Posts Tagged ‘Wall Street’
Wednesday, February 1st, 2012
The federal Commodity Futures Trading Commission (CFTC) proposed limiting banks’ proprietary trading and hedge fund investments under the Dodd-Frank Act’s Volcker rule. The CFTC 3-2 vote makes it the last of five regulators to seek public comment on the proposal. This vote opens the measure to 60 days of public comment. The rule, named for former Federal Reserve Chairman Paul Volcker, was included in Dodd-Frank to rein in risky trading at banks that benefit from federal deposit insurance and Fed discount window borrowing privileges.
The CFTC stayed mum when the Fed, Federal Deposit Insurance Corporation, Securities and Exchange Commission and Office of Comptroller of the Currency released their joint proposal last year. The four agencies extended the comment period on their proposal until February 13 after financial-industry groups and lawmakers cited the complexity of the rule and the lack of coordination with the CFTC in requesting an extension.
The CFTC may soften Dodd-Frank a bit, granting Wall Street banks exceptions to rules requiring dealers to sensibly believe their derivatives are suitable for clients and in the best interests of endowments and other so-called special entities. The rules “implement requirements for swap dealers and major swap participants to deal fairly with customers, provide balanced communications, and disclose material risks, conflicts of interest and material incentives before entering into a swap,” CFTC Chairman Gary Gensler said.
Opponents say the CFTC proposal would cause “severe market disruption” by transforming the relationship between swap dealers and clients such as pensions and municipalities, according to Sifma and the International Swaps and Derivatives Association, Inc.. Under the final rule, dealers must disclose material risks and daily mid-market values of contracts to their clients. The CFTC may also complete rules designed to protect swap traders’ collateral that is used to reduce risk in trades. The rule insulates the collateral if the broker defaults, while allowing the customer funds to be pooled before a bankruptcy, according to a CFTC summary of the regulation.
Commissioner Scott O’Malia voted in favor or the rule, but said he did not want to give market participants “a misleading sense of comfort” that it would have prevented the loss of customer money at the brokerage giant. “This rulemaking does not address MF Global,” O’Malia said. “This rulemaking would not have prevented a shortfall in the customer funds of the ranchers and farmers that transact daily in the futures market. Nor would it have expedited the transfer of positions and collateral belonging to such customers in the event of a collapse similar to that of MF Global.”
Commissioner Jill Sommers, who voted against the rule, criticized the rule for doing nothing to protect a futures commission merchant’s futures customers. “Given recent events, we need to re-think this approach so we can provide adequate protections, in a comprehensive and coherent way, to swaps customers and to futures customers,” Sommers said. “I do not favor a piecemeal approach to customer protection.”
Tags: bankruptcy, Commodity Futures Trading Commission, Dodd-Frank Act, Federal Deposit Insurance Corporation, Federal Reserve, Hedge fund investment, Inc., International Swaps and Derivatives Association, MF Global, Office of Comptroller of the Currency, proprietary trading, Securities and Exchange Commission, Sifma, Volcker Rule, Wall Street
Posted in Economics, Financing, General | No Comments »
Wednesday, December 7th, 2011
In a stunning revelation, Bloomberg has obtained 29,000 pages of Federal Reserve documents detailing the largest bailout in American history. According to an article that will appear in the January issue of Bloomberg Markets magazine, the “Fed didn’t tell anyone which banks were in trouble so deep they required a combined $1.2 trillion on December 5, 2008, their single neediest day. Bankers didn’t mention that they took tens of billions of dollars in emergency loans at the same time they were assuring investors their firms were healthy. And no one calculated until now that banks reaped an estimated $13 billion of income by taking advantage of the Fed’s below-market rates.”
The $7.77 trillion that the central bank made available stunned even Gary H. Stern, president of the Federal Reserve Bank of Minneapolis from 1985 to 2009. According to Stern, he “wasn’t aware of the magnitude.” It overshadows the Treasury Department’s better-known $700 billion Troubled Asset Relief Program (TARP) program. When you add up guarantees and lending limits, it becomes clear that the Fed had committed $7.77 trillion as of March, 2009 to rescuing the financial system. That is more than half the value of the U.S. GDP that year. “TARP at least had some strings attached,” said Representative Brad Miller (D-NC), a member of the House Financial Services Committee. “With the Fed programs, there was nothing.”
According to Bloomberg’s editors, “Even as they were tapping the Fed for emergency loans at rates as low as 0.01 percent, the banks that were the biggest beneficiaries of the program were assuring investors that their firms were healthy. Moreover, these banks used money they had received in the bailout to lobby Congress against reforms aimed at preventing the next collapse. By keeping the details of its activities under wraps, the Fed deprived lawmakers of the essential information they needed to draft those rules. The Dodd-Frank Wall Street Reform and Consumer Protection Act, for example, was debated and passed by Congress in 2010 without a full understanding of how deeply the banks had depended on the Fed for survival. Similarly, lawmakers approved the Treasury Department’s $700 billion Troubled Asset Relief Program to rescue the banks without knowing the details of the far larger bailout being run by the Fed.
“The central bank justified its approach by saying that disclosing the information would have signaled to the markets that the financial institutions that received help were in trouble. That, in turn, would make needy institutions reluctant to use the Fed as a lender of last resort in the next crisis. Fed officials argue, with some justification, that the program helped avert a much bigger economic cataclysm and that all the loans have now been repaid.”
Derek Thompson, a senior editor at The Atlantic, argues that the Fed’s secret bailout is a sign that it was doing its job. According to Thompson, “First, you can be furious that the Federal Reserve ‘committed’ $7.7 trillion — a sum of money equal to half of the U.S. economy — to save the financial system. I understand the shock, but we were at the precipice of catastrophe and that money wasn’t ‘spent’ so much as it was put at risk and subsequently recouped. The economy has struggled in the three years since, but we avoided meltdown. The trillions worked.
