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Monday, 30 March 2009

What is it about Scottish bankers?

There was a time when Scottish financiers, typically fund managers, had a reputation for being, if not exactly canny, then wise if a little cautious. Always good value for visiting bankers and investors from London and New York, perhaps a day's shooting or a round of golf on a fancy course, but always a reassuring combination of polish and charm. It is only a few years since the chairman of the Royal Bank of Scotland was a former Conservative minister and a scion of a Scottish gentry family with interests in one the largest brewing companies in the country.

Now this has all gone. Not only have the two largest banks been blown to smithereens (the third is run by Australians), but it seems that the Scots can no longer run a building society, an extraordinary fact given that the level of state employment in Scotland is amongst the highest in the UK and recent job losses have been much lower than in South East England, where the property market was arguably more overheated but no building societies have failed.

What on earth convinced these Scots that they could suddenly become so exuberant in their lending? Could it be that they were unable to see through the flaws in the approach of their compatriots Brown and Darling, but mostly Brown?

Perhaps they were never so wise.

Sunday, 29 March 2009

As I was walking down the stair ....

... I met a stimulus that wasn’t there.
He wasn’t there again today.
Oh, how I wish he’d go away

According to the draft communiqué leaked to Der Speigel, Gordon Brown wanted the summit to commit to a $2 trillion stimulus package, as a sign of their commitment to bolstering their economies.

But “Downing Street sources” dismissed the draft as "old" and said the $2 trillion was not new money, but amounts already spent the G20 nations.

Pull the other one. The government may be able to get away with these re-announcements when it comes to UK domestic spending, but did they really think they could pull the same trick when they are dealing with the Finance and Foreign Ministries of 19 other major nations. They really aren’t that dumb.

So now it looks as though any G20 communique will avoid any mention of stimulus, i.e. exactly what Gordon Brown has been telling the world they should do – in order to justify his own overspending.

But we shouldn’t be surprised. All though a socialist like Brown don’t appreciate it, developed countries have vastly different economies which have competitive advantages a=in different areas and their economies reflect that. Countries such as Germany and Korea whose economies are heavily driven by exports have little need for a domestic spending stimulus.

The UK, which has little apart from some of the world’s finest high stakes casinos in the City of London, has no option other than to keep borrowing to cover its losses in the hope that its luck will turn, which it probably won’t.

Saturday, 28 March 2009

A new excuse?

The Brazilian president Luiz Inacio Lula da Silva claimed the financial crisis was caused by "white, blue-eyed people" during Gordon Brown's visit to Brazil. Not one we have heard before, but one Brown might use to deflect the blame in the future.

Still that wasn't as bad for Brown as his later meeting with the prime minister of Chile, Michelle Bachelet, who told Mr Brown her country had "saved in the good times" in order to spend in the bad, which was straight out of the Dan Hannan songbook.

Next up is the prime minister of Argentina who wants to talk about the Falkands, probably fully aware that a country that can't issue bonds is in no position to fight three different wars.

Friday, 27 March 2009

If you have nothing to hide you have nothing to fear

Switzerland's private banks have started to ban their top executives from travelling abroad, even to neighbouring France and Germany, because of fears they will be detained as part of a global crackdown on bank secrecy.

Switzerland is estimated to account for about a third of the world's $11 trillion in clandestine personal wealth.

Thursday, 26 March 2009

"Black Pot" of the week

Seven English councils have been accused of negligence for depositing money with Icelandic banks days before they went into administration last October. These authorities deposited nearly £33m despite warnings about their solvency. The Audit Commission said lessons had to be learnt.

Not least by The Audit Commission, which itself deposited £10m in the banks,

Wednesday, 25 March 2009

You have run out of our money

The UK failed to find buyers for all of a £1.75 billion issue of bonds as investors rejected Prime Minister Gordon Brown’s economic plans.

Gilts fell after the Debt Management Office said investors bid for £1.63 billion of the 40-year issue. The last time the UK government was unable to attract enough investors was in 2002 when it tried to sell 30- year index linked gilts. The yield on the 4.5 percent gilt due 2049 rose 10 basis points to 4.55 percent.

This is not a good thing to happen when you have a 12% budget deficit. That is 12% of GDP, or about 23% of the money the UK government actually spends every year, or to put it another way, it means the Government spends 30% more than it takes in taxes.

Come to think of it if I spent 30% more than I earned, the ATM machine would stop giving me money pretty quickly.

Motoring tips from Gordon Brown

There are 2 analogies that I use regularly. The first compares the operation of financial markets to the flow of water. Just as water flows down hill markets will respond to a mismatch between supply demand and pricing. If something is worth doing/ selling/ manufacturing at an economic price then somebody will eventually do so, just as rainfall eventually flows into the sea.

The other analogy is to liken the operation of the economy to the functioning of a machine, and in particular comparing the “management” of the economy by the government to driving a car. There is little in the long term that the government can do to improve the car that they are driving, but if they drive it carefully they can minimise the wear and tear on the vehicle. Gordon Brown is looking increasingly like one of those drivers who disregard the manufacturer’s regular servicing guidelines and think they can diagnose the problem, but never get it right.

For years he has ignored the squeaking from the crankshaft and strange noises coming from tired pistons, which he has overcome by turning up the radio. In order to get his engine going he has tried turning the starter motor and pressing the accelerator. Now he is standing by the side of the road with a flat battery and a burnt out ignition coil, holding the end of the broken ignition key and telling other drivers that they too could go faster if only they did the same.

Tuesday, 24 March 2009

Were there any bonuses in Barclays Capital in 2008?

“In an exceptionally challenging market environment Barclays Capital profit before tax decreased 44%(£1,033m) to £1,302m(2007: £2,335m). Profit before tax included a gain on the acquisition of Lehman Brothers North American businesses of £2,262m.Absa Capital profit before tax grew13% to £175m (2007: £155m).”

This little gem comes from the Barclays Annual report out today. So do the math: Barclays Capital made £1,302 million of which £2,262 million came from a gain on buying Lehman (we bought it for £2.2 billion than its worth, but nobody else thought it was worth paying the extra), and £175 million from Absa, which means that the rest of Barclays Capital lost £1,135 million. On assets of £1,629.1 billion.

Still they managed to keep the overall tax rate for the Group down to 17%, although most of the reduction comes from the magic gain on buying Lehman.

The problem with the US rescue package.

Suppose the government approaches you to buy a lottery ticket. "Go on", they say, "you might win big".

"OK, you reply", being a rational person, "This is all about statistics and probability. There are no brownie points for good management or smart selection. Let me work out the likely payoff on a $1 ticket. Hmm, it looks like that would be about 35 cents."

"So how much are you prepared to invest per ticket?".

"Invest? Oh, OK. No more than 35 cents per ticket, probably less because I want to make money. But I'll buy 100 to spread my risk."

"Oh", they reply disappointedly, but they are desperate, so they say "OK but we would like you to buy more than that. Here's an idea. If you buy 200 tickets, we will match your investment and we can share in the risk. Does that make it look better?"

"Not really", you reply, "At 100 tickets I felt my risk was pretty much covered. What you are saying is that if I invest twice as much I can get a 50% interest in 400 tickets, which in my world view is not much different than having a 100% interest in 200 tickets. The payoff has a different profile but my expected profit is the same."

"Oh, OK", says the government, "If you do our matching scheme, then for every dollar you invest of your own money, we will lend you two more, so you can buy three times as many tickets and have a 50% interest in 1200 tickets, leveraged 2:1".

"Who takes the first loss?", you ask.


"Who gets paid out first. You are lending me the money I am putting in the equity", you explain.

"Oh, I see. We do".

"So the deal is that I take the 50% of the first loss on 1200 tickets and you get paid out first because you are a lender. I only get a share of anything when you have been paid out in full on the price of the first 800 tickets and I get paid out 50 % thereafter?"

"Yeah, but you get all the upside on 50% of the whole 1200. So isn't that worth more per ticket?"

"No the payoff is still 35 cents per ticket, so the price hasn't changed."

"Oh, OK. So are you going to invest?"

