers will more often sport sunglasses and be spotted in parks and beaches rather than trawl through the markets and the weekly developments. Nevertheless we won’t be completely lazy. Maybe in a bit lighter mood, so don’t be shy to check for updates!

Until next time, we leave you with a few questions:

1. Will we have dismissed the traumatic events of the last 12 months before the end of this year?
2. Is Oil heading to breach $100 before winter, or will it plateau at $70, as the markets seem to be suffering a post-rally hang-over?
3. Will VW taste  sweetest revenge and take-over Porsche?
4. When does recession end and hyperinflation begin?
5. Will F1 be broken up?
6. Will Andy Murray be the first Briton (Scot) to win Wimbledon?

nikosgi

 (<—- big bang)

I am sure you heard the loud pop today as the new CDS protocol came into effect. Called the ‘Big Bang’ because of the cataclysmic effect it will have in the credit derivatives world, it is meant to address some of the (potential) shortcomings of the old documentation, trading and settlement standards and pave the way to a better regulated, more transparent, less risky, more polite and god-abiding marketplace. Of course the timing was not great, since the Easter long w/e and general wait-and-see-what-the-hell-is-going-on-with-this-equity-rally attitude in Credit means that not many were interested to try the new thing on..My personal opinion is that the whole thing could have been communicated a bit better, with a bit more style, colour, celebrity endorsement and so on. Some pretty cheerleaders would have also been appreciated, but hey…times are tough.

On another front King Lloyd Blankfein showed why he leads Goldman Sachs. The man is cool. Very smooth indeed. I liked the way he handled the -obligatory these days- rigtheous-sign-bearing-protesters/interrupteurs. Top Notch Mr.B.

But more than anything I liked this part of his speech, addressing the new compensation standards in banking: ”..employees should be paid an annual salary plus deferred compensation, based on performance…employees should have most of the compensation in deferred equity, and executive officers should be required to retain the bulk of the equity they receive until they retire”. 

An observation:

• I would love to lock these stock prices asap! Here is the beauty of the man’s mind (and I mean this). Regulators, politicians and the general public hate bankers so much and at the same time are so short-sighted and -let’s admit it- a bit naive, that will welcome these non-cash payment as a huge victory. GS employees, on the other hand locking their bonus at historical low stock levels will be laughing in 3 years time. Being the King, Mr. B with his 100m bucks comp over the last 3y is lauching already (honest, look at the pic)

We close in a much more sombre tone, with our prayers to the so many horribly unfortunate people of Abruzzo that suffered and are still suffering from the terrible earthquake that hit them. We hope that they will be able to rebuild their lives as much as possible and as swiftly as possible.

Finally, an unusual for CapitalWhispers message regarding the uniformed thugs that have stricken down Mr. Tomlinson during the G20 London riots. Hang these lying cowards high

What a week for Europe.

The PIGS are so passé nowadays. Well, almost. Ireland CDS is still trading at near record levels, Spain is widening ominously, Portugal & Greece are waking up to the fact that crisis is global and particularly unforgiving for bloated and lethargic states. Italy? well, there is always the Beckham-Milan- LA Galaxy love triangle/drama.

But the real party is in the centre of the continent!

The Austrians have always been a nation looking eastwards, trying to expand its sphere of influence to the former eastern bloc countries. A good startegy, during the boom times. Nowadays though, being exposed to these same countries is not regarded kindly by investors (and speculators alike). The credit of Austria and anything austrian has plummeted this week. Some fast money are in play here, but there are legitimate worries too. And if Austria is being ‘punished’, you can easily guess -if you haven’t noticed- what is happening to european emerging/converging assets, currencies...you name it. Speculating on the depreciation of the eastern european currencies feels like the next bubble.

There is high drama in the heart of Europe.

Beware though!

Nasty as things may look, do not place all your bets without sizeing up the Euroland response first. Monsieur Trichet and the ECB may at times appear un peu mal a la tete, so to speak, Frau Merkel may pretend to be a hard nut on the outside (she’s a Barbie really as we know now), but in the end we would bet that no-one (good, bad or aspiring member) in old Europa will be allowed to fall, not without a big fight from Brussels/Berlin/Paris.