“Second, you can be furious that the banks made a profit off of their own mistakes — but $13 billion is a small price to pay for staving off Armageddon. Third, you can be furious that the Federal Reserve went to court to keep this information out of the hands of journalists. There, I’d agree. It’s Congress’s job (not the Federal Reserve’s job) to pass laws that govern the banking sector, but Congress needs information to make good decisions about regulating banks and it’s disappointing that the Federal Reserve withheld details about its bailouts while the commission and the Dodd-Frank debate were ongoing. Fourth, you can be furious that our central bank basically did the right thing when it had to, and its counterpart in Europe won’t — at the risk of a continental meltdown.”
Times’ Massimo Calabresi agrees. According to Calabresi, “But the Fed saved the world economy through all this lending without losing a penny in the process. And after its initial heavy breathing, the article does give the Fed an opportunity to explain itself. ‘Supporting financial-market stability in times of extreme stress is a core function of central banks,’ said William B. English, director of the Fed’s Division of Monetary Affairs. “Our lending programs served to prevent a collapse of the financial system and to keep credit flowing to American families and businesses.’ In other words, lending money to banks in a crisis is the whole point of the Fed: saving the world economy by flooding the system with money when it is about to freeze up is exactly what the central bank was created to do.”
The Fed has been lending money to banks since just after it was established in 1913. By the end of 2008, the Fed had created or expanded 11 lending facilities catering to financial firms that were unable to obtain short-term loans from their usual sources. “Supporting financial-market stability in times of extreme market stress is a core function of central banks,” said William English, director of the Fed’s Division of Monetary Affairs. “Our lending programs served to prevent a collapse of the financial system and to keep credit flowing to American families and businesses.”
Tags: bailout, Ben Bernanke, Bloomberg, Committee, congress, Division of Monetary Affairs, Dodd-Frank Wall Street Reform and Consumer Protection Act, Federal Reserve, Freedom of Information Act, GDP, House Financial Services, Occupy Wall Street movement, Treasury Department, Troubled Asset Relief Program, Wall Street
Posted in Economics, Financing, General | No Comments »
Monday, October 24th, 2011
Federal regulators have requested public comment on the Volcker Rule – the Dodd-Frank Act restrictions that would ban American banks from making short-term trades of financial instruments for their own accounts and prevent them from owning or sponsoring hedge funds and private-equity funds. The Volcker rule, released by the Federal Reserve, the Federal Deposit Insurance Corporation (FDIC) and Office of the Comptroller of the Currency, is intended to head off the risk-taking that caused the 2008 financial crisis. The rule, which is little changed from drafts that have been leaked recently, would ban banks from taking positions held for 60 days or less, exempt certain market-making activities, change the way traders involved in market-making are compensated and assure that senior bank executives are responsible for compliance.
Analysts say the proposed rule could slash revenue and cut market liquidity in the name of limiting risk. Banks such as JPMorgan Chase & Co. and Goldman Sachs Group Inc., have already been winding down their proprietary trading desks in anticipation of the Volcker Rule kicking in. Banks’ fixed-income desks could see their revenues decline as much as 25 percent under provisions included in a draft, brokerage analyst Brad Hintz said. Moody’s Investors Service said the rule would be “credit negative” for bondholders of Bank of America Corporation, Citigroup, Inc., Goldman Sachs, JPMorgan and Morgan Stanley, “all of which have substantial market-making operations.” The rule, named for former Federal Reserve Chairman Paul Volcker, was included in the 2010 Dodd-Frank Act with the intention of reining in risky trading by firms whose customer deposits are insured by the federal government.
John Walsh, a FDIC board member and head of the Office of the Comptroller of the Currency, said that he was “delighted” that regulators had reached an agreement on the proposed rule, “given the controversy that has surrounded this provision — how it addressed root causes of the financial crisis.” “I expect the agencies will move in a careful and deliberative manner in the development of this important rule, and I look forward to the extensive public comments that I’m sure will follow,” Martin J. Gruenberg, the FDIC’s acting chairman, said. The rule will be open for public comment until January.
Not surprisingly, Wall Street opposes the rule, saying it will cut profits and limit liquidity at a difficult time for the banking industry. Moody’s echoed those concerns, saying the current version of the Volcker rule would “diminish the flexibility and profitability of banks’ valuable market-making operations and place them at a competitive disadvantage to firms not constrained by the rule.” Some Democratic lawmakers and consumer advocates are pushing to close loopholes in the rules, especially the broad exemption for hedging. Supporters of the Volcker rule take issue with a plan to excuse hedging tied to “anticipatory” risk, rather than clear-and-present problems. “Unfortunately, this initial proposal does not deliver on the promise of the Volcker Rule or the requirements of the statute,” said Marcus Stanley, policy director of Americans for Financial Reform, an advocacy group. Additionally, the Securities Industry and Financial Markets Association raised concerns about whether the exemption for trades intended to make markets for customers is too narrow.
According to Moody’s, the large financial firms all have “substantial market-making operations,” which the Volcker Rule will target. The regulations also will recreate compensation guidelines so pay doesn’t encourage big risk-taking. Derivatives lawyer Sherri Venokur said restrictions on compensation are “intended to create a sea change in the mindsets of those who create the culture of our banking institutions — to value ‘safety and soundness’ as well as profitability.”
Equity analysts at Bernstein say that the Volcker Rule — if implemented in its current form – will slash Wall Street brokers’ revenues by 25 percent, and cut pre-tax margin of their fixed income trading businesses by 33 percent. According to Bernstein, the Volcker Rule’s potential limitations are a surprise because it appears to prohibit flow trading in “nonexempt portions” of the bond-trading business. Bernstein says inventory levels – and, in all probability, risk taking – must be based on client demands and not on “expectation of future price appreciation.”
