Commentaries

from Rolfe Winkler:

House votes to give “clunkers” $2 billion more

Earlier I expressed my displeasure with C4C.  I'm unhappy to see the House has voted to expand it.  Reuters:

The U.S. House of Representatives approved on Friday a $2 billion extension of the "Cash-for-Clunkers" automobile sales incentive program.

The Democratic proposal would run through September 30, 2010, and tap funds from an Energy Department loan guarantee program included in the economic stimulus package enacted in February.

An expiration date of 9/30/10 is comical.  If the program keeps gobbling up $1 billion per week, another $2b won't get us half way to Labor Day.

According to the article, the President is now fully on board:

The White House supports new funding for the program on grounds the initiative so far has provided a viable, national economic stimulus amid recession.

Earlier this week Tim Geithner promised the Chinese we were going to get serious about the deficit.  I can't imagine they're happy financing the American auto sector...

Could there be hope that this doesn't get through the Senate?

Can good numbers be bad news?

Barring any unexpected stumbles, and revisions aside, today will be the last time this year that Americans are told their economy is shrinking.

Indeed, the modest one percent decline in second-quarter gross domestic product could be followed by growth rates as high as three percent in the final six months of the year.

But good economic news can be dangerous, as the Great Depression showed. As growth bounced back after 1933, complacency set in, leading to premature demands for an unwinding of government stimulus and tighter monetary policy.

The result was a second downturn in 1937, as Depression scholar and Obama adviser Christina Romer has pointed out.

A repeat of this blunder becomes more likely the better the figures start to look. The U.S. economy is far from ready to walk without the crutch of government money, and won’t be for some time.

The dependence of the economy on government support was graphically illustrated by today’s GDP figures. The 10.9 percent jump in federal government spending was one of the few positives on the GDP ledger between April and June.

Support from Uncle Sam was invaluable in propping up ailing consumer finances. Real disposable income actually increased by 3.2 percent, despite the appalling state of the labor market. This government infusion will continue into the final six months of the year as the “cash for clunkers” program works its magic on auto sales and infrastructure spending picks up.

High frequency fuzzy math

One of the many mysteries swirling around high-frequency trading is just how profitable the lightning-fast buying and selling of stocks, options and commodities really is.

The Tabb Group, a financial services industry research firm, recently estimated that the 300 securities firms and hedge funds that specialize in rapid-fire algorithmic trading took in some $21 billion in profits last year. But when pressed on how it arrived at this figure, Tabb representatives won’t say.

My colleague Felix Salmon, on his Reuters blog, says the Tabb figure “is not obviously unreasonable,” but he would like to know more about how the firm got the figure. So would I, and until Tabb comes forward with more information, I’m not sure how reliable a statistic it is to keep quoting.

Of course, the dozen or so Wall Street firms and hedge funds that are the leaders in high-frequency trading — either serving as a market maker or trading for their own account — aren’t much help either. Most prefer to say simply nothing on the subject, leaving us in a very dark pool on the issue of high-frequency profits.

To be fair, Goldman Sachs recently came out and said “even using the broadest definition, high-frequency shares trading accounted for less than one percent of Goldman Sachs’ total revenue in the first half of 2009.”

In the first half of the year Goldman’s total net revenues were $23.2 billion. The dollars generated from high-frequency trading would appear to be a rather negligible $232 million. The firm adds that less than one percent of its daily value at risk — the amount of money it could lose from trading — is due to high-frequency trading.

But Goldman is talking only about high-frequency trading of stocks, not options and commodities. In options trading alone, Goldman’s algorithmic-driven platform is estimated by a market source to account for 15 percent of the daily trading volume.

Algos gone wild

The many proponents of high-frequency trading keep saying there’s no reason to be concerned about a rogue algorithim sparking a 1987 market-style crash. HFT supporters keep saying show us a case where a rogue algo even caused a minor hiccup in the market.

Well, Bernard Donefer, a professor at CUNY’s Baruch College in New York City and a critic of highly-automated trading programs, says the world already has gotten a glimpse at the kind of mayhem a rogue or simply a misfiring algo can cause.

