Short Selling - Argument in favour

Arturo Bris argues (Wall Street Journal, 29 Sept 2008) that the ban on short sales of financial shares should be lifted. We think that the argument is not convincing. The real question that would have to be asked is: what would have happened to the shares of financial companies if there would have been no short selling? The level of short interest that Bris quotes in the article is truly enormous (19.1 % of outstanding shares in March 2008!). We just cannot accept that this amount of short selling did not have a substantial influence on the level of share prices of banks and investment dealers.
That the market in shares where short selling has been banned after the Lehman collapse is now less liquid should not surprise anyone. It is only to be expected - and maybe desired - that there will be less trading when short sellers are out of the market. They are likely to be the most active market participants - some of them are reputed to have turned over their portfolio up to two times (!!) EVERY DAY.
For an interesting detailed rejoinder to Bris' argument you may wish to read a post on www.deepcapture.com. The blog also exposes the incomprehensible - not to stay stupid - attitude of the SEC with respect to abusive short selling.

Lenders still don't get it

InBev is borrowing $45 billion to finance its $52 billion acquisition of Anheuser-Busch. How can the banks justify this sort of lending given what is happening in the credit markets? One has to wonder on what planet management lives.

Third Runway at Heathrow

Every time I see the expression 'City Grandee' I must cringe as it immediately produces the image of a worthy but not very effective person that may well be past his prime. The recent newspaper ad in favour of another runway at Heathrow Airport that was sponsored by an assortment of businesses created a similar effect. Worthy but way off mark. If the price mechanism rations traffic at Heathrow there should be more than enough capacity to cater for business passengers. In the age of higher fuel costs and limits on pollution there is no need to accommodate cut-price shopping flights to New York.

Credit is always scarce

With respect to the current credit crisis Ann Pettifor claims (Financial Times, 30 Sept 2008) that 'there are no intrinsic reasons for the scarcity of capital'. The quote is taken from Keynes' General Theory. The quote may make sense if read in context but it makes little sense when applied like this to offer a solution to the credit crisis. It just panders to the public's general desire for free - or nearly free - credit when the economic problem is just the opposite: allocation of scarce resources to their best use. Interestingly, when trying to find out more about the author we spotted that in 2006 she wrote a book entitled 'The coming First World Debt Crisis' - now that might be an interesting read!

Rational Lending reappears

Lenders refuse mortgages based on City bonuses. Is sanity finally returning to the property caroussel?

Should Private Equity Funds be allowed to buy into Banks?

Desperate times call for desperate measures. That seems to be the thinking behind discussions whether or not it should be made easier for Private Equity (PE) firms in the US to invest in regulated banking firms.
But given the fact that Private Equity essentially is a way to generate returns through leveraged investing in assets it appears illogical to allow Private Equity players to invest in banks at the current time.
The present credit crisis has demonstrated that the banking sector is more than others dependent on the confidence of investors and depositors. Excessive leverage is one key factor that contributed to the current malaise in credit markets. If it would be a pre-condition for allowing Investors access to bank shares to invest on an un-leveraged basis how would they make money? How much could PE Investors improve the management and profitability of banks without recourse to financial engineering? Do they really have superior management skills to offer?
The ultimate investors in the private equity funds could easily invest directly in the shares of banks directly on an un-levered basis - and save themselves the high fees at the same time.
And how committed are Private Equity firms to their investments? Their 'funds' are constructed in such a way that each investment is held in a separate legal entity (often domiciled in offshore tax havens) which allows them to walk away at any moment from any investment that does not 'perform' as expected.

