10 Dec 2009

Productive vs Unproductive Lending

Interesting comment by Bob Prechter about US Banks growing lending to consumers at the expense of lending to business.

9 Dec 2009

Legality of Windfall taxes doubtful

We all wonder about the absurdity of some claims about discrimination, unfair treatment etc but one thing appears to be clear: the practice of putting windfall taxes on certain individuals just because they earn their living in a certain industry will no longer be meekly accepted now that deference to authority is no longer existent. We will watch with interest how the courts deal with law suits brought against discriminatory taxes on incomes earned by workers in the banking (and related?) industries. The Pre-Budget speech by Alistair Darling is certainly good news for one section of the UK population: the lawyers!

PS: Tax on bankers' bonus 'would infringe human rights' (The Times) You read it here first!

21 Nov 2009

BayernLB: State-owned Banks no solution

The sorry state of Bayern LB demonstrates that public ownership of banks is no solution to the problem posed by banking supervision. While a large part of the BLB's losses are due to the sub-prime credits generated in the US a not insignificant part is due to mistakes made by management - in particular the ill-fated acquisition of Hypo-Alpe-Adria just at the beginning of the Credit Crunch in Spring 2007.

20 Nov 2009

Democracy and Bank Bailouts

The lack of democratic control is an all-pervasive defect of modern societies. More and more decisions are made by technocrats and a political class that writes its own rulebook without reference to the citizens. The regulation - or its lack - of the banking system is a perfect example. Just imagine what a system would have to look like that is subject to democratic control. Every subsidy would have to be approved in a referendum. Does anyone think the ginormous amount of taxpayer money would have been approved? We all know the answer and as a consequence the banking system would have to be completely overhauled and made literally bombproof. It can be done - if the will is there. But it is not possible to guarantee every penny that is deposited with banks. There will have to be a split into super-safe banks (strictly controlled, offering low but safe custody of money balances) and a larger sector where the value of deposits can fluctuate in emergencies (similar to the value of any bond).

19 Nov 2009

London: hellbent on destruction

Not enough that the town is still - despite the collapsing Pound Sterling - expensive, that public transport may not get better in a time span that is relevant for those now working and living in the City, that taxes and regulations become more and more Kafkaesque by the day, the legal system is doing its utmost to destroy the image of London as a free and liberal environment by catering to absurd claims for discrimination and harassment. The way to riches seems to lead through the (suitably named) employment 'tribunals' which can at best be described as kangaroo courts at worst as worthy successors to the trials of the inquisition.

18 Nov 2009

Patent for Investment Methods

News that Research Affiliates has been granted a US patent for an indexing methodology that selects and weights securities using fundamental measures of company size, such as dividends and sales should set alarm bells ringing in investor circles the world over. While the ruling only affects the United States there is the danger that US law gains ex-territorial reach or gets copied by other legislatures.
Granting a patent on an investment methodology is akin to granting a patent to the first person that has opened a self-service supermarket. It is nonsense and makes a mockery of the true purpose of patent protection for technological and medical innovations.

4 Nov 2009

Windfall Profits Tax - arbitrary and discriminatory

Some Commentators are toying with the idea of imposing a windfall profits tax on British Banks. We are not trying to defend what some may consider the indefensible but a few caveats merit consideration: if British Banks are to be taxed then all banks in the UK would have to be taxed. How would it affect the foreign banks with large operations in the UK? If they are not taxed this would distort competition. Banks such as Barclays and HSBC would also have every incentive to relocate to tax-friendlier regimes. And most importantly: in this age of heightened awareness of 'human rights' - how can a special tax on a single industry be justified? if a discriminatory tax such as a windfall tax on banks is imposed it would clearly be the duty of the bank's managements to take this case to the relevant Courts - in particular the European Court of Human Rights. And if banks can be taxed at will, what about football players, entertainers, lawyers and anyone else who one day catches the attention of freely-spending politicians?

2 Nov 2009

EU competition policy arbitrary

When a major bank states that the EU may force 'unforeseen' asset sales alarm bells should be ringing. We have repeatedly stated on these pages that the competition policy is highly arbitrary and undemocratic. The people in charge (usually lifelong members of the employment club exclusively staffed by lifelong politicians or members of think tanks or universities) have no democratic mandate and are only subject to minimal and ineffective outside control. There are no proper procedures in place that make regulation transparent - otherwise how could it be that there could be unforeseen asset sales? If the rules would be clear every observer could predict exactly what measures would be taken to ensure that competition exists in the banking sector. Instead there are discriminatory rulings straight out from Central Command. We hope that the managements of the banks concerned have the guts to take every available legal step to delay the effect of measures that would harm their shareholders.

1 Nov 2009

Ostentatious Consumption - good or bad?

Goldman Sachs' Lloyd Blankfein has asked his employees to avoid being seen as big spenders. The jury is out whether this is just a cosmetic PR gimmick or whether Goldman itself is in some doubt about the justice of last years highly selective bank rescues funded by the public. But however that may be, today's headline that a hedge fund manager is splashing out a reported £60 million for a super yacht may not help the alternative fund management industry in its effort to convince European legislators to enact more lenient industry regulations.

25 Oct 2009

Breaking up big banks? There is a middle-way

A middle way to safeguard the utility component of banking and isolate the riskier parts of the business would be to require all investment banking and securities dealing to take place in separately capitalised and regulated subsidiaries. Cross-subsidies not only pose the risk of cross-contamination with risk they also make it difficult for management to run the business as the profitability of individual business lines is not always easy to assess.

