Today, Europe’s biggest bank posted a $3 billion net loss, but it insists it’s embarking on “deliberate”, “uncomfortable change”. Deutsche Bank’s revenue up was up 14%, and the bank’s losses came from a €1.9 billion writedown on assets and €1 billion put aside for litigation (read: likely Libor scandal-related) costs.
But analysts, including KBW’s Andrew Stimpson, agreed that “the big thing is the capital” that the bank is amassing to comply with future regulations. DB’s Tier 1 capital ratio — the amount of money its regulators require it to hold against losses — jumped to 8%, higher than its target of 7.2%, and the stock market promptly loved it.
The WSJ, Reuters and Bloomberg each suggest much of this capital boost was due to the bank tweaking its internal risk models — changing the way it values assets rather than, say, selling them off. To David Weidner, this kind of dial-fiddling means the bank could be reaching “the limits of financial engineering”. Dominic Elliott argued earlier this month that DB has a long way to go on its capital: “investors want big universal banks with sizable exposure to capital markets to be at around 10 percent as soon as practicable.” (For the uber-wonky, here are the Basel guidelines for tweaking this sort of formula).
DB has been very busy lately thinking about the future: it’s shrinking and “undergoing the most radical surgery of its global peers”; it’s being asked to simulate its own breakup while possibly facing a version of the Volcker Rule; and its own executives have been actively pushing the industry’s most aggressive messaging campaign. In the bank’s earnings release, co-CEO Anshu Jain said he wants to “place Deutsche Bank at the forefront of cultural change,” a process that will take “years not months”. (Hence, the bank calling this “Strategy 2015+”, which will, likely, mean fewer employees getting paid less).
DB’s main problem, Lex writes, is more mundane: it simply needs to stop paying its employees more than its competitors. On that, Deutsche says it’s making progress. The bank deferred more compensation for senior execs, and it has eliminated multi-year bonus guarantees. Sarah Butcher finds a murkier picture — pay per employee in the investment and corporate banking division is actually up, despite variable compensation (aka bonuses), as a percentage of revenue, falling by 60% since 2006. — Ryan McCarthy
A couple of weeks ago, the WSJ’s Brody Mullins had a big story about the fact that the SEC was investigating a political-intelligence consultancy named Marwood. Marwood doesn’t seem to have done anything wrong, but the very fact that it was being investigated was, at least as far as the WSJ was concerned, front-page news.
This week, Mullins has done it again, this time with an SEC investigation of firms which provide financial data. Once again, there’s nothing in the story to suggest that any of these firms, which include Bloomberg, Dow Jones, and Thomson Reuters, have broken any insider-trading rules. And yet here’s a juicy front-page story all the same, based entirely on the fact that there was an investigation at all, regardless of whether the investigation actually discovered anything untoward.
I’d love to know the story behind these stories. It seems pretty obvious that they’re being leaked by the SEC, in a way that seeks to embarrass the subjects of the probes as much as possible. Marwood and Bloomberg and Thomson Reuters might have done nothing wrong at all, but if the WSJ determines that there’s front-page news here, then its readers are surely expected to conclude something about smoke and fire.
There’s a clear implication in the latest story, for instance, that the data companies in question (which include the WSJ’s corporate parent) did do something wrong, and that they’re just lucky the SEC can’t prove it in a court of law:
Investigators decided against filing charges because they couldn’t link the pattern to specific actions by media companies, people familiar with the probe said.
A key issue, one of the people said, was whether the government could prove in court that a time advantage for a trader of a sliver of a second—as little as a few thousandths—was enough to conduct profitable trades on confidential information.
Even so, these people added, investigators continue to have general concerns about the handling of federal economic data.
This whole thing has a decided whiff of “doesn’t the SEC have anything better to do”. For one thing, to answer the SEC’s question, it’s not at all obvious that getting information a few thousandths of a second ahead of anybody else would allow some computer somewhere to conduct a profitable trade on the information. Firstly, big economic data comes out before the stock market opens, which means that any profitable trades would have to take place either on the much less liquid out-of-hours market, or else on the bond market. Both of them are largely free of high-frequency traders.
Yes, there’s a lot of trading and jostling and positioning in the bond market in the run-up to a big data release, but I can pretty much guarantee you that all markets are in holding-their-breath mode when it comes to, say, the final couple of seconds. The traders and the algobots are short or flat or long, they’re waiting for the number, and then they’ll burst into action as soon as the number is released. If you want to trade a couple of thousandths of a second before the number is released, you’re going to be looking for a counterparty who doesn’t know what the number is but who is willing to trade anyway. It’s hard to imagine such counterparties exist.
The news agencies can blame themselves a little bit, here, because they have for many years been highly invested in the idea that if you get a certain piece of information first, even if it’s just by a fraction of a second, then you can make a huge amount of money. All of them get incredibly excited about the times when they move the market: when a story comes out, and then some financial instrument — normally a stock, but a commodity will do in a pinch — moves sharply on the news. They charge a lot of money for their real-time news feeds, and the implication is something like this:
The news hits the wire.
A smart trader, staring intently at his newsfeed, sees the headline cross the wire, and immediately groks the implications.
The trader then puts in a monster buy/sell order, picking off a bunch of tortoises who aren’t smart or rich enough to subscribe to the wire service in question.
The price moves sharply.
It’s a lovely story, but it’s also a fairytale: things don’t actually happen that way. In the real world, when a piece of news hits a wire, at that point it’s public. And once it’s public, the market then reflects that public information in the share price. If you’re a broker-dealer who was quoting a security at one price before the news came out, you’ll now be quoting it at a different price after the news has come out.
The key question to ask is this: how many trades happened (a) at the old price, but (b) after the news became public? Most of the time, the answer is zero, or very close to zero. News headlines often move the market, but that doesn’t mean that someone has gotten financial benefit from reading them first.