A Bloomberg.com editorial offers support to the Volcker Rule, while admitting it won’t be perfect. According to the editorial, “This week, the first of several regulatory agencies will consider a measure aimed at ending the practice. Known as the Volcker rule, after Paul Volcker, the former Federal Reserve chairman, the measure would curb federally insured banks’ ability to make speculative bets on securities, derivatives or other financial instruments for their own profit — the kind of ‘proprietary’ trading that can lead to catastrophic losses. Whatever form it takes will be far from perfect. It will also be better than the status quo. The bank bailouts of 2008, and the public outrage over traders’ and executives’ bonuses, laid bare a fundamental problem in big institutions such as Bank of America Corporation, Citigroup Inc. and JPMorgan Chase & Co.
“They attempt to combine two very different kinds of financial professionals: those who process payments, collect peoples’ deposits and make loans, and those who specialize in making big, risky bets with other peoples’ money. When these big banks run into trouble, government officials face a dilemma. They want — and in some ways are obligated — to save the part of the bank that does the processing and lending, because those elements are crucial to the normal functioning of the economy. But in doing so, they also end up bailing out the gamblers, a necessity that erodes public support for bailouts and stirs enmity for banks. Separating the bankers from the gamblers is no easy task. Commercial banks’ explicit federal backing — including deposit insurance and access to emergency funds from the Federal Reserve — is attractive to proprietary traders, who can use a commercial bank’s access to cheap money to boost profits. Bank executives like to employ traders because they generate juicy returns in good times that drive up the share price and justify large bonuses. In effect, both traders and managers are reaping the benefits of a government subsidy on financial speculation. The Volcker rule will not — and probably cannot — fully dissolve the union of bankers and gamblers.”
Tags: Americans for Financial Reform, Bank of America Corporation, Bloomberg, Citigroup, derivatives, Dodd-Frank Act, Federal Deposit Insurance Corporation, federal regulators, Federal Reserve, financial crisis, financial regulation, Goldman Sachs, hedge funds, Inc., JP Morgan Chase & Company, Moody’s Investor Services, Morgan Stanley, Office of the Comptroller of the Currency, Paul Volcker, President Barack Obama, Private-equity funds, securities, Securities Industry and Financial Markets Association, Short-term trades, Volcker Rule, Wall Street
Posted in Economics, Financing, General | No Comments »
Tuesday, October 18th, 2011
The strange saga of how a rogue UBS trader lost $2 billion and who has since been fired and charged with fraud and false accounting in a London court has raised questions about the bank’s stability and whether it will retain its clients. Ghana-born trader Kweku Adoboli was perceived as a polite and snappily dressed young man who mixed grueling hours in London’s financial district with a lavish social life in the capital’s nightspots. But even the 31-year-old Adoboli appeared to foresee his work-hard, play-hard lifestyle coming undone. “Need a miracle,” he posted on his Facebook page, just hours before his arrest.
Analysts and regulators questioned why the Swiss banking giant UBS and its monitoring systems had failed to spot Adoboli’s alleged fraud. “Nobody blames the tiger for stalking its prey, but you do blame the zookeeper for leaving the tiger’s cage open,” said Stephen Brown, professor of finance at New York University’s Stern School of Business. “These top banks hire the best and brightest ambitious young people and when they outperform everyone else the bankers want to believe in their brilliance so they look the other way. That’s exactly what happened at UBS.”
Said a London based private banker at a rival global institution, “We don’t want to gloat because there but for the grace of God. But it’s likely to be the kind of thing that if we were in competition with them for a pitch it would help us because it would be another question mark in people’s minds,” he said.
Peter Thorne, an analyst at Helvea said this crisis is less serious than UBS’ previous woes and is unlikely to result in a similar stampede. “I can’t believe they’re not going to do their utmost to maintain their clients. Also, if you’ve been through the financial crisis and you stuck with UBS you must love them, so I’m not sure you’re going to jump ship,” he said.
The Wall Street Journal’s David Weidner compares this case to that of Nick Leeson. “Consider the story of Nick Leeson, the first trader to bring down a bank. He racked up $1 billion in losses and was sentenced to six years in jail. Barings Bank collapsed under the weight of the exposure. Leeson said exceptional risk-taking was common. He actually used an account that his team had set up to cover losses of a junior trader. And as many accused rogues have argued, Leeson said the bank tacitly approved. The number of rogue traders — there have been at least 11 since 1995 who have lost roughly $10 billion combined – suggests that Leeson may be right. So, why is trading beyond internal limits allowed? Because of the winners. Enter Philipp Meyer, a former UBS derivatives trader who left the business a few years ago and wrote about the excess of the business. To be clear, Meyer never said he made unauthorized trades, but he did offer this observation about trading. ‘It was pretty clear what The Market didn’t like. It didn’t like being closely watched. It didn’t like rules that governed its behavior.’”
Writing for Business Week, William D. Cohan says that “Whether UBS is shown to have been aware of Adoboli’s trading is almost beside the point. If the bank was aware of it and did not stop it, then its failure to do so is unconscionable. If it was not aware of the trades, then its compliance and risk management departments’ failure to prevent them from happening in the first place is equally appalling. In the post-Lehman, Dodd-Frank, Basel-III era, it is nearly unfathomable that a global bank of UBS’s heft, wealth and importance could allow this kind of loss to occur. Where were the adults? There will almost certainly be regulatory consequences for the rest of Wall Street as a result of this ill-timed debacle. The banks will howl, but tighter rules could actually help protect the rest of us from their bad behavior.”
