Posts Tagged ‘Greece’

George Soros on European Fiscal & Banking Crisis and EU Summit on June 28-29, 2012

Monday, June 25th, 2012

Here I present key take-aways from George Soros’ in depth Bloomberg interview on the current European fiscal and banking crisis, Angela Merkel, the Spanish bailout, and Greece leaving the Eurozone.

The video is also below:

Banking & Fiscal Issues

  • “There is an interrelated problem of the banking system and the excessive risk premium on sovereign debt – they are Siamese twins, tied together and you have to tackle both.”
  • Soros summarizes the forthcoming Eurozone Summit ‘fiasco’ as fatal if the fiscal disagreements are not resolved in 3 days.
  • There is no union without a transfer.
  • Europe needs banking union.
    • Germany will only succumb if Italy and Spain really push it to the edge (Germany can live in the present situation; the others cannot)
    • Europe needs a fiscal means of strengthening growth through Treasury type entity
      • What is needed is a European fiscal authority that will be composed of the finance ministers, but would be in charge of the various rescue mechanisms, the European Stability Mechanism, and would combine issuing treasury bills.
        • Those treasury bills would yield 1% or less and that would be the relief that those countries need in order to finance their debt.
        • Bill would be sold on a competitive basis.
        • Right now there are something like over €700bn euros are kept on deposit at the European Central Bank earning a 0.25% because the interbank market has broken down, so then you have €700bn of capital that would be very happy to earn 0.75% instead of 0.25%, and the treasury bills by being truly riskless and guaranteed by the entire community, would yield in current conditions less than 1%.
        • Governments should start a European unemployment scheme, paid on a European level instead of national level.
        • Soros’ solutions, however, are unlikely to prove tenable in the short-term as he notes “Merkel has emerged as a strong leader”, but “unfortunately, she has been leading Europe in the wrong direction”.
          • “Euro bonds are not possible because Germany would not consider euro bonds until there is a political union, and it should come at the end of the process not at the beginning.
          • This would be a temporary measure, limited both in time and in size, and thereby it could be authorized according to the German constitution as long as the Bundestag approves it, so it could be legal under the German constitution and under the existing treaties.
          • The political will by Germany to put it into effect and that would create a level playing field so that Italy and Spain could actually refinance debt on reasonable terms.

Scenario Discussion

  • LTRO would be less effective now
  • At 6%, 7% of Italy’s GDP goes towards paying interest, which is completely unsustainable
  • Spain may need a full bailout if summit is not successful
    • Financial markets have the ability to push countries into default
    • Because Spain cannot print money itself
    • Even if we manage to avoid, let’s say an ‘accident’ similar to what you had in 2008 with the bankruptcy of Lehman Brothers, the euro system that would emerge would actually perpetuate the divergence between creditors and debtors and would create a Europe which is very different from open society.
    • It would transform it into a hierarchical system where the division between creditors and debtors would become permanent…It would lead to Germany being in permanent domination.
      • It would become like a German empire, and the periphery would become permanently depressed areas.

On Greece

  • Greece will leave the Eurozone
    • It’s very hard to see how Greece can actually meet the conditions that have been set for Greece, and the Germans are determined not to modify those conditions seriously, so medium term risk
    • Greece leaving the euro zone is now a real expectation, and this is what is necessary to strengthen the rest of the euro zone, since Greece can’t print money
    • By printing money, a country can devalue the currency and people can lose money by buying devalued debt, but there is no danger of default.
      • The fact that the individual members don’t now control the right to print money has created this situation.
      • A European country that could actually default. and that is the risk that the financial markets price into the market and that is why say Italian ten-year bonds yield 6% whereas British 10-year bonds yield only 1.25%.
  • That difference is due to the fact that these countries have surrendered their right to print their own money and they can be pushed into default by speculation in the financial markets.

On Angela Merkel

  • Angela Merkel has been leading Europe in the wrong direction. I think she is acting in good faith and that is what makes the whole situation so tragic and that is a big problem that we have in financial markets generally – she is supporting a false idea, a false ideology, a false interpretation which is reinforced by reality.
  • In other words, Merkel’s method works for a while until it stops working, and that is what is called a financial bubble
    • Financial bubbles look very good while they are being formed and everyone believes in it and then it turns out to be unsustainable…
    • The European Union could turn out to have been a bubble of this kind unless we realize there is this problem and we solve it and the solution is there.
    • I think everybody can see it, all we need to do is act on it, and put on a united front, and I think that if the rest of  Europe is united, I think that Germany will actually recognize it and adjust to it.

On Investing

  • Stay in cash
  • German yields are too low
  • If summit turns out well, purchase industrial shares, but avoid everything else (consumer, banks)

Conclusion: We are facing conditions reminiscent to the 1930s because of policy mistakes, forgetting what we should have learned from John Maynard Keynes.

Fantastic Michael Burry UCLA Commencement Speech on U.S. & European Financial Crises

Sunday, June 24th, 2012

Below you can view an excellent speech by Dr. Michael Burry, who at one point shorted over $8 billion of subprime mortgage backed securities before the U.S. credit crisis. Dr. Burry openly shares his experiences on divorce, luck, finance, and the future of college graduates at UCLA. As an alumnus of UCLA, Dr. Burry shows that passion, curiosity, foresight, and “working smart” rather than “working hard” can be handsomely rewarded. Michael Burry’s hedge fund, Scion Capital ultimately recorded returns of 489.34% (net of fees and expenses) between its November 1, 2000 inception and June 2008. The S&P 500 returned just over two percent over the same period. Other than Dr. Burry’s subprime short, I am not sure of his performance from 2000 through 2005. Enjoy.