The point here is that once a headline crosses the wire, that information is, by definition, public. And if it’s public information, it can’t be insider information. There are lots of good reasons why the U.S. government and rival news agencies would be cross if one of the wires published that information a fraction of a second before the other ones did. But just because someone is cross doesn’t mean that laws have been broken, or that inside information has been traded upon. An embargo is an agreement between a news source and a journalist; it’s not something to be enforced by the SEC.
So I do wonder what the SEC thought it was doing, here, conducting what the WSJ describes as a “technically and legally complex” probe. What exactly was the SEC hoping to achieve? And why is this weird investigation, in and of itself, newsworthy as anything other than a waste of government resources?
America’s economy defied expectations and shrank 0.1% in the fourth quarter — analysts expected 1.1% growth. And it’s all the military’s fault. Or at least, the fault of declining defense spending.
Brad Plumer runs through just how significant the fall off was:
Government defense expenditures plunged by a staggering 22.2% between October and December… The Pentagon spent significantly less on just about everything except military pay. Had the Pentagon not cut back on spending, the economy would have grown at a weak but positive 1.27% pace.
While Plumer notes that military spending often falls from the third quarter to the fourth, T Rowe Price’s chief economist Alan Levenson pointed out in a note to clients that the decline was the single largest decrease on record. Dylan Matthews has a great chart showing just how out of synch defense spending (and inventories) were from the rest of the economy. On a more granular level, this graph from Reuters shows capital expenditures at Lockheed Martin and Northrup Grumman, everyone’s favorite cluster bomb assemblers and drone manufacturers, falling off a cliff.
The stimulative effects of defense spending are nothing new. Just think WWII or, more recently, the Washington, DC area, where the economy has grown about three times faster than the rest of the country since the financial crisis. Last fall more than a few economists cut their fourth quarter forecasts despite upward government revisions to third quarter growth. Back then, the surge in third quarter defense spending didn’t look sustainable.
Even more cuts could be on the way: the automatic budget cuts — i.e. “the sequester” — that Republicans look increasingly willing to let go into effect on March 1 are heavily weighted towards the military and are projected to shave 0.7% off this year’s GDP.
All of this is part of the long process of getting military spending down to pre-9/11 levels: the US accounts for 40% of total defense spending globally. As that happens, America won’t be able to rely on the military industrial complex to prop up growth. — Ben Walsh
The story of the post-crisis recovery: borrowing for college instead of borrowing to buy a home – Matt O’Brien
Chesapeake’s CEO is out after “philosophical differences” with the board (and a year of scandal) – Reuters
The Fed warns itself that it could lose money on its massive bond portfolio – WSJ
Everyone at Davos was worrying about the Fed causing a “1994 moment” – Business Insider
January’s FOMC statement – Federal Reserve
The details of Europe’s new financial transactions tax won’t be made public for a few weeks, but the FT’s Alex Barker has seen a draft, and it looks impressively robust. The tax is being implemented by 11 countries, including most importantly Germany and France, and it’s going to be levied at two levels: 0.1% on securities trades, and 0.01% on derivatives trades. It’s also going to be very difficult to dodge: any trader whose institutional headquarters is in one of the 11 countries will have to pay the tax, as will all transactions taking place in those countries, and all transactions involving securities issued in those countries.
The tax will have two main purposes. The first is to raise substantial tax revenues on the order of $45 billion per year; the second is to discourage financial speculation. I’m hopeful on the former, but less so on the latter.
As Robert Peston and Avinash Persaud pointed out back in 2011, financial transactions taxes work pretty well: even the UK, which is implacably opposed to the European tax and which won’t ever join such a scheme, levies a surprisingly large 0.5% tax whenever anybody — anywhere in the world — trades a UK stock. And yet, somehow, London remains the first choice for international companies looking for a place to list their shares.
The European tax, which is much smaller than UK stamp duty, will similarly have little effect on how and where financial markets operate. The “if you tax me, I’ll just move elsewhere” threat is a pretty empty one, in practice, especially if you have a carefully-drafted law which makes tax avoidance difficult, and if you’re talking about established financial institutions rather than individuals. Count me on the opposite side of Steve Slater: large banks won’t avoid this tax, because doing so would be both politically suicidal and practically incredibly complex. Especially in a world where tax laws can be changed quite quickly, if any obvious avoidance is noticed.
So I think that the financial transactions tax will actually be very good at raising money — possibly even good enough, over time, that the rest of the EU will come around to it. Maybe even London could decide to swap out its stamp duty and join a unified European system instead, especially if a less City-friendly government is elected in 2015. That’s one reason I like the idea of half the EU going ahead with this scheme while the other half stays out: it will provide a proof of concept to persuade the nay-sayers.
On the other hand, I doubt that speculators will find this tax particularly off-putting. Europe doesn’t suffer from the high-frequency trading that has overtaken the U.S. stock market, and these taxes are low enough that any remotely sensible financial transaction will remain sensible on a post-tax basis. It’s possible that total trading volume might decline a little bit in some markets, and that would be fine: no one thinks it’s too low at the moment, and in the derivatives markets especially, increase in volumes generally just translates into increased rents being paid to big sell-side banks. But I’m not someone who believes that speculators are causing a noticeable amount of harm in European markets: as far as they’re concerned, the financial transactions tax is likely to make very little difference to a group of people who are not much of a problem in the first place.