21 Oct 2009

New Credit Suisse compensation structure

It remains to be seen how the growing complexity of compensation schemes such as the one published by Credit Suisse will affect the ability of the sponsoring organizations to attract, motivate and retain talent. Given my experience, the annual discussion of expected and realised bonus allocations has already taken up a lot of nervous energy among the staff when things were much simpler. The new layers of complexity open the door to more arbitrary decisions and distracting political infighting. Most employees have zero influence on decisions taken by top management (often by the CEO alone) and cannot be expected to suffer from the impact of these decisions when they turn out to have been wrong (which may be a long time after the decision has been taken and - even worse - a long time after they were awarded their very conditional compensation).

19 Oct 2009

Mayor Boris still does not get it!

One nearly has to feel sorry for Goldman Sachs - though I would hazard a guess that the people there would not give a fig for our sympathy. But when even politicians such as London's mayor Boris Johnson who do not really have a say in banking regulation start taking aim at banker's bonuses we have to take a stand. Fact number one two and three in the sorry saga of the credit crunch is simply the total failure of banking supervision. And Boris and his fellow-travellers in the political class are barking up the wrong tree. All the politically-inspired interventions in the banking crisis poured oil on the fire and if anything made matters worse (apart from being arbitrary and discriminatory in their treatment of the various banks involved). And even more regrettable is the failure of the 'International Community' to agree on improved and effective rules and regulations.

EU wants automatic exchange of Tax information

The EU develops more and more into a bureaucratic and undemocratic monster. The latest news is the 'demand' for an automatic exchange of tax information about foreign bank customers between member states. The EU was originally declared to be an economic union but the main instigators behind the 'project' always intended this stated purpose to be the Trojan horse that would allow their statist fantasies to be imposed piecemeal on an unsuspecting population. Napoleon and Hitler certainly would have been well-advised to try this approach rather than go the route of military conquest.The raison d'etre of a state is that the citizens of that state enjoy full sovereignty over their affairs. Delegating powers to a foreign authority - especially one that they have no control over - is a grave violation of that principle. In the case of taxes there is no reason to inform any foreign government in any way. The whole purpose of putting money into another country is to remove it from the sticky fingers of the home government. The host country than in turn can tax the affected funds in any way it wishes. In the interest of tax harmony it should not favor foreign investors in any way and give them different terms than those offered to home country investors.The home country of the funds concerned has in turn full authority to tax the money as long as it is in the country. If it so wishes it can create an 'Iron Curtain' and prevent money from leaving the country.Just imagine what 'full information' would have meant in past periods: would the Dutch have 'informed' the corrupt French regime of Louis XIV about the investments that prudent French citizens had made in Amsterdam, or should the French government of the 1920s have informed the thuggish Communist government of the USSR?Europe prospered BECAUSE there was no uniformity of government and religion had finally given way to a civil regime after centuries of struggle. How much longer can the control freaks in Brussels be allowed to destroy the fruits of these battles?

18 Oct 2009

Paradox of Banking reform

News that some investment banks are on the way to make record profits this year and as a consequence will be able to pay very high bonuses to their staff highlights a paradox: Governments and Regulators so far have been unable to agree on any meaningful and coherent approach to banking reform but at the same time are unhappy about the results of their inaction. Businesses that are successful are encouraged to do the opposite of what they are supposed to do in a market system: to maximise their profits. The result is a muddle where firms may avoid paying out the bonuses they think their staff are due. In a roundabout way this may well benefit the affected staff in a positive way as the higher level of retained profits will lead to higher share prices in the longer term. This will allow staff to realise higher profits on their share options and shares.

17 Oct 2009

Goldman Sachs - Investment Bank or Commercial Bank?

The answer to this question may be obvious but since autumn of last year Goldman Sachs has switched to being a bank. And the problem with Goldman now being a bank will really be the following: how can the firm justify the banking status when a disproportionately large amount of revenues/profits is derived from trading or advisory work? How much did Goldman really lend to business and consumers during the past 12 months it is a bank? In addition, how much longer are banks allowed to conduct non-bank business, e.g. own other businesses (even if it is via the conduit of private equity - managed directly or farmed out to other PE firms).

12 Oct 2009

Implicit government guarantee for banks

Niall Ferguson refers to the the implicit government guarantee for financial institutions deemed 'too big to fail' (Daily Telegraph, 6 October 2009) in a way that seems to imply that managements managed their business recklessly because they relied on being baled out if things did not work out well. We would dispute that managements were that devious and prefer the alternative explanation that - like most market participants - a lot of factors combined to overwhelm managements. A lot of mistakes were made and warnings were ignored but were few were really able to predict the extent of the panic that finally pulled markets to the brink of the abyss. What we are now really worried about is the fact that very little progress is being made in reforming the financial system in a coherent and speedy way.

18 Sept 2009

Who should work in financial services?

An article in today's Wall Street Journal is a timely reminder to repeat the career advice we often give when asked the question: 'Should I pursue a career in financial services?' The key point we always make is that you should not choose your profession based only on the expected level of compensation. During the past ten years too many people were lured into City and Banking jobs based on the reports about extremely high salaries paid to some lucky professionals. But this exceptional period may not last forever and spending your working life doing a job that you are not really passionate about is a life of misery. When I started to work with a stockbroker I did it because the stock market was already one of my hobbies during High School and I would have worked in the Securities business even if salaries were just on a level with most other skilled professions.

16 Sept 2009

Lloyds TSB - Neelie does it again!

This is a full-time job - keeping up with the arbitrary rulings of an unelected bureaucrat in the twilight years of a career spent sailing through various public sector jobs! Mrs. Kroes even finds time to chair Poets of all Nations in her spare time. But on a more serious note we think that the latest threat to Lloyds TSB - while maybe justified in principle - is lacking any moral justification as long as no one (and we wait for contributions from any reader who can provide them) has given us an explicit explanation of the yardsticks that the EU Kommissars apply in their rulings. (see our earlier comment further down for more on this scandal).

