Ben Walsh

from The Great Debate:

What’s a leveraged ETF and what makes it dangerous?

Ben Walsh
May 30, 2014 20:36 UTC


Larry Fink is sounding the alarm. The chairman and CEO of $4.4 trillion asset manager BlackRock is worried about leveraged ETFs (exchange-traded funds). Fink thinks they could “blow up the industry.” His statement is a little unclear, but the industry he's referring to is probably ETFs themselves, not the global financial system.

Blackrock is itself a huge player in ETFs, but Fink says they'll never get into leveraged version of the financial instruments.

So, what’s the difference between regular and leveraged ETFs?

Regular ETFs are designed to track the price of a specific set of securities, taking the place of traditional mutual funds that focuses on particular investment sectors or classes of stock. ETFs started in stocks, particularly indexes, but now cover all types of assets. In this way they are similar to a mutual or index fund, but can be bought or sold like a stock. Regular ETFs, particularly the ones that track broad indexes like the S&P 500, are pretty vanilla financial products. Sure, an index fund might be slightly better for achieving individual investment objectives, but ETFs generally have much lower fees than actively managed mutual funds.

Leveraged ETFs take the idea a step further. They are designed to amplify, not mimic, the price changes of the assets they track. If oil goes up $1, an oil ETF should go up $1. If oil goes up $1, a three times levered oil ETF will go up $3. The way that works is that levered ETFs are based on derivatives.

Fink is worried that regular ETFs' growing good name will lure people who shouldn't own derivatives into derivatives ownership, without even realizing it. At its core, Fink’s concern is about retail investor access to derivatives products that are not suitable for them. This is a legitimate concern.

from Counterparties:


Ben Walsh
May 29, 2014 22:25 UTC

US economic growth has gone negative for the first time in three years. Revisions to the estimate of first quarter GDP, out this morning, put growth for the first three months of the year an annual rate of -1%. The initial estimate, released at the end of April, had the economy growing just barely, at an annual rate of just 0.1%.

Time to panic? Not really. The Wire’s Ben Cosman has the headline that sums up the reaction: “The economy shrank at the start of 2014, but no one seems too worried”. For one thing, this winter was terrible. The reason to keep calm and carry on producing gross product, says the WSJ’s Steve Russolillo, is that the negative revision is mainly about that bad winter weather and slow inventory growth. (Weather alone could have cut GDP by 1.5%, Reuters reports). Neither should hold back the economy in the second quarter.

The bad inventory numbers may actually help: “Lean inventories mean companies will have to order new goods and supplies to meet any increase in demand”, writes the WSJ’s Kathleen Madigan. After this morning’s bad news, Goldman Sachs’ chief economist Jan Hatzius is increasing his second quarter GDP estimate from 3.7% to 3.9%. Other economists are doing the same. “I expect both residential investment and state and local governments to add to growth soon.  And even investment in nonresidential structures should turn positive”, says Bill McBride.

from Counterparties:

Eating cheap

Ben Walsh
May 23, 2014 21:27 UTC

Whatever you're spending on this year's Memorial Day barbecue, you can expect next year’s to be even more expensive. The USDA forecasts that beef prices will rise between 5.5% and 6.5% by the end of 2014, after already increasing just under 10% so far this year. Overall food prices are projected to rise at between 2.5% and 3.5%.

Blame droughts in California, Texas, and Oklahoma for the rise in the cost of meat. TheCalifornia drought may cause price spikes in other foods foods – think broccoli, lettuce, bell peppers, almonds, and raisins – but it’s unlikely to noticeably alter current projections for broad food price inflation.

The odd thing about rising US food prices is that inflation elsewhere is very, very low. The Fed keeps missing its inflation target and the head of the Minneapolis Fed Narayana Kocherlakota thinks the Fed will keep missing its inflation target until 2018.

from Counterparties:

China’s other internet IPO

Ben Walsh
May 22, 2014 21:40 UTC

The Chinese internet IPO you haven’t been waiting for is finally here. JD.com, whichBloomberg Businessweek’s Bruce Einhorn calls “the closest thing to a Chinese version of Amazon.com”, priced its $1.8 billion offering at $19 a share, above the initial $16 to $18 range. It opened today on the NASDAQ at $21.75 and gained 10% in its first day of trading, valuing the company at approximately $30 billion.