"Look my position is no different than if I had bought 200 before you came along. If the tickets were worth 35 cents each and I could have bought them it for less, I would have done it already. Your participation doesn't make any difference to my appraisal of value and risk. I can raise my own leverage if I have reasonable assets. 2:1 gearing is not hard to find."

"Oh, OK", say the government people, "but you have to admit we look pretty smart!"

"How do you figure that?", you reply.

"Well we get to buy at the same price as the market."

"You put up 5 times as much money as me at whatever price I told you was good. That sounds pretty dumb to me."

The market’s bottom?

Funny comment from the markets analyst at the FT:

"If the Treasury’s plan works, we may have seen the market’s bottom"

So watch out because if you can see the market's bottom it may be just about to dump on you, as I explained yesterday about the banks and the Geithner Public Private Indecent Payola Program.

US markets surged 7.1% after Geithers announcement and this was carried forward into Asia, but the FTSE dropped 2% in the first hour this morning, perhaps a sign that the UK has not got the wherewithall or finances to put together a similar scheme in the Uk where it is needed most (apart from Iceland and Ireland).

With most bank market caps below net book value, perhaps the US market rise was just a recognition than some anticpated write-downs in the banking sector will not happen.

Monday, 23 March 2009

Does your flesh crawl at the words public-private?

The long suffering US tax payer is about to be gang-raped by investment banks and fund managers because of the US government’s reliance on private sector firms to set the pricing. They can’t price the assets themselves so they think that by matching the funding provided by a third party fund manager, but as sure as water flows downhill the investment banks and fund managers will tilt the tables so the money will all slide to their end, and this is how it will probably work:

The U.S. government has said this is how the program will work:

Step 1: Treasury will launch the application process for managers interested in the Legacy Securities Program.
Step 2: A fund manager submits a proposal and is pre-qualified to raise private capital to participate in joint investment programs with Treasury.
Step 3: The Government agrees to provide a one-for-one match for every dollar of private capital that the fund manager raises and to provide fund-level leverage for the proposed Public-Private Investment Fund.
Step 4: The fund manager commences the sales process for the investment fund and is able to raise $100 of private capital for the fund. Treasury provides $100 equity co-investment on a side-by-side basis with private capital and will provide a $100 loan to the Public-Private Investment Fund. Treasury will also consider requests from the fund manager for an additional loan of up to $100 to the fund.
Step 5: As a result, the fund manager has $300 (or, in some cases, up to $400) in total capital and commences a purchase program for targeted securities.
Step 6: The fund manager has full discretion in investment decisions, although it will predominately follow a long-term buy-and-hold strategy. The Public-Private Investment Fund, if the fund manager so determines, would also be eligible to take advantage of the expanded TALF program for legacy securities when it is launched.

OK, so what does any sensible fund manager do when he passes pre-qualification in step 2? That’s right, he goes out to find investors for say $100m. Probably banks who already have distressed assets, or funds under their management or something similar so it is not so obvious. The Treasury matches the funding with $100m and $200m of debt funding.

The fund manager then goes off to bid for impaired debt. Now let’s say that the bank we mentioned in the last paragraph has toxic assets in a nice little package with a face value of $500m, and a current book value after write-downs of $400m, but which the bank really thinks is worth no more than $300m. The fund manager comes along to bid for the package and maybe he is the only bidder, maybe he has competition, but he pays $400m for the loans. So the bank has contributed $100m to the fiund which it has received back from the fund manager together with the $300m that it thought the loans were worth from the government.

So the bank has recovered all the money it ever thought it was going to get, but it still has a 50% interest in the loans, so if those loans are indeed worth $300m, the bank has made 50% of $400-300m = $50m on the deal instead of writing off $100m (although the bank has already written off $100m).

Some search engine stats

I don't like posting the stats I get for this blog (very healthy thank you very much, although mostly and perhaps not surprisingly busiest during the week), but one little feature is a record of all Google search terms used and it throws up some interesting observations.

Top search term of the last few weeks has been "Barclays", featuring in 36.0% of searches, but interestingly the most popular person at the bank is not the SCM head Roger Jenkins (1.2%) or his "guru" Ian Abrahams (5.8%), but Michael Keeley (7.0%), no doubt all his overseas clients keeping an eye on him, no doubt concerned about the Brontos structure (8.1%).

AIG (14.0%) is a long term favourite and its former boss Joe Cassano (5.8%) is getting heavy bandwidth, outstripping last week's Financial Crime of the Week, Weavering Capital (4.7%), which is also out gunned by another long term favourite, the mercurial PCP (9.3%) and Amanda Staveley (1.2%), but there seems to be little more interest in RBS (2.3%).

Tony McNulty's housing allowance explained

I know a lot of people get confused by parliament, finance and MP’s allowances, so please allow me to explain Tony McNulty’s position on allowances:

  • He used to lived in a house in North London and didn’t need a second home to work in his constituency.
  • When he got married he moved into his new wife’s apartment because it was more convenient for Westminster. This meant he could claim an additional cost allowance for his previously primary residence to cover the costs “in respect of additional expenses necessarily incurred by any such Member in staying overnight away from his only or main residence for the purpose of performing his parliamentary duties“, although in this case he doesn’t appear to have stayed their overnight, and it is questionable whether the expense was necessary because his constituency office is not far away.
  • McNulty says he did nothing wrong but he last claimed the allowance in January and now says he won’t do it since he’s been found out.
  • And because he says he did nothing wrong (even though he won’t do it any more because he’s been found out), he says he sees no reason to pay back the money he appropriated before he was found out.
  • McNulty also says the other lot are just as bad, in fact they are all at it, although he didn’t do anything wrong.
  • In fact he thinks parliament should change the rules and prohibit allowances for all MP’s living within 60 miles of Westminster, although he voted against that particular measure last year.

I hope that clears that up.

Sunday, 22 March 2009

Some further thoughts on Barclays and tax

One of the conclusions from the leaked Barclays tax papers was that they assumed substantial provisions would be made against the forecast tax savings. On the one hand one might say that this is just normal prudence from a bank. On the other hand one might conclude that Barclays effectively admit that their tax schemes are aggressive by making such provisions.

As an aside, the pap[are submitted for approval seem to be entirely predicated on the receipt of an acceptable legal opinion from a firm of lawyers or accountants. Whilst that is both desirable and necessary, there doesn’t appear to be much consideration within Barclays at this level of the tax risks. There may well have been a tendency towards US practices where the opinion is not necessarily drafted to give the fairest view of the transaction, but to give the advice most likely to give the client (Barclays) the accounting treatment they need, whilst satisfying the advisers opinion or risk committee that they ran an acceptable risk in giving the opinion, which in turn depends on their professional indemnity insurance. The whole game then becomes not an exercise in getting the best and safest long term deal for shareholders but an exercise in maximising accounting profits, even if some of the forecast savings are only moderately secure (albeit addressed in a legal opinion).

It is unclear from Barclays annual reports and other financial statements exactly how much they have provided for potential unsuccessful tax claims. No doubt any questions would be answered by a “We do every thing in accordance with normal business practice as advised by legal counsel and other advisers” sort of response, but if Barclays were to fall under the control of the government, but it is likely that if the bank was taken over, not only would the tax avoidance business be halted, but the bank would be required to settle any unagreed tax returns, not doubt in the government’s favour.

No data is given in the 2008 results released in February and the section of the notes regarding Legal Proceedings contained the following uninformative statement:

Barclays is engaged in various other litigation proceedings both in the United Kingdom and a number of overseas jurisdictions, including the United States, involving claims by and against it which arise in the ordinary course of business. Barclays does not expect the ultimate resolution of any of the proceedings to which Barclays is party to have a significant adverse effect on the financial position of the Group and Barclays has not disclosed the contingent liabilities associated with these claims either because they cannot reasonably be estimated or because such disclosure could be prejudicial to the conduct of the claims.”

It is not normal practice for banks to report on the number of tax return submissions that have not yet been agreed with HMRC, nor the amounts at stake. Indeed, because “such disclosure could be prejudicial to the conduct of the claims” banks rarely disclose the amounts at stake until a case against the Revenue has been lost, but in Barclays case, we can infer from the number of people working in the tax based structured finance unit (110) and the very high bonuses paid (often in the millions and, in some cases, tens of millions), that the amounts at stake with the Revenue are also very substantial.