15 Sept 2009

Employment Tribunals as job destroyers

The avalanche of employment legislation during the past 10+ years certainly has done nothing to make London - or the UK - a more attractive location for business. Blaming the EU does not wash as most of the legislation was home grown. A particularly vexing institution for employers are the employment tribunals. They can only be described as 'shadow' courts where normal standards of due process and above all common sense do not exist. While employees often can feel unjustly treated by their superiors and colleagues - and we would have a few stories to tell as well - the growing absurdity of the claims made by some employees can only be explained by a desire to abuse the tribunals in order to make a fast buck - or million in some cases. Young people just past the mark of 30 years claim to have suffered nervous breakdowns, be tormented by nightmares and claim to be unable for any work because of bad treatment they have suffered at work. No proper proof is needed if implausible accusations picked right out of a soap opera are taken at face value by members of the tribunal who are unaccountable and hold their positions thanks to the machinations of an inscrutable government bureaucracy. And best (or worst) of all - the accusing employee has no costs to bear, file a claim and let the system take care of the rest. We can only say - foreign employer, if you come to Britain, be warned!

IIR warns on lack of global banking rules

We usually view the opinions of the Institute of International Finance with a pinch of salt as it is a think tank and/or lobby funded by the banking industry. Yesterday's appeal to the participants of the forthcoming G20 meeting in Pittsburgh served as a reminder that one year after the collapse of Lehman and more than two years into the banking and credit crisis precious little progress has been made to forge a consistent solution to prevent a similar crisis in the future. We doubt that high-profile meetings will really produce more than pious sermons and suggest that a congress should be organised with the task to iron out a lasting solution. After all, the Congress of Vienna was also not just a photo-opportunity for the assembled dignitaries and the same can be said for the Continental Congress in the 13 founding colonies in America.

14 Sept 2009

BIS report: higher taxes on larger banks

A new study by the Bank for International Settlements (BIS/BIZ) suggests that large banks should be taxed at a higher level to compensate for the risk that they pose to the taxpayer. But I think that differentiating tax rates for of different size would open a can of worms - what is the right level of tax? what size is the cut-off point for different tax rates? A more simple way to restrict the trend to ever-larger banks would be to limit the (implicit or explicit) state guarantee to a certain amount. This would give an incentive to clients and depositors to spread their business around and lead to a more balanced industry.

11 Sept 2009

Neelie Kroes dabbles in bonus debate

We would have been disappointed if Neelie Kroes would not have tried to get involved in the debate about banker's pay and bonuses. After all, every bureaucrat has a natural urge to increase his power whenever and where ever the opportunity exists to do so. And even better when the taxpayer pays for you and the citizen has no chance to control your action. However, when judging the competence level of Ms. Kroes' department we always have to remind ourselves of the curious fact that while the department refuses to give detailed information about the background of its staff there are the portraits of the drivers on the website. Talk about high life in Brussels! Repeated requests to disclose the yardsticks that are applied during the investigation of competition cases have been stonewalled. So we do not expect that it will be made transparent what type of bonus and pay regulations will be applied in the case of banks that receive state support.

Change of guard at Morgan Stanley

As John Mack moves from the role of CEO to become Chairman of Morgan Stanley at lot of coverage will be given to his record at the firm after his return four years ago. I think that he has done a remarkable job given that his tenure encompassed the most challenging two years that any leader of a financial services firm has ever had to live through. The stock price of MS at one stage priced in a possible demise of the firm (the same happened to most other bank and broker shares) and was an inevitable exaggeration caused by a market panic. Structurally, however, Morgan Stanley suffers from the merger with Dean Witter ten years ago. One of the great advantages the main rival, Goldman Sachs, enjoys is the fact that the firm in all its history only ever pursued small add-on acquisitions. This organic growth solidified the company culture and created the opportunity to develop the firm's leadership without recourse to outside hires.

What is 'socially useless' banking?

Senior Bankers have recently felt compelled to contribute to the debate about so-called 'socially useless banking'. The key question would be the definition of what is or is not socially useful/useless. I think one could well leave the answer to the market. No one is compelled to buy supposedly 'useless' products, be they derivatives, hedge funds or - to generalise the problem - expensive luxury watches or cars. Common sense should be enough to settle the question. Unfortunately there are many ideologically motivated fellow travellers joining the discussion as it appears to be a good opportunity to pursue aims that have little to do with the problem (more state, more taxes etc)

9 Sept 2009

London Hedge Funds stay despite tax hikes

We would not celebrate too early and condone the long-term impact of higher prospective tax rates on London's standing as a financial centre. The effects will modify behaviour only at the margin and as taxes are admittedly not the only factor that is considered when locating a business the impact will be diluted by the weights businesspeople attribute to these other factors (legal and other services, infrastructure, quality of life, availability of skilled labor). The real danger is only that once a certain tipping point is reached decline can be very rapid and irreversible.

Ossie rallies the troops at UBS

Having undergone an interview with the taciturn no-nonsense Ossie Gruebel when he was the head of Eurobond dealing at Credit Suisse White Weld in the late 1970s I always carry the highest respect for him ever since. UBS is still a brand name that will make it easy for clients to forget the missteps of the past few years as long as they get the right service. Reading the memo that Gruebel penned for his staff of 70,000 I cannot help but think that maybe the staff numbers are still a little bit on the high side.

The Fed CAN monitor systemic risks

A senior fellow at the American Enterprise Institute argues that the Fed cannot monitor systemic risk as that would be tantamount to ask a thief to police himself. Without going into the details of his argument several aspects come to mind that would negate this judgement: until now the mandate of the Fed was not strongly focused on playing the role of a regulator of the financial markets and system. Instead, price stability and economic growth were given priority if not exclusive attention. That mistakes were made in this department cannot be denied (and they are partly due to the mixed message sent by the duality of the set targets). But that does not mean that the Fed could not be more effective if it is empowered to be a more forceful regulator. We would also hope that the Fed does not only monitor risk but will have the tools to prevent them in good time.