(the eagle-eyed among you have noticed the absence of the United Kingdom-this is not because GB is free of issues- FAR from it. But the Brits like to play alone; And since I have vested interests in London avoiding a return to Dickensian misery, may a miracle happen before it is too late)

So, where do we go from here? I leave you with a pertinent, colourful, albeit a tad pessimistic view:

‘Don’t you want to know how we keep starting fires?
It’s my desire, It’s my desire, It’s my desire

Fire in the disco
Fire in the disco
Fire in the taco bell
Fire in the disco
Fire in the disco
Fire in the gates of Hell

The Gates of Hell’

(Electric Six)

Firstly, let me apologise for the drop in article supply, but it has been frantic lately..corporates not doing great, banks and other FIs giving the market heart attacks every now and then…let’s just say that after figthing the fire all day at work I prefer to unwind afterwards rather than revisiting the ugliness.

A tip for other fellow practicioners: going on shooting sprees on GTA in a fictional NYC setting seems to do the trick. Watching House on tv also works. Cooking -chopping vegetables in particular- is soothing as well. And so on, you get the idea.

So….I’m happy for C for two things: I have a nice paper profit and I have a job (i don’t work at C, but I consider the correlation to be very high). Other than that, the world is not doing great (what a surprise) and things are getting gloomier by the minute. Some weeks ago I was being pessimistic after Circuit City run into trouble just before Xmas. Fast forward yesterday night, Woolworths and MFI have gone under in the UK. There are many other businesses feeling the noose tighten.

There is no credit. Banks don’t know what their assets (many are so illiquid that there is no observable price to mark them accurately) or their liabilities are (they have undrawn revolving credit facilities in place, lines traditionally reserved as a last-resort from struggling corporate borrowers, and they do not know how much of those will be drawn). Bond issuance, loans etc have ground to a standstill. Equity issuance? Nice one! That doesn’t leave much money inthe system. Deleveraging is the word of then end of 2008 and will be an even bigger buzz word in 2009.

What does this mean? Corporates will struggle to refinance. Some will go under. Investments in new factories etc will be shelved. People will lose their jobs. Retail spending will not pick up without buyers. Neither will houses. Auto companies anyone? Put on top of that amazing levels of public debt (8% of GDP for the UK) as Governments do all they can -and are now playing the last card of quantitative easing- to keep the patient alive. We applaude their actions. But also keep in our mind that all this balooning deficit will need to be financed afterwards -if we make it. So the best stance for me is to be debt-less and cash-rich. There will be many opportunities to buy assets for very low prices. Houses, cars, businesses, ships, stocks - whatever it is you usually buy. Keep your ammo dry, pay off your debts and bargain-hunt.

To close, the mood at the moment is very aptly conveyed in the following anecdote: I attended the annual conference of a big US bank this week. Last year the event was held over 3-days in Monaco. This year it was a low-key 1d event held in London, in a converted Methodist Church. And if that’s not enough for you, the last time the event was held in Monaco, was before the crash of the tech-bubble.

best of luck!

nikosgi

p.s. A thought that came-up during a chat with a friend: Greece: shipping, tourism, agriculture, personal debt

At least the weather in London treated us to a superb weekend. The parks are full of people, slightly underdressed for the season, who are either genuinely oblivious of the clouds gathering over the markets or choose to be so.

US lawmakers are expected to vote the bailout bill through tonight. The combined political gravitas of Presidents past and future, Central Bankers & the press are weighting hard on their shoulders. The markets staged a mini rally on Friday in anticipation. So we are clear out of the woods now, aren’t we? I apologise in advance for my slightly pessimistic views on the subject and urge you to click here if you do not wish to read my ramblings.

I do think that not passing this Plan is not an alternative right now. At the same time I view this as the end of the beginning (as Senator McCain very aptly observed at the Presidential debate). There are quite a few observations and even more arguments why it is so.

Pop (news) Charts

About a year and a half ago, market professionals were already discussing about the housing bubble and the effects thereof on credit products, the economy and corporate defaults. A few were predicting grave dangers on financial institutions’ balance sheets and profitability. Even fewer were weaving disaster scenarios of a systemic meltdown and were predicting that the over-leveraging of the previous years has stretched the system close to or beyond its limits and soon some brokers, banks, insurers were heading down. Sounds familiar, doesn’t it. Well, at that point in time, they were dismissed by most as raving lunatics and their research analysis was brushed aside while exchanges and Bank stocks were breaking records. Up to 12 months ago; then more and more started to wake up to the possibility of some serious -but not life-threatening- illnesses lying ahead.