Friday, 20 March 2009

NAO: report on Northern Rock - Brown's failings at the Treasury

Having already had a report from the FSA admitting that Northern Rock failed because of a lack of liquidity, which the FSA had failed to monitor, we now have a report on the regulators from the National Audit Office. The following comes from Part 4: The Treasury’s capacity to respond to and manage events

“The events at Northern Rock presented the Tripartite Authorities with a situation unprecedented in the UK in recent times. Although UK-based banks have collapsed before, for example BCCI in 1991 and Barings in 1995, these crises did not involve a run on a significant high street financial institution.

The Tripartite Authorities had identified weaknesses in the arrangements for dealing with insolvent institutions posing a systemic risk some three years before the crisis at Northern Rock. Since 2004, the Tripartite Authorities have conducted exercises to test their preparedness to deal with a range of scenarios, ranging from the simulation of a cyber attack on financial infrastructure and the impact of flu pandemic to various financial crises. The exercises were intended to test plans and responses to particular scenarios, and provide training opportunities.

One of the first scenario exercises, in 2004, tested the options available if a major financial institution got into difficulty for liquidity reasons. The report of the exercise noted that thinking was relatively undeveloped as to how the resolution of an insolvent firm with systemic repercussions would be handled and by whom. It concluded that work was required by the Tripartite Authorities to understand the issues they would face in dealing with an insolvent institution posing potential systemic risks to the financial system, which had not been tested directly in the exercise. At this stage, work on improving the existing arrangements was not considered within the Treasury to be a priority, in the benign economic environment then prevailing, compared with other financial crisis planning that was being taken forward.

Following further discussion, the Tripartite Authorities concluded in 2005 that the existing legislative framework, effectively restricting the available options to letting the institution fail and deal with the consequences or bail it out, would not be sufficient in a crisis situation. As a result, more work would need to be done before the

Tripartite Authorities would be in a position to deal with the resolution of a significant financial institution.

Following further exercises, in December 2006 and March 2007, the Tripartite Authorities decided that a special administration option should be developed. In May 2007, the Tripartite Authorities agreed to develop a consultation document setting out a range of options and potential legislative changes to deal with a financial institution in difficulty. A discussion paper was published in October 2007, followed by a first consultation paper in January 2008.”

Translated into English, throughout the time that Brown was Chancellor, the bank supervisory regime he had put in place didn’t have a clue how to deal with failed banks.

Great stuff from Merkel

Chancellor Angela Merkel said yesterday that Germany had done enough to boost its economy, and told the rest of the world "A competition to outdo each other with promises will not calm the situation".

Indeed, she and others have said that they won't support new global regulators, presumably on the basis that most of the failed regulation occurred in the US and the UK, not the rest of the world, and as I mentioned before, the IMF is seen in Europe as a tool of American policy whereas the existing talking shop for central banks, the BIS, is more open to European influence.

So all that leaves Brown with is a commitment to double the funding to the IMF to bail out poorer nations. Not that that was ever the source of the problems in the rest of the world.

So there, Gordon Brown. It looks like you won’t get the rest of the world falling in behind you at the G20 summit with your plan to spend, spend, spend plan, so you will be left on your own. Your problem is that now when that plan fails, you will have no plan B and you won' be able tot say, “Look we did the same as everybody else, but sadly it didn’t work here”.

Do you want a clue? Germany still has a diversified economy with a strong, advanced industrial base. You haven’t got a clue how to make that happen here, because mostly it happens because it depends on knowledgeable and competent people in government who know and how when to support industry and when to leave well alone. The Germans do that well. You, the DTI/BERR, Treasury and every other bureaucrat in this country do not.

So good for Angela Merkel, not enough to get e cheering for Germany in the World Cup, but still good.

A new verb: To Weaver

.. and of course, our Financial Crime of the Week.

If your capital looks as though it is weavering, be very careful. Somebody has probably madoff with it.

The FT reports “A $639m London hedge fund collapsed last night after the discovery that the main asset of Weavering Capital's flagship fund was a $637m derivatives trade with an offshore company controlled by the fund's founder and chief executive.”

Sorry. Say that again, “discovered”? An in the money derivatives trade representing 99.6% of the book value of the fund, and this is a discovery. To me it looks more like a thank you note left by a swindler.

Those papers Barclays didn't want you to see

Squirreled away somewhere on W*k*l**ks, you may come across some papers prepared by members of Barclays Structured Capital Markets team describing transactions submitted for approval. For the benefit of journalists, politicians and other readers who haven’t a clue about what all those boxes and numbers mean, here is the lowdown on each of the papers as summarised by The Financial Crimes:


This is just a large purchase of index-linked gilts. To Barclays, me and you the inflation linked uplift comes tax free, so what they are doing here is nothing new. They aren’t to keen on the inflation based uplift, so they shift some of the risk with a Total Return Swap.

Tax Aggression (1/10), Harm to the UK Exchequer (3/10)


This submission starts off with a red herring and an outright lie: “The benefit of the investment derives from the fact that the BBPLC group will generate pre-tax income at $R interest rates of c.19% but will not have any exposure to the $R:GBP exchange rate.” because in the detailed write-up it says “HoldCo hedges the expected $R-linked dividends on the RealCo Equity by entering into a series of nondeliverable currency forward sale agreements with the markets floor (the “Market Forwards”) under which HoldCo agrees to pay fixed $R-linked amounts in exchange for the GBP equivalents translated at the forward GBP:$R FX rates.”. In other words Barclays makes an investment in securities denominated in Brazilian Reals and then hedges the income return from its investment so that it has no net currency exposure, at least as far as the income is concerned.

So what is going on? The income is hedged but there still seems to be a currency risk associated with the capital. The giveaway is that although the investment in Brazilian Real securities is only for £300 million, as that money is flowed through the Barclays group structure, it is mixed with an extra £700 m from within the Barclays group, which is invested in an intermediate holding company which lends the £700 million back where it came from and passes the £300 million to a lower tier company which makes the £300 million Real investment. That lower company and the holding company enter into a currency swap, supposedly to hedge the position of each company, but curiously the swap is for the same principle amount as the investment in the holding company £1 billion, not the amount of the Real exposure in the company £300 billion The clue as to what is going on here is that the tax rate is 30%, the same as the ratio of the actual exposure to the hedged amount. We quickly deduce that what is going on is something to do with hedging the after tax value of the return to Barclays irrespective of the future exchange rate.

To understand it in a little more detail we have to know that the FX futures price (at which the Real income was sold) broadly reflect the interest rate differential between the Real and sterling, so that if the currencies actually remained the same there would be a benefit to Barclays because there would be a profit on the forward sale, but this is tax free because it is a hedging transaction on preference shares even though it only hedges the income and not the capital.

This is where the intra-group cross currency swap kick in. The swap is designed so that any profit or loss is only taxable or deductible in one company in the group, although Barclays doesn’t know at the outset whether it will depreciate or appreciate. If we assume that the value of the Real fells, the Barclays group would lose some real economic value in the value of the unhedged capital value of the Real securities (original cost £300 million), but it would have a proportional deductible loss on the value of the cross currency swap in one company in the group, although overall within the group there is no net loss but the company with the profit on the swap is not taxed on that profit again because it is a hedging transaction. But lo and behold the loss on the securities (X% of £300 million) is the same as the tax savings on the swap (30% of X% of £1,000 billion), so the group as a whole is perfectly hedged.

A bit complicated this one, but what is clear is that this is not much of an investment in Brazilian Reals as an exploitation of the rules of the taxation of foreign currency instruments. The trouble for the Revenue is that they cannot say definitively that this is a tax avoidance scheme because they have no idea what the future value of the Real will be. In the unlikely event that the Real appreciated, there would be substantial extra tax paid.

Tax Aggression (4/10), Harm to the UK Exchequer (4/10)


This is an old classic Luxembourg profit participating loan structure. At least one of the big 4 accounting firms was hawking this structure around in the late 1990’s so it is good to see it still in use. Maybe they stole it from Barclays, because they audit them. Anyway, this has nothing to do with the UK tax man and is a raid on the Italian treasury, courtesy of crummy Italian law and a ruling from the Luxembourg authorities.