Happily for the United States and the Dodd-Frank laws, it’s less likely that a rogue trader could topple a major U.S. financial institution. One section of the Dodd-Frank legislation is the Volcker Rule, named after former Federal Reserve chairman Paul Volcker, which limits American banks’ ability to trade their own funds. That wasn’t true in 2008, when losses from bad bets that banks made on mortgages led to the meltdown of Bear Stearns and Lehman Brothers. Full implementation of the Volcker Rule is expected to be delayed from its original July 21, 2012 deadline. A majority of the largest American banks have already sold or closed the desks that make these trades – known as “prop” or proprietary trading desks. “Banks can put themselves under with dangerous trading and take the commercial side with them as they go down,” said Robert Prentice, a professor of business law at the University of Texas’ McCoombs School of Business. “A big part of what the Volcker Rule will do is separate out the risky trading from the deposits.”
A majority of the banking system depends on computers to spot abnormal trading activity that could signal unauthorized trades. Industry watchers still question whether the Volcker Rule in its final form will mandate the spin-off of prop trading from banks or whether it will be watered down. “You can’t underestimate the lobbying ability of the banking industry in the U.S. and the U.K.” said Stewart Hamilton, a finance and accounting professor at the University of Edinburgh. “It’s huge.”
Tags: Barings Bank, Basel III, Bear Sterns, Credit Suisse, Dodd-Frank Act, Federal Reserve, Helvea, Kweku Adoboli, Lehman Brothers, London Capital Markets Division, Nick Leeson, Paul Volcker, Proprietary trading desks, Rogue trader, UBS, Volcker Rule, Wall Street
Posted in Economics, General | No Comments »
Monday, September 26th, 2011
Mark Zandi of Moody’s Analytics,
who often discusses the economy, recently said something disturbing and fascinating about the possibility of a double-dip recession. According to Zandi, it could be the only recession that we will ourselves into. Zandi was talking about gloomy expectations that make people so nervous that in terms of economics, they freeze. His remarks are a reminder that while we regularly report economic data – unemployment, cost of living, home prices, trade deficits – there are other measures of our economy that are, by definition, subjective. Do we feel secure? Do we have confidence in the future to the point where we’re willing to spend money and take risks?
According to Dennis Jacobe of the Gallup Organization, “We’re a lot less confident than we normally are. Three out of four right now will say the economy is getting worse. And that’s a number that approximates the numbers of late 2008. I think the American people don’t see the economy that most of us economists and the public policymakers see. Americans see high unemployment rates and are concerned about losing their job. They’re concerned about higher food prices and higher energy prices, even though we say that there’s not much inflation. They’re worried about the housing market. And then on top of that, they’re worried about things like politics and the confrontational kind of stalemate in D.C.
“That certainly had an impact according to our numbers,” according to Jacobe. And what we see happening over the last several weeks is interesting in the sense that the average American, middle and lower income American, has been fairly pessimistic for quite a while with all these things that have been bothering them. But what we’ve seen happen recently is that things like the confrontation over the debt ceiling bill and on other kinds of things seem to have troubled upper-income Americans. Now, they’re also affected by what’s happening on Wall Street and what’s happening internationally with the problems in Europe and those kind of things, but when upper-income people also get very pessimistic, that’s when our numbers get up to three-quarters or 80 percent of Americans being worried.
“There really isn’t. And, you know, I think that one of the things that’s happening is that we’re not paying enough attention to consumer psychology as opposed to Wall Street and investor psychology. People all the time talk about how that affects Wall Street and how when Europe has had financial problems, they thought – people thought back to 2008 and the financial crisis and all those kind of things. But the average American is affected by the same kind of thing. They saw tremendous financial shock in 2008 and early 2009. And they saw that in their lives and in terms of not only credit access, but also in terms of their jobs and their job security. And I think people forget that when a lot of these things happen, like the budget confrontation, that that brings back memories of those days and those troubles. And that has a major impact on consumer psychology. So the statement like Zandi made makes a lot of sense in the sense that consumers actually are impacted today differently than, say, in years past,” Jacobe said.
“The trouble is people are so shell-shocked and haven’t really gotten over the recession,” according to Zandi. “They’re extraordinarily nervous, and when anything goes off script even a little bit they freeze, and that’s where we are right now and why we are so close to recession.”
In discussing the recent Standard & Poor’s downgrade of the United States’ credit rating from AAA to AA+, Zandi believes that there is a logical apprehension that a financial market selloff could feed on itself, doing real economic damage if it drags on. Wary households might respond by cutting back on spending, and anxious businesses would be even more cautious about investing and hiring. This could cause a double-dip recession, which would only intensify the nation’s fiscal troubles. Federal Reserve policymakers are certain to take this into account. S&P might even downgrade other nations’ sovereign debt, since the U.S. government provides vital support to the entire global financial system. This could increase borrowing costs for homebuyers seeking mortgages and businesses that want to expand. The impact on lending rates would be small, a few basis points at most. Financial markets should be able to weather the S&P downgrade, with little lasting economic impact. “Fundamentally the United States does not deserve a downgrade, because policymakers have made significant strides toward fiscal responsibility. The debt-ceiling deal was a vital step that doesn’t solve the nation’s problems, but it goes more than halfway,” Zandi said.
One idea that Zandi has to stimulate the economy is to take back unspent dollars from the American Recovery and Reinvestment Act (ARRA) and spend it on projects or on short-term stimuli like food stamps. This is easier said than done and might create more problems than it fixes. “It’s meaningful, but it’s not a game-changer,” Zandi said. “From an economic and political perspective, I’m not sure that would make a lot of sense to do. A lot of this spending has generated a lot of planning, a lot of environmental designs. They’re counting on the money. If you’re going to divert it, you’re going to create all kinds of problems for them.”