One of the themes in Davos this year was a series of EU politicians pushing pretty hard for a big EU-U.S. trade deal, while the U.S. seemed to feel much less urgency. The financial-transactions tax won’t help on that front: it will widen the gap even further with respect to the treatment of the crucial financial-services sector. Still, it’s good to see real leadership here from France and Germany. They’re going to implement a sensible tax, which will raise much-needed revenues at minimal societal cost. What’s more, if you pierce corporate veils to find out which individuals will end up paying the tax, it’s going to look a lot like a wealth tax, rather than an income tax. That’s good news, in a world where the wealthy tend to pay much lower taxes than those with high incomes.
So let’s hope that this tax gets introduced; that it works; and that the rest of the world, seeing the costs and the benefits, starts to follow suit and sign on too. The area covered by the initial 11 countries is big enough that the tax will work well at inception, but as more and more countries join the scheme, the tax will become increasingly efficient and effective. Maybe, eventually, it could even incorporate the U.S.
Let’s say your job is buying and selling mortgage-backed securities in a market that is generally illiquid and difficult to price. How much truth do you owe your clients, who can’t rely on any sort of public exchange to determine just how much they’re being screwed? To Jesse Litvak, the ex-Jefferies trader who’s just been charged with defrauding clients, the answer to that question would seem to be zero.
At least since the days of “Liar’s Poker”, the price of an illiquid fixed-income security has always been whatever you can sell it for. Litvak’s job was not so far from that of the Salomon bond traders of old: he would simultaneously buy and sell the same mortgage security, leaving Jefferies, per the complaint, with “minimal or no risk”.
Matt Levine describes Litvak’s thoughts on what he owed his clients: “‘Why should I tell my customers what I paid for these bonds?,’ he asked himself, like any used-car dealer would, and now he’s under arrest”. To Federal prosecutors, Litvak went too far by doing things like lying about the prices he was paying for securities, not to mention detailing nonexistent transactions with imaginary sellers:
winner winner chicken dinner…he is gonna sell em to me at 75-28 as I told him to not get cute and just sell the bonds so you can own them at 76….he said cool…..its 6.23mm orig….a’ight?
Of course, there was no seller, and Jeffries had paid a lot less for that particular security than Litvak told clients. This trade generated $150,000 of the roughly $2.7 million that Litvak improperly made for Jefferies. But misrepresenting the price of securities to clients, Peter Lattman writes, “might typically prompt the loss of a job or civil lawsuits”; it “rarely, if ever, rises to the level of a federal criminal prosecution”. As Zero Hedge writes, this is time-honored bond-trader behavior:
It wasn’t necessarily an easy job – it required an extensive rolodex, a keen ear for who held what securities in one’s given space, constant schmoozing, and manning the phones constantly. More, importantly, everyone knew how the game is played: everyone knew that the middlemen would usually skim a few basis points on the top or bottom of the bid-ask spread, in exchange for having the first call the next time a juicy security was being shopped around, or whenever one had to offload some debt in a hurry.
So why did the SEC and the Feds target Litvak? Lattman points to the “aggressive prosecutorial stance of the special inspector general for TARP,” Christy Romero. The government, which used TARP to help stabilize the mortgage securities market, was allegedly a victim of Litvak’s actions.
Alternatively, the Epicurean Dealmaker suggests, Litvak simply screwed the wrong people, including making Jefferies an extra $50,000 off George Soros and a measly $10,000 off Blackrock. — Ryan McCarthy
Once again the question raises itself: what is the point of filing criminal charges against a bank — not a bank’s executives or employees, but the bank itself? The WSJ today says that the US wants RBS to plead guilty to such charges, in addition to paying the inevitable fine over Libor fixing. But only, it seems, insofar as such an admission wouldn’t have any visible practical consequences:
As part of UBS’s settlement last month, the Swiss bank’s Japanese unit pleaded guilty to wire fraud, a felony. Justice Department officials were heartened by the lack of a negative reaction in the markets and among regulators around the world to UBS’s guilty plea. Before the settlement deal, some officials had worried it could destabilize the bank. That has emboldened officials to pursue similar actions against banks like RBS.
Does “banks like RBS”, here, mean all of the banks which are going to settle Libor-rigging charges in the future? If so, it almost certainly includes US banks. And that in turn means that shareholders in such banks should be worried about potentially owning stock in a self-admitted criminal enterprise. On the other hand, maybe shareholders care only about the share price, and can take solace in the fact that Justice only seems to want to file criminal charges insofar as there’s a “lack of a negative reaction in the markets”.
The spectre everybody’s afraid of here is that of Arthur Andersen, which was prosecuted for obstruction of justice in the wake of the Enron scandal, went out of business as a result, and only later saw its conviction overturned by the Supreme Court. By that point it was too late: 25,000 jobs had been lost, and the accounting industry had become even more consolidated than it was before.
As a result, Justice seems to be treading very carefully here, prosecuting UBS — and, now, probably RBS as well — only with respect to activities in far-flung Asian outposts that no one cares much about. Think of it as the diametric opposite of the way that prosecutors went after Aaron Swartz: the US in this case is being minimally rather than maximally aggressive.
The problem is that this m.o. seems to violate a basic principle of justice — the principle that where there is a crime, there should be a punishment. Put the fines to one side: they will happen anyway, whether the bank admits to criminal activity or not. The criminal prosecution, in these cases, seems to be little more than a CYA move on the part of the administration, which can now have a slightly straighter face when saying that it’s being tough on the banks.
Still, maybe the markets should be more worried about such admissions than they’ve shown themselves to be until now. If a bank with a substantial US retail operation — JPMorgan Chase, say — admits to criminal misconduct, that doesn’t just open itself up to lawsuits from people who bought instruments linked to Libor, but also hands a whole new ammunition clip over to the opponents of big banks generally. Remember that most of the Dodd-Frank law still has yet to be written, including the details of the Volcker Rule; the worse the light the big banks are seen in, the tougher that regulators are going to allow themselves to get.