Let’s fast forward to today…Credit Crunch, broker/dealer, subprime, Chapter 11, liquidity crisis, insolvency, etc have entered the Pop vocabulary. The common man and woman on the street, be it in NY, London or Athens, talks about the systemic credit crisis and how it may affect his/her livelihood. Popular websites. magazines and newspapers feature main articles on Wall Street events. They advise people what is the threshold of their bank savings guaranteed by the State, in case the bank goes under. There are reports of wealthy individuals withdrawing cash savings and buying Treasury bills instead. Google hits on the Texas Ratio, a rough & not terribly accurate measure of the amount of liquidity risk a bank is facing as a result of over-leveraging,  are soaring. Top 10 Texas ratio charts are compiled. I don’t know about you, but personally I get the shivers because it sounds like the beginning of a hysteria. A confidence crisis paired with a liquidity crisis is catastrophic for any Bank..

Bankers Mistrust

Banks (and all other FIs & agencies) have become something between a joke’s punch line and public enemy #1. They are in the wrong (although they are not alone, everyone is too, including you and I), they are vulnerable and they are never going to be the same again. The landscape is changing but that is not necessarily good news for everyone. We experience the (re-)birth of the Superbanks, with massive market share & lobbying power. Think of JPM swallowing BSC, WaMu (and counting), BAC swallowing MER, C ready to absorb WB. Across the pond, Lloyds TSB has acquired HBOS, controlling a third of the market! Granted, Banks are weak today, but they will bounce, and the consumer may have to deal with monsters then. Unfortunately, this is a crisis and there is little room for luxury, i.e. inefficiencies are natural. But there is a far more serious issue starting with the Banks, that is the main reason for my pessimism.

Closed for business

Banks have no-option but to de-leverage. In fact they got so badly burned already and the public uproar is so big, that new, wider and more stringent Regulation will make sure that they do that. I am pretty sure that we will have excessive de-leveraging for some time; just like a pendulum after a shock, there is going to be some time until the situation stabilises.

So why is ti bad?

Before the credit crunch, economists were warning of a recession at the gates of the USA and Europe. I think we are still going to experience it, but the crisis will make it much harsher:

• the banks are very choosy about the use of their capital now. Hey, right now they don’t even lend to each other. They’d rather preserve capital for the difficult times ahead than use it to extend credit to business and individuals. After all, if recession is indeed around the corner, they need to shore up their reserves as much as they can. So, there will be very little credit flowing through the system, meaning:
  • very few and expensive corporate lines of credit
  • high borrowing costs for the said corporates if they prefer to tap the bond markets instead
  • no private capital interested any more in supplying said corporates with credit
  • high borrowing costs for individuals, prohibitive in some cases

• Unemployment has hit very high numbers both sides of the Atlantic. So, add to the above cocktail an oversupply of skilled hands leading to:
  • lower wages
  • greater job insecurity
  • less disposable income to buy cars, houses,…even less expensive products
  • no pick-up for the housing market
  • reduced revenues for the corporate sector

This is a vicious circle: initiated by the lack of credit -the lifeblood that makes the capitalist system work and grow- leading to higher corporate and personal defaults and feeding itself this way.

What about the State, surely it is the Knight in shining armor to save us from all this nonsense?

Not necessarily. The governments and central banks have already spent billions (heading to the trillion mark in the States) to support the system. As a result their ammo is running low and they do need more, if they are to attempt to kick-start growth in a stagnant economy (because of the points above). One option is to print some more USD, EUR, GBP etc. So then we can add inflation to the mix and introduce the stagflation nightmare.

