Felix Salmon

The sukuk shakeout arrives

Felix Salmon
Jun 16, 2009 16:59 UTC

The first sukuk (Islamic bond) defaults have arrived, and no one has a clue how they’re going to shake out. Which might actually be a feature rather than a bug, going forwards.

Bondholders often have a large amount of complacency derived from the fact that an enormous amount of equity needs to be wiped out before they take any hit at all. And that complacency does the system no favors in the long term. If capital structures get muddied a little, and debt takes on more equity-like uncertainty — as seems to be the case in the sukuk market — then maybe investors will be more assiduous about examining underlying risks, rather than relying on capital structures to protect them.


“The resolution of the issue of whether the structure stands up in cases of default or bankruptcy is at this point unknown, although in most cases the structure is nearly identical with other securitizations”

I wouldn’t say that, except in a handful of cases (although in Malaysia it’s more common). Most sukuk don’t have subordination or credit enhancement, have recourse to the borrower, and repayment isn’t directly tied to the performance of the assets. There are certainly many similarities in principle, and “asset backed” sukuks are much closer in practice, but the vast majority of corporate sukuk don’t have any of the defining features of securitisation.

” If capital structures get muddied a little, and debt takes on more equity-like uncertainty ”

Shhh. Don’t use the word “uncertainty”. That’s gharar, and is forbidden in Islamic finance. You mean “shared risk”.

Posted by Ginger Yellow | Report as abusive

Are the new securitization regulations workable?

Felix Salmon
Jun 16, 2009 15:12 UTC

Binyamin Appelbaum has details of the new regulations surrounding securitization, and it all looks incredibly unworkable to me, especially the central plank:

Lenders would be required to retain at least 5 percent of the risk of losses on each package of loan pieces, known as an asset-backed security…

The plan also would prohibit firms from hedging that risk, meaning that they could not make an offsetting investment.

What on earth is a bank’s chief risk officer supposed to do with an edict that she cannot hedge a certain chunk of the bank’s balance sheet? I can see that she might not be able to explicitly create a synthetic CDO to bring that idiosyncratic risk down to zero. But if a bank has exposure from securitizing credit-card receivables, say, or commercial real estate leases, or student loans, or residential mortgages, then similar risk will reside elsewhere on the balance sheet, and the bank will — and should — just reduce the amount of that risk instead. It has the same result, from an all-over risk perspective, and the new regulation is rendered utterly toothless.

As for the idea that the ratings agencies should make it clear that ABS aren’t corporate bonds, well, as Agnes points out, that’s pretty silly: I think everybody knows that by now. The problem is that if there’s a separate second scale for ABS (and maybe even a third scale for munis), no one will have a clue what the new ratings are supposed to mean. It would be a bit like being given two apples, and told that one costs 15 foos while the other costs 17 bars.

I would rather encourage the ratings agencies to try and make credit ratings as laterally comparable as possible, and to try to set ratings so that you don’t have the enormous default-rate discrepancies that exist right now between different asset classes. Investors could then judge for themselves the degree to which the ratings agencies had succeeded.

My fear is that ratings agencies might start issuing separate credit ratings for munis, which will be considered much safer than the equivalent credit ratings on corporate bonds, just as a wave of muni defaults is about to hit. In general, the key here is to decrease the importance of the ratings agencies, rather than trying to regulate them on the grounds of how important they are.

But a couple of the proposals make sense: paying originators of securitized loans gradually, over time, for instance, rather than up-front when the loans are securitized; or standardizing contract language in the ABS market to make such securities easier to compare to each other. They just won’t make an enormous amount of difference.


There is another argument for using a separate rating scale for securitized products – which is to prevent them from passing through the “loophole” in investment guidelines for pension funds, insurance companies, etc., that allows them to hold anything with a certain rating. If the senior piece of a sub-prime RMBS is no longer “AAA” but is now “SP-1″ or whatever, then the investment guidelines of these institutional investors would have to be rewritten specifically to allow them to hold these assets, whereas before the issue never came up, even though they should have known that these were not the same as corporate AAAs.

Posted by Nate | Report as abusive

When regulators Balkanize

Felix Salmon
Jun 16, 2009 13:29 UTC

Robert Teitelman joins the chorus of disappointment in the damp squib which is going to be launced tomorrow under the grand title of regulatory reform:

What we seem to be heading for is an intensely Balkanized regulatory apparatus attempting to supervise a financial system that has converged even more than before Bear Stearns Cos.’ collapse. Even if the Fed does prove to be an effective systemic regulator — and its record as a regulator is spotty at best — how this council will operate in a crisis is a little scary. Half the folks on this council are currently engaged in desperate attempts to undermine each other, or are fighting over Vikram Pandit’s future or on the oversight of derivatives. Some dislike each other; others simply want to establish bureaucratic dominance. All this will only get worse as Congress, with its cast of intense self-interested characters, swings into action.