Above-range pricing plus a nice opening day pop is as good a way as any to please both those selling stock in the IPO and those buying it. JD.com’s selling shareholdersinclude the company’s founder and CEO Richard Liu, Chase Coleman’s Tiger Global (best known for 45% returns in 2011), and Yuri Milner’s DST (an early investor in Facebook who helped Goldman Sachs to become a later investor in Facebook).

Interestingly, Alibaba is also probably pretty happy with the reception for one of its main ecommerce competitors. JD.com’s IPO, says Reuters David Gaffen, is seen as a precursor to Alibaba’s offering. The latter is a much, much larger compnay, both in terms of ecommerce – with 47 times the gross merchandise value of JD.com – as well as its sheer range of businesses.

from Counterparties:

Glocalization hits home

Ben Walsh
May 21, 2014 21:26 UTC

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For a select few real estate markets, “location, location, location” is taking on a new meaning. Price is no longer a block by block or neighborhood by neighborhood consideration. There is, says James Surowiecki, an emerging global market for real estate. The case study is Vancouver, which has the median income of Reno but the costly property prices of San Francisco:

Sotheby’s examined more than twelve hundred luxury-home sales in Vancouver in the first half of 2013 and found that foreign buyers accounted for nearly half of sales. In Miami, a huge influx of money from Latin America has enabled the city’s housing market to recover from the bursting of the housing bubble, and has set off a condo-construction spree. Australia has become a prime market for Chinese investors, who Credit Suisse estimates will buy forty-four billion dollars’ worth of real estate there in the next seven years.

These locations are what Surowiecki, quoting urban planner Andy Yan, calls “hedge cities”. Legal, political, and social stability are extremely high. Foreign buyers who can afford to are ready to pay what to locals seem like frothy prices. The calculation is simple: it’s better to lose some of your principal on a condo in a Vancouver housing bubble than to lose everything in a coup.

from Counterparties:

Suisse Crime and Punishment

Ben Walsh
May 20, 2014 21:34 UTC

Credit Suisse is the first bank in decades to admit to criminal charges. It has pleaded guilty to helping Americans evade taxes and agreed to pay a $2.5 billion fine.

Credit Suisse’s reaction has been relatively relaxed – at least in public. Chairman Urs Rohner remarked that “personally, our hands are clean”. The bank says the settlement will have no material impact on its business. CEO Brady Dougan says clients haven’t seemed to mind: “Our discussions with clients have been very reassuring and we haven’t seen very many issues at all”. Investors seem to be mellow as well: the bank’s shares were up 1% today.

The key question is why the admission of criminal guilt, and why now. In 2009, UBS copped to similar accusations but got away with a $780 million fine and handing over 4,450 client names. UBS got off so much lighter than Credit Suisse, Reuters’ Aruna Viswanatha and Karen Freifeld report, because UBS had a bargaining chip to play, and a less motivated prosecutor across the table. The Swiss government allowed UBS to divulge client data, ordinarily a crime punishable by three years in prison under Swiss bank secrecy laws. No similar exception was made for Credit Suisse, forcing it to withhold the bank’s client names, and depriving it of the only negotiating leverage it had. That lack of leverage, along with the Justice Department’s desire to display that large banks are not “too big to jail”, appears to have ruled out a milder deal.

from Counterparties:

Job insecurity

Ben Walsh
May 19, 2014 21:39 UTC

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Even positive news about long-term unemployment is depressing. 3.4 millionAmericans have been out of work for more than 27 weeks, a million less than last year. (27 weeks is the widely used definition of long-term joblessness.) Despite its recent decline, there’s still more long-term unemployment in the U.S now than in any pre-recession period since data-keeping began in 1948.

Matt O’Brien finds that your chances becoming a member of the long-term unemployed are almost twice as bad today as after the dot com bust. “Long-term unemployment isn't a story about lazy people choosing to live on the dole instead of getting a job”, says O’Brien. “It's a story about people who want a job not being able to find one... It’s a story about  macroeconomic bad luck”. The long-term unemployed are, on average, about as well educated as the shorter-term unemployed. (And the often-talked-about skills gap issomething of an urban myth across the board, according to Inc.’s Cait Murphy).