[youtube]http://www.youtube.com/watch?v=1CLhqjOzoyE&feature=share[/youtube]

Burry left work as a Stanford Hospital neurology resident to become a full-time investor and start his own hedge fund. He had already developed a reputation as an investor by demonstrating astounding success in “value investing,” which he wrote about on a message board beginning in 1996. He was so successful with his stock picks that he attracted the interest of such companies as Vanguard, White Mountains Insurance Group and such prominent investors as Joel Greenblatt.
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After shutting down his web site in November 2000, Burry started Scion Capital, funded by a small inheritance and loans from his family. The company was named after The Scions of Shannara, a favorite childhood book. Burry quickly earned extraordinary profits for his investors. According to Lewis, “in his first full year, 2001, the S&P 500 fell 11.88 percent. Scion was up 55 percent. The next year, the S&P 500 fell again, by 22.1 percent, and yet Scion was up again: 16 percent. The next year, 2003, the stock market finally turned around and rose 28.69 percent, but Mike Burry beat it again—his investments rose by 50 percent. By the end of 2004, Mike Burry was managing $600 million and turning money away.”
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In 2005, he veered from value investing to focus on the subprime market. Through his analysis of mortgage lending practices in 2003 and 2004, he correctly forecast a bubble would collapse as early as 2007. Burry’s research on the runaway values of residential real estate convinced him that subprime mortgages, especially those with “teaser” rates, and the bonds based on these mortgages would begin losing value when the original rates reset, often in as little as two years after initiation. This conclusion led Burry to short the market by persuading Goldman Sachs to sell him credit default swaps against subprime deals he saw as vulnerable. This analysis proved correct, and Burry profited accordingly. Ironically Burry’s since said, “I don’t go out looking for good shorts. I’m spending my time looking for good longs. I shorted mortgages because I had to. Every bit of logic I had led me to this trade and I had to do it”.
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Though he suffered an investor revolt before his predictions came true, he earned a personal profit of $100 million and a profit for his remaining investors of more than $700 million. Scion Capital ultimately recorded returns of 489.34 percent (net of fees and expenses) between its November 1, 2000 inception and June 2008. The S&P 500 returned just over two percent over the same period.
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According to his website, he liquidated his credit default swap short positions by April 2008 and did not benefit from the taxpayer-funded bailouts of 2008 and 2009.[13] He subsequently liquidated his company to focus on his personal investment portfolio.
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In a April 3, 2010, op-ed for the New York Times, Burry argued that anyone who studied the financial markets carefully in 2003, 2004, and 2005 could have recognized the growing risk in the subprime markets. He faulted federal regulators for failing to listen to warnings from outside a closed circle of advisors.
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In April 2011, he suggests: (1) Open a bank account in Canada, (2) there are opportunities in small cap stocks, and (3) blue chips may be less attractive than their price-earnings suggests.

Burry left work as a Stanford Hospital neurology resident to become a full-time investor and start his own hedge fund. He had already developed a reputation as an investor by demonstrating astounding success in “value investing,” which he wrote about on a message board beginning in 1996. He was so successful with his stock picks that he attracted the interest of such companies as Vanguard, White Mountains Insurance Group and such prominent investors as Joel Greenblatt.After shutting down his web site in November 2000, Burry started Scion Capital, funded by a small inheritance and loans from his family. The company was named after The Scions of Shannara, a favorite childhood book.


Burry quickly earned extraordinary profits for his investors. According to Lewis, “in his first full year, 2001, the S&P 500 fell 11.88 percent. Scion was up 55 percent. The next year, the S&P 500 fell again, by 22.1 percent, and yet Scion was up again: 16 percent. The next year, 2003, the stock market finally turned around and rose 28.69 percent, but Mike Burry beat it again—his investments rose by 50 percent. By the end of 2004, Mike Burry was managing $600 million and turning money away.” In 2005, he veered from value investing to focus on the subprime market. Through his analysis of mortgage lending practices in 2003 and 2004, he correctly forecast a bubble would collapse as early as 2007.

Burry’s research on the runaway values of residential real estate convinced him that subprime mortgages, especially those with “teaser” rates, and the bonds based on these mortgages would begin losing value when the original rates reset, often in as little as two years after initiation. This conclusion led Burry to short the market by persuading Goldman Sachs to sell him credit default swaps against subprime deals he saw as vulnerable. This analysis proved correct, and Burry profited accordingly. Ironically Burry’s since said, “I don’t go out looking for good shorts. I’m spending my time looking for good longs. I shorted mortgages because I had to. Every bit of logic I had led me to this trade and I had to do it”. Though he suffered an investor revolt before his predictions came true, he earned a personal profit of $100 million and a profit for his remaining investors of more than $700 million. Scion Capital ultimately recorded returns of 489.34 percent (net of fees and expenses) between its November 1, 2000 inception and June 2008.