Tags: American Recovery and Reinvestment Act, Cost of living, D.C., Double-dip recession, Energy prices, Federal Reserve, Food prices, food stamps, Gallup Organization, home prices, inflation, Mark Zandi, Moody’s Analytics, S&P credit downgrade, Sovereign debt, stalemate, stimulus bill, Trade deficit, unemployment, Wall Street, Washington
Posted in Economics, General | No Comments »
Monday, August 22nd, 2011
Standard & Poor’s may have downgraded the United States credit rating from AAA to AA+ and the bears may have taken over Wall Street, but the Berkshire Hathaway chairman and billionaire Warren Buffett believes that the nation deserves a AAAA rating.
In a recent appearance on CNBC, Buffett said that he still believes that the United States’ debt is AAA and that he’s not changing his mind about Treasuries based on Standard & Poor’s downgrade. “If anything, it may change my opinion on S&P,” according to the Oracle of Omaha. “I wouldn’t dream of putting it anywhere else,” Buffett said, noting that at Berkshire, the only reason he’s sold Treasuries in the past is to purchase stocks or make acquisitions. Berkshire is still buying T-bills, even though yields have declined. “If I have to buy (Treasuries) at a zero percent yield, I will,” he said. “I don’t like it, but we’ll do it.”
Buffett has something of a vested interest in criticizing Standard & Poor’s. Berkshire Hathaway is one of the biggest shareholders in Standard & Poor’s main competitor Moody’s with about 28 million shares. But the billionaire has long urged people to make their own decisions about an investment’s prospects without relying on credit rating agencies. Buffett said the action doesn’t change his view on the soundness of U.S. Treasury bills. At least $40 billion of Berkshire Hathaway’s approximately $48 billion cash and equivalents is in U.S. Treasury bills, and Buffett won’t consider investing it elsewhere.
According to Buffett, America’s leaders may have a difficult time agreeing on the country’s financial future and the value of the dollar may slide, but that won’t keep the world’s richest nation from paying its debts. The United States has a GDP of about $48,000 per person, and the Federal Reserve can always print more money. “Our currency is not AAA, and in recent months the performance of our government has not been AAA, but our debt is AAA,” Buffett said.
Writing on the InvestorPlace.com website, Jeff Reeves says that “Before you scoff that Buffett is just a bygone relic of an era during which stocks like General Electric truly did have bulletproof dividends and it would have been unfathomable for stocks like General Motors to go bankrupt, consider this: In September 2008, the depths of the financial crisis when nobody knew which bank would fail next, Buffett and Berkshire dumped $5 billion into preferred stock of Goldman Sachs. Thanks to the 10 percent interest on those shares, Berkshire Hathaway earned a cool $500 million per year in dividends before Goldman bought back the stock several months ago. What’s more, the investment bank paid a hefty 10 percent premium to buy back those preferred shares. Maybe it was crazy to jump into banks headfirst when the market was going haywire in 2008. But it was awfully profitable for Buffett. You might think it’s crazy to stick to your buy-and-hold strategy now, or to continue to rely on U.S. Treasury Bonds. But take a deep breath and remember that not everyone is screaming and running for the hills. Yes, persistent problems with unemployment, the political bickering in Congress and the flatlining of our American economy are serious issues. But they are hardly new.”
Not everyone agrees with Buffett. According to the Equity Master website, “We must say that we do not agree with Mr. Buffett. We are not arguing with the credibility of S&P, whose reputation admittedly became tainted when it gave the highest rating to many mortgaged backed securities in the months leading up to the demise of Lehman. But that does not mean that the U.S. is without some serious problems. Indeed, the U.S.’ mounting debt is a huge cause for concern and the government’s latest move to raise the debt ceiling is only likely to postpone an eventual default and not entirely extinguish it. Moreover, the claim that the U.S. can pay its debt because it can print more money is a dangerous one to make. Printing money never really solved America’s problems. The two big quantitative easing programs and their failure to revive the sagging U.S. economy is testimonial to the fact. One thing that it will certainly do is bring down the value of the dollar and cause inflation to accelerate posing a fresh set of problems for the U.S. So, while criticisms can be piled on S&P, downgrading of the U.S.’ credit rating is something that the world’s largest economy had a long time coming.”
Firstpost agrees that Buffett is wrong. “Among other things, he said that the U.S. deserved a AAA credit rating when the S&P decided to bring it down to AA+. He also believes the U.S. will avert a double-dip recession. Well, Mr. Buffett, you are already half-wrong. A slow-growing nation with a 100 percent debt-to-GDP ratio cannot be AAA by any stretch of economic logic. It makes India’s 70-72 percent debt-GDP ratio look like the epitome of prudence. As for the other half of your prediction – that the U.S. will avoid a double-dip recession – the jury is out on that one, but the recession wasn’t the reason for the S&P downgrade anyway. There are two reasons, or maybe three, why the U.S. is in a mess. One is that it is overleveraged – in deep debt – both at the level of government and the common people. Two, the law that the U.S. can indefinitely live beyond its means has a flaw. It was built on the assumption that dollar debts can be paid off by printing more of the green stuff forever.”
Tags: AAA credit rating, Bear market, Berkshire Hathaway, Buy-and-hold strategy, CNBC, congress, Double-dip recession, Federal Reserve, financial crisis, GDP, General Electric, General Motors, Goldman Sachs, Lehman Brothers, Moody’s, Political bickering, Quantitative easing, Standard & Poor’s, T-bills, The Oracle of Omaha, Treasuries, unemployment, Wall Street, Warren Buffett
Posted in Economics, General | 1 Comment »
Tuesday, August 2nd, 2011
Mortgage finance giants Fannie Mae and Freddie Mac might find themselves merged into a single government-run entity. Representative Gary Miller (R-CA) is set to unveil a bill that would create a utility-like entity and phase out government-controlled Fannie Mae and Freddie Mac. The new company would buy mortgages and repackage them as government-backed securities. The major difference from Fannie and Freddie lies in the fact that it would not have shareholder investors. The National Association of Homebuilders and the National Association of Realtors are expected to support the proposal, which reflects concerns by the industry, consumer groups and some policymakers that a complete withdrawal of government support for home lending could make the housing recession go further downhill.