Tax Aggression (3/10), Harm to the UK Exchequer (0/10), special bonus point for international business promotion


OK, this is a little more juicy. The idea here is that a Barclays sub in the Isle of Man manages to invest in a portfolio of government securities in such a way that they manage not to pay much in the way of tax. If we assume that Barclays would otherwise have held such a portfolio, even though the return is sub LIBOR (their normal benchmark), the deal doesn’t seem so bad because it is pretty much tax free. The deal needs a compliant unconnected Luxembourg bank, which in this case is the Luxembourg branch of Nordbank, a German bank owned by the City of Hamburg and a few others, who take little risk but get paid £2 million for their trouble. Barclays manage to get most of their income from the portfolio to the Isle of Man tax free, because £14 million of the income is taxed as a capital gain on shares, and £52 million of dividend income from redeemable preference shares is reduced by a £52 million credit for Luxembourg withholding taxes. Nordbank doesn’t mind paying the Luxembourg withholding taxes because they get to deduct the cost from their own tax liability and are left whole.

Tax Aggression (5/10), Harm to the UK Exchequer (5/10)


Another biggie. This one from Michael Keeley, who used to manage the son of an absconded murderer (and an aristo at that) when he worked at Kleinworts, not that that has anything to do with this story, but the numbers are big - £16 billion, so this is likely to be a story based on the deductibility of interest and the non- taxation of income – which it is, but contrary to what the “expert” in the Sunday Times said this was not all about money going round in a circle, but about Barclays borrowing $4 billion dollars in the UK (and claiming tax relief for doing so), routing that money through Luxembourg, back into a UK partnership and off to the US where it financed a portfolio of real Estate and other assets. The UK revenue that the income coming from the US to the UK partnership is mostly taxable in Luxembourg to the Luxembourg partner, and therefore outside the scope of UK tax, while the Luxembourg authorities think that the income is all exempt from tax because it is covered by the participation exemption regime. Uncle Sam does very well out of it because he claims a big chunk of withholding tax.

So the US is up by $80 million a year in tax and the UK loses $61 million a year in revenue, and Barclays think they are ahead, but according to Keeley’s proposal Barclays have a $45 million annual benefit based on $65 million of pretax margin. Where does that pretax margin come from? According to Keeley’s figures the American borrower is willing to pay an effective premium because of some US tax breaks, which he says gives the US borrower an effective borrowing rate of 0.40% under LIBOR, whilst simultaneously giving Barclays a return of 1.60% over LIBOR, the difference being a US tax saving equivalent to the missing 2% or $80 million. So Uncle Sam is out of pocket $80 million from BB&T, but he gets $80 million back from the withholding tax on the distribution to the UK, with $45 million a year ending up in Barclays, about $16 million a year in BB&T and a smidgin in Luxembourg and because it is always a zero sum game it is just the UK taxman who is out of pocket to the tune of $60 million a year, but then Keeley is Australian, so no surprises there.

But if I was a Barclays shareholder I would want to know why anybody thought $45 million was a good annual return on $4 billion of balance sheet exposure to a single counterparty, even if it was a 20% risk weighted asset, given all of the risks. What was the strategic reason behind it? In my view, not enough to justify the use of balance sheet and risks?

Tax Aggression (5/10), Harm to the UK Exchequer (8/10), Congressional Medal of Honour for $20 million annual contribution to the US economy.


“This memo sets out the minutes from the SCM Approvals Committee meeting on 13 July 2006 for the Establishment of a Luxembourg Office for SCM.”.

No idea what this is doing in here.


A valiha is a bamboo zither from Madagascar, but that has nothing to do with this transaction. This transaction is from Ian Abrahams and is not very complicated. Despite his reputation as a tax lawyer, Abrahams also another reputation as a frequent poacher of other people’s ideas. Many unsuspecting young bankers from other institutions were brought in to interview with Abrahams only to have him quiz them on their ideas and reject them. He had a similar reputation amongst advisers for demanding to know their best ideas. Maybe it is his own work, but on balance, even if it is, he has stoledn so much in the part that he doesn’t deserve any credit for it.

Barclays just happened to have two large interest rates swaps entered into between different parts of the group that were substantially in and out of the money for the two sides of the swap. There is nothing unusual in this. A special purpose company within might raise funding from a particular source which does not match the interest rate risk of the assets it holds, so it will enter into a swap with the treasury desk in the main bank company. One side pays a fixed amount of interest on a notional amount of principal and the other side pays a floating rate of interest. At the outset there is no implicit value in the contract, but over time as short term rates of interest move the fair value of the swap may become increasingly valuable to one party and correspondingly less valuable to the other party. Since this is all within the Barclays group, nobody is too bothered about it. Taken on its own the value of the more profitable side of the swap is reduced by the cost of the tax that would be payable on the profits, and similarly value of the losing side of the swap (which is not really mentioned in the paper) is increased by tax savings from the allowable losses.

Barclays figure that they can get some additional value from the swap if they can sell the swap to another bank (in this case CSFB) for a price which more closely reflects the pre-tax value of the swap (i.e. reducing the discount for tax). CSFB are most likely to be making losses in the UK. Foreign banks in the City have a nasty habit of making losses in the UK by paying their London based staff, while actually making their profits from deals booked in other countries, so they often have an appetite to buy in taxable profits, and in this case the price they set on their losses is only 20% of the face value of the tax. The problem for Barclays is that an outright sale would give rise to a capital gain, so they get around this by forming a partnership between two Barclays companies and and one of the partners contributing the swap into the partnership in return for its interest. CSFB is then admitted to the partnership for a substantial consideration, most of which is owed to the Barclays company that contributed the swap, The partnership agreement allocates 95% of the profits to CSFB, and though unstated in the paper, the swap would probably be unwound within a few months and the partnership some time thereafter.

Almost the same effect as a sale, but not quite and there is no capital gain because that’s the way the law works. Hey, I didn’t write the law so don’t look at me like that, but frankly, can you honestly say you wouldn’t do the same as Barclays?

Tax Aggression (4/10), Harm to the UK Exchequer (6/10)

One final footnote: The comments in the press about Barclays SCM being a nasty place to work ring true. The City can be a brutal place to work, but sine the 1980's I have known people from many other banks involved in similar tax based work at many banks (Goldman, Morgan Stanley, Merrill Lynch, JP Morgan, Chase, Citi, Bankers Trust, Deutsche, Kleinwort, AIG, Gen Re, Nat West, RBS Lloyds, Halifax and more), and they are generally intelligent, even geeky, but mostly personable, but the ones from Barclays have often have been without a doubt more unpleasant than most, theonly people coming close being Jenkins ex-staff at his former employer Kleinwort Benson.

Thursday, 19 March 2009

Truly we are run by idiots

The first major international goof of his presidency. As widely reported, Barack Obama gave Gordon brown a set of 25 DVD to mark Brown’s visit to Washington. As I suspected at the time, they were Region 1 DVDs and do not play on the Downing Street DVD player. We are truly run by complete idiots.

Don't touch that button, Mr. President. No, not that one the other one. Now look what you have gone and done, sir.

Tim "nice but dim" Geithner shws his grasp of the situation

The only thing that I never understood about the great CDS debacle is why it ever happened. Alex is a very old hand when it comes to structuring deals, and one of the great principles is that you can never reduce aggregate credit risk by structuring. Physicists might liken it to entropy.

Sure you can enhance the position of an individual counterparty by giving him a guarantee or CDS, but that just means the credit risk is transferred to a party willing to take the risk of loss. The aggregate risk that a party outside the financial system fails to pay does not change. Which is why I never understood why CDS’s should be treated as any different from assignable guarantees or standby letters of credit. The only difference was that they were passed around swaps desks by traders each having the attention span of a gadfly.

So it seems appropriate that the AIG bonus scandal should involve an equally baffling comment from the Treasury Secretary Timothy Geithner, who told congressmen that Uncle Sam will recover the bonuses paid by AIG from operations and deducting the amount from the next $30 billion in fresh equity.

Hang on a minute there Mr Geithner. Either AIG needs the extra $30 billion or it doesn’t. What if they need the money? Taking it back will kill the company.