More conceptually, the problem with having multiple regulators is that risk is fungible, and will naturally flow to whichever regulator has the lightest touch. Which is a problem no council of overseers can effectively overcome.


One other point on that SEC and CFTC squabbling, the reason that Rubin, Greenspan, Summers, Gramm, and eventually Clinton, gave for not regulating OTC derivatives was that if the US regulated the OTC market, then the market would simply move elsewhere. And they were right … at least about a lot of the derivatives the business moving overseas. Wasn’t AIG’s Cassano based in London?

The point is, even if the U.S. gets its regulatory system in perfect order, what’s to stop financial services companies from locating to the jurisdiction with the lightest touch? Any solution has to be global in scope.

Monday links take a break

Felix Salmon
Jun 16, 2009 00:41 UTC

Pay No Attention To Morons Talking About “Money On The Sidelines”: After all, the stocks’ sellers are going to cash.

“How much the St Petersburg Times spent to win its Pulitzer prize? Probably between $0.6 and $1m a year.”

Abnormal Returns on the downside of ETFs

Duff McDonald on Steve Black and Bill Winters, “the kingpins of Wall Street

Pico Iyer steps off the hedonic treadmill

90% Of Waking Hours Spent Staring At Glowing Rectangles (The Onion, but not really false)

Donald Trump: Not just a developer, also an expert in materials engineering!

Baruch on why it’s idiotic to follow the smart money

Patron Bordeaux (whatever that might be) is $2200 the bottle at THOR. Makes the $22 margarita seem cheap.


The comments on Trump’s blog are entertaining:

“i agree mr trump..becoz if u want more quality…more money to invest! that’s the rule!”

“Mr. Trump, I agree. While plastics have come along way, there are some applications that really should wait or not be considered at all. America’s plastics are superior to most imported ones, and they still don’t hold up in many situations, but even with the best materials, finished goods can contain contaminants and flaws in manufacturing. The rudders shouldn’t be overlooked in the investigation.”

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The source of Sheila Bair’s power

Felix Salmon
Jun 16, 2009 00:26 UTC

Noam Scheiber asks how Sheila Bair seems to have managed not to hold on to her job (that can be explained by reference to the fact that she has powerful protectors in Chris Dodd and Barney Frank) but on top of that seems set to emerge the big winner from the coming regulatory overhaul — despite the fact that few senior administration officials seem to like her very much.

The answer, I think, is pretty simple: she who has the gold makes the rules. And when you follow the money, it invariably comes from the FDIC: she provided the guarantees necessary for the Citigroup and BofA bailouts, as well as the hundreds of billions of dollars in additional guarantees necessary (although, as we’ve seen, not sufficient) to get PPIP off the ground.

In a world where Congress will give exactly $0.00 for any further financial bailouts, the bottomless pockets of the FDIC are hugely valuable, and the FDIC chair is therefore incredibly important. What’s more, the FDIC can raise substantial funds through charging banks money for the insurance it provides. No other regulatory agency, bar the Federal Reserve itself, is an outright profit center in that way. (And guess what, it seems that the Fed itself is going to be an even bigger winner than the FDIC in all this.)

By Ockham’s razor, Bair is powerful ‘cos she’s rich. There’s no need to resort to explanations requiring her to have particular political prowess or economic foresight.


“Bair and Warren are perceived by the informed public as clean stewards with big brooms”.

Posted by Tomsk | Report as abusive

The Germany problem

Felix Salmon
Jun 15, 2009 18:46 UTC

Will Hutton interviews Paul Krugman:

PK: How is it possible that Germany, which did not have a house price bubble, is having a steeper GDP fall than anyone else in the major economies?

The answer is that they depended upon exporting to the bubble regions of Europe, so they actually got side-swiped by the loss of those exports worse than the bubble regions themselves got hit.

It’s Germany on a global scale that is the concern. We worry about the drag on world demand from the global savings coming out of east Asia and the Middle East, but within Europe there’s a European savings glut which is coming out of Germany. And it’s much bigger relative to the size of the economy.

WH: And on top there is an unique and unaddressed huge potential banking crisis. The Germans pride themselves on their three-legged banking system, but it is incredibly interlinked. The IMF warns that Germany could have to take at least $500bn of writedowns, which its banks have not begun to recognise. German banks hold a trillion dollars – maybe more – of maturing collateralised debt obligations that can only be refinanced by crystallising the losses. We’ve had RBS and you’ve had Citigroup. Germany’s GDP will fall 6% this year – before the banking crisis has hit it.

And that’s just the CDOs — it doesn’t include probably another trillion dollars of loans to central and eastern European corporates and sovereigns, which are nowadays looking extremely toxic. Meanwhile, the political leadership in Germany is in denial, acting for all the world as though the loss of central bank independence is the biggest problem facing the global economy.