8 Sept 2009

Blueprint for Global Derivatives Market

Derivatives are in essence a bet on the price of the underlying asset. Economically they are a zero-sum game where the losing side funds the gains of the successful side. Like all bets the derivative markets serve to redistribute wealth minus the costs of running the market. As a consequence of the credit crisis reform of the derivative markets has moved to the top of the political agenda. This is not the place to discuss the role that derivatives have played in the financial crisis. But if more players are active in a market it can only be expected that moves above (and below) underlying value are exacerbated - despite the fact that derivative instruments are often claimed to help move prices back to their underlying trend. I do not agree that moving all derivative trading to exchanges is necessary to avoid bubbles and excessive risks associated with derivative positions as advocated by many commentators. For an new example see the paper just published by Deutsche Boerse. Instead, I think that higher capital requirements to support open positions will be sufficient to reduce the danger (real or imagined) attributed to derivative markets.

7 Sept 2009

Seven dwarfs - interesting comment from a Reader

Your post (Seven Dwarfs in Stockholm) is interesting in that it confirms the tendency to first blame others, the system etc when being held to account for behaviour. That type of self-righteous response never convinces anybody else outside the own group. The politicians' thrust may be crude and may have negative side-effects, but it is triggered by an apparent unwillingness of bankers to appreciate how others, society at large perceives their behaviour and its crippling effects on the financial system and the economy and to take responsibility for that. Your type of response will only make politicians more determined to ensure bankers will not be able to go the same path again and you will become more convinced of the stupidity of politicians. It takes us nowhere. A meaningful step forward would be made if bankers could say they appreciate the concerns of society and are willing to come with new responsible remuneration systems that also pay justice to the inherent risks ultimately born by society. If bankers could be transparent on how they go about this, engage in a serious dialogue with society on remaining concerns, then the need for blunt politically driven regulatory measures would evaporate.

Equal pay for Women - comparing Apples and Oranges

The unelected chairman of the Equality and Human Rights Commission has decided that the current debate about compensation in the (investment) banking industry is too good an opportunity to miss. He offers his five cents of wisdom in an article headlined 'Her City bonus is a fifth the size of his' leaving the reader in no doubt what the likely conclusion of this piece of reasoned argument will be. The sub header gives the game away: it carries the subtle threat inherent in all socio-babble propagated by socialists and assorted hangers on of the nanny state: 'We'll help the City to treat women fairly - or we'll force them'. (Does Mr. Phillips now use the royal 'we'?). It is too tiresome to discuss the details of this so-called 'study' as it is perfectly clear from the outset that an extremely detailed comparison between workers at exactly the same employment situation is required if one wants to isolate the gender impact on basic and variable compensation. It is ironic that the department regularly involved with recruitment and compensation is ofther predominantly staffed by members of the fair sex. So there is already a slender bias in favour of women candidates and employees in many organisations.

6 Sept 2009

Animal Spirits still alive in City

Anyone who doubted that the credit and market crisis of the past two years has put a lasting dampener on the animal spirits in the City of London will have received a great surprise when he opened today's papers. A respected analyst is reported to plan the launch of a new bank and a senior corporate banker is offering to buy loans off his previous employer at a substantial discount. The really interesting thing is that the analyst stuck to his negative view on some bank shares while theses shares experienced a stratospheric recovery and the lending officer was one of the main drivers behind the loans that are now causing major headaches for his former employer. That is chutzpah!

4 Sept 2009

Seven dwarfs in Stockholm

The seven finance ministers calling for strict limits on banker's bonuses in an open-ed article today (we spotted it first in a reference to Dagens Nyheter) do their intellectual standing no favours. If their collective wisdom only leads them to express crude judgements about the size of bonuses paid in financial services it is a sign of intellectual poverty. Rather than calling bonuses 'indecent' the ministers should concentrate on the causes of high bonuses. Otherwise their posturing lacks any credibility. Of course, we would agree that bonus payments in many cases are too high but that is due to lack of regulation, distortion in the competition and similar structural deficiencies in financial markets. Name-calling alone will not do as the same argument could be applied to compensation of sports stars, media stars and footloose international business men. Just remember that a certain Mr. Mittal is always listed as 'Briton's richest man' but it is unclear how much tax he pays in the country.

3 Sept 2009

Publish all details of stress-tests!

The news that the UK Treasury may ask the FSA to conduct a detailed stress-test on Lloyds-TSB before agreeing that the bank does not participate in the asset protection scheme and launches a share issue instead should serve as a reminder that the stress tests performed so far in the US and the UK have not really helped to improve confidence in the banking sector. Of course, the fact that the authorities claimed that the recent stress tests were satisfactory did help shares of banks to rebound but this was more due to the fact that markets simply realised that the governments would stand behind the institutions deemed to big to fail and not because investors really could see behind the official smoke-screen. If all numbers would be in the open investors could really draw their own conclusions and would probably have much more confidence in the viability of the banking sector rather than rely on the say-so of the regulators. The same argument can be made with respect to the rating process that would be to a large extent supplanted by due diligence conducted by the investing public.

2 Sept 2009

Less debt, more equity

Willem Buiter argues that the financial sector in most countries is too large partly because of the implicit government guarantee the sector, and in particular depositors, enjoy. This subsidy (in conjunction with the fact that interest expenses can be deducted for tax purposes) makes debt finance and saving in the form of deposits more attractive than investment and financing conducted in the equity markets. We think that a reduction of this subsidy would have the additional benefit of putting more companies on a more stable financial footing and stimulate the growth of business in general as start-ups and smaller companies in particular would benefit from the reduced attraction of parking money in supposedly safe investments.