Lehman: Short Raiders 1 : Regulators Nil

That is the score in the game of chicken played between the band of short sellers intent on pushing another Investment Bank over the brink and the regulators - in particular the SEC - who fiddle while Rome burns.
Last July the SEC imposed a ban on 'naked' short selling of bank shares which in our opinion was much too weak a measure given the pervasiveness of short selling and the fire power that the raiders have at their disposal. Naked short selling was illegal in any case, so to finally enforce it was just a pathetic gesture.
Financial Institutions are critically dependent on public trust as ALL banks would be bankrupt in a second if all depositors and creditors would demand repayment at any point in time. There was a time when short selling was limited to a small group of sophisticated investors and to market professionals such as NYSE specialists. Now this cottage industry has morphed into a monster that threatens the stability of whatever target the 'shorties' decide to take aim at.
Recent trading volumes in the shares of Lehman Brothers are so enormous that they cannot be simply the result of long-term shareholders deciding to sell. Activity in the shares is more akin to the frenetic buzz normally limited to betting shops. The SEC so far has failed to call an end to this and we fear that the taxpayer will have to pick up the bill when the music stops.
This shall not be construed to be a defense of the actions of Lehman management. That huge bets were made on property-related holdings is testimony to a serious lack of discipline on the part of top management.

Wipe out Fannie Mae Equity and profit handsomely!

Anyone who still has doubts about the ability of the authorities to deal with the fall-out from the sub-prime credit crisis would have been convinced otherwise if he had the chance to watch Bill Ackman pontificating about his proposal to 'recapitalise' Fannie Mae.
It is amazing that CNBC gives a fund manager who happily admits that he is short the common stock and subordinated bonds the platform on which to promote his financial self-interest at a time when the American Banking System (and British?) experiences a severe crisis of confidence.
At least the FSA in the United Kingdom has made a first step towards the restoration of fair play in the markets by making the practice of short selling shares in companies that are in the process of a rights issue subject to (very weak and ineffective) disclosure rules.

Short Selling is a valid practice - but like any good thing it becomes a danger if carried to extremes. Temple Associates is a fervent proponent of Free Markets but this practice can now be turned into a 'weapon of financial mass destruction'. Short Selling in the good old days was confined to market professionals (Jobbers or Specialists) and maybe a few savvy speculators who had very small amounts of money to play with. Now Short Sellers can muster billions, even tens of billions and as a consequence the practice has to be seen in a fresh light.
Short Sellers can initiate a vicious cycle and cause a downward spiral in confidence which is very difficult to reverse. Of course, where there is smoke there is fire. But that does not mean that a business that can be nursed back to health should be pushed over the brink just to satisfy the greed of a few market players.

Does the FSA have the right priorities?

We were recently trying to find the site where the FSA publishes the Disclosure Reports about Short Positions in the shares of companies that are staging a capital increase. The keyword 'disclosure' returns a staggering amount of entries from its website, more than a mere mortal can digest in a lifetime. But one item caught our attention. It is named 'Disclosure Requirements for the Accounts of Working Men's Clubs' (dated 4 July 2008) and runs to a full seven pages.
We did not know whether to cry or laugh about this gem that was penned by a faceless Civil Servant. With the whole structure of British Banking teetering on the brink, - do the regulators really have nothing better to do than concern themselves with the affairs of Working Men's Clubs? (by the way, we never met anyone who was a member of such a club and never heard that any such Club was causing major problems for the financial structure of the Kingdom).
Anyone who suffers too much stress in the markets and wants to relax for a moment can read the details on the FSA Website, Ref R/FS/AR 41D (and lest I forget, there are Notes attached!)

Compensation: what now for cash vs stock split?

Some recent commentators have predicted that in the future the Securities Industry will pay a higher proportion of total compensation in the form of shares and options in order to stimulate a more risk-conscious behaviour pattern among staff. While this may sound plausible it does not necessarily make sense for the majority of employees in a securities firm.
Why should the government bond trader whose P&L is clearly visible at the end of each day and whose book does not contain any long-term risks be paid in instalments that only become due many years after he has produced the goods?The recent - and ongoing collapse - in the share prices of most brokerage firms and banks is in the majority hitting employees who did not have any influence on the poor decisions made by the senior management of those firms. To add insult to injury one could say that the top executives who have been asked to leave have done much better than those employees that are left behind and have to suffer the consequences of a rapid decline in the value of their company stock or share options that the ineptness of the departing senior managers has caused.