A competing proposal by Representatives Gary Peters (D-MI) and John Campbell (R-CA) would create a minimum of five private companies to replace the two co-called government-sponsored enterprises, or GSEs. The point of contention for many lawmakers is whether to provide a government backstop for mortgages and on what terms to provide the guarantee. House Financial Services Committee Chairman Spencer Bachus (R-AL) is trying to forge a consensus among Republican members. Any bill that is generated by Bachus’ committee and is passed by the Republican-led House would likely still be in jeopardy once it reaches the Democratic-controlled Senate.
“There was the idea that people were so tired of taxpayer losses related to housing that the traditional housing lobby would not be able to retaliate effectively,” said Jim Vogel, chief of agency debt research at Memphis-based FTN Financial. “It’s time to start waving the housing flag again.”
That would represent a sea change from February, when the Treasury Department recommended selling off Fannie Mae and Freddie Mac holdings within 10 years; Jeb Hensarling (R-TX) wanted to do it in half that time. Since then, homebuilders, real estate agents, investment banks, civil rights leaders and consumer advocates have lobbied to retain a government role — including the unspoken federal guarantee behind Fannie Mae and Freddie Mac. Congress created the programs as private companies to expand home ownership.
Already, the government is slowing its efforts to prop up the housing market. Beginning this fall, the cap on Fannie and Freddie-backed mortgages — loans where taxpayers are on the hook if borrowers don’t pay — will decline in some regions. At the height of the housing crisis, Congress raised the cap to $729,750 in areas where homes are most expensive. After October, that will fall to $625,500. The limit varies by county. Mortgages that are too expensive to get backing from Fannie and Freddie are called jumbo loans and usually have higher interest rates and require larger downpayments. That maximum was set by Congress in 2008 in an attempt to ensure that borrowers could continue to obtain loans in particularly expensive housing markets during the credit crunch, especially in prime real estate locations, such as New York, Los Angeles and Washington, D.C.
The Deal Book column in the New York Times thinks that the idea of merging Fannie and Freddie is not as outrageous as it may at first seem. “Consider the math: For the first six months of this year, both companies spent $1.825 billion in overhead costs combined; on an annualized basis, that means the companies are spending about $3.65 billion. Given that the companies do pretty much the same thing – buying mortgages from banks, insuring them and creating mortgage-backed securities – there might be opportunities for savings if many of their managers and staff are, to put it politely, redundant. Conservatively, a combined Fannie and Freddie could probably cut a third of its overhead and staff, saving some $1.2 billion annually. The way Wall Street values companies, that means – presto – billions more in value, perhaps as much as $18 billion or $19 billion, could be created overnight.”
“It would instill a huge amount of confidence. The market will know that both entities combined will have much more consistent, stable margins,” John Lekas, chief executive of Leader Capital, an investment firm, said on CNBC last week. He added that it “doesn’t cost taxpayers one nickel.”
Additionally, Fannie and Freddie are on track in 2011 to spend about $1.8 billion on what is known as “foreclosure costs,” which means maintaining and selling thousands of homes that became part of their ownership portfolios after the owners were unable to pay the mortgage. The costs are staggering, given that Fannie and Freddie together own approximately 153,000 foreclosed homes. “This is just one of the costs that Fannie and the rest of us will pay to dig out of a very big hole,” says Karen Petrou, of Federal Financial Analytics. When she says “the rest of us,” she is telling the truth. Fannie Mae’s tab to American taxpayers is up to $86 billion since September 2008 when it was taken into government conservatorship. During the 1st quarter of 2011, Fannie racked up $488 million in foreclosure-related expenses, including holding costs (insurance, taxes and maintenance); valuation adjustments for changes in market value; gains/loss when the property is sold; legal fees; eviction costs; weatherization costs to prevent pipes from bursting; costs to secure the property; and repair costs.
“We want to make sure that we’re comparable with the market or with the neighborhood,” said Elonda Crocket, a Fannie Mae executives who is part of the management team of its massive portfolio of foreclosed properties. The goal is to stabilize the neighborhoods where there are foreclosed homes and get the properties to a condition where first-time homebuyers want to purchase them. “We want to make sure that we can maximize our return on the investment,” she said. In 2010, Fannie Mae repaired 87,000 foreclosed homes.
“It makes them — I think — indisputably the largest purchaser of paint and general appliances for these homes they’re fixing up,” said Guy Cecala, publisher of Inside Mortgage Finance. “If they don’t maintain the houses, then the neighborhoods go downhill, other people are put at risk and the housing crisis gets worse because you have still more downward pressure on overall house prices,” Petrou said.
Tags: congress, Department of the Treasury, Downpayments, Fannie Mae, Federal Financial Analytics, foreclosure, Freddie Mac, FTN Financial, Government-backed securities, GSEs, House Financial Services Committee, Inside Mortgage Finance, mortgages, National Association of Homebuilders, National Association of Realtors, Representative Gary Miller, Representative Gary Peters, Representative Jeb Hensarling, Representative John Campbell, Senate, Spencer Bachus, Wall Street
Posted in Development, Financing, Residential | No Comments »
Monday, June 27th, 2011
Facebook is likely to file for an initial public offering (IPO) as early as October or November that could value the popular social networking site at more than a whopping $100 billion. Goldman Sachs is the top candidate to manage the lucrative offering, which could come in the 1st quarter of 2012. Facebook, whose chief operating officer last month called an IPO “inevitable,” made no comment on the report.