OK, here’s a solution. Why not increase the amount of equity to be injected by the amount of the bonuses to be recovered, then you can recover the bonuses without damaging the company.

Then everybody will be happy ..... except for the sane and the intelligent, but you will never please everyone.

Wednesday, 18 March 2009

Oh, What a Lovely War!

The conventional wisdom to date has been that the downturn / recession / depression is nothing more than a re-run of the 1930's, and we just have to learn our lessons from history.

That now looks like wishful thinking. The more relevant comparison appears to be the trench warfare of the First World War. The next battallion of cannon fodder to be sent over the top by General Obama is $300 billion of newly printed cash to repurchase long dated (2 to 10 year) Treasuries with reinforcements due in the form of $750 billion to buy up mortgage backed securties issued by Fannia Mae and Freddie Mac.

I don't have the the exact figures, put to put the $300 billion now/$750 billion later in perspective, the total US M1 money supply (currency in circulation and demand deposits) is a tad under $1,600 billion, so the immediate impact is a near 20% increase in that figure.

The Federal Open Market Committee announced "In light of increasing economic slack here and abroad, the Committee expects that inflation will remain subdued. Moreover, the Committee sees some risk that inflation could persist for a time below rates that best foster economic growth and price stability in the longer term. In these circumstances, the Federal Reserve will employ all available tools to promote economic recovery and to preserve price stability."

Fix bayonets and prepare to charge.

The Annotated Turner Report

Capital adequacy, accounting and liquidity

1. The quality and quantity of overall capital in the global banking system should be increased, resulting in minimum regulatory requirements significantly above existing Basel rules. The transition to future rules should be carefully phased given the importance of maintaining bank lending in the current macroeconomic climate.

2. Capital required against trading book activities should be increased significantly (e.g. several times) and a fundamental review of the market risk capital regime (e.g. reliance on VAR measures for regulatory purposes) should be launched.

3. Regulators should take immediate action to ensure that the implementation of the current Basel II capital regime does not create unnecessary procyclicality; this can be achieved by using ‘through the cycle’ rather than ‘point in time’ measures of probabilities of default.

4. A counter-cyclical capital adequacy regime should be introduced, with capital buffers which increase in economic upswings and decrease in recessions.
Conclusion from all of the above: Basel II doesn’t work

5. Published accounts should also include buffers which anticipate potential future losses, through, for instance, the creation of an ‘Economic Cycle Reserve’.

Published accounts? Any accounts should show the financial state of the company. I think he means banks should hold extra reserves (make general provisions) against potential future losses.

6. A maximum gross leverage ratio should be introduced as a backstop discipline against excessive growth in absolute balance sheet size.

Which is fine until banks start trying to get assets off their balance sheets

7. Liquidity regulation and supervision should be recognised as of equal importance to capital regulation.

More intense and dedicated supervision of individual banks’ liquidity positions should be introduced, including the use of stress tests defined by regulators and covering system-wide risks.

Introduction of a ‘core funding ratio’ to ensure sustainable funding of balance sheet growth should be considered.

Liquidity regulation would be a big change for the FSA, but it is nothing new. It was part of the Bank of England’s supervision of banks.

Institutional and geographic coverage of regulation

8. Regulatory and supervisory coverage should follow the principle of economic substance not legal form.

This is not new.

9. Authorities should have the power to gather information on all significant unregulated financial institutions (e.g. hedge funds) to allow assessment of overall system-wide risks. Regulators should have the power to extend prudential regulation of capital and liquidity or impose other restrictions if any institution or group of institutions develops bank-like features that threaten financial stability and/or otherwise become systemically significant.

Regulators should have the power to regulate those whom they are required to regulate. The rest of the world is not their business.

10. Offshore financial centres should be covered by global agreements on regulatory standards.

And how do you expect to get the offshore financial centres to agree to that?

Deposit insurance

11. Retail deposit insurance should be sufficiently generous to ensure that the vast majority of retail depositors are protected against the impact of bank failure (note: already implemented in the UK).

12. Clear communication should be put in place to ensure that retail depositors understand the extent of deposit insurance cover.

Read that as: pull the wool over the eyes of the sheep.

UK Bank Resolution

13. A resolution regime which facilitates the orderly wind down of failed banks should be in place (already done via Banking Act 2009).

How about a regime that strips out the good parts of failed banks to give us at least some sort of residual banking system.

Credit rating agencies

14. Credit rating agencies should be subject to registration and supervision to ensure good governance and management of conflicts of interest and to ensure that credit ratings are only applied to securities for which a consistent rating is possible.

There is always a conflict of interest unless they do it for free. Credit ratings can never be consistent.

15. Rating agencies and regulators should ensure that communication to investors about the appropriate use of ratings makes clear that they are designed to carry inference for credit risk, not liquidity or market price.

Pull the other one. The market publishes data for spreads for given ratings.

16. There should be a fundamental review of the use of structured finance ratings in the Basel II framework.

Basel II took a decade to negotiate and implement. Did you have any particular end date in mind for this review?


17. Remuneration policies should be designed to avoid incentives for undue risk taking; risk management considerations should be closely integrated into remuneration decisions. This should be achieved through the development and enforcement of UK and global codes.

Try that on all the banks in London and every Alphonse, Gustav, Marvin and Klaus in the City will be on the first plane to Switzerland. Limit it to UK incorporated banks and nobody will care.

Credit Default Swap (CDS) market infrastructure

18. Clearing and central counterparty systems should be developed to cover the standardised contracts which account for the majority of CDS trading.

This was not the problem. They all cleared correctly. The problem was the big unreported exposures and at least one unregulated entity in the UK market with a $500 billion book.

Macro-prudential analysis

19. Both the Bank of England and the FSA should be extensively and collaboratively involved in macro-prudential analysis and the identification of policy measures. Measures such as countercyclical capital and liquidity requirements should be used to offset these risks.

Are you saying Gordon Brown doesn’t listen?

20. Institutions such as the IMF must have the resources and robust independence to do high quality macro-prudential analysis and if necessary to challenge conventional intellectual wisdoms and national policies.

Correct. They have been doing so for years. Sadly, Gordon Brown didn’t listen to them.

FSA supervisory approach

21. The FSA should complete the implementation of its Supervisory Enhancement Program (SEP) which entails a major shift in its supervisory approach with:

Increase in resources devoted to high impact firms and in particular to large complex banks.

Focus on business models, strategies, risks and outcomes, rather than primarily on systems and processes.

Focus on technical skills as well as probity of approved persons.

Increased analysis of sectors and comparative analysis of firm performance.

Investment in specialist prudential skills.

More intensive information requirements on key risks (e.g. liquidity)

A focus on remuneration policies

Blimey, now they admit all the things they haven’t been doing properly

22. The SEP changes should be further reinforced by

Development of capabilities in macro-prudential analysis

A major intensification of the role the FSA plays in bank balance sheet analysis and in the oversight of accounting judgements.

No the FSA is going to be full of accounting experts. I think such matters should be left to the true experts and independent adjudicators.

Firm risk management and governance

23. The Walker Review should consider in particular:

Whether changes in governance structure are required to increase the independence of risk management functions.

The skill level and time commitment required for non-executive directors of large complex banks to perform effective oversight of risks and provide challenge to executive strategies.

Nothing to do with the FSA. This is about corporate governance and a matter for the DTI. Oh, that’s gone.

Utility banking versus investment banking

24. New capital and liquidity requirements should be designed to constrain commercial banks’ role in risky proprietary trading activities. A more formal and complete legal distinction of ‘narrow banking’ from market making activities is not feasible.

We used to call it Glass-Steagall. Shame it never happened here.

Global cross-border banks

25. International coordination of bank supervision should be enhanced by

The establishment and effective operation of colleges of supervisors for the largest complex and cross-border financial institutions.

The pre-emptive development of crisis coordination mechanisms and contingency plans between supervisors, central banks and finance ministries.

Then you can play at simulated crises on Saturday afternoons for double overtime

26. The FSA should be prepared more actively to use its powers to require strongly capitalised local subsidiaries, local liquidity and limits to firm activity, if needed to complement improved international coordination.

There’s a nice little office building I know in Zug. Fully wired, great views of the lake.