And then there’s the question of local prosecutors and regulators. The Justice Department might be very solicitous here, but that doesn’t mean that aggressive state attorneys general will follow suit. Once a bank has admitted criminal wrongdoing, its banking license in New York or any other state could surely be in jeopardy. And once a bank loses its banking license in New York, it’s basically dead in the water.
Justice, then, needs to ask itself what exactly it’s trying to achieve with these criminal admissions. In principle, I’m all in favor of holding criminal organizations to account for their actions. But only if doing so does more good than harm.
Apple’s stock is down 23% in the last six months. Last week’s earnings report caused an overnight drop in shares from $514 to $461. Earnings growth is decreasing. Investor Jeff Gundlach thinks it’s a “broken company” where innovation has been reduced to “just changing the size of… products”. Fast Company explains “Why Apple is losing its aura” while the WSJ asks “Has Apple Lost its cool to Samsung?”
Not so fast. Legendary VC Michael Moritz, who first bought Apple equity in 1978, has stepped into the doomsaying to decry the lack of “any sense of perspective”. Quarterly revenues, he notes, grew 18%, and topped $50 billion for the first time. And while Apple does face stiff competition, it’s only because it is so successful:
Almost every company in the world suffers from acute Apple envy. Apple has thrown several mainline industries, including music, movies, television, publishing, cameras and 35mm film, into convulsions… It is difficult to think of a company of the past 50 years whose influence and ingenuity have been as profound or widespread.
John Abell voices the nagging concern that Apple just doesn’t tell shareholders enough about what it’s up to. That’s really nothing new: Steve Jobs was notoriously hostile to shareholders, and seemed to relish ignoring them. Tim Cook hasn’t changed tack.
It’s not just more information some Apple shareholders want — they’d like management to be fixated on the stock price. In practice, that seems to mean a monomaniacal preference for buybacks as far as they eye can see, rather than investments in product development or the company’s supply chain. But Apple’s view on this issue won’t change: Jobs ignored Warren Buffet’s advice to use cash to buy back stock.
The difference between a CEO obsessed with products and an investor obsessed with finance, is the difference between Apple and Berkshire Hathaway. In turn, that might help explain why, as Farhad Manjoo writes, “the market attitude toward Apple seems unmoored from its actual performance”. — Ben Walsh
On to today’s links:
The personal finance industry thinks women have a problem (and it’s not unequal pay) – Slate
This year’s Davos was all about tail risk — or, more to the point, the absence thereof. The ECB’s Mario Draghi said — more than once — that he had “removed the tail risk from the euro”. His colleague Ignazio Visco went almost as far, saying that only a few tail risks remain. The EU’s Olli Rehn talked about how there’s “no tail risk” any more. The IMF’s Zhu Min said that “In Europe, the tail risk has been moved off the table”, which was exactly the same language also used by Ray Dalio. Bank of America CEO Brian Moynihan said that “euro tail risk is now sorted”. The FT editorialized about the best policy response when “the tail risk of renewed financial chaos is reduced”. Even Nouriel Roubini declared that tail risks have declined in the past six months, although they haven’t gone away. And that was just the on-the-record comments: off the record, many more people, including at least one official US representative, were saying the same thing.
It was enough for both incoming Bank of England chief Mark Carney and UBS’s Alex Weber to start cracking jokes about how tail risks had been reduced on Wednesday and downright eliminated by Friday. As Stephanie Flanders says, Davos wouldn’t be Davos if people weren’t constantly talking about the need to avoid complacency — but for once, this year, “there seemed a genuine risk of it breaking out”.
There’s a worrying trend here, and it’s not complacency. Rather, it’s the use of the term “tail risk” to mean “priced-in and foreseeable euro crisis”. Last year, everybody was worried that Greece could end up leaving the euro, and those worries were reflected in European markets. This year, those worries have abated somewhat. But please, let’s not use the term “tail risk” to refer to such things.
We live in a fat-tailed world: everybody at Davos would probably agree on that. But here’s what none of them seem to understand: tail risks, by definition, can’t be measured. If you can look at a certain risk and determine that it has gone down, then it’s not a tail risk: it’s something else. Let’s say that last year there was a 25% chance that Greece would leave the euro: if something has a 25% chance of happening, it’s not a tail risk any more, it’s just a risk. If you’re planning a trip to the Grand Canyon, you might think about buying travel insurance to cover yourself in the event you are seriously injured. But when you’re right up at the edge of the canyon and the ground starts slipping beneath your feet, at that point you have to actually do something to avoid injury or death. The risk has gone from being theoretical to being real — and at that point it’s not a tail risk any more, it’s a real possibility with a scarily high probability.
The World Economic Forum spends many millions of dollars every year looking at risks both imminent and remote. It’s a useful exercise, and helps to remind us how complex the world is: with so many moving parts, it’s impossible for anybody to have much success as a predictor of the future. What’s not a useful exercise is to try to quantify the world’s risks, and to make determinations as to whether the tails are getting thinner.
And it’s certainly not a useful exercise, when markets have calmed down a little, to turn around and say that something as momentous as a fully-fledged euro crisis was only ever a “tail risk” to begin with. It wasn’t: it was much more imminent than that, and in order to avert it the EU had to venture far into the realm of policy actions which only a few months earlier would have been unthinkable. (Including effectively writing off a large amount of the money Greece owes the official sector.)
Tails are the realm of unknown unknowns. They can be positive, like the discovery of antibiotics, or they can be negative, like the uncovering of Bernie Madoff. In markets, they’re not even real-world events at all: they’re just any large move of say three standard deviations or more. Such moves happen almost every week, in some market somewhere, and they happen pretty much randomly. Measuring risks is good; seeing those risks diminish is pleasurable. But let’s not refer to measurable risks as “tail risks”. Because tail risks are always hidden, and unexpected.