Paul Krugman thinks O’Brien refutes the idea “the long-term unemployed are workers with a problem”. In Krugman’s view, it’s not personal:

from Counterparties:

Testing Stress Test

Ben Walsh
May 12, 2014 22:16 UTC

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The Tim Geithner legacy project – which began in January 2013 – is entering its third phase: memoir release. Stress Test: Reflections on Financial Crises is out today. Phase one, receiving a glowing review from the president, and two, establishingfavorable consensus opinion, were completed before Geithner even left his role as secretary of the Treasury.

The third phase, according to Geithner himself, was supposed to be something different: he told Charlie Rose that he had no plans to write a book. But he did, and he talked to Andrew Sorkin about it at great length. The NYT’s Neil Irwin crystallizes what he learned from the book’s 580 pages, none of which is particularly revelatory.

The WSJ’s James Freeman says “one of the themes in Stress Test is Mr. Geithner's difficulty in understanding the health of large financial firms”. Freeman thinks that this failing is personal, not institutional. William Black likewise thinks that Geithner’s biggest missteps were as a regulator, which is the hard part. Bailouts are comparatively easy: “Bailing out banks”, writes Black, “is not hard when a nation has a sovereign currency and the banks’ debts are denominated in that currency”.

from Counterparties:

Buying a tax break

Ben Walsh
May 8, 2014 21:50 UTC

The UK tax rate on profits made from UK patents is just 10%. The nominal US corporate tax rate is 35%. Because of that, US pharmaceutical company Pfizer has spent the last four months trying to acquire London-based AstraZeneca, the maker of heartburn drug Nexium and cholesterol-lowering Crestor. The problem, of course, is that neither AstraZeneca’s board nor the British government seems particularly fond of the tax-avoidance play.

AstraZeneca seems to have the upper hand in negotiations. Pfizer’s drug pipeline is weak and has been for sometime: its two latest cancer drugs debuted to lackluster sales, and it hasn’t had a significant new drug released in a decade. To make matters worse, the patents on some of its biggest drugs are about to expire. The company also just reported a 15% drop in quarterly profits, which is never good, but is particularly bad in the middle of a partially stock-based acquisition attempt. Breakingviews’ Neil Unmackthinks that Pfizer will have to “further loosen the purse strings” in order for its offer to be accepted by AstraZeneca.

Indeed, this deal has been in the hopper for months, with Pfizer slowly increasing its offer. The first whiff of the plan was in January, when Pfizer says it submitted a “preliminary, non-binding indication of interest”, but AstraZeneca broke off talks. At the end of April, Pfizer tried again, and AstraZeneca rejected a new $98.9 billion offer. On Friday, AstraZeneca rejected an improved $106 billion bid. Now Pfizer is rumored to be preparing a new offer worth $113 billion, Reuters’ Sudip Kar-Gupta and Ben Hirschler report.

from Counterparties:

Winning BID

Ben Walsh
May 6, 2014 21:21 UTC

Seven months ago, Dan Loeb sent an acerbic letter to Sotheby’s, disclosing he owned 9.3% of the auction house’s shares. The Third Point hedge-fund founder demanded several board seats, cost cutting, and the CEO’s resignation.

Now, after a bitter and expensive legal battle, Sotheby’s is giving Loeb pretty much what he asked for: the company is expanding its board from 12 to 15. The three new seats will be filled by Loeb, Harry Wilson (a restructuring expert), and Olivier Reza (a former investment banker and jewelry expert). The company is dropping its poison pill, which limited Loeb to less than 10% ownership. In return, Loeb is dropping his lawsuitchallenging Sotheby’s plan. He also agreed to cap his ownership at 15% and let Sotheby’s CEO William Ruprecht stay in his job — at least for now.

The outcome makes law professor Steven Davidoff wonder why the company put up a fight against Loeb’s demands at all: “Did Sotheby’s really have to spend well over $10 million to fight off Daniel Loeb’s Third Point only to cave at the last minute to give Mr Loeb almost everything he demanded?” Davidoff cites FactSet data showing that activists win 60% of proxy contests that are voted on by shareholders. As a result, Davidoff says the best way for companies to deal with their demands is negotiate quickly, before things escalate.