Matt Nolan

Thoughts on South Canterbury Finance saga

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The receivers are in, and the government is throwing in $1.7bn in order to buy assets they expect to get a return of $700m from.  Sounds like a typical New Zealand investment to me 😉

There are a few points to come out of this.  In some sort of order these are:

  1. The government had to pay the money when the receivers came in – they had no real choice, after all SCF was guaranteed by government.
  2. However, it does show you the type of cost that can be associated with such a scheme – and raises the question of whether putting finance companies in the scheme was a good idea (both Agnitio and myself were skeptical).
  3. It is apparent that the scheme may have led to some dodgy lending in that sector.  I am genuinely concerned about what other moral hazard issues will appear over the coming year – is this just the tip of the iceberg from a poorly designed scheme, or is it just one unfortunate failure.
  4. Questions have to be raised regarding the price placed on risk by the guarantee – was it really high enough?
  5. Why is anyone defending Alan Hubbard when he used other peoples money to make risky bets that made people like him – just to fail and have the rest of New Zealand paying for it?  Running a company under a government guarantee and not following best practice is immoral – no matter who you are.
  6. This can’t be compared to TARP, and the lack of insurance would not have made this like Lehman Brothers.  The scope for contagion from a finance company failure like this is small – which implies absent the scheme the government should have just let this company fail.
  7. Another nail in the credit rating coffin?  What credit rating did SCF have at the start of the deposit guarantee scheme?

Another point is that this statement:

Furthermore, being in control of the receivership process takes the pressure off the receiver to quickly sell any assets

Is actually a good one, if they feel the assets would be shot off at fire sale prices.  This is one of the main lessons from TARP.  However, the sad thing is that the government is stuck buying them at an inflated price instead 🙁

Surely this tells us that it is at least near the time to get rid of this deposit guarantee scheme – and why not do it retroactively so they all don’t “fail” just before the scheme runs out.  Investors that get burned because they saw a high return and decided to face a high risks should have to deal with the consequences of it.

Update:  Bunch of details listed down on Rates Blog.

Matt Nolan

Sovereign debt is a different beast

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So it seems the ECB is going to go out and buy government bonds.  I don’t quite agree with this description of what is happening to be honest:

“They are not cranking up the printing presses,” said James Nixon, co-chief European economist at Societe Generale SA in London. “This is a much more targeted, surgical approach. They buy the duff stuff that no one in the market will touch.”

The point is to buy stuff that would otherwise be good, but is only struggling because of the crisis – not to actually buy duff stuff.  The intervention is supposed to prevent a run on good assets – not to keep bad assets in business.  Of course, in practicality they will have to buy some duff stuff, but saying that this is the goal is an exaggeration.

Still, this isn’t my main point.  My main point is that sovereign debt is a different beast to private debt.  If the ECB starts buying up government bonds, and there is no plan to get government budgets under control in the medium term, then the result is high levels of inflation – and probably the collapse of the Euro Zone.  The second point doesn’t concern me – the first point does.

With private debt we had a response when effective interest rates exploded upwards.  Will we get the same response from domestic governments in Europe?  I don’t know.

goonix

A wild day on the markets

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The Dow Jones Industrial Average fell nearly 1,000 points today, the largest intra-day fall since 1987.

It’s not quite certain yet what caused it, with some blaming an “erroneous trade”, possibly via human error or a computer glitch. It seems the initial fall, whatever the cause, then triggered many more sells as paranoia over the global situation, particularly Greece, grew. Crazy!

Matt Nolan

Prior moral hazard and the credit crisis

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Were inextricably linked.  A quote that illustrates this to me strongly came from a Bloomberg article today.  The ECB decided to tell the countries that have high soverign debts to go to hell, and now that they aren’t going to take on the risk themselves private investors aren’t willing to and are selling.

This makes sense, previously people purchased the junk on the basis that someone else would pay for it – high return low risk!  Now that they have to face the real risk profile they are like “f**k that”.  However, Bloomberg (or at least David Kovacs) stated:

The reason the market is horrified now is Trichet said it’s not even being discussed. Smart investors are basically selling risk(y) assets

No s**t.  An asset appeared low risk, and now it is high risk, and the expected return is (at most) unchanged – so the risk adjusted return is lower.  No wonder they want to sell.

Now we are in a crisis, and if there is a run on good quality debt because of concerns we have to do strange things – sure.  But we need to come up with a system that rips this moral hazard out of the system.  It is the moral hazard that helps to drive crisis after crisis ultimately.

Will Taylor

Open Source software vendors: recession resistant?

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Apparently Red Hat, a vendor of a commercial linux distribution, has been doing well during the recession. This makes sense intuitively, people are looking for ways to cut costs due to the economic climate, and giving Microsoft less money seams to be a good way to go about it.

This reminds me of a classic interview question people get asked by investment banks, “Can you think of an asset with a negative beta?”

So next time someone gets asked that question they can say something besides “funeral homes” (stocks brokers jump out windows during recessions etc.. the most common answer or so I’m told!) . They can say that open source software vendors might also:)

jamesz

Cramer v Stewart: a bit disappointing

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I just watched the Jim Cramer vs Jon Stewart showdown on The Daily Show and I’m just not as impressed as some others. Stewart’s real problem with Cramer seems to be that he should have known that the meltdown was coming and told his viewers. By advising them to buy stock that he should have known was bad he is jointly responsible for the fomentation that led to the stockmarket crash. There are two reasons why I’m not convinced: Read more