Frank Tantillo has a good overview of the inescapable country-branding exercises that happen in Davos every year; this year Azerbaijan was rivaling India in the ubiquity stakes, while countries like Peru and Japan made do with events.
Countries in Davos behave much like corporations: they brand themselves, they throw parties, they maneuver to ensure that their high-level representatives appear on the most important panels. And while the highest-profile heads of state, like Angela Merkel, are at the very top of the Davos pecking order, the general mass of presidents and prime ministers (there were more than 50 heads of state in attendance) are clearly less important, here, than Davos stars like Larry Summers, Henry Kissinger, or even Nouriel Roubini. The question to ask yourself is: given the choice, who would the average global CEO or hedge-fund manager rather meet. And put like that, it’s easy to see how Danny Kahneman outranks the president of Guatemala.
As a result, countries and corporations alike (including Thomson Reuters) put a significant amount of time and money into trying to capture the attention of the assembled plutocrats. Those efforts range from big public ad campaigns (Azerbaijan) to small intimate dinners (Google), with lots of off-the-record schmoozing in between. If you’re a high-level journalist in Davos (Fareed Zakaria, say), you’ll be swamped with invitations to have an informal discussion with various presidents and prime ministers: while it’s commonplace to note how Davos is great at allowing CEOs to set up dozens of meetings with each other, it’s less well understood how Davos serves the same kind of speed-dating function for interactions between governments and the international press.
There’s always the risk, however, that a carefully-orchestrated branding strategy will backfire. For instance, the prize for the most obnoxious party in Davos — which was won by the Wine Forum in 2011 — was easily snaffled this year by Sean Parker and Ian Osborne, who spent some mind-boggling amount of money putting together a party which (I swear I’m not making this up) was billed as a “future of philanthropy nightcap”. (In Davos, for reasons I’ve never understood, any party which starts after dinner has to call itself a “nightcap”.)
Parker and Osborne, who decided to throw their party under the auspices of a semi-fictional special-purpose company called The Montagnard Group, flew in both John Legend and Mark Ronson for the event: the scuttlebutt was that Jay-Z turned them down. There wasn’t just an expensive sommelier with a very high-end wine list; they brought in someone else to do the same thing with whisky. They also transformed a local Davos nightclub, putting up walls, installing taxidermy, and getting half of Davos asking why on earth these guys thought it was a good idea to schlep a stuffed water buffalo up an Alp, especially one with green lasers shining out of its eyes. Generally the whole thing reeked of excess, which maybe explains why Lloyd Blankfein stayed for hours, and how the party was the hottest ticket in town, with normally-sensible CEOs all but begging for an invite.
The Montagnard party was particularly weird because it wasn’t promoting a company or country: it felt like a piece of obscenely expensive performance art, sending up the way in which conspicuous consumption gets rebounded as “philanthropy” in order to give it a veneer of sophistication. Or maybe the whole thing was just an elaborate joke, decipherable only to Parker, Osborne, and their co-host, Marc Benioff of Salesforce. Either way, it was exclusive, expensive, and excessive: it allowed the real Sean Parker to handily trump anything the Justin Timberlake character in The Social Network could have dreamed of.
Which brings me to Russia. The Russian Federation, like most countries at Davos, was engaged in both overt and covert branding. And while the overt branding was a huge success, the quieter schmoozing backfired massively.
The big Russian Federation party, interestingly enough, took place at exactly the same time as the Sean Parker party, and it was a triumph. Where Parker had a carefully-tended guest list, the Russian doors were wide open; where Parker had fine wines, the Russians had trays of vodka shots; where Parker’s party was dominated by men in suits, the Russians found a much happier crowd, determined to party, dressed down rather than up. The entertainment was Leningrad, a 14-piece gypsy-punk band (think Gogol Bordello, but better), and the venue was a huge white tent erected across from the train station, which helped to avoid the overheating problem endemic to popular Davos parties.
The event was as unapologetically Russian as the Olympic opening ceremonies were unapologetically British: rather than putting a tasteful national twist on a standard Swiss party, those of us who couldn’t speak Russian or decipher cyrillic were happily baffled by most of what was going on. (The bafflementchez Parker was rather different.) The vodka and Champagne were flowing freely, the crowd was pogoing madly, and the whole thing succeeded spectacularly in being that rarest of Davos events: a place where you could genuinely enjoy yourself and let your hair down, rather than eyeing name badges and mingling politely.
There was corporate sponsorship — Vadim Belyaev, the chairman of Otkritie Financial Corporation, joined the band gamely at the end of the evening — but the night really belonged to the revelers. This was the party where you found the TV-station technicians who had been freezing on top of the Conference Center all day; the drivers and waiters and musicians and other support staff whose job is to be as invisible as possible most of the time; generally, the 99% of Davos, rather than the 1% that you normally hear about. This year in particular, when the number of parties shrank and door policies tightened up across the board, it was fantastic to see a party where literally everybody in Davos was welcome.
The morning after its party, however, Russia ran straight into a PR nightmare stemming from a much more exclusive event. Prime minister Dmitry Medvedev was in town, and gave an off-the-record press briefing to some 20 international journalists. The ground rules were clearly designed so as to prevent any of Medvedev’s comments being made public, but when Medvedev said something which could easily be interpreted as a direct threat against Hermitage Capital’s Bill Browder, a number of the journalists in the meeting went immediately to Browder to tell him what the Russian prime minister was saying about him. And then Browder, who understandably cares more about his own personal safety than he does about the nuances of Chatham House attribution, immediately went on the record to Reuters, telling the world what he had heard.