European cross-border banks

27. A new European institution should be created which will be an independent authority with regulatory powers, a standard setter and overseer in the area of supervision, and will be significantly involved in macro-prudential analysis. This body should replace the Lamfalussy Committees. Supervision of individual firms should continue to be performed at national level.

A regulator for regulators? To whom is it accountable? The European Commission? ‘Nuff said.

28. The untenable present arrangements in relation to cross-border branch pass-porting rights should be changed through some combination of:

Increased national powers to require subsidiarisation or to limit retail deposit taking

Reforms to European deposit insurance rules which ensure the existence of pre-funded

resources to support deposits in the event of a bank failure.

That building in Zug. I think we can get it for about 70 SFr per square metre, but we will have to move fast to beat the rush.

Open questions for further debate

29. Should the UK introduce product regulation of mortgage market Loan-to-Value (LTV) or Loan-to-Income (LTI)?

If you put up a limit then banks stupid banks will find other ways to lose money.

30. Should financial regulators be willing to impose restrictions on the design or use of wholesale market products (e.g. CDS)?

Financial regulators would never be able to keep up with the wholesale market. One of the factors in competitive advantage in investment banking is the speed to market with new products. Those who go to market with bad products, and those who buy them, deserve to go to the wall.

31. Does effective macro-prudential policy require the use of tools other than the variation of countercyclical capital and liquidity requirements e.g.

Through the cycle variation of LTV or LTI ratios.

Regulation of collateral margins (‘haircuts’) in derivatives contracts and secured financing transactions?

No. Next question.

32. Should decisions on for instance short selling recognise the dangers of market irrationality as well as market abuse?

Now you want to regulate for stupidity? “You can’t do that just in case somebody soes something really stupid”. Now that is stupid. The regulator has to be aware that these things mught happen. He doesn’t have to use that as an excuse to stop people doing something.

Break out the Prozac

It is a good job Britain is best placed to withstand the downturn/ recession/ depression because it is going to last longer in Britain than anywhere else according to the IMF. Even bearing in mind that is the opinion of a Frenchman (Strauss-Kahn), it looks like there will be no good news on the economy before the next General Election.

This is not good news for Brown ahead of the G20 summit. Other world leaders will be able to ignore his mutterings about international co-operation and an early warning system. After all who would want to cooperate with a basket case of an economy such as Britain's, particularly one run by a former chancellor who ignored several early warnings from the IMF during his term of office.

The French laughed (albeit politely) at the 2% VAT cut and they have all seen the failure of the UK banking system. The Labour government may be in denial and the Conservative opposition may veer between inexperience and ineptitude, but other countries can see the state of the UK for themselves and they will not be taking any lectures from Gordon Brown.

Much Ado about Nothing

It is not often that we see a politician so blind to his own flawed logic, but this morning Nick Clegg of the Lib Dems gave us the benefit of his own stupidity by complaining that banks should not be entering into tax avoidance arrangements whilst receiving bail outs from the tax payer.

He really doesn't get this money thing does he? The specific case in the news was Barclays, who haven't actually formally asked the government for help, but the principle is the same for the banks that have.

Banks have gone to the government for help, or the FSA has told them they have insufficient Tier 1 capital, in order to continue operating. Tax savings put extra funds directly into Tier 1 capital by adding to retained earnings. Once banks have given up and gone to the government for help it makes little difference to the capital position whether any additional funding comes from tax savings or from equity injected by the government. A £1 saved in tax is a £1 less equity required from the government. The only difference is ownership of the bank. The more cash the government puts in, the higher the stake in the company held by the government.

So what Clegg is saying, although he is probably not smart enough to realise it, is that rather than entering into perfectly legal arrangements to minimise their tax, directors of banks that have gone to the government for help should forego those savings and pay more taxes, reducing their capital and requiring more cash from the government. It doesn't save the government a penny, but hands over more of the shares in the bank to the government.

This logic only applies to banks that have gone to the government for help. Mr Clegg doesn't seem to think the same way about banks that have not gone to the government for help, where there is a potential increase in net Treasury receipts from reducing tax avoidance.

Others have said that banks should not be promoting tax avoidance schemes to their clients, which I discussed yesterday. But this argument may also be flawed. At a time when the government is keen to see the economy boosted, there is little point in trying to extricate cash from profitable companies who have entered into legal transactions. The cash is in the productive economy in the hands of a profitable company whom one would hope has a chance of employing the extra cash productively.

The alternative would be to pay taxes to the government to be redeployed as the government sees fit. I honestly think the evidence is that the cash would be better used and more growth created by the private sector, and it is not worth the government time and effort to change the situation. Clegg and the illiberal Lib Dems may relish the prospect of more cash flowing through the government coffers, but from outside Westminster it just looks like a pointless exercise.

Tuesday, 17 March 2009

The fine line between tax avoision and tax evadence and vice versa

Government and politicians are in a bit of a tizzy about banks and tax avoidance. In part this is because they effectively own one r two of the largest banks responsible for structuring and participating UK tax based structured finance (RBS, HBOS & Lloyds) and may be asked to take some assets from probably the biggest player in this market (Barclays).

HMRC are going to put out a voluntary code of conduct next month in the hope that banks will comply not just with the letter but the spirit of the law. Treasury officials say HMRC presses big companies, including banks, to comply voluntarily with the spirit of tax law but say this move would be aimed at complex bank schemes. There are threats of further action if a voluntary code doesn’t work. Vince Cable, the bald Liberal Dem whose banking credentials are as thin as his hair but this doesn’t stop him mouthing off whenever he sees a TV camera, said it was ““terribly limp-wristed”.

Believe me, it will all end in tears, for a number of reasons, but most fundamentally, there is no “spirit of the law” when it comes to tax. In accounting the directors of a company are required to exercise some judgement about the state of the company, the quality and value of its assets, and generally exercise some discretion when they draw up their accounts.

Tax is different. In order to ensure fairness between tax payers, a lot of the rules are drawn up as bright line tests, that is to say as factual tests which determine the taxation of business dealings. If it happened, it happened. If it didn’t happen, but something similar happened which had the same effect, the taxation is based on the what actually occurred. A transaction will be taxed according to the facts, and it is not up to the Revenue or the courts (except in complete sham cases) to recharacterise the facts to establish a different tax treatment. So what the voluntary code is asking banks to do is to not do a particular financial transaction if a similar outcome could have been reached by a different set of facts.

This is just over regulation. For example, imagine I own an unencumbered property which is leased out and I would like to make a further investment in a company. I could sell the property, in which case I would forego the rental income, but I might suffer a large capital gains tax charge. Alternatively, I could borrow the value of the property from a bank and assign all of the rental income from the property to repay the loan with interest. That is substantially the same transaction, but I defer any capital gain until the property is actually sold – a much less favourable outcome for HMRC. But is that outside the spirit of the law? Actually that is a bit of a non-question, because we pretty soon realise that the spirit of the law in tax law is no different from the law itself.

So what does the Government / HMRC actually want banks to do? The answer is most likely that they want to stop promoters of schemes from “promoting” them. Which is also ridiculous. Banks promote finance in all its available forms, and it would be ridiculous for a bank to propose a particular method of finance knowing full well that the taxation associated with that particular method of finance was more expensive for the banks customer than the alternatives. It follows logically that the banks will promote the schemes with the lowest overall cost to the customer with an acceptable return on risk and capital to the bank. Often, but not always that will involve tax amongst many other considerations.

What the government (and Vince Cable) want is for companies and banks to go against their best interests (and the best interests of their shareholders) by sticking to some nebulous benchmark of what is fair. Tax payers should respond by saying that what is fair is what is written down in the law to apply to all tax payers, applied equally to all tax payers, and not a penny more.

Poverty watch: Vikram Pandit

Billions have to survive on less than a dollar a day, but in February Citigroup chief executive Vikram Pandit said he would work for $1 salary and no bonus until Citi is profitable again. We presume thatmeans $1 a year. Pandit may not be taking home much pay, but in the current economic climate he is looking good value for that $1 and has little risk of being undercut by possible competitors for his position.