The S&P 500 returned just over two percent over the same period. According to his website, he liquidated his credit default swap short positions by April 2008 and did not benefit from the taxpayer-funded bailouts of 2008 and 2009. He subsequently liquidated his company to focus on his personal investment portfolio. In a April 3, 2010, op-ed for the New York Times, Burry argued that anyone who studied the financial markets carefully in 2003, 2004, and 2005 could have recognized the growing risk in the subprime markets. He faulted federal regulators for failing to listen to warnings from outside a closed circle of advisors. In April 2011, he suggests: (1) Open a bank account in Canada, (2) there are opportunities in small cap stocks, and (3) blue chips may be less attractive than their price-earnings suggests.

Bank of Spain Nationalizes Bankia – Property Bubble Bursting

Wednesday, May 9th, 2012

According to ZeroHedge, the Bank of Spain has recently nationalized Bankia, the first of many nationalizations that have to occur in Spain because of poor underwriting by the cajas (regional banks/savings and loan institutions) and falling real estate prices. The Spanish housing price graph above shows how much further the property bubble went in Spain, where at one point, more than 15% of the labor force was working in construction.

With a government debt to GDP ratio of 70%, and another 30%+ of municipal debt, where is Spain getting the money to accomplish these bailouts?

By Alexander Lemming, Leverage Academy Associate

Statement on BFA-Bankia

The Board of Finance and Savings Bank (BFA) announced today the Bank of Spain its decision not to buy in the terms and conditions agreed to the securities issued in the amount of € 4.465m who signed the FROB (Bank Restructuring Fund). BFA has concluded that the most desirable to strengthen the soundness of the business project that began with the appointment of Jose Ignacio Goirigolzarri as president is to request the conversion of these titles in stock ordinary. This conversion must be authorized by the Bank of Spain and the other authorities Spanish authorities and community and will be conducted in accordance with the valuation process established in the indenture securities.

The Bank of Spain has worked hard in recent months with the group address BFA-Bankia to specify the measures to ensure compliance with the provisions of the RD-l 2/2012 for the sanitation Spanish financial system. BFA-Bankia late March presented a restructuring plan and restructuring that included measures that would comply with the RD-l, and standardize its financial  position.

After analyzing this reorganization plan, the Bank of Spain also ordered the entity measures complementary to streamline and strengthen management structures and management, increasing professionalization and a divestment program. These additional actions should serve to enhance the soundness of the institution and restore market confidence. The events of the past weeks and the growing uncertainty about the future of the company has made it advisable to go further and raise the providing resources to accelerate and increase public sanitation.

The changes in the presidency of BFA-Bankia is precisely oriented in the direction shown in professional management and allow the group to boost its restructuring program. The new address of the entity must submit in the shortest possible plan of reorganization strengthened that places BFA-Bankia able to cope with a full guarantee its future.

In any case, BFA-Bankia is a solvent entity that continues to function quite normally and customers and depositors should have no concern. (ZHedge)

MF Global Files for Bankruptcy and Plunges in First Day of OTC Trading

Wednesday, November 2nd, 2011

November 2, 2011 - MF Global (NYSE: MF) tumbled in its first day of over-the-counter trading after the futures brokerage filed for bankruptcy, prompting the New York Stock Exchange to delist the shares.  MF Global’s bankruptcy is the 8th largest bankruptcy of all time.

The stock, quoted under the symbol “MFGLQ,” declined 83 percent to 21 cents at 12:45 p.m. New York time on trading volume of 170.9 million shares. MF Global plunged 67 percent last week as the New York-based firm reported a record $191.6 million quarterly loss.

MF Global stock hasn’t changed hands during a regular trading session since Oct. 28. NYSE Euronext suspended the stock before the New York Stock Exchange opened on Oct. 31. MF Global filed the eighth-largest U.S. bankruptcy this week after failing to find a buyer over the weekend. The futures broker suffered a ratings downgrade and loss of customers after revealing it had investments related to $6.3 billion in European sovereign debt.

The night before MF posted its biggest quarterly loss, triggering a 48 percent stock plunge, Chairman and Chief Executive Officer Jon Corzine appeared at a steak dinner at New York’s Helmsley Park Lane Hotel for a speech to a group of bankers and traders.

“There was no sense at all that there was impending doom,” Kenneth Polcari, a managing director of ICAP Corporates, said of Corzine’s Oct. 24 address to the National Organization of Investment Professionals. “He gave a spectacular speech” about his decades at Goldman Sachs, life as a U.S. senator and New Jersey governor and his return to the private sector. “He’s had a full life, up until now.”

Corzine, 64, excused himself before the main course was served, saying he had to prepare for an earnings call the next day, said David Shields, vice chairman of New York-based brokerage Wellington Shields & Co. and a former chairman of the organization. The group seeks to foster “a favorable regulatory environment,” according to its website.

Timothy Mahoney, CEO of New York-based Bids Trading LP, said Corzine’s speech was “delightful.”

The next day, MF Global reported a $191.6 million net loss tied to its $6.3 billion wager on European sovereign debt. On Oct. 27, after the company’s bonds dropped to 63.75 cents on the dollar, Moody’s Investors Service and Fitch Ratings cut the firm to below investment grade, or junk. Unable to find a buyer, the company filed for bankruptcy on Oct. 31, the first major U.S. casualty of the European debt crisis.

‘Serve the Public’

At least two dozen U.S. lawmakers and regulators, including Representative Joe Barton, a Texas Republican, Carolyn Maloney, Democrat of New York, and former Securities and Exchange Commission Chairman Harvey Pitt have addressed the group, according to its website.

“There are many people in the group that do lobby and talk to regulators,” Shields said. “You talk to regulators, you talk to lawmakers and you try to get the points forward, things that will help the marketplace, that will serve the public.”