In the space of less than 24 hours, then, Davos saw Russia at its best and at its worst: open and closed, free and fearsome, fun and deadly. On net, maybe the country would have been better off just buying a bunch of ads on the side of buses. But probably no one in Russia — least of all Dmitry Medvedev — much cares.
Russians know how to have a good time, and they also live in an incredibly violent state-dominated society. Neither of these things is exactly a secret, and no one’s looking to change anybody else’s mind on either front. Anybody doing business in Russia today is doing so with their eyes wide open. Let the rest of the world go to Davos to present itself in the best possible light. Russia will just continue being Russia — in good ways and in bad.
The world’s oldest bank is facing a very modern problem: almost $1 billion in derivatives losses which have only recently been discovered by management.
Monte dei Paschi di Siena (or Mountain of Piety of Siena, and MPS for short), founded in 1472 and Italy’s third-largest lender, says it may lose a total of $956 million on three derivatives trades. The trades, put on between 2006 and 2009, were referred to as “Alexandria”, “Santorini”, and “Nota Italia”.
Reuters’ Silvia Aloisi and Stephen Jewkes report that Alexandria was closed out in 2012, while the Santorini trade was liquidated in 2009. The Nota Italia trade was restructured and remains open. If you want to understand the Santorini deal, the place to go is this Bloomberg story, by Elisa Martinuzzi and Nick Dunbar; it seems to have started with a complex equity derivative, and snowballed from there.
MPS received a $2.5 billion bailout last June. Now it is likely to request an additional $5.2 billion in state-backed bonds next week to shore up its capital position.
The political fallout from the disclosure of the losses has been quick: the current head of the Italian banking association, a former MPS executive, has resigned. Italian prime minister Mario Monti is being sharply criticized — as is ECB chief Mario Draghi, who was responsible for regulating MPS at the time of the trades, as head of the Bank of Italy. The central bank says that it only found out about the existence of the trades “following the discovery of documents kept hidden from the supervisory authority and brought to light by the new management of MPS”. MPS’s board, for its part, says it didn’t review or approve at least one of the three trades.
Regulatory and criminal investigations are now reportedly underway. That’s helpful, because there’s still a lot we don’t know about a story that already reads like a fevered collaboration between Dan Brown, Matt Taibbi, and Larry Summers. — Ben Walsh
On to today’s links:
Rollergirl who met Herbalife distributor in online knitting forum hits back at short-sellers – Planet Money
AIG put a lot of thought into its obvious decision not to sue the government – Matt Levine
On the bright side, it’s “too early to tell” if the UK economy will enter a triple-dip recession – WSJ
The Davos hive mind says the financial crisis is over, but a credit market bubble may be coming – Businessweek
A handy guide to Davos-speak – Ryan McCarthy
The Davos phrase generator – Heidi Moore
“Azerbaijan, Land of the Future.”: Advertising in Davos – Frank Tantillo
Many congratulations to Stephen Fidler, who has managed to get some actual news in Davos: EU economics commissioner Olli Rehn went on the record telling him that Cyprus is going to have to restructure its debt — just two weeks after ruling such a thing out.
That might come as little surprise, given that Cypriot banks were loaded up to the gills with Greek debt, and Greek debt suffered a 70% haircut. Cyprus is tiny, and could never afford the €17 billion needed to bail out the banks and the government — especially since that would bring the country’s debt load up to more than 140% of GDP.
Still, after the EU forced Greece to default, it drew a line in the sand: no more sovereign defaults, it said, since Greece was “unique and exceptional”. So this does go to show that you can’t really trust Europe’s promises. What’s more, Cyprus’s now-certain restructuring is going to be significantly messier than Greece’s was.
Greece’s debt restructuring was essentially unstoppable for one main reason: most of its debt was issued under domestic law, rather than foreign law. A tweak to domestic law, and suddenly the vast majority of Greece’s creditors were bailed in to any deal, whether they voted for it or not. Cyprus, in contrast, doesn’t have that luxury: its bonds are mostly issued under foreign law. And that means any restructuring is going to be much more difficult.
Lee Buchheit and Mitu Gulati have a potential solution to that problem, which involves amending the treaty governing the European Stability Mechanism. But the other big problem in Cyprus will still loom: the question of the country’s bank deposits.
In a country like Cyprus (or Iceland, or Switzerland), where the banking sector is many multiples of national GDP, there’s very little distinction between rescuing the banks and rescuing the country. And if the asset side of the banks’ balance sheet is full of Greek sovereign debt, the liability side is equally dodgy: Cyprus is a notorious center of dodgy offshore banking, especially for Russians. If Cyprus is going to restructure its liabilities, it’s going to have to face one huge question: will those restructured liabilities include Russian and other foreign deposits?
If there’s any hint that Cyprus might force foreign depositors to take some kind of haircut, of course, there will be a massive run for the exits, and Cyprus’s current solvency problem will become a much more serious and immediate liquidity problem. The last thing that Cyprus or any other country needs is a bank run, which will leave the national balance sheet in the classic pinch where “on the left, nothing’s right, and on the right, nothing’s left”. What’s more, in many ways the precedent of forcing depositors to take a haircut would be even more damaging than the precedent of imposing a haircut on Greek bondholders: at that point there would be really no reason at all to have deposits in any Mediterranean country.
That said, foreign deposits in Cyprus amount to some €30 billion: the opportunity cost of protecting them in full, while imposing a substantial haircut on Cyprus’s bonded creditors, would be huge.
So even if Europe has made its first big decision — to force Cyprus to default — it still faces many more. Should it amend the ESM treaty to make any restructuring easier? Should it impose a haircut on Cyprus’s uninsured depositors? And how can it structure the process to minimize the chances of a messy bank run, default, and possibly even exit from the euro? It’s easy to dismiss Cyprus as too small to worry about. But it’s still an important sovereign state. And if the EU missteps on Cyprus, that would bode very ill for any similar problems in bigger eurozone countries in the future.