A poisoned chalice?

Congratulations to Lloyd Blankfein, CEO of Goldman Sachs, on being ranked Number One on Vanity Fair's Power List. But maybe this is not the most opportune time to receive such a nomination, - however well deserved it may be.

Reading list for Insomniacs

The most recent Bundesbank circular about the regulation of market risk is a hefty 34 pages long, 4 pages more than a similar circular issued 2 years earlier. While some readers who are used to study regulations issued by the FSA or the Basel Committee may consider these publications the equivalent of a short story we still challenge all market professionals subject to these detailed bureaucratic prescriptions to go through the publication with a fine tooth comb. What a paradise for lawyers and nitpickers alike! Every sentence is in effect a rubber paragraph without any specific meaning. Time and again the word 'sufficient' is (ab)used to cover up a meaningless generalisation. As economic thinkers have predicted decades ago, any effort to subject the economy to planning makes it necessary to issue ever more detailed regulations and the final destination of the journey into the paradise dreamt up by socialists from right and left can be seen on a short trip to Cuba. (It MUST be paradise for the as there are no banks worth the description to be found there!).

1 Sept 2009

Caps on Banker's bonuses - Devil is in the Detail

When Gordon Brown tries to garner support for a limit on banker's bonuses one is reminded that talk is cheap. But the devil is in the detail: who decides? what is the right amount of bonus? what will be the side-effects? (certainly an increase in base pay, if not in other fringe benefits)What is a bank? If payment is regulated at banks, will people and business not migrate to other areas of financial markets like brokers, investment banks and hedge funds? (not to mention the likely migration to emerging financial centres that are outside the global G2/G7/G10/G20/OECD cartel?

Welcome to the Inquisition

Trying to find the right candidate for any position is a difficult and arduous task in the best of times. The same can be said about the problems candidates face when looking for a new job. Things (nearly always) take longer than expected and we often remind both parties in the recruitment process that nothing is done until someone actually sits on a new chair. (And sometimes even that is premature as we have seen new appointees quitting after a short time). So the news that the FSA is putting extra emphasis on vetting the appointment of senior staff is going to complicate things further. What experienced professional will be happy to be subjected to a detailed and bureaucratic grilling by people he will rightly consider to be professionally inferior bureaucrats? So far we have not seen what criteria the FSA is applying during this vetting process and as it will forever be shrouded in secrecy confidence in the procedure will never be established. Firms where appointments are subject to this interference will be at a competitive disadvantage in the future, In addition, this is just another step on the paths towards the reduction of London as a financial centre.

30 Aug 2009

Lessons from Dresdner Kleinwort fiasco

The news that three more former employees are suing Commerzbank for the payment of allegedly promised bonus payments should serve as a reminder of the dangers of trying to build a financial services business by putting together a collection of senior professionals. The danger of the winner's curse that threatens the success of many a corporate takeover is a real threat. Staff that is hired too expensively is a drag on profitability and may also dampen the team spirit as those employees of less favorable terms might resent being in a second tier in terms of pay and job security. Cobbling together professionals with disparate backgrounds will never be a substitute for a corporate culture that has developed organically. As a consequence while we do recommend selective hiring of senior professionals to fill gaps in an organisations managerial line-up we strongly advise clients not too neglect the systematic development of their existing staff.

29 Aug 2009

Lehman - another eyewitness account

Larry McDonald has just finished and interesting book about Lehman. It just underlines that the all-purpose boards at best are an expensive form of consultant and at worst useless decoration. Would you like to have the ex-CEO of a brezel manufacturer discuss the details of your forthcoming brain surgery with your doctor? As we argue at another place we think that non-executive directors without any experience in the business a company is engaged can more cheaply and effectively be used in the form of consultants. That way it will be much more transparent if the can make a meaningful contribution to a company's progress.

19 Aug 2009

Banks need to be protected from themselves

The farcial comedy surrounding the attempted takeover of Continental by Schaeffler proves that the old saying is correct: the more you owe the banks the more you can dictate to them. The banks should never have agreed to advance billions of Euros to support Schaeffler's attempt to gain control of Continental AG in the first place. Even in times or normal credit markets the leverage ratio was just too high and made no allowance for a deterioration of the economy and/or markets. Lending cannot just be done on the basis of assuming the best of all worlds. As the upside is limited in any credit exposure (to par value) lenders have to build in worst-case scenarios and err on the pessimistic side. Regulators must assure that banks are conservative in their lending practices and should limit loans to prudent ratios in relation to the equity capital available to creditors.

Bank rescues distort competition - BIS Study

The unprecedented support for the banking system has so far cost the 11 leading economies about Euro 2 billion in subsidies and/or state support/guarantees according to a new study published by the Bank for International Settlements.

17 Aug 2009

Banking Pay - a better solution

Politicians and Media Pundits in several countries are currently discussing ways to control pay in the banking industry. Discriminatory laws aimed at the industry will only lead to more and more detailed interference in the market and create all sorts of counterproductive distortions (The Cuban Economic Model as final destination). A much more effective - and simpler - solution would be to focus on implementing much-needed banking reform. Controls on balance sheet risk and exposures would do much to prevent a future bank crisis and also limit the fallout if a bank fails - as has to be allowed to happen in a free enterprise system. A side-effect would be that commercial banking would become less profitable and this would automatically limit 'excessive' compensation of banking executives.