The group’s board includes head traders at firms such as Waddell & Reed Financial Inc., whose futures trade triggered the flash crash of May 6, 2010, according to a study by the SEC and the U.S. Commodity Futures Trading Commission.

Its members’ firms “trade approximately 70 percent of the institutional volume transacted daily in the New York and Nasdaq markets,” according to the website.

‘Difficult’ Day

The group’s current chairman, Dan Hannafin of Boston-based investment manager Wellington Management Co., declined to comment on the dinner. Corzine and Diana DeSocio, an MF Global spokeswoman, didn’t reply to an e-mailed request for comment.

Mahoney said he appreciated Corzine’s ability “to compartmentalize” and speak engagingly last week. Mahoney’s firm, Bids, runs a private trading venue known as a dark pool, and is a joint venture of banks including Goldman Sachs.

Before the speech, Moody’s cut MF Global’s credit ratings to the lowest investment grade. Polcari said there was one reference to Corzine’s “difficult” day.

While he was “cordial” and “positive,” the MF Global chief lacked his typical “sharp bounce,” Shields said. Corzine is “a member of the community,” and could be invited back after the bankruptcy, he said. “People go through bad times.”

To contact the editor responsible for this story: Nick Baker at nbaker7@bloomberg.net

Soros Says the U.S. is Already in a Double Dip Recession – Defining Balance Sheet Recessions

Sunday, September 25th, 2011

Soros recently asserted that Europe could be more dangerous to the global financial markets than the default of Lehman Brothers in 2008, because of the political stubbornness of European policy makers.   He has been saying this for over two years now, while government officials continue to ignore him, focusing instead on making bold statements and causing riots.  In a brilliant move, Soros returned investor capital at the end of July to avoid the eyes of the public.  I am sure he is now short sovereigns via CDS, currencies, and synthetic instruments, while he continues to donate to the poor in Eastern Europe like a modern day Robin Hood.  Since March, Italian CDS has more than doubled, and French and Belgian CDS spreads will continue to creep higher as the sovereign crisis persists.  How are Greece, Italy, Spain, and Portugal supposed to grow their way out of debt, as deficit cutting reduces European GDP growth to less than 1%?

The public doesn’t trust officials to make timely decisions to protect the EU.   The PIIGS (Ireland and Italy included) pose an insurmountable task for the region, as the combined nations have far greater GDP and net leverage than Germany, the only country that will be supporting the EFSF with a AAA rating. Italy itself has €1.2 trillion of debt, which is  more than Germany, and France may be downgraded in the next 6 months, which is evident in how much its CDS spread has widened over the past 2 months.  France also cannot print money like the United States, and certainly should have been downgraded beforehand, sharply decreasing the effectiveness of the stabilization facility in the EU. A French downgrade would not only endanger French banks, it would create counterparty risk for its U.S. partners as well.  Soros has already claimed that the U.S. is currently in a double dip recession, which I personally think to be true.

Both the majority of the EU and the United States are in a global double dip already not only because of policy mistakes, but due to unsustainable leverage, overspending, broken healthcare and education systems, and corrupt governments. Recent real estate, manufacturing, and confidence numbers, along with revisions down in the earnings of major metallurgical coal and transportation companies in developed countries support my thesis (look at tickers ANR, WLT).  Alpha Natural Resources recently cited a sharp decrease in coal demand for steel production in Asia, reflecting weakness in both its U.S. and ex-U.S. clients.  In the U.S., real estate usually contributes 15% to GDP growth, and it is showing no chance of recovering (HOV), as most sales over the past two years have been distressed sales driven by investors, not families or single buyers.  Developed economies are slowing down quickly, as elected officials argue over who is more important than the other.  The S&P 500 ex-dividends is at the same level it was in 1998, the FTSE MIB in Italy is down 30% on the year (40% from April), and the emerging market index (EEM) just broke its 2010 lows.  Many European financial institution equities are down 60%+ to date.  Markets are broken, as the CME has to raise margins every other day to bring down the prices of precious metals, which are rising in the face of fiat destruction and future inflation risk.  Poverty has reached 15% in the United States, unemployment is over 9.2%, underemployment is about 17%, and local government cuts have resulted in the layoffs of countless public employees, like the recent 3,000 teachers who were fired in Providence, Rhode Island.

There are 44 million people on food stamps in the United States, which is supposed to be the wealthiest nation, and the land of hope for many immigrants.  Over 30% of the U.S. population pays more than half their gross income on rent, since incomes (adjusting for inflation) have not increased since 2000.  With rents projected to increase 3-4% in metropolitan areas over the next year, even the educated poor may be driven out of cities or on to the streets. The land of hope? Why don’t you ask my hardworking university friends about hope, who are much more qualified than some of their U.S. peers, but cannot get jobs and improve the quality of our economy due to the difficulty of obtaining visas.  This country was built by immigrants, who are now blocked out of entering the nation. Teen unemployment also hit decade lows this past month.