Donefer, in a soon to be published research paper, blames high-frequency traders and an algo gone wild for a bizarre $9 drop in United Airlines’ stock on Sep. 8, 2008. The sudden plunge in UAL shares wiped out $1 billion in market value in just 12 minutes, after a six-year-old headline about the airline filing for bankruptcy erroneously hit some news wires.

The airline’s stock quickly recovered after it was determined that the bankruptcy story was an old, old story. But Donefer argues the percipitous drop in UAL shares “was mostly the result of the interplay between the algorithms that search and compile information from the Web and the ones that Wall Street firms and hedge funds use to make trades automatically.”

This is an isolated case, but Donefer says it’s only a matter of time before an event like the UAl one–or a series of events in which algos go wild–sparks a widespread market crash.

Will we see an event caused by algos gone wile in our markets? I believe it is inevitable. I am further convinced that with no planning…or regulatory framework it will be hard to stop. With unfettered or naked access, it might impact the viability of a broker.

This is the doomsday scenario I wrote about in my column Wall Street meets The Matrix. It’s also the kind of computer-driven catastrophe that the folks at Zerohedge.com and Joe Saluzzi of Themis Trading have been warning about.

from Rolfe Winkler:

Lunchtime Links 7-31

White House says cash for clunkers will go on (NYT)  Note that the administration hasn't yet promised new funding.  So yeah, the program is good through the weekend, but the key will be whether there is a new appropriation.  Michigan Senator Carl Levin is quoted in the article exhorting people to rush to their dealers to buy now.  The more transactions he can stuff through the channel, the more pressure he puts on Obama to make a new appropriation.

MUST READ--"Take back the beep" campaign (David Pogue)  Ever wondered why, when you're leaving a message on someone else's cell phone, you have to wait through 15 seconds of nonsense?  (E.g. "If you want to leave a numeric page, press 5."  Who leaves a numeric page!?!)  In aggregate that's a massive amount of air time being used, which adds up to billions worth of revenue for cell phone companies.  Pogue is tired of it and has organized a little protest campaign.  He lists e-mail addresses for the big four carriers where you can send a complaint.  I was happy to, and it didn't even take 15 seconds!

Regulators are getting tougher on banks (WSJ)  This is good news.  Federal bank regulators are requiring stiffer capital cushions and restricting risky lending.  This is what bank regulators are SUPPOSED to do.  But I fear they aren't going about it the right way.  Demanding more Tier 1 capital is certainly welcome, but they need to be demanding more tangible common equity.  Only the latter is in a true first loss position in the capital structure.  Focusing on Tier 1 allows banks to raise preferred in addition to common.  But preferred doesn't support the capital structure like common.

Downtown Ft. Myers condo has 32 stories, and only one lonely tale (news-press.com)  The building has one family living inside...

FDIC tests "funding mechanism" of legacy loans program (FDIC)  This is the key program under which investors would get cheap, non-recourse leverage to buy whole loans off of banks' books.  It was suspended, thank goodness, for lack of interest.  But FDIC is aware that whole loans are likely to weigh on banks and that many might be forced to move them at lower prices.  That will be very bad news for taxpayers.

Fannie/Freddie unlikely to repay U.S. in full (WSJ)  So far, Fannie and Freddie are among the biggest taxpayer money sinks.  TARP money is getting paid back and both the FDIC and Fed have yet to recognize substantial losses on their lending programs.  Fan and Fred, along with AIG and the automakers, have received tens of billions that are never coming back...

Smoking ban murder (Reuters)  "A restaurant owner in southwest Turkey was shot dead after he tried to prevent his customers from smoking to comply with a new law on the use of tobacco indoors"

Morgan Stanley keeps Goldman from top M&A slot

Despite top billing for M&A involving European companies as well as Asia-Pacific and Japanese corporates, Goldman is not top of the league tables for global M&A for the year to date.

Instead it is long-time rival Morgan Stanley leading the pack, capitalising on a sizeable advantage in deals involving U.S. companies. Goldman is in second place in the worldwide ranking and JP Morgan third.