The base-case scenario, then, is that Germany goes Japan — and drags the rest of the Eurozone, if not the entire world, into a Japan-style Lost Decade. How do we stop that from happening, especially absent political will in Berlin? I have no idea.


German Problem?

The problem is that the German Banks bought too much from the unregulated US system.

American bankers or politicans have not and still not care if their financial products ruin the world.

Its time to replace the US Dollar and that Industrial Empire.

Sometimes, I dont even wonder why the americans wont recognize the International Court in the Hague, not
respecting rules in the financial system or even
basic human rights.

Hey, what did you expect?

Vietnam Part 2 coming to a News Show near you soon …

Posted by Ben | Report as abusive

Folding bike fail

Felix Salmon
Jun 15, 2009 16:48 UTC

My fingers weren’t crossed hard enough. I did end up buying a folding bike this weekend — a Montague DX — and proudly carried it, folded in half, into 3 Times Square this morning, after having been told by a security guard that folding bikes were OK to bring in to the office. Except, it turns out, they’re not. The only way you’re allowed to bring a folding bike into the building, it turns out, is if it’s packed up into a bag. Otherwise, no dice.

I suppose my next hope is that NYC’s bike-friendly new transportation commissioner will install some permanent bike parking in the acreage of Times Square she recently pedestrianized. But I’m not holding my breath. In any case, I hope my bike shop accepts returns. They did say they would, but I’ve just learned how much I can trust verbal promises.

Update: I just popped down to check on it — I realized I’d left the quick-release seatpost open to easy theft when I chained the bike up outside. The back tire’s completely deflated. As am I.


for extra help, maps and tips, check this site out:

Posted by sdfdf | Report as abusive

Chart of the day: World trade in recessions

Felix Salmon
Jun 15, 2009 16:35 UTC

Do you like pretty charts comparing this recession to the Great Depression and to other recessions in US history? How about 21 such charts in the same place? Here’s one, from the CFR’s new chartbook. Enjoy!



Daniel – Those are YoY percentage changes, so the total volume of world trade doesn’t matter. At least not on the first order. It’s not as if the Y-axis is in dollars, in which case your point would be very valid.

Felix – My apologies. I posted the exact same chart last night (well after you did), but at the time I didn’t realize you had done it first.

When did the White House lose Congress?

Felix Salmon
Jun 15, 2009 15:34 UTC

It’s probably inevitable that all presidents reach the point at which they run into Congressional roadblocks. But given the mandate which was handed to Barack Obama in November, and the fact that Democrats control both the House and the Senate, it’s disappointing to see the way in which both cap-and-trade and regulatory reform are being changed out of all recognition in a desperate attempt to make them acceptable to the Senate.

David Roberts has an excellent column on the political realities of cap-and-trade (and bear in mind here that all the major Republican presidential candidates supported some kind of cap-and-trade bill; John McCain even sponsored one):

Republicans have settled on a strategy of blanket opposition to both the health care and climate legislation… They’ve decided that Democratic successes on either of these major initiatives could fuel further electoral losses, and that’s their worst fear…

It can’t be overstated how much unified Republican opposition is shaping things. The debate is entirely between Democrats, entirely along regional lines, and “moderate” Democrats (i.e. those hailing from carbon-intensive districts) have been accorded enormous power…

In the Senate, there are maybe two Republican yes votes—the last moderates standing, Olympia Snowe and Susan Collins from Maine. That means to get cloture, Dems can lose no more than two votes from their own caucus. Meanwhile, there are far more than two senators on the fence (at best) or likely nos (at worst): Mary Landrieu (Louisiana), Evan Bayh (Indiana), Ben Nelson (Nebraska), Blanche Lincoln and Mark Pryor (Arkansas), and several others.

Meanwhile, John Gapper has concluded, reasonably enough, that “the US administration has clearly decided that it simply cannot get any large-scale consolidation of regulation through Congress, given the vested interests involved.”

How did Obama manage to spend all his political capital so quickly? Did it all go on the stimulus bill? Wasn’t the whole point of bringing Rahm in as chief of staff that he could work constructively with Congress to pass an ambitious agenda? And isn’t Obama himself the first president since JFK to have entered the White House from the Senate? I’m not sure when everything went wrong here, but I fear that the damage is now irreparable — and that Obama’s agenda is going to be severely scaled back as a result.



You know what I don’t get, Freemon? There are actual socialists in this country and elsewhere. In Europe, they are a viable political faction. None of these people think that Obama is a socialist. So why do you presume to know better than they what socialism is?

I guess I shouldn’t expect a cogent response from somebody who equates respect for a President who possesses an intellect suited to the office and times with “ball-licking,” but I figure it’s worth a shot.

Posted by Mark R | Report as abusive