According to New York-based Economic Cycle Research Institute (ECRI), which tracks some 20 large economies contributing about 80% of the world GDP and provides critical information about upturns and downturns of economic cycles to money managers, we will know within the next 60 days whether we are in a recession or not.  ECRI’s Lakshman Achuthan has been one of the most accurate forecasters for economic cycles over the past decade.   He argues that the 2008/2009 recession was different than the sharp recession of the 1980s, “This is very different than the early 1980s. The issues that ail the U.S. economy and the jobs market today are not things that result from nearby events. What we’re living through and dealing with now has been building for decades,” he says. “If you look at the data, you see that the pace of expansion has been stair-stepping down ever since the 1970s, on all counts — on production, how much can we produce, how many jobs can we create, how much money do we make, how much do we sell. These are all trending down.” In the deep recession of the 1980s, GDP growth was 5%+ coming out of it…our growth in Q111 was revised down to 0.4%, and will be less than 2% for the year. Don’t believe me? Check on your own.

“If we do have a double-dip recession, Achuthan says, the people who are already having trouble finding work and paying bills are already in a depression and that they “are going to suffer more.”  ”It poses massive problems for policymakers because a new recession automatically increases all of these expenditures out of the public sector, while at the same time dramatically decreasing all their revenue,” he says. “So there’s even less ability to help the people who are hurting the most.”

Although I am not a fan of Roubini for his sensationalist gloom and doom scenarios, he does do decent research and predicted a 60% chance of a double dip in the U.S. three weeks ago.  The United States is in a balance sheet recession, as the economist Richard Koo, a strategist at Nomura, predicted may happen back in 2009.   Most of the growth we have experienced has been the result of continued fiscal and monetary stimulus from the United States government over the past three years, as well as inventory restocking.  The biggest driver of this slow and painful recession is that more stringent underwriting standards for real estate lending and small business lending are slowing down aggregate demand and GDP growth.  Koo argues that once you have a balance sheet recession, people focus on paying down debt, making the situation much worse over time.   The government has to increase fiscal stimulus for the entire duration of the private credit contraction cycle to overcome private deleveraging.  Unfortunately war and internal conflict has made this impossible in the United States as our debt to GDP nears 100%. Since the private sector has moved away from profit maximization to debt minimization, newly generated savings and debt repayments enter the banking system but cannot leave the system due to a lack of borrowers.  The economy here will not and cannot enter self-sustaining growth until private sector balance sheets are repaired.

If the government tries to cut spending too aggressively in 2012-2013, Koo thinks that we would fall into the same trap President FDR fell into in 1937 and that Prime Minister Ryutaro Hashimoto fell into in 1997.  The deflationary gap created by a lack of credit creation and fiscal stimulus “will continue to push the economy toward a contractionary equilibrium until the private sector is too impoverished to save any money.”  The economy will collapse again, and the second collapse will be worse than the first.  It will be difficult to convince people to change their behavior in this scenario.

In a typical recession, private sector balance sheets are not hurt very badly, and most still express profit maximizing behavior.  People borrow money and spend as interest rates are lowered.  In a balance sheet recession, consumers refuse to borrow even if rates are at 0%.  This results in asset prices collapsing and banking crises.  Banks then cannot lend into the private sector, and the government becomes the borrower of last resort, at extremely low rates, because banks don’t need to hold capital against government loans.  When people use money to pay down debt, they withdraw money from their bank accounts and pay it back to the banks, so both deposits and the money supply shrink, which actually caused the Great Depression.  For example, 88% of Obama’s tax rebates have been used to pay down debt.

Let me put it in perspective:

According to Koo, “The Board of Governors of the Fed in 1976 estimated that deposits lost in Depression-era bank closures and through increased hoarding of cash outside of the banking system explained just 15% of the almost $18 billion decline in deposits during the period. Meanwhile, bank lending to the private sector plunged 47%, or by almost $20 billion, from 1929 to 1932. The conventional wisdom is that lending fell because banks panicked in response to dwindling reserves and forcibly called in loans. But that same Fed study shows that bank reserves did not actually fall during that period, when borrowings from the Fed are taken into account. In addition, a survey of almost 3,500 manufacturers, undertaken in 1932 by the National Industrial Conference Board, showed that fewer than 15% of the firms surveyed reported any difficulty in their dealings with banks.”
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If bank closures, cash hoarding and heartless bankers didn’t cause the Depression, what did? ”There’s only one possible alternative explanation for that era’s dramatic shrinkage in deposits and loans — or, at least, for the 85% of those shrinkages that can’t be attributed to the traditional villains. And that is that firms were reducing their debt voluntarily. At that time, the Fed tried to increase money supply by pumping reserves into the system, but with everyone paying down debt, the multiplier was actually negative, so it produced no results whatsoever.”
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And companies became hellbent to pay down debt because — “The price of assets purchased with borrowed funds (as most had been, during the Roaring’20s) collapsed after the stock market crash, and companies’ leverage had already gotten extremely high before the Crash. In other words, companies in the 1930s faced the same balance sheet problems as Japanese firms confronted in the 1990s. The lesson we learned from our experience in Japan is that with the government borrowing and spending money, the money multiplier will stay positive, and that’s basically how Japan kept its GDP growing throughout its Great Recession. So we have a situation where fiscal policy is actually controlling the effectiveness of monetary policy. It’s a complete reversal of what almost everyone alive today learned in school — that monetary policy is the way to go. But once everyone is minimizing debt instead of maximizing profits, all sorts of fundamental assumptions go out the window.” Just like a severe asset price crash on leverage caused crises for the U.S. in the 1930s and for Japan in the 1990s, our real estate driven recession is more than just a manufacturing slowdown or a simple policy mistake.
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In the U.S. we had over 150 bank closures last year, and have had 72 in 2011.  Banks are reticent to lend, but the real problem continues to be that there is less demand for money, and deleveraging will continue to weigh on growth for years. There are many parallels Koo describes with the Japanese crisis as well, which I will discuss in another article.
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The worst part of our current situation in the U.S. is that new bank capital adequacy standards are making it even more difficult for banks to encourage private lending.  So banks do not wish to lend, lending standards have increased dramatically, and citizens don’t want to borrow…and now with a flat yield curve, I don’t understand how financial institutions are going to dig their way out of this mess with profits either. Thank you Ben Bernanke.  Your “operation twist” policy has eroded all profit potential for financial institutions in 2012.  Let the deleveraging continue…