While the usual suspects are top of the tables, the big banks aren’t having it all their own way. Evercore Partners stands in 5th position for advising on deals with a U.S. flavour, behind Morgan Stanley, Goldman, JP Morgan and Citi.

But with five months still to go and M&A mandates scarcer than before, there is bound to be plenty of scrapping for top slot before 2009 is done.

July: It rained, the deals didn’t

With stock markets on the rise and some signs of economies steadying, if not recovering, investment bankers have recently sounded more optimistic about the prospect for deal-making for the second half of the year.

This month? Not so good.

July, with just $96 billion in announced deals around the globe, is the first month to have less than $100 billion in worldwide M&A since September 2004, reports Thomson Reuters Deal Intelligence. No deal was more than $5 billion, the first time that has happened in a month in nearly six years. (The biggest announced merger was in Japan, the $4.4 billion acquisition of Nipponkoa Insurance by Sompo Japan Insurance. The biggest U.S. acquisition was Sanofi-Aventis’ $4 billion offer for Merial.)

This August – especially after two consecutive summers of financial crisis – is certain to be slow as well as Wall Street and other financial centers go on vacation. Any pickup in M&A activity in the second half will have to start with a flurry in September.

For the entire first half, worldwide M&A totaled $1.1 trillion, a decline of 43 percent from the same period in 2008. More details from the Thomson Reuters data can be found in this post on DealZone.

Anglo dresses interims up as a defence

    Anglo American hasn’t yet received a formal bid from Xstrata. But the miner’s interim results read very much like a defence document.     The highlights alone give a pretty good idea of what chief executive Cynthia Carroll and new chairman John Parker will focus on if Xstrata does eventually pounce.     Anglo’s case hinges on four things.     First, that its plan to cut $2 billion of costs by 2011 is ahead of target. Second, that it is getting on top of its $11 billion net debt, and third, that progress is being made in restructuring its problem child Anglo Platinum <AMSJ.J>. Lastly, Anglo acknowledges that it is an objective to reinstate the dividend.     Added to these elements, lest they appeared to have too defensive a flavour, is the promise of growth, largely through its Minas-Rio iron ore project in Brazil and its Los Bronces copper development.     Of these, cost savings are a crucial point of contention in the Xstrata debate, with the rival miner’s chief executive Mick Davis confident he can squeeze a further $1 billion out of a combination with Anglo, taking the total to $3 billion.     Anglo isn’t making any promises beyond those already given but the tone of the language — which includes talk of being ahead on “asset optimisation”, procurement and job reductions — hints that it may be able to find more savings on its own, without handing anything to Xstrata.     So far the market seems largely happy to let Carroll stick to her plan — highlighting Anglo’s leading position in platinum, diamonds and iron ore alongside its cost cutting success. But investors might ask more searching questions in the event that Xstrata did come back offering a premium.