On the plus side, it turns out Pandit was awarded $10.82m in total compensation for 2008, so no worries about the Pandit family bank balance for a while even if it is earning a lousy rate of interest. I have no idea what Citi pays on its checking accounts, but if Vikram wants to spend last years pay on a Citi 12 month CD, that will earn him $267, 254, which should keep the wolves from the door of his Manhatten apartment.

And it has to be said that the $10.82m looks pretty nifty when we remember that in 2008 Citi's share price fell through the floor and the US government paid in $45bn to bail out the group.

No doubt Pandit was pleased to announce that Citi has been profitable since the beginning of the year, and so he should. That extra $45 billion in Tier 1 capital would support the best part of $1 trillion in finance, and with credit spreads at an all time high, any fool with capital can make money in corporate lending in this market. Pandit should be looking to net at least 100 bp on any new business after all overheads, which means the government equity has pushed up his bottom line by about $10 billion.

If that doesn't earn Mr Pandit the largest percentage pay rise in corporate history in 2010, then... he will have been worth every penny of the $1 he takes home this year.

More than 1 million UK jobs will go in the next 2 years

More than a million British workers will lose their jobs over the next two years, hitting the north and Midlands as badly as the south, according to Oxford Economics. They say the West Midlands, Wales and the north of England could take more than a decade to recover from job losses that are forecast to rival those in London. Fresh unemployment figures due to be published on Wednesday will show more than 2 million unemployed.

Last autumn policymakers were forecast a potential rebalancing of the economy, with more wealth generated from manufacturing and less from financial services, but industrial production is falling faster than at any time since 1981, while financial services have so far escaped lightly. Unemployment has risen fastest in the West Midlands, north of England and Wales.

Experian predicts declines in output this year of 4.3 per cent for London, 3.3 per cent for the north-east and 2.9 per cent for the West Midlands.

Monday, 16 March 2009

Petition Against Knighthood for Ted Kennedy

A petition to have the offer of a knighthood to Senator Teddy Kennedy rescinded - but if you feel strongly enough please do sign the petition via the link below. You'll get an acknowledgement from Downing Street to your email, and to activate your signature you have to click on the link in their email.


Gordon Brown announced in his address to Congress on 4th March that Ted Kennedy is to be awarded an honorary knighthood for 'services to the US-UK relationship and to Northern Ireland.' This is an insult to Britain, to those innocents who died during the Troubles in Northern Ireland, and to those who currently hold the same honour. Throughout his career, Ted Kennedy has been no friend of our country. He was staunchly pro-IRA when their campaigns were at their bloodiest and constantly railed against the British 'occupation' of Northern Ireland. He is does not deserve such an merit. How can he be awarded the same honour as true, great American friends of the UK such as Ronald Reagan, Norman Schwarzkopf, George Patton and Dwight Eisenhower? This is after all the man who fled the scene of a car accident that left a woman to die trapped underwater. His political career has been self-serving and opportunist, as was his role in the Irish peace process.



Intimations of inflation of immateriality?

It seems like only yesterday that the term billionaire replaced millionaire as the appropriate label for the rich. More recently we began to hear about trillions when speaking about national indebtedness. Now it seems even $10 billion can be immaterial, if you are Goldman Sachs.

In September last year Goldmans were upset by a story in the New York Times, which said that Goldmans had a substantial exposure to AIG. The story was primarily aimed at AIG ("It is hard for us, without being flippant, to even see a scenario within any kind of realm of reason that would see us losing one dollar in any of those transactions.” - Joe Cassano, ex-AIG - ha, ha, ha ), but it said that Goldman was "A.I.G.’s largest trading partner, according to six people close to the insurer who requested anonymity because of confidentiality agreements". That kind of figures because when someone is on the losing side of a trade (in this case AIG), Goldman is more often than not on the winning side. That is how they make money.

After the NY Times report, Goldman issued a rebuttal statement which was carried by Reuters and other agencies, which said Goldman rejected as “seriously misleading” the report that said the Wall Street bank had as much as $20 billion of exposure to the troubled insurance giant American International Group Inc., adding that Goldman's “exposure to AIG was, and is, not material”.

We now know the identities of the counterparties who have been paid out under AIG’s government bailout. And guess which bank had the highest payout, owed a grand total of $12.9 billion by AIG and AIG FP? You guessed it.

Which puts a whole new meaning on the word “immaterial”.

Old Banana Mouth flashes her briefs

The pension funds of two Labour-run councils have decided that they have a case against Fred Goodwin and the other directors of RBS and the bank itself. No doubt wary of the denizens of the Inns of Court, they opted to take counsel from that well known legal eagle well versed in commercial matters, Ms Cherie Booth. It sounds like they will try to make this the trial in the court of public opinion that we have been hearing about.

Wary of the potential costs of litigation, the councils have opted for a class action suit in the United States. Whatever the merits, this does not seem so wise if they are trying to recover from Sir Fred or his fellow directors. While the dirctos' assets may be substantial by many measures, it is likely that if the lawsuit is successful, Sir Fred's assets would not go very far in satisfying the funds' claims, particularly if shared between many class action claimants.

On a more positive note we can look forward to Sir Fred's repudiation of any claims of his incompetence when he points out that Ms Booth's husband knighted him for his services to banking.

If the plaintiffs are successful, then the greater part of any substantial liability will likely fall to be paid by the defendant with the deepest pockets, RBS (who in any event are also indemnifiying the directors, the cost of which may be picked up by RBS' insurers). At the moment this means, albeit indirectly, the tax payer. The government has said it will stand behind RBS and is hoping to take a profit on his RBS shares at some point.

So the wife of the recently departed prime minister is suing a government-owned bank that entered into some very poor investments and made some poor lending decisions while it was supervised by her husband's government. If Ms. Booth's clients see fit to sue the directors of RBS, one might ask why she is not also advising them to sue the bank's regulators and relevant Treasury ministers?

Sunday, 15 March 2009

Oh my Darling, Oh my Darling, Gordon Brown ...

... he is lost and gone forever.

Words are cheap, and the words coming out of the G20 planning meeting, or as the BBC tried to big it up the meeting of sherpa preparing for the dummit, have been cheap in every sense.

A year ago, when the UK proposed to hold this year's G20 meeting, Brown thought he had won the opportunity to strut his stuff on the world stage, with the possibility of exercising "thought leadership", but world politics is a funny thing and often baffling to demagogues such as Brown. After all, he has been used to having his own way in British politics, so that what he says is acted upon almost without question from his own supporters. It must feel strange for him to be try to lead the world only to find that the equally headstrong leaders of other nations choose to go their own way.

Until earlier this week, Brown was flying hither and thither trying to persuade the world that they should all be spending vast amounts of borrowed money just like him and his new friend Obama. But Brown's borrow and spend strategy is really to cover up his already massive funding gap. On closer inspection, the UK has had very little fiscal stimulus - the 2% VAT cut was largely ineffective - but a whole lot of bolstering of banks' capital.

Other nations, particularly in the EU, see things differently even though they are wither in or heading for depression. After all, they do not all have a busted flush of a financial system like the UK and the US, which is why they rejected British proposals for a borrow and spend strategy at a meeting of EU finance ministers earlier this week.

German industrial output may be suffering, particularly from a drop in demand from the UK, US and China, but there is nothing that indicates that German industry is broken or suffering from competition. Ms Merkel probably realises that as the world economy picks up and demand increases Germany's economy will do the same. For her there is no point in creating massive artificial stimuli. So on that front Brown's initiatives look shot to pieces.

We also heard earlier this week that British organisers were unable to get a response from US officials when they asked what their requirements were. Then later in the week US Secretary of the Treasury Geithner suggested that the IMF should be given an "expanded role". Nobody seems to be quite sure what that means except that it probably means several hundred billions of dollars more funding. Japan has promised to give some more, but it looks like Germany will be asked to fund the IMF by considerably more. One of the usual arguments against IMF funding is that once scertain overall fiscal and monetary parameters are established the IMF does not control the use of the money it lends. Some say that is a good thing because any money spent boosts the economy even if it is largely wasted (Brownian economics). But hang on, if Germany won't "waste" money boosting its own economy, why would it want to do the same for Vietnam or Botswana.