Cheers, Singh

“As I said there is nothing wrong with failing. Pick yourself up and try it again. You never are going to know how good you really are until you go out and face failure.”
-Henry Kravis

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Goldman on the Irish Bailout…European Contagion

Monday, November 22nd, 2010


The Irish bailout being unveiled this week will determine the performance of both the Euro and the global equity markets.  Irish and Portuguese bond spreads had been widening over the past four weeks, since Ireland again became the focus of bearish investors.  Sources claim that the current bailout will be less than 100 billion euros, and will cover the entire country’s budget needs for the next three years.  Ireland’s current budget deficit is about 19 billion euros/year. The problem is that the Irish banking system may need more help than analysts expect.  The system has more than half a trillion in assets.  According to Reuters, the hole in the commercial real estate sector is greater than 25 billion Euros alone.  This does not include potential residential losses.

To make matters worse, a Irish debt resolution could also simply shift bearish speculation to Portugal according to Citigroup and Nomura.  According to Bloomberg, “Portugal’s bonds currently yield 6.88%, compared to 8.26% for Ireland and 11.62 % for Greece.” Growth in Portugal may slow to 0.2% in 2011, which could make the deficit worse and increase worries about the country’s sovereign debt.

Zero Hedge recently provided Goldman’s perspective on the Irish bailout: “For what it’s worth, here is Goldman’s take on the Irish bailout. Since it was Goldman’s endless currency swaps that allowed Europe to lie about their deficits and true debt levels, this should be interesting…

From Francesco Garzarelli

Earlier tonight, Ireland applied for conditional funding assistance and will therefore be the first Eurozone sovereign accessing the EU-IMF support framework instituted in May. The latest European Economics Analyst provides background. There are still several uncertainties surrounding the deal, including the government’s political support (a by-election is due this Thursday), and negotiations on the banks. The yield spread between 5-yr Irish government bonds and their German counterparts has fallen by around 100bp from the 600bp highs reached on 11 November. At this point, we see scope only for a further 50bp tightening. That said, we think that this represents an important step towards a resolution of EMU sovereign woes, and a gradual relaxation of the risk premium that has built up in Italy and Spain, and in Eastern Europe.

Main Points

According to EU sources quoted by the newswires, the size of the package will be in the region of EUR 80-90bn. But this has still to be finalized, including the implications, if any for the Irish banks’ debt.  The amount is broadly in line with our estimates, and can easily be covered. Consider that the EFSM is endowed with EUR 60bn and EFSF has borrowing capacity of EUR 428bn (the portion guaranteed by Germany and France amounts to EUR 220bn). Additional IMF funding is available for up to 50% of the total amount drawn from the EFSM/EFSF with a ceiling of EUR 250bn. Both the UK and Sweden have announced they stand ready to provide bi-lateral loans.
Discussions on the cost of funds are also underway. We expect the EFSF (AAA-rated) to borrow in the region of 2.5% at the 5-yr maturity.  Assuming the terms are in line to those applied to Greece (which should represent a ceiling, given the different credit position of the two countries), the funding cost to Ireland would be along these lines:

  • EFSM/EFSF: Up to 3-yr maturity, Euribor or fixed swap + 300bp; Above 3-yr, Euribor or fixed swap +400bp; 50bp handling fee; (3-mth Euribor is currently 97bp)
  • IMF: Up to 3-yr maturity, SDR rate + 200bp; Above 3-yr, SDR rate + 300bp; Commitment fee, 50bp (est.) + 50bp service charge; (the Euro SDR rate is linked to 3-mth Euripo and is currently around 26bp)
    Using these figures and under a no IMF funding hypothesis, the savings for Ireland relative to the secondary market rates as of last Friday’s close would be in the region of 100bp (notice that the ECB has been intervening in this market, and that this is not indicative of primary access costs).
  • Ireland April 2013 yields 6.30% (bid); corresponding Eurozone funding 2.00%+300bp=5.00%
  • Ireland April 2016 yields 7.40% (mid), corresponding Eurozone funding  2.40%+400bp=6.40%

These, we stress, should be taken as ceilings. A ballpark of 60-30 from the EFSM/EFSF and IMF would result in funding cost closer to 3.5% on a 3-yr horizon.

Broader Market Implications

As discussed in our notes over the past fortnight, and in our latest Fixed Income Monthly, EMU Spreads: Navigating the Issues, we are of the view that the activation of external help should not lead to an escalation of systemic risk as seen in the aftermath of the Greek multi-lateral ‘bail-out’. A pre-agreed institutional framework is now in place, and the ‘stress tests’ have provided information on the distribution of risks across the Euro-zone banking sector.