13 Aug 2009

Hell-bent on destruction

The self-servicing top tax court in the UK (ominousely called 'Special Commissioners') has just issued an order to the foreign banks located in the country to hand over details of accounts held by British citizens in their foreign branches or other operations. Apart from the question whether these foreign operations are legally entitled to pass on any information we wonder what this threat (and we expect protracted legal wrangeling) will do to damage the standing of the City of London as a financial centre. The endlessly growing power of politicians over the life of citizens used to stop at the border of the respective country, now we seem to move into the era of 'Ueber' Socialism - at least in some countries. Given that taxes on individuals and companies are comparatively less attractive in the UK than in the past we expect the relative standing of the UK's financial markets to decline. The tipping point is still far away but it is getting nearer with every ill-considered move by the politicians and their appointees.

7 Aug 2009

To split or not to split?

One of the many possible remedies for the banking crisis is the separation of traditional banking (lending and deposit taking) from investment banking, in particular trading for the bank's own account. While the industry naturally is against Glass-Steagall Mark II there might be a half-way solution in that the large 'universal' banks are allowed to keep their investment banking activities but only if they are held in a completely separate legal entity that has its own funding, risk management etc. In case of failure of the investment bank the traditional banking unit would effectively be ring-fenced.

6 Aug 2009

Better Regulation for Banks

A sensible article by Katsunori Nagayasu, President of Bank of Tokyo-Mitsubishi UJF, encourages my view that the solution to the recurring banking problems is the application of simple and common-sense regulations. Funding should be matched with deposits as should be maturities on both sides of the balance sheet. Loan values must be conservative - no more 100% mortgages for homebuyers or property speculators. People who have to review the application of these rules don't need a PhD in advanced mathematics, they might not even need more than common sense and a solid grounding in the three R's. The question of excessive remuneration of banking executives would also take care of itself as the banking industry would have solid but more subdued earnings.

5 Aug 2009

Figuring our Goldman

While working at GS quite a few years ago I used to joke and say that we were ahead of the competition for a simple reason: we were the one-eyed man among blind men. Nothing has changed and it is amazing that all the smart people in the competing firms and the media have not yet figured out the simple ingredients in Goldman’s recipe for success - after 25+ years!

3 Aug 2009

UK probes structured-finance products

'The U.K. is probing sales of structured products amid concern that bankers may have knowingly sold complex assets based on flawed valuations' (Wall Street Journal, 3 Aug 2009).
This shows why regulators often remind us of the Keystone Cops. They should be aware that anything you sell is 'worth' less than what you sell it for, for example - how much is a Rolex 'worth' (adding up the raw materials etc). So this inquiry is posturing more than sound analysis. Buyer beware is still the best deterrent and the effort to protect all consumers, investors etc is just relieving those doing the buying of their responsiblity to conduct due diligence

31 Jul 2009

Stolen Goods and Northern Rock

When a City Commentator states that the tripartite system of regulation in the UK 'undoubtedly contributed to the collapse of Northern Rock' (Daily Telegraph, 31 July 2009)one has to wonder why a 'powerful' committee of MPs wants to grant more powers to a failed regulator such as the FSA. All bureaucracies have an inbuilt incentive to increase their powers. Some people just want to boss around other people while other people want to enjoy harvesting the fruit of labor performed by others. Politicians and regulators combine these bad character traits in a toxic mix that pervades all their actions. As Richard Fletcher suggests in his comment 'allowing the FSA free rein to expand...could also endanger London's position as one of the leading financial capitals in the world'.

1 Jul 2009

Fantasy World of Eurocrats

We challenge anyone to get a clear answer from Neelie Kroes with respect to the rules that are applied when she and her lightweight team decree what Banks and Governments are expected to do in order to conform to their whimsical ideas of a competitive banking market. Anyone can see that her department employs two drivers for the occasional excursion into Euroland. This is a nice human touch as it shows that all staff are equal but the sad thing is that most of the other staff look like fresh out from university and utterly unqualified to decide the fate of Europe's banks (and economies). In what fantasy world do these Eurocrats live when they think that major banks can shrink dramatically while the economies are still on the tipping point to a prolonged recession? Try to get a curriculum vitae for all the staff listed on Kroes' website if you can. We did not have much luck doing just that.

17 Jun 2009

UK government support for City lacklustre

It is amazing that lightweight EU member Ireland can force renegotiation of EU laws while the Prime Minister of a large member state and the state with the most important financial markets of the EU appears to be powerless to protect the national interest during the negotiations for yet more centralistic and statist control advocated by the EU Commissars and assorted hangers-on.

12 Jun 2009

Better Credit Research one of the lessons of the Credit Crunch

The Credit Crunch that we experienced during the past 2 years has produced – apart from financial pain the world over – an unprecedented amount of hot air. We are talking about the countless statements by politicians and self-appointed pundits in the media and academia who have proposed various measures of reform.
Rather than waiting on the outcome of the ‘Global Dialogue’ we suggest investors rely on common sense and focus on improving their own protection against the recurrence of a similar disaster.
Credit Research should be high on the priority list of every Chief Investment Officer or Senior Investment Professional.
We are not surprised to see strong demand for seasoned credit analysts and expect this to continue. Fortunately the convulsions in the financial markets have also resulted in a number of good quality analysts becoming available through no fault of their own.
Should you be looking to upgrade or expand your credit research effort we would be happy to discuss this with you or someone in your organisation.

9 Jun 2009

Wrong time to raise levels of base salaries

Several Investment Banks have decided (or are investigating) to increase basic pay of employees in compensation for (expected) lower bonus payouts in the future. We think that this rush to boost the fixed costs of the business may be pre-mature. A recent report predicted that global investment banking revenues will drop by about a quarter this year. Revenues from the Securities Business may also not hold up after a quite profitable period at the beginning of 2009 and revenues from Asset Management will remain under pressure. Then there is the political aspect as the industry has just been saved from itself at great expense to the taxpayer. Even the well-run companies can only thank governments as without the bailout they would have been gone down together with the weak banks in the financial tsunami of 2008. So it may appear that already well-paid professionals get compensated for the loss of bonuses that may not be there (or might be much reduced) at the end of 2009.