Therein lies, dear reader, our pessimism for the immediate future, notwithstanding the sign-off of the bailout plan. Basically more funds are required to flow into the system to restart the capital machine. More than USD700bn. It is not very clear where these are going to come from…And if this is not enough,

The next housemate voted for eviction

Hedge funds. Hm, not so cool anymore. It is not good to be depending on leverage and liquidity for your business model when there is none around. Those banks and brokers that have so far failed learned it the hard way. HFs face a pretty grim quarter(/year). It is rumored that on the day short selling was band by the FSA the daily P/L for the London funds was -GBP1bn. I bet you, no VaR model predicted that, no matter what the confidence interval they used. Add on top of that reduced performance in a difficult market, investor anxiety and lock-in period expiration and you get redemptions. Mr rich-investor-guy says: ‘I gave you this money to generate some superior returns. It worked well for some time and we both got richer. Now markets look awful, macro is awful, regulation seems to be getting stronger, government intervention messes up your strategies. Can I have my money back now please (this is not a question)’

I am curious how many small funds will default, since they do not necessarily have the funds to pay for redemptions -leverage, bad returns remember? There is a strategy potentially..pretty scary too. Short the market when it is allowed again, go long oil, short USD. You get the picture. Result: spiralling market crash.

Europe : ‘the final countdown’

Monday is going to be interesting.

Bradford & Bingley , a British building society seems to follow Northern Rock into nationalisation. Interestingly they were still airing ads during the Singapore F1 on ITV, while the BBC was explaining to its viewers & readers that the first GBP35k they have in savings with B&B are guaranteed by the Treasury.

Fortis is struggling, to put it mildly. It is attempting to sell itself or part of its assets (ABN) to however is interested. The bank is suffering from the idiotic, ludicrously expensive purchase of ABN Amro’s Dutch and Asset Management units last year. For a Bank that had not serious exposure to ‘toxic’ debt or bad operating model (borrow liquid short term, invest illiquid lonf term), to perish because of that is astonishing.

And a final comment for the Greek market. In Greece, the markets usually react to developments from the USA and the big european ones. The population is highly leveraged through credit cards and loans. The housing market has grown many times over the last years (a bubble, yes). I hope that the reaction to the coming events will be less on the emotional & more on the rational side. That is essential, in order to avoid sell-offs and serious pain.

Thank you for bearing with me until the end. Apologies for the pessimistic tone. I believe that it is better to think these possibilities early on and prepare for them, rather than put on our rose-tinted glasses. Either that, or it’s because I was listening to the new Metallica album.

“Today is the day of fear and capitulation“; that’s how a trader in London described the market pulse on Tuesday 16th of September 2008, almost exactly half a year after the sudden death of Bear Stearns.

Some had not even fully digested Bear’s demise. Fannie Mae & Freddie Mac? Hey, no-one had come to terms with the fact that Lehman had ceased to exist at the early hours of Monday. Merrill Lynch being taken-over by Bank of America -for about half what was its market cap in May- was still waiting to be processed. And while traders, investors, central bankers and politicians were struggling to keep their head above the water, three letters were looming in everyone’s mind: AIG

-”Could it be possible that Paulson & Bernanke let the insurance giant follow Lehman to Chapter 11?”

-”Well, they let Lehman go under, didn’t they?”

-”But if they do, they take the system with them! Everyone has huge counterparty exposure to them!”

Numbers were flying around and simple maths sufficed to convince those at trading floors around the world that -even if half of those were right- no-one was safe. This was the moment of fear and capitulation. There was no institution too big to fail. Suddenly even Citi, trading at levels not seen since 1997, was not immune. Mentioning Citi and default risk in the same sentence, without laughing, is scary.

But the worse was yet to come. Hank & Ben buckled under the pressure from the free-falling market and announced a USD85bn rescue plan for AIG, effectively putting it in a state-sponsored Chapter 11-like cocoon. So that should be good news, right?

If Tuesday was the day of fear, Wednesday 17th of September was the day that the asteroid heading towards Wall Street -and any street for that matter- could be seen with a naked eye. The AIG rescue did not change the mood. Goldman Sachs, the last bastion of the Street, was down by 25%. Morgan Stanley was free-falling, exceeding -40% on the day. I was seriously contemplating the ‘exit scenario’. Retiring (a bit early) and becoming a free-range farmer back home. Gold was the only asset performing well. Half-joking, half-seriously I was recommending gold bars as the only safe haven. Oh, and not in any Bank vault, but kept at home -you never know..

At that point capitalism was on the brink of collapse. The system was looking like a house of cards ready to tumble down. The destruction in stock market value was driven by the seizure of the capital markets. There was no credit available. The interbank market had dried out completely, with the Fed and other central banks around the globe unable to kick-start it with massive injections of liquidity. The TED spread (3m Libor – 3m Treasuries, an indicator of the willingness of banks to lend to each other) exceeded 300bps, surpassing the record set in the crisis of 1987. The taps have been closed. There was no credit flowing in the system. The capitalist engine was about to seize. We were officially in deep, deep trouble.