The company’s IPO likely would probably be prompted by a section of the 1934 Securities and Exchange Act known as “the 500 rule” At heart, the rule mandates that once a private company has more than 500 investors, it must release quarterly financial information to the Securities and Exchange Commission, just as public companies do. Facebook, which is likely to cross the 500-investor threshold this year, would probably launch a formal IPO in advance of a public-company reporting obligation that would be required next April. Another factor motivating the IPO, according to people familiar with the plans, is Facebook’s wish to increase employee compensation. Early in 2010, Facebook curbed employees’ ability to sell their company shares privately to other investors — a move that may now be prompting employees to quit Facebook so they can monetize their shares. If the company goes public, however, employees will be able to sell their stock on the open market, allowing them to cash in on their holdings.
“Unable to sell their private shares, Facebook employees are growing restless,” according to Kate Kelly at CNBC. “An initial public offering is expected. A factor in the company’s IPO timing is the Securities and Exchange Commission’s requirement that some companies like Facebook must disclose financial information if they have more than 500 private investors.” The IPO speculation and record high valuation is comes on the heels of recent numbers showing declining user-ship in some of Facebook’s leading markets.
Writing in the Wall Street Journal, Shira Ovide says that “Facebook is on track to exceed $2 billion in earnings before interest, taxes, depreciation and amortization for 2011. That’s even higher than the expected 2011 profit circulated in the early part of the year when Goldman Sachs and Russian investment house Digital Sky Technologies invested in Facebook at a $50 billion valuation. If Facebook ends the year with $2 billion in Ebitda, would IPO investors stomach a 50 times trailing multiple valuation? Seems bubble-like. Trust us. Wall Street bankers, lawyers, P.R. mavens, caterers and everyone else are slobbering for a slice of the Facebook IPO magic. Facebook has been meeting with potential bankers that want to shepherd the IPO. Goldman Sachs is thought to have an inside track to lead the IPO thanks to its recent investment in Facebook, but don’t count out big banks such as J.P. Morgan and Morgan Stanley, which have led recent big tech IPOs. Facebook CEO Mark Zuckerberg has been non-committal about an IPO for a long time. As recently as December, Zuckerberg gave his weird deer-in-headlights stare when ’60 Minutes’ asked him whether he would ever push his baby into the public markets. ‘Maybe’ was Zuckerberg’s answer. But momentum is taking over.”
Not so fast, says Fortune magazine’s Dan Primack. According to Primack, “Pay attention to news that Facebook is planning its IPO. But take its proposed valuation with a grain of salt. First, the most recent private trades of Facebook stock came in at around $85 billion, and private trades are meant to be done at a discount to public valuations. LinkedIn shares, for example, traded at $23 per share on the private markets six months before going public at $45 per share. At that velocity, Facebook actually would be valued at $165 billion next January. More importantly, it’s impossible to intelligently speculate on an Internet company valuation 6-10 months out. Will the bubble still be inflating? Will it have popped? Will macro trends have continued their anemic recovery, or double-dipped back down? Facebook is probably immune to the timing issues related to IPO windows, but it does not stand apart from the economy at large. If we experience a massive advertising pullback, for example, then Facebook could take a hit in its largest revenue pot (or at least a growth slowdown). Not saying that will happen, but obviously it could. To me, the only value in today’s ‘$100 billion’ report is in referring back to it when the company has an actual public valuation.”
Tags: 1934 Securities and Exchange Act, CNBC, Digital Sky Technologies, e-G8 forum, Ebitda, Facebook, Goldman Sachs, IPO, JP Morgan, Kate Kelly, LinkedIn, Mark Zuckerberg, Morgan Stanley, News Feed, Securities and Exchange Commission, social networking, The “500” rule, Wall Street
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Tuesday, June 21st, 2011
Now that QE2 (quantitative easing 2) is winding down – and with the economy sputtering – will Federal Reserve chairman Ben Bernanke call for a new round of stimulus in the form of QE3? The answer likely is “no”, although it’s doubtful that the Fed will tighten monetary policy until the economy is stronger. The central bank’s strategy has been to buy Treasury bonds to increase the money supply and foster growth. The second round of such purchases, worth $600 billion, ends June 30.
Writing in the Washington Post, Neil Irwin says that “The lousy unemployment report comes on the heels of other disappointing economic data, but Fed officials view the current situation as different from the conditions that led to last year’s bond buying. The recent round of data is neither alarming enough nor definitive enough to make them reconsider the unconventional monetary policy. For one, much of the economic slowdown in the first half of the year was likely driven by temporary factors. The Japanese earthquake and tsunami appear to have disrupted the supply chain at U.S. factories more than initial forecasts, contributing to the drop in manufacturing activity and May’s sluggish employment report. And although oil prices spiked earlier in the year, they have ebbed downward since late April.”
Mohamed A. El-Erian, CEO and Co-CIO of Pimco, agrees, noting that “Notwithstanding the historical parallel, I suspect that it is very unlikely that there will be a QE3. This view is based on an assessment of economic, political and international factors. As Chairman Bernanke noted in his August Jackson Hole speech, and reiterated in his first press conference, policy measures should be judged in terms of the expected balance of benefits, costs and risks. I suspect that there is now broad agreement that, in the case of QE3, this balance has shifted: lowering the potential gains and increasing the probability of collateral damage and adverse unintended consequences. It is also clear that, in its attempt to deliver ‘good’ asset price inflation (e.g., higher equity prices), the Fed also got ‘bad’ inflation. The latter, which essentially took the form of higher commodity prices, is stagflationary in that it imposes an inflationary tax on both production and consumption — thus countering the objective of QE2.”
There’s also the point that QE2 has had mixed results. According to Bernanke, “Yields on 5- to 10-year nominal Treasury securities initially declined markedly as markets priced in prospective Fed purchases; these yields subsequently rose, however, as investors became more optimistic about economic growth and as traders scaled back their expectations of future securities purchases. Equity prices have risen significantly, volatility in the equity market has fallen, corporate bond spreads have narrowed, and inflation compensation…has risen to historically more normal levels.”