Other than the evolution of the Irish discussions (size of the package and terms), the near term focus will also remain the Iberian peninsula. A workers strike in Portugal this Wednesday will re-kindle the debate on the much needed structural reforms. Spain unveiled a list of these last Friday, but investors remain uncomfortable about the contingent liabilities stemming from the non-listed cooperative banks.

Our opinion is that Portugal remains a possible candidate for external help, should market pressures remain high. But its systemic relevance is much smaller than that of Ireland’s or Greece’s (the largest foreign creditor is Spain). We remain of the view that Spain is in a different debt sustainability position, and the depth of its domestic market should allow it to withstand market pressures.

We continue to recommend holding 30-yr Greek paper, and would look for opportunities to re-establish long positions in intermediate maturity Italian and Spanish government bonds relative to the ‘core’ countries.

Finally, it is worth recalling that the EFSF will not pre-fund, and its funding instruments will have broadly the same profile as the related loans to Ireland. Its issuance program could lead to a marginal cheapening of bonds issued by supra-national institutions such as the European Investment Bank, the German-based KfW and the French CADES. Note, however, that these institutions have borrowing programs of EUR 60-70bn per annum, while the corresponding annual EFSF issuance would be likely quarter of that amount.”

Morgan Stanley Sovereign Credit Outlook: Greece Fears Continue to Drive Bond Yields Higher

Wednesday, May 5th, 2010

What should have been a 1 month affair has now become a 6 month ordeal for the world credit markets.  As of today, May 5th, the European equity markets are in fact negative for the year and the world MSCI index has given up its entire gain for 2010.  It is ironic how a country that only makes up 2.3% of Europe’s GDP could cause the Euro to fall from 1.40 to 1.28 in a matter of weeks.  Euro shorts have multiplied despite efforts by banks such as Citi to put targets on the currency at 1.35+.  Commodity markets have also been roiled, with the VIX jumping 15% yesterday as well.  Worries that Portugal would be downgraded again have multiplied investor concerns.  Investors around the world wait in fear as policy measures will be discussed by Germany and other European nations on May 7th.  Riots in Greece have killed three so far in retaliation to austerity measures linked to the proposed bailout by the European Union and the IMF.

Please see Morgan Stanley’s outlook below.

Contagion Call Slides

According to Ms. Petrakis of Bloomberg, “May 6 (Bloomberg) — Greece’s Parliament will debate today the austerity measures demanded as a condition of an internationally led bailout as the nation mourns the three victims of Athens protests against the plan.

Prime Minister George Papandreou, whose Pasok party holds a 10-seat majority in the legislature, will tell lawmakers today that the wage and pension cuts are necessary to secure the 110 billion-euro ($141 billion) package and avoid default.

“No one was happy with the new measures,” Papandreou told parliament yesterday after the killings, which he called a “brutal murder.”

“We have compassion for every family who has seen their plans for the future slip seemingly further away,” he said. “But we took these measures to secure a future which might not exist otherwise.”

Greece agreed to the austerity package on May 2, pledging 30 billion euros in budget cuts in the next three years to tame the euro-region’s second-biggest deficit. Papandreou was forced to seek the aid after soaring borrowing costs left Greece cut off from markets. The measures have fueled months of protests that culminated in yesterday’s general strike. Three bank workers were killed when a small group of protesters threw fire- bombs at a bank.

Papandreou is pushing to get parliamentary approval before a European Union summit in Brussels tomorrow on the plan that will help ready the funds for distribution. The country faces 8.5 billion euros in bond redemptions on May 19.

Bonds Drop

Yesterday’s violence deepened losses in Greek debt. The yield premium investors demand to buy Greek 10-year bonds over comparable German debt, reached 719 basis points. The country’s 2-year notes yield almost 16 percent, 26 times more than Germany.

“I want to believe it is easy to overestimate this problem,” said Erik Nielsen, chief European economist at Goldman Sachs Group Inc, in a conference call yester. “One should not be overly concerned so far.”

Europe is scrambling to activate the aid package to try to stop the fallout from spreading to other high-deficit countries such as Spain and Portugal. Yield premiums on those countries’ debt have also jumped and the euro has slid more than 10 percent this year, to the lowest in more than a year.

Chancellor Angela Merkel appealed to the German Parliament yesterday to approve the nation’s share of the loans, saying the stability of the euro was at stake. Germany will pay 22.4 billion euros, almost 30 percent, of the euro-region funds offered to Greece over three years, and public opposition to the bailout is running high. German lawmakers will vote tomorrow on the aid.

Anarchists’ Blaze

The debate in the Greek parliament will be overshadowed by the violence of yesterday’s strike that turned deadly when protesters, who police described as self-styled anarchists, set fire to a branch of Marfin Egnatia Bank SA, killing two women and a man trapped inside the building.

Athens police swept through the anarchist stronghold of Exarhia yesterday, arresting 25, and detaining 70, according to a police statement. A total of 29 officers were injured in yesterday’s protests, the statement said.

Opposition leaders warned Papandreou not to try to exploit the deaths to push through the austerity measures.

“The tragic death of three people is absolutely condemned,” Aleka Papariga, the head of the Communist Party of Greece, said yesterday on state-run NET TV. “But it can’t be used by the government as an alibi for the people to accept these anti-democratic measures — measures that will come every three, six, nine months.”

More Strikes

The violence may not be enough to end the protests. Local government workers are continuing their strike for another 24 hours, with garbage collectors due to begin a walkout tomorrow morning, according to the state-run Athens News Agency. Stavros Koukos, the president of the federation of bank unions OTOE, told Alter TV that a 24-hour strike would be held tomorrow after the deaths of the three bank employees.