At that point, there was not much of an alternative. I was arguing to a trader friend of mine that there was no moral hazard issue any more. That is, using taxpayers money to prop up the system by effectively bailing out private institutions, was now justified. Under normal conditions, such an abuse of public funds, especially when used to salvage banks that were showing billions of profits and multi-million bonuses to employees a year ago, would be a scandal. But the conditions were far from normal. The system was fighting for survival and the alternative was just too bad. As I argued, if Citi and the rest of Wall Street were to go down, the Main Street and John & Jane Doe would go with them. What will you get if hundreds of thousands of people become unemployed, have to liquidate assets, default on mortgages, loans, credit cards? What will happen to consumption? Who will give capital to corporates to grow? What about a super recession and a deepening the housing crisis? How much will USD fall down? How many more redundancies and corporate defaults will follow?

I suppose, Paulson, Bernanke -hey even Bush- realised this and had no option but to throw all their resources to stop the avalanche:

• ban naked short-selling (until October 2nd, although the date may be extended if required)
• throw more billions of liquidity to prevent banks & even money-market mutual funds going under
• propose setting up a Mega-Fund to buy all impaired assets at an estimated cost of USD 700 billion from any US-domiciled financial institution and hold them to maturity
• Global central banks followed suit with injections of liquidity and short-selling bans in the case of the UK

So where do we stand? What is next? Are things rosy from here on?

The global markets certainly gave a collective sound of relief on Thursday and Friday, staging an almost vertical recovery under the combined effect of technical short-covering (the shorts had to buy shares to cover their naked positions thus boosting prices) and sheer optimism mixed with bargain hunting among the battered financial (and not only) stocks. 50%+ returns were registered over two days of trading! But, keep calm and stay focused; there are many questions to be answered yet:

• Short-selling will resume sooner or later
  • The ban was -arguably- necessary to avoid the derailment of a very fragile market. However, a well-functioning market requires that such a ban is lifted as soon as the conditions permit. Short sellers, under normal circumstances, are a healthy force, keeping under-performers in check
  • The massive boost in stock prices over Thursday and Friday leaves them at a vulnerable position if there is no serious solution to the current crisis. That is, if nothing substantial happens, the current levels of stocks are attractive to short-sellers, so a further sell-off is possible
• There are no infinite funds available to central funds -especially after the pledged USD700bn
  • USD700 billion is a whole lot of money. Not even the US government has infinite funds; some already argue that the AAA rating of US debt needs to be sense-checked following the endless outflow of public funds
  • This money may eventually hit the economy; such a commitment will leave little if any extra funds to be spent towards spurring growth at a time that it is much needed. That is very likely to lead to a slow or even recessionary 1-2 years with a knock-on effect on the duration of the housing crisis, potential spill-over to consumer credit, corporate results and even defaults
• The USD700bn Fund needs to be ratified by Congress
  • The plan is just a plan right now. The Congress needs to approve it. It needs to approve it fast. Remember, there are a lot of Democrats there and political games may be played. To add extra spice to this last point, this is an election year. The Republicans cannot afford to have any more turmoil in the markets -let alone any big defaults- a few months before the elections. Having said that, there seems to be a unison in this subject as both camps realise the urgency of the situation

So where does all this leaves us? Well, if anyone claims to know what will happen next, he/she is either a time traveller or a lunatic. As I write this, the Dow trades 200 points down for Monday’s open. There is unease regarding the speed and nature of the salvation plan. There are questions on the moral hazard of such a plan and demands that it is accompanied with transformational regulatory updates that will change the current banking status quo. There are question marks on the future of Goldman & Morgan Stanley. I believe that, despite Morgan’s bravado that it still contemplates remaining independent -boosted by the surge of its share price on Friday- there is going to be a merger early this week (Wachovia?). Goldman may also be forced to merge (Wells Fargo?) if the downtrend restarts. If such a sell-off happens again, what is left to stop it?

And here I stop, because frankly 1,400 words are more than I had intended to write. But, hey, let’s start the debate and open the forum for views, comments and local color!

•nikosgi