But the other role that the US/IMF may be pushing for but have not yet announced, may be an expanded role as a world economic policeman, including overseeing the international banking system. The IMF have long pushed for many of the central bank coordination and oversight roles held by the BIS. Whereas the IMF is largely dominated by Washington, European countries are in aggregate more strongly represented at the BIS. After the disasters brought to international finance by US "structured finance" and US rating agencies, are the Europeans really going to let the IMF have their way on this?

More importantly for Mr Brown, the IMF warned about the state of the UK economy, the overheated housing market and the likelihood of a crash. If Mr Brown now decides that we should be listening to the IMF, he will rightly be pilloried by critics telling him that he ignored the IMF for the last 10 years.

Anyway, for the benefit of lovers of cheap and trashy litereature here is the meaningless communique of the pre-meeting.

Friday, 13 March 2009

Quantitative Easing: follow the money

Sometimes, the government's economy with the truth and its unfamiliarity with common sense can leave the man in the street a little flustered. The term Quantitative Easing, and its practice, is a good example. If the government wanted to devalue the currency as a way out of its problems all it would have to do is print money, which in essence is what it is doing, but to see how it works you just have to follow the money.

The way it works is simple. The Government needs to raise money through the issue of bonds, but it looks as though the Chinese and others will be less willing to bale out GB plc, so it gets the Bank of England to offer to buy existing gilts from the banks. On Monday the Bank bought in £2 billion and paid for them by crediting each bank’s account for the sales price in cash. The next day the Treasury issues £3 billion of new gilts to the market, so the banks use the £2 billion they have on deposit at the BOE and a further billion of cash that they have on deposit. That process repeats daily for say 200 business days until the BOE has bought in £200 billion of gilts and the Treasury has issued £300 billion of new gilts.

Of course the banks have a great time. They sell their old gilts to the bank at the offer price and buy the new gilts at the bid price, thereby making a good bid-offer spread every other day. So the government is being taken for an expensive ride? Wouldn’t it be easier for the Treasury to cut out the middle man and sell the gilts straight to the bank. After all the difference between a newly issued 5 year gilt and a 10 year gilt with the same coupon and 5 years to redemption is ... nothing. The banks are having a free ride at the taxpayers expense. After all, if they weren’t making money at it, they wouldn’t be buying and selling.

Mark that one up as incompetence dressed to impress.

US bank performance

I confess I am a little bemused by the market reaction to US bank profitability. First of all we heard Vikram Pandit (Citi) and Jamie Dimon (JP Morgan) tell us that they had made money since the beginning of the year, and yesterday whoever is running BofA these days felt he had to do the same. Perhaps that is easier to do, Vikram, if you pay yourself 1 dollar every blue moon or whatever the deal was that you took to hang onto your job.

But banks do make money for 99.9% of the time. It is just that the losses, when they do happen, tend to be rather big, and get announced just before year end. Still the boss gets a whole years pay before he gets fired.

Ponzi schemes

Jeff Randall has an amusing piece in Her Majesty's Telegraph about the similarities between Gordon Brown and Bernard Madoff, which is worth a read.

He explain the most obvious point that by increasing public sector spending at a relentless pace, often on worthless projects, Brown was able to sustain the illusion of GDP growth, while all the time, growth in the "real world" was actually stagnant or falling. Nevertheless the similarities are close.

Brown has been found out but his case doesn't come to court until next year.

Spirit of enterprise not dead yet

It is good to see that in these dificult times, there are still people willing to take a measured risk. I refer of course to the world's airlines who will continue to fly Boeing 777's despite a known fault that has led to one crash and one near incident.

Our aviation correspondent reports:

The cause of the crash at Heathrow of BA 038 in January 2008 has been identified as fuel starvation or what engineers call "no fuel getting to the engine". Investigators have identifed the primary factor leading to this problem, which they has been described by leading technical experts as "a big lump of ice in the fuel tank", which arose from an adverse thermodynamic environment at high altitudes, clogging the fuel lines to both engines.

With over 750 planes put in service in the last 15 years, that works out at about 2 incidents in 2.8 million flights. In other words the probability of such an incident on any flight is about 10 times more likely than winning the national lottery with a single ticket.

The Boeing 777 is widely used on transatlantic and intercontinental flights. Industry experts say that a similar midflight incident might occure when ice accumulated in the fuel tanks is dislodged by vibrations caused turbulence or other activity such as the lowering of undercarriage. In such an event the pilot would be unlikely to be able to manoeuvre the plane in the same way as Capt. "Sully" Sullenberger, who recently landed his A320 aircraft in the Hudson River shortly after take off from LaGuardia Airport.

Industry sources added that the most likely manoeuvre after a total loss of power, leading to a failure of avionics and controls, would be a 35,000 ft descent or "plummet", putting down on the surface of the sea at a velocity above industry norms, causing likely damage to the aircraft fuselage, after which the airframe would probably "sink like a stone".

Thursday, 12 March 2009

Black pot speaks unto kettle

It is amazing that he is even invited to leave his bolt hole in Canary Wharf, but Hector Sants has been speaking at a Pension Fund conflab in Edinburgh. For the record, his outpourings are here, but the man should clearly be kicked out for his past failures.

Amongst the pearls that fell from his lips was the following:

Shareholders must also take responsibility to be active individually and more importantly, in collaboration with other investors, to engage with senior management and Non-Executive Directors in companies and question the effectiveness of the construct of their boards. The FSA is keen to encourage greater dialogue between the regulator and investors and we would certainly like to hear when any issues or risks you raise are not being addressed.

At this point one might be tempted to tell Sants that he should look at his own failings before criticising others. But he continues:

"Turning to you as investors, the question I would like to focus on is whether you all knew and understood what you were buying. The crisis has arguably been driven among investors by an intense search for yield; a desire to gain as much as possible at a 'risk free rate'. These imbalances stimulated demand which has been met by a wave of financial innovation in the form of complex securitisation. How many of these different ways to satisfy demand and "add value", by offering investors more combinations of risk and return more attractive than those available historically, were truly understood?"

Indeed, it appears that Sants fails to see the irony or hypocrisy of his own track record, but he continues:

"It is critical to recognise that the principal responsibility for managing firms responsibly remains with the management of the firms and that shareholders are the principal mechanism for holding these managers accountable."

Did I hear that right? Shareholders have a responsibility to hold directors to account? Not at all, shareholders can buy shares, put them in the bank and go cruising round the world if they wish. They have a right, but no such duty, surely. But Sants went on with the following summing up points:

"Shareholders going forward, have a duty, an obligation to make that
oversight role more effective."

So what is he going to do next? Regulate non-compliant shareholders. The man is clearly deranged.

But then we know Sants rhymes with pants. Need I say any more?

Wednesday, 11 March 2009

20/20 hindsight is a wonderful thing

The CEO of Blackstone Group LP, Stephen Schwarzman said yesterday that up to 45 percent of the world's wealth has been destroyed by the global credit crisis. "Between 40 and 45 percent of the world's wealth has been destroyed in little less than a year and a half. This is absolutely unprecedented in our lifetime."

U.S. Treasury Secretary Timothy Geithner plans to unfreeze credit markets through a new program that will combine public and private capital in a fund that would buy bank toxic assets of up to $1 trillion. "In all likelihood, that will have the private sector buy troubled assets to clean the banks out in terms of providing leverage ... so that we can get more money back into the banking system," Schwarzman said.

He expects the private sector to end up making "some good money doing that," but added there were complex issues on how to price toxic assets. He put part of the blame for the financial crisis to credit rating agencies. "What's pretty clear is that, if you were looking for one culprit out of the many, many, many culprits, you have to point your finger at the rating agencies," he said.

Rating companies have been the focus of intense criticism for their role in granting top "AAA" ratings for complex bonds that later plummeted in value, resulting in subsequent rating cuts, in many cases to junk status.

"Once you bought into ... the Triple A paper and it turned out to be paper that was in many situations going to end up defaulting, then you really had the makings of a global problem," he said. Schwarzman said problems were then exacerbated by mark-to- market accounting rules. Those rules ask banks and other financial institutions to price assets at a value related to how they would be sold in the open market.

All good stuff, but Blackstone reported a quarterly loss in February after writing down the value of its portfolio and eliminated its fourth-quarter dividend, so Schwarzman is only being wise after the event.

Any fool can do that.