The bill on the measures will debated all day with a vote expected late in the day.

Elected in October on pledges to raise wages for public workers and step up stimulus spending, Papandreou revised up the 2009 budget deficit to more than 12 percent of gross domestic product, four times the EU limit, and twice the previous government’s estimate. EU officials revised the deficit further on April 22, to 13.6 percent of GDP.

Papandreou has said the austerity measures are needed to lower the shortfall to within the EU limit of 3 percent of GDP in 2014. Still, they will deepen a yearlong recession and lead to a 4 percent economic contraction this year and boost unemployment already at a six-year high of 11.6 percent.

“The greatest challenge of the days is maintaining social cohesion and social peace,” Greek President Karolos Papoulias said in an e-mailed statement. “Our country has reached the edge of the abyss. It is the responsibility of all of us that we not step forward into it.”

Eurozone Credit Risk, Defined

Friday, March 5th, 2010

Great description of Eurozone Credit Risk

Eurozone Sovereign Risk (CA Research)

Break-up of the Euro?

Friday, February 19th, 2010

The founder of the Euro speaks…about Italy & Greece

[youtube]http://www.youtube.com/watch?v=00VWWb9NNhw&feature=player_embedded[/youtube]

~I.S.

Greece Outlaws Shadow Transactions

Sunday, February 14th, 2010

greece3

According to Mike Shedlock, in order to collect more tax revenue in Greece, the local government recently outlawed cash transactions greater than 1,500 Euros.  Taxes were also raised on individuals who earn more than 75,000 Euros.  The Greeks have tried lowering government wages, and lowering state capital expenditures.  However, after seeing riot after riot in the education and government services industries, the only method to raise government revenue seems to be by increasing taxes and sharply reducing economic growth, while the other EU members sit back and relax.  The Greek finance minister was quoted, saying:


“From 1. Jan. 2011, every transaction above 1,500 euros between natural persons and businesses, or between businesses, will not be considered legal if it is done in cash. Transactions will have to be done through debit or credit cards”

“There’s tax relief for incomes up to 40,000 (euros)”

“Taxable income based on the new scales will include capital gains from the short-term trading of stocks”

“Deposits in banks outside Greece are exempted from audits of their origin if they are repatriated within six months of the passing of the tax bill and are taxed with a 5 percent rate”

“Wages of board members in unlisted state companies will fall by 50 percent”

“The budget bill for allowances and compensations will be cut by 10 percent”

According to Mike, “Everyone in Greece will quickly figure out that that the time to buy major purchases is now. So expect to see sales plunge starting January 1, 2011 as demand for everything priced above 1500 euros shifts forward.”

New 40% Tax Rate

In addition raising their sales and value added taxes, the Greek government plans to instate a 40% tax rate on high income individuals.

“The 40 percent tax rate will be applied on income levels that are lower than what is the case today, but there will also be intermediate rates that will provide relief for low and middle incomes,” Finance Minister George Papaconstantinou told Ta Nea newspaper in an interview.

He said that as a result of the tax changes, the biggest burden would be felt by a small percentage of tax payers as 95 percent of earners report incomes below 30,000 euros a year.

Retirement Age, Fuel Taxes Rise

Please consider Greece raises retirement age and fuel taxes a day ahead of nationwide civil service strike.

Prime Minister George Papandreou told a cabinet meeting that the reforms “must go ahead now … with greater speed.”

“Our primary duty now is to save the economy and reduce the debt, aiming to do so through the fairest possible solutions that will protect — as far as that is possible — the weaker and middle classes,” said Papandreou, who is to meet in Paris with French President Nicolas Sarkozy on Wednesday ahead of a European Union summit the following day.

The new tax bill, Papaconstantinou said, will increase the burden on the rich while easing taxation for those on low incomes. The top income bracket which will be taxed by the maximum 40 percent will be expanded to include incomes of over euro 60,000 a year, from the current euro 75,000 threshold.

Papaconstantinou said that public consultation over the tax bill continued, and that there could be changes, but that any amendments would be based on the broad principles outlined in the draft.

He confirmed plans to freeze public sector hirings and wages, while cutting bonuses or stipends by 10 percent, a move he said would trim between euro18 and euro345 euros off monthly salaries. The stipend cut will also apply to those of the prime minister, ministers and other high-ranking ministry officials.

“We all know that the civil service salary system is one full of injustices, that lacks any central logic and has evolved with successive bonus payments,” Papaconstantinou said. “We are committed to have a unified payment system.”

He also said all Greeks must collect receipts in order to qualify for the income tax-free amount of euro12,000 — an attempt to crack down on widespread tax evasion, where vendors under-declare their income by not giving receipts. Cash registers will have to be installed everywhere, including kiosks found on practically every Greek street, and food markets.

Pensions Increase

In a move that makes little economic sense in light of attempted austerity measures everywhere else, Greece to grant pension increases of 1.5 pct.

“All pensions will increase by 1.5 percent,” Finance Minister George Papaconstantinou said in a television interview.

“The government did not intend to raise the nation’s top 40 percent income tax rate as part of measures to shore up its finances,” he said.

Mike has “little faith this will work because revenue projections are sketchy and austerity measures will undoubtedly plunge Greece into a severe recession, if not depression.”

~I.S.

For more information, please visit Mish’s Global Economic Trends…