Finance is in the midst of its very own jobless recovery. The money side of things is going great: the S&P 500 is at its highest level since 2007, and banks are producing astonishing profits, both dull and less dull.
Bank employees, on the other hand, aren’t faring so well. Commerzbank today announced it’s shedding up to 6,000 jobs. UniCredit is cutting 1,000 jobs in its German unit. Lloyds has announced 1,300 job cuts this month and Barclays is jettisoning 2,000 workers.
And they’re just catching up to their US competitors. Citi infamously “repositioned” 11,000 people out of work in December, while Morgan Stanley more recently decided to cut 1,600 jobs.
As Bloomberg’s Michael Moore points out, Wall Street’s bulge bracket is slimming down. UBS is ridding itself of 10,000 employees and closing its fixed-income business, while RBS is getting out of the equities, advisory, and equity capital markets businesses. It’s estimated that more than 500,000 financial sector jobs have been lost in the US and UK since 2008.
Matt Yglesias writes that glee is the wrong response to this trend:
The financial sector isn’t all moustache-twirling fatcat CEOs. Lots of people work at these banks in lots of different kinds of jobs, and nobody likes to see anyone lose theirs. But at the same time these waves of layoffs… emphasize that to a perhaps larger degree than is generally recognized, the financial sector really is shrinking.
If you still have a job in finance, then, now is maybe not the time to complain about barely getting paid more than minimum wage. — Ben Walsh
“Jargon is not meaningless as long as it is strategic, measurable, and scalable” – McSweeney’s
Davos as a “positional good” – John Cassidy
“The corridors will be renamed ‘happenstance alphazones’” – FT
“The central bankers who saved the world economy are now being told they risk hurting it” – Bloomberg
The best conference panels, like the best blog posts, are the ones which change your mind. And while I haven’t done a U-turn on anything, after yesterday’s panel on smart cars I’m now thinking very differently about the relative merits of various ways of improving how we move around where we live and travel. While I’ve generally been a fan of just about any alternative to the automobile, now I’m not so sure: I think that smart car technology is improving impressively, to the point at which it could be the most promising solution, especially in developed parts of the world like California.
One reason is simply fiscal. Projects like the self-driving car, and the Sartre platooning project in Europe, move the costs of new technology onto companies (Google) and individuals (people buying smart cars). As such, while the total amount of money spent might well be enormous, the money doesn’t need to be spent up-front by any state or national government. That stands in stark contrast, of course, to rail projects, which cost billions of dollars up front; if they ever do pay for themselves, they do so only very slowly.
It makes perfect sense for dense urban areas to invest in subway systems, of course — as China is doing; India should follow suit. A pedestrian-friendly city with a great bike-path network and a fast subway system is basically any urbanist’s dream, both energy-efficient and reasonably low-tech. But between cities and suburbs, or between cities, you need other ways of getting around. And here there are real choices to be made, between rail and roads. Or rather, given that roads are necessary, do you build roads and railways, or can you solve all your problems with roads alone?
China of course is happily blasting new railways through the country as part of its massive national-infrastructure project. But the more developed a country becomes, the more expensive and time-consuming any new rail line will be. And if you’re looking out say 20 years, there’s a pretty strong case to be made that the kind of efficiency that we can get today only on rail lines will in future be available on roads as well — with significantly greater comfort and convenience for passengers.
Right now, technology is arguably making roads and cars more dangerous. Drivers are notoriously bad judges of their own driving ability, and they’re increasingly being distracted by devices — not just text messages, any more, but fully-fledged emails, social-media alerts, and even videos. What’s more, when car manufacturers roll out things like stay-in-lane technology, that just makes drivers feel even safer, so they feel as though they have some kind of permission to spend even more time on their phones, and less time paying attention to the highway. The results can be disastrous.
But once we make it all the way into a platoon, or in a self-driving car, then at that point we become significantly safer than even the safest human driver. While we’re very bad judges of our own driving ability, we’re actually incredibly good at intuiting how safe our driver is when we’re a passenger. And the experience of people in self-driving cars is that after no more than about 10 minutes, they relax, feel very safe, and are very happy letting the car take them where they want to go. They even relax so much, I’m told, that they lose the desire to speed — maybe because they know that they’re getting where they’re going, and in the meantime can lose themselves in their phones.
If and when self-driving cars really start taking off, it’s easy to see where the road leads. Firstly, they probably won’t be operated on the owner-occupier model that we use for cars today, where we have to leave our cars parked for 97% of their lives just so that we know they’re going to be available for us when we need them. Given driverless cars’ ability to come pick you up whenever you need one, it makes much more sense to just join a network of such things, giving you the same ability to drive your car when you’re at home, or in a far-flung city, or whenever you might normally take a taxi. And the consequence of that is much less need for parking (right now there are more than three parking spots for every car), and therefore the freeing up of lots of space currently given over to parking spots.
What’s more, the capacity of all that freed-up space will be much greater than the capacity of our current roads. Put enough platoons and self-driving cars onto the road, and it’s entirely conceivable that the number of vehicle-miles driven per hour, on any given stretch of road, could double from its current level, even without any increase in the speed limit. Then, take account of the fact that vehicle mileage will continue to improve. The result is that with existing dumb roads, we could wind up moving more people more miles for less total energy expenditure in cars — even when most of those cars continue to have just one person in them — than by forcing those people to cluster together and take huge, heavy trains instead.
This vision creates a dilemma, when we start facing choices about building rail lines or new suburbs. We’re not in a self-driving-car utopia yet, and the transportation problems we have are both real and solvable using rail. So do we use the tools we have, or do we wait and hope that future technology will solve our problems in a more efficient way?