15 May 2009

Tax, Regulation and Financial Centres

A cursory comparison of personal income tax rates would cause us to cry out: 'Go East young Man!' for the tax rates in Hong Kong and Singapore are certainly mouth-watering. Young professionals in particular have not yet put down strong roots and can afford to be venture-some, - and the really big hitters have the financial means to make it painless to relocate to friendlier tax regimes. Add to this headlines such as this one: 'FSA threatens City with higher fines' and the case for the long-term decline of the City and Europe as a Financial Centre becomes stronger.

28 Apr 2009

100 percent mortgages - AGAIN!!

Do some Bank Managers never learn their lesson? One of the banks that was in the middle of the sub-prime crisis has reportedly started to offer 100 per cent mortgages again. The offer by HBOS - which is now part of Lloyds-TSB - may only be available to existing customers who have reached the end of their deal and find their equity wiped out. So HBOS may not have much choice but it still leaves a sour taste in the mouth.

21 Apr 2009

Less Credit and more Equity is the way forward

Contrary to many commentators we do not think that the solution to the present economic crisis lies in restoring lending to unsustainable levels. If anything, business will have to de-leverage and the source of finance will have to be equity capital. In this context it would be useful to device a mechanism that prevents 'Private' Equity Capital from financing 'pass-the-parcel' transactions. Venture Capital should again be what it was originally designed for: a source of risk capital for new and growing enterprises.

Russian oligarchs and Western homeowners

BarCap's Rudloff calls for end to debt 'war' in Russia (FT, 21 April 2009). Many homeowners facing foreclosure would like to get veteran investment banker Hans-Joerg Rudloff on their side as well. Today he urges borrowers and creditors in Russia 'to forget about trying to enforce claims through legal action and focus on the effective restructuring of debts and assets'. We do not think that oligarchs merit a more charitable attitude than homeowners and if anything would have thought that the current crisis gives an opportunity to redistribute assets to more disserving owners.

18 Mar 2009

Bank of England Governor in a swipe at the FSA

I think this short quote from Mervyn King's speech to bankers speaks for itself: 'A system in which it is easier for a large bank to expand and then destroy its balance sheet than for an individual to open a bank account has lost focus'

10 Mar 2009

Danger of trying to buy market share

A short press article ('As Merrill Lynch sputtered, it made a big bet on Brazil', Wall St Journal, 10 March 2009) reminded us of the danger of trying to buy market share in any business by throwing money at top people working for the competition.
Not only is it far from certain that the executives lured away will flourish in a different business culture at the new employer. If their recruitment can only be effected at high - or even exorbitant - compensation levels it may also be an indicator that the business one tries to enter has already reached a peak and may no longer offer the growth prospects one is looking for.
Selective hiring of top individuals at top compensation levels may be worthwhile in isolated cases. However, employers should take great care before committing themselves to a large financial outlay and conduct extra due diligence rather than getting carried away or 'falling in love' with prospective candidates.

Banking Secrecy - Enemy Number One or convenient scapegoat?

During the recent past politicians and lobbies of all persuasions seen to have found a new 'Enemy Number One' - Banking Secrecy and linked to this Tax Havens large and small.
Politicians and their paid servants, the regulators, have failed miserably to prepare for the current global financial crisis. For example, the Bank of International Settlements has spent roughly 10 years to produce a report of nearly 1000 (!) pages but this Basel II framework did nothing to prevent the debacle that has afflicted major banks around the world.
So it appears to be nothing more than a desperate search for scapegoats when politicians attack banking secrecy and tax havens. They are not the cause of the current crisis!
Not so long ago there was a time when anyone could walk into a Bank in Austria and open a bank account without presenting any form of documentation. No one asked what their name or address was. You paid in your money and you received a bearer passbook that was the only document you needed to claim back your money. In his teenage years the author even opened a number of passbooks on the same day. That way he pocketed a small amount of money that the banks put into new passbooks as a reward for opening the account.
Was crime any higher as a consequence of lax banking regulation? Was corruption rampant? Not at all. Since the (US inspired) crusade against banking secrecy gathered speed both crime and corruption have - if anything - increased. The world certainly does not seem to be a safer place.
Ironically, much crime and corruption can be traced back to ill-conceived legislation: the war on drugs, arbitrary taxes (tobacco, alcohol), questionable regulations and subsidies (agriculture, trade tariffs, soon to be exceeded by fraudulent carbon trading), limits on prostitution. All these laws and regulations may be well-intentioned but they provide a fertile field for criminal activity and usually are counterproductive as well as costly to the taxpayer and citizen (who most of the time get no say on respective laws).
If countries want to close down tax loopholes they can avail themselves of a solution that is easy to administer and leaves the precious privacy of all citizens untouched: Legislators can decide to impose taxes at source. If politicians are really only interested in reducing the amount of tax that in unpaid this solution should be suffice. Anything more intrusive indicates that the authorities are really interested in invading the private sphere of the individual and increase the control that the state already has over the citizen's lives.

Danger of trying to buy market share

A short press article ('As Merrill Lynch sputtered, it made a big bet on Brazil', Wall St Journal, 10 March 2009) reminded us of the danger of trying to buy market share in any business by throwing money at top people working for the competition. Not only is it far from certain that the executives lured away will flourish in a different business culture at the new employer. If their recruitment can only be effected at high - or even exorbitant - compensation levels it may also be an indicator that the business one tries to enter has already reached a peak and may no longer offer the growth prospects one is looking for.Selective hiring of top individuals at top compensation levels may be worthwhile in isolated cases. However, employers should take great care before committing themselves to a large financial outlay and conduct extra due diligence rather than getting carried away or 'falling in love' with prospective candidates.