Philadelphia Fed President Charles Plosser warns that QE2 provides excessive stimulus: The central bank has “a trillion-plus excess reserves,” he noted, which could be “the fuel for inflation.” Anticipated inflation could explain the sudden increase in long-term yields that began last November. But the rate for 10-year Treasury Inflation Protected Securities (TIPS), rose at the same time, which contradicts that interpretation. At the same time, the five-year TIP rate didn’t rise. Had that rate increased, there would have been a sign of a stronger economy in the next five years.
UBS thinks that QE2 failed and is strongly opposed to another round of stimulus. Maury N. Harris, UBS’ Managing Director and Chief Economist for the Americas, says that “The evidence that QE2 boosted economic activity is lacking. Yields moved higher and equity markets did as well, although the latter was justified by rising corporate earnings. They importantly reflected better volumes, which probably cannot be traced to any believable instantaneous response to policy that works with a lag. Despite the recent weakness in the data, we continue to view the recent slowing as insufficient to prompt further QE from the Federal Reserve. Relative to conditions in August 2010, when QE2 was floated by Chairman Bernanke, labor market conditions are better. Additionally, the threat of disinflation last fall has given way to a somewhat more disturbing build-up in inflation pressures as core inflation continues to accelerate.”
Tags: Ben Bernanke, Disinflation, Federal Reserve, inflation, Japanese earthquake and tsunami, monetary policy, oil prices, Pimco, QE3, stagflation, Supply chain, Treasury bonds, Treasury Inflation Protected Securities, UBS, Wall Street
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Monday, June 13th, 2011
Sluggish job growth in May could be a sign that the economic recovery is losing momentum.According to the ADP May Employment Report, a mere 38,000 jobs were added in the private sector on a seasonally adjusted basis. That was well below consensus estimates of 170,000 new jobs. The report also revised downwards the estimated change from March to April from 179,000 to 177,000. “A deceleration in employment, while disappointing, is not entirely surprising,” the report said. “In the 1st quarter, GDP grew at only a 1.8 percent rate and only about 2¼ percent over the last four quarters. This is below most economists’ estimate of the economy’s potential growth rate and normally would be associated with very weak growth of employment.”
Patrick O’Keefe, director of economic research at J.H. Cohn, said that although some seasonal factors may have been at work in the recent claims data and in the ADP estimates, the report still disappointed. “We can put away our balloons and party hats today,” he said. “We expected a pull back in the rate of acceleration, instead we got deceleration. It appears that the general expansion has lost a bit of momentum and employment numbers, which were already lethargic, are slowing further.”
“This only adds fuel to the argument that the slowdown story is here in the U.S.,” said Tom Porcelli, chief economist at RBC Capital Markets. “I am fairly confident that people are going to be scaling back their estimates for nonfarm payrolls. While it is a good thing that small and medium-sized companies are adding payrolls, there is no doubt that the pace has slowed. This is exactly what we do not want when other significant data shows things are slowing down as well. Having said that, I still do not believe the Fed will initiate QE3.”
Writing in the National Journal, Jim Tankersley takes a more optimistic viewpoint. According to Tankersley, “Reality is a little more positive and a lot more complicated than that. Wall Street analysts are fairly united in their view that the recovery has entered a “soft patch,” just like it did last year, and that sooner or later, growth and job-creation are on track to pick up again. Several analysts and columnists have been reminding Americans that recoveries from financial crises can often feel like stop-and-go traffic on the freeway. For now, the economic brakes seem to be pumping. The 2010 slowdown flowed from worries over Europe’s sovereign debt crisis. This one is likely a combination of several factors. The spike in oil and food prices has spooked confidence — though consumers are still spending apace, dipping into their savings to keep up — and may be driving businesses to scale back hiring.”
On the MarketWatch website, Rex Nutting says that “If you recall that government employment is declining by almost that much every month, the ADP report implies only a very small increase in total employment. This is no way to get the unemployment rate down from nine percent. The economy has been buffeted by both natural and man-made forces. Extremely bad weather earlier in the year depressed activity, as did the surge in commodity prices, especially for energy and food. Then the Japanese earthquake and tsunami knocked out vital supply chains. Global economic growth, which had given a big boost to U.S. exporters, is slowing. Europe is dead in the water, so is Japan. The fast-growing developing nations such as China, India and Brazil are downshifting to avoid overheating. The strongest sector of the U.S. economy — manufacturing — is still growing, but the momentum is fading. The Institute for Supply Management’s closely watched diffusion index (Defined by Investopedia as “A measure of the breadth of a move in any of the Conference Boards Business Cycle Indicators (BCI), showing how many of an indicators components are moving together with the overall indicator index) plunged by 6.9 points to 53.5 percent in May, the largest one-month decline since 1984.
Companies may need to start hiring again as a new report from the Department of Labor is showing that the productivity of American workers slowed in the 1st quarter and labor costs rose as companies boosted employment to meet rising demand. The measure of employee output per hour increased at a 1.8 percent annual rate after a 2.9 percent gain in the prior three months, revised figures from the Labor Department showed today in Washington, D.C. Employee expenses climbed at a 0.7 percent rate after dropping 2.8 percent the prior quarter.
Productivity measures the amount of output per hour of work. A slowdown in growth is bad for the economy if it persists. But it can be good in the short term when unemployment is high because it can mean that companies are reaching the limits on how much extra output they can get from their existing work forces. Output grew 3.9 percent in 2010, the biggest increase since 2002. But many economists believe it will slow to 50 percent of that rate this year. The expectation is that companies will hire new workers to further boost output.
Tags: ADP, ADP’s May Employment Report, Brazil, China, Department of Labor, Federal Reserve, GDP, global economic growth, Government hiring, India, J. H. Cohn, Japanese earthquake and tsunami, job growth, MarketWatch, National Journal, Productivity, QE3, unemployment rate, Wall Street
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