And the question of building infrastructure applies to cars, too: do we just allow the auto industry to build ever more efficient gas-powered vehicles, which will eventually become self-driving, or do we spend billions of dollars building out an infrastructure capable of supporting and recharging electric cars wanting to travel substantial distances? Again, whatever solutions we put in now could end up being obsolete surprisingly quickly.
So while I’m convinced that now is an excellent time for the US to embark on a substantial round of infrastructure investment, I’m less convinced that we should be investing in rail in particular. A smart electricity grid, definitely. Improvements on existing bridges and tunnels, absolutely, including that new tunnel to New Jersey. But I’m less convinced about things like a high-speed rail link between San Francisco and LA. Especially so long as there aren’t any self-driving cars to pick up passengers when they arrive.
David Cameron is definitely up to something. The weird thing is that no one, himself included, seems to know exactly what.
The UK Prime Minister promised, today, to give Britons a referendum on their EU membership by 2017 — if his Conservative party gets re-elected. It’s a perplexing ploy for many reasons.
The more the anti-Continental UK press talks about a British exit, or Brexit (yes, this is a thing now), the more the public wants to stay in the EU. 40% now favor the status quo, which was established with 67% approval in 1976. That’s up from 30% in November, 2012. Cameron’s own party isn’t fully on board, never a good sign in a parliamentary system, and particularly in one led by a coalition government. The referendum might not even happen: the Tories have to win the next election first, and at the moment Cameron’s party has an approval rating of just 32%.
Open Europe Blog has a great round-up of reactions from European politicians, who are blasting Cameron with an array of metaphors. French Foreign Minister Laurent Fabius described Cameron as someone who joined a soccer team, only to decide “let’s play rugby.” Less charitably, former EU trade commissioner Peter Mandelson called the speech “schizophrenic.” And France is ready to just call the UK’s bluff and let them leave. In the end, it’s very likely that Britain is simply bluffing, and all it will have to show from doing so is fewer allies.
The announcement of the referendum has also brought economic uncertainty back into British politics. Britain’s EU membership gives it essentially unfettered access to the world’s largest single market — along with an annual GDP boost of almost $40 billion, or about $640 per UK resident per year.
Even more uncertain is how these types of proposals play out once they are announced. As Joshua Tucker writes, the example of the dissolution of Czechoslovakia shows that simply proposing a referendum makes a UK exit from the EU much more likely. Even if Cameron decides to campaign for Britain to remain in the EU, “once these things get out of the box, they can acquire a life of their own.”
Perhaps Cameron, as the UK economy continues to struggle, just wants to score some populist points in a country where, despite inventive verbal invective being something of a national pastime, being called “European” remains an unanswerable insult. — Ben Walsh
Andrew Ross Sorkin has placed himself on the party beat at Davos: since nothing has happened yet, the main thing to report is that everybody’s Friday-night dance card is looking pretty forlorn. The Google party being canceled we could live with, but the cancellation of the Accel party is bigger news — people really loved that one. Yahoo’s cocktail party early in the evening isn’t going to make up the difference, and Sean Parker’s nightclub event, while surely hard to get in to, is certainly going to turn into the kind of loud and overcrowded sausage party that makes you wonder why you even wanted to go there in the first place.
Sorkin’s headline asks whether the Davos party is over. The answer is no, of course — but it can be interesting to keep an eye on the permanent tension between the World Economic Forum, on the one hand, and Davos more generally, on the other. The two are generally considered interchangeable, which annoys the WEF no end: the vision of Klaus Schwab is for a pretty austere conference taking place at the Conference Center, with little or nothing going on in the rest of town. But of course no self-respecting global organization is going to pass up this annual opportunity to impress thousands of plutocrats by any means necessary.
The result is endless and futile overt and covert strong-arming by the WEF to (a) try to minimize the number of non-WEF events in Davos; and (b) try to ensure that insofar as non-WEF events are certainly going to happen, at least they don’t clash too badly with the formal WEF program. And since the covert strong-arming wasn’t working very well, the WEF is getting more overt, with a very detailed Code of Conduct that they make all participants agree to when they register for the conference.
“Concern is growing,” explains the Code, “that the unique and special nature of the Annual Meeting is being jeopardized by behaviour and activities contrary to the ‘spirit of Davos’”. As a result, everybody here is “expected to respect the non-commercial nature of the event”; “avoid organizing private events or functions that conflict with the programme of the Annual Meeting”; and “not extend invitations to guests who are not registered participants in the Annual Meeting”. On top of that, it’s an explicit violation of the Code to “pay honoraria to speakers at private events or activities organized during the Annual Meeting regardless of whether or not they are participants in the Annual Meeting”.
Not everybody respects the code, of course. Ukrainian billionaire Victor Pinchuk flouts it most visibly, every year, with a huge event at the Morosani hotel. But even the WEF-iest companies seem to be happy to break the code whenever they feel like it. Pepsico CEO Indra Nooyi, for instance, has been a co-chair of the entire meeting in the past, and is still deeply involved in the organization. And yet at lunchtime today she’ll be at something called the Pepsico Cafe, not particularly close to the conference, hosting a lunch with — of all people — Derek Jeter.
Still, the pendulum does seem to be swinging back, a little bit, from Davos towards the WEF. And that’s probably a good thing if only because it might allow the people here to get a bit more sleep. Davos will never be relaxing, of course. But this morning I was very impressed to hear Heather McGregor, the FT’s Mrs Moneypenny columnist, declare after doing a TV hit that she was heading back to her flat to sit back and enjoy the spectacular Alpine view, rather than launching headlong into conference schmoozing. Maybe the smart new way of organizing private events at Davos is to make sure that they only involve yourself.