8 Mar 2009

Lloyds-TSB: Failure to heed the warning signs

Management has stubbornly refused to call off the acquisition of HBOS. The warning was on the wall in CAPITAL LETTERS and for all to see. We understand that leading a large organisation is a lonely job but that does not mean that executives have to be pig-headed to the extent that they doom their companies as Fred Goodwin had nearly managed to do. The defacto demise of RBS as a free-standing business should have been warning enough and no one can claim that the extent of the decline in financial markets and the world's economies could not have been foreseen last autumn. For an excellent analysis of this debacle read 'Brown cannot shirk the blame for Lloyds' (The Times, 9 Mar 2008). It is difficult to see how the Chief Executive and Chairman can remain in their posts.

25 Feb 2009

Shall we 'modify' away Wilbur Ross' wealth?

Shall we 'modify' away Wilbur Ross' wealth?
During the past few weeks the chorus of experts in politics, academia and business has become noisier by the day. Everyone tries to peddle his own personal solution to the credit crisis. What is being lost more and more is any sense of personal responsibility and accountability. Each and Everyone seems to be entitled to be bailed out by 'society' or the 'community' (especially the 'international community').
Today the American 'Billionaire' investor Wilbur Ross contributed his 5-cents worth of wisdom on CNBC by suggesting that it should be made possible to 'modify' the terms of all residential mortgages in the USA. Effectively he is suggesting that either the taxpayer or - more likely - the mortgage creditors gift a cheque to the homeowner (more likely only those that the rulers consider worthy of public largesse).
One has to wonder what Mr. Ross would think if the legislators and other experts would hatch the idea that his wealth could be used to compensate the losers in the credit crunch? This idea may sound outlandish at first but there is no material difference to the idea of taking away agreed interest payments from those who lent through mortgages in good faith.

21 Feb 2009

Madoff - could he have done it alone?

What is the similarity between the Fritzl case in Austria and the Madoff scam? In both cases it is extremely unlikely that those close to the perpetrator were ignorant of what was going on around them.

10 Feb 2009

More on Mark-to-Market

See also: Former FDIC Chairman William Isaac on some historical perspective on mark-to-market accounting: Market Value Accounting Crippling Economy (American Spectator, 12 Nov 2008)

8 Feb 2009

Regulators too close to Lobbies

Reading that Jay Levine, the former head of Royal Bank of Scotland's US Capital Markets Business, has made substantial donations to Chris Dodd, the head of the US Senate Banking Committee, makes one wonder who is more at fault. Accepting money from someone who you are supposed to police must be as questionable as channelling money into the coffers of your regulators. (Sunday Times, 8 Feb 2009)

5 Feb 2009

Failure of Accounting Reform

An interesting article supports our view about the problems associated with Mark-to-Market: Jesus Huerta de Soto: Financial Crisis, The Failure of Accounting Reform (Mises Blog)

15 Jan 2009

Death Spiral in the Banking System out of Control?

After having watched the Banking System all our adult life (and some more) we are the first to admit that managements have committed serious errors of judgement. This just reinforces our view that hiring the right people is the most important job for all those working in positions of responsibility in any bank of other financial service business.
But this particular banking crisis is characterised by certain features that have a tendency to push institutions further down the path to ultimate destruction. For instance, hardly anyone seems to focus on what proportion of the loan books are actually delinquent. Instead, there is constant talk of 'toxic assets' most of which turn out to be mortgages that just happen to be under water to different degrees. Nothing new to that. That has happened before and will happen again.
Instead, the markets, commentators and the authorities are completely enthralled by what can only be described as a 'death spiral' of weakening economic data and falling asset prices which drive 'market prices' down. The main culprit is the 'mark-to-market' rule that has been designed to keep accountants, auditors and theoreticians in academia happy. Never mind that these 'prices' are created in thin markets and pushed around by speculation. They are accepted as gospel truth even though it is a well-established fact that all markets overshoot - on the way up and on the way down.
As a result prices for so-called 'toxic' assets are divorced from reality where assets may be somewhat impaired but are still in the major part serviced by debtors. The difference between these two levels of valuation is the difference between a banking system that is in trouble but able to work its way out of a hole and a banking system destined to hit the buffers sooner or later.
In addition, respected analysts such as Meredith Whitney (CNBC, 14 Jan 2009) paint a horror picture where banks are supposed to look at economic data such as employment or home price trends and mark down their books according to some spurious economic forecast. That assumes that economic forecasting is an accurate science - a heroic assumption if there ever was one!
The latest fashion among commentators is the reference to the 'Swedish Model' of bank rescue. As no one seems to realise what is driving the death spiral they jump to the conclusion that all bad assets should be written off against shareholder equity. Given the logic of 'mark-to-market' that would mean that ever-declining 'market prices' would set the benchmark for these write-offs. Naturally, the authorities - who must share a major part of the blame (banking was always heavily regulated and the authorities were if anything supposed to prevent bank runs) have to step in and nationalise the institutions.
Ironically this outcome would not even mean that lending can resume as usual. In our impatient age politicians, the media, academics and the world of business seem to have forgotten that credit cycles are a major - maybe the major - force behind economic cycles. After an extended period of excess credit creation it is inevitable that a period of credit contraction will follow. Banks have to rebuild balance sheets and the same applies to business and consumers.

12 Jan 2009

Incompetent Regulators

'Catastrophic interaction of governmental and managerial incompetence that led to the collapse of Fannie Mae and Lehman Brothers' (Anatole Kaletsky, The Times, 12 Jan 2009)