Debt albatross tails Conti Schaeffler

    The war between Continental and Schaeffler rumbles on. Karl-Thomas Neumann has got board assent for the capital increase he wants to pay down Continental’s heavy debts, a hard-fought for move that is likely to dilute the company’s largest shareholder Schaeffler.     But it is only a partial victory for the chief executive of the German auto parts group — and one that may yet turn out to be Pyrrhic. Neumann may yet be ejected from Conti for resisting Maria-Elisabeth Schaeffler and her right-hand man Juergen Geissinger (CEO of the privately-owned ball-bearing maker).     Schaeffler has already seen off several former Conti bosses — Manfred Wennemer left in August last year and CFO Alan Hippe has since quit. If it succeeds in pushing out Neumann and replacing him with its own candidate, Elmar Degenhart — at a meeting scheduled for August 12 — Schaeffler will then certainly push ahead with the sale of Conti’s well-known rubber business as a way of reducing its 11 billion euro debt.     Conti and Schaeffler have been deadlocked since the private group took a majority stake last year after an acrimonious takeover battle. Schaeffler’s ability to exercise control is constrained by its own heavy borrowings, much of which are against Conti stock which has lost two-thirds of its value.     Meanwhile, Conti is also labouring under massive borrowings, which its banks would like it to reduce. Both groups are at odds over how to reconcile their differing interests. Schaeffler, which has entered into a standstill agreement which prevents it from taking over Conti till 2012, does not want the target to issue more equity because it doesn’t have the cash to follow its money. Nor does it want to merge with Conti because it fears the exchange ratio would be disadvantageous.     What it would like is for Conti to sell assets to reduce its debt — even though this is hardly an ideal moment to do this. Shares in Michelin <MICP.PA> are trading at less than half their mid-2007 peak, while Bridgestone <5108.T> shares are at just over half their level in May 2006 and Pirelli <PECI.MI> shares are less than a quarter of their peak.     Neumann wanted Conti to raise 1.5 billion euros in fresh equity and then to merge with Schaeffler. The board has now consented to the first of these moves. However it remains to be seen if the banks will be queuing up to underwrite the issue, especially as Conti seems keen to issue it at a very narrow discount to the market price.     If Conti goes ahead, and neither Schaeffler nor its allies follow their money, Schaeffler’s direct stake could fall to 35 percent from 49.9 percent and its total stake (including shares held by its banks) to 63 percent from nearly 90 percent.     What seems clear is that the key players in this deadlock are the banks to both companies. They may themselves have differing interests. Conti’s bankers may not be keen on a change of management at the company, especially given the rapid changes which have already taken place at the top. And Schaeffler’s bankers might not welcome capital increases at Conti that diluted their equity position.     Debt has become an albatross around the necks of both companies, which only the banks are able to remove.

GM blog lifts hood on power struggle over Opel

It’s not often you get to lift the hood and watch a power struggle going on in the engine room of General Motors. But the vice-president of GM Europe, John Smith, has just provided tantilising details of the arguments over the rival bids for Opel/Vauxhall, the main European arm of the fallen U.S. auto giant. Smith is the chief negotiator on the sale of Opel.

In a blog apparently intended to reassure Opel staff, but accessible to the public, he insisted GM had not specified a preferred bidder. But he made clear his own preference for the bid from Belgian financial investor RHJ International, which is loosely related to U.S. private equity fund Ripplewood, over the offer by Canadian-Austrian car parts maker Magna and its Kremlin-backed Russian partner Sberbank.

Smith’s post is entitled “Clearing the Air” and was ostensibly written to clarify GM’s intentions and dispel erroneous reports ascribed to interested parties. But his account shows just how poisonous the atmosphere appears to be between GM and Magna, and GM and the German government, which backs Magna’s bid. It also suggests that the air is not too clear within GM’s top management either.

Specific to the Magna bid, which is clearly preferred by several politicians and the Labor Bench, the bid presented to GM varied from the negotiations we had in the previous weeks and contained elements around intellectual property and our Russian operations that simply could not be implemented…

The bid from RHJI is completed and would represent a much simpler structure and would be easier to implement. It would require less monetary participation by the government and would keep our global alignments solid, while still creating an independent Opel/Vauxhall organization in Germany. This remains a reasonable and viable option to be considered as the very difficult issues around the Magna negotiations continue to be worked.

The following day, (July 29) Smith felt the need to add an update denying that GM was seeking to buy back control of Opel at a later date, or that it had asked the U.S. Treasury for financial assistance to restructure Opel. The former is strange since several sources have said a buy-back option is a key feature of RHJ’s offer and not of Magna’s.

So what is going on here and why did the chief negotiator feel the need to explain himself in semi-public in this way? One can only speculate, but one plausible theory is that GM’s top management is split. This would not be surprising since the U.S. government now holds a controlling stake in the shrunken GM that emerged from bankruptcy, and Washington is probably being lobbied heavily by Berlin to support the Magna bid. A senior aide to Chancellor Angela Merkel discussed Opel with the U.S. Treasury on Wednesday.

If GM were to choose RHJ in defiance of Berlin’s clearly stated wishes, it would spark a crisis with political ramifications just as Germany is entering the final phase of campaigning for a Sept. 27 general election. Might the Obama administration not lean on GM’s top management in Detroit to avoid being branded as a potential job-killer in Germany? If so, Smith’s blog may be a doomed effort to make business arguments prevail over politics.