Opinion

James Saft

Welcome to the Teenies, sorry about those returns

Dec 29, 2009 15:48 UTC

saft2.jpg
-James Saft is a Reuters columnist. The opinions expressed are his own-

As we say goodbye to a decade so abysmal it never even earned a nickname, it is time to take bets on how the coming 10 years will shape up in economics and financial markets.

Welcome, then, to the Teenies, a word that will describe the decade as well as the small returns in financial markets and the shrinking financial sector it will bring.

So, let’s run through some themes for the 2010s:

Banking – The decade will end with meaningful reform of banking in place, but what is not clear is if this happens soon or only after a new banking crisis brought on by an unwillingness to take tough steps now. The likelihood is that regulation limits leverage and causes the share of the economy captured by financial services to shrink. It will be a lousy decade to be a shareholder, but given the government backing, perhaps not a bad one to be a bondholder.

It will be a great decade in which to have credit skills; even if the ratings agencies escape meaningful reform, everyone is going to want to do their own homework and a shrinking banking sector will open up highly profitable opportunities for alternative avenues of credit.

Investment - Just as the last decade started with dot-comfever and ended with unease, the next one will be all about reconciling oneself to moderate returns and figuring out who is hurt worst by a world of slower growth, less volatility and less debt. My theory is that a balance sheet recession means growth in the developed world for the next few years will be restrained at best. The past few months have been heady, but don’t be fooled, it will be very hard work to make an overall portfolio return even 8 percent. As those expectations slowly deflate, pension fund risk will become much more important in investing. General Motors will not be the last icon partially brought down by its obligation to retirees.

Welcome to the Teenies, sorry about those returns

Dec 29, 2009 15:48 UTC

saft2.jpg
-James Saft is a Reuters columnist. The opinions expressed are his own-

As we say goodbye to a decade so abysmal it never even earned a nickname, it is time to take bets on how the coming 10 years will shape up in economics and financial markets.

Welcome, then, to the Teenies, a word that will describe the decade as well as the small returns in financial markets and the shrinking financial sector it will bring.

So, let’s run through some themes for the 2010s:

Banking – The decade will end with meaningful reform of banking in place, but what is not clear is if this happens soon or only after a new banking crisis brought on by an unwillingness to take tough steps now. The likelihood is that regulation limits leverage and causes the share of the economy captured by financial services to shrink. It will be a lousy decade to be a shareholder, but given the government backing, perhaps not a bad one to be a bondholder.

China tightening could undo risk markets

Dec 24, 2009 13:34 UTC

saft2.jpgThe key decision for global markets in 2010 will very likely not be made in Washington but Beijing, where emerging inflation and a property bubble may push China to begin reining in expansionary policies earlier than will suit the developed world.

After returning to a breakneck pace of growth with amazing speed, there are already signs that China is weighing steps to curtail the bank lending that has been a huge source of stimulus, helping to drive property and other asset prices sharply higher.

“We emphasize the role of the reserve-requirement ratio, although the ratio was internationally seen as useless for years and it was thought central banks could abandon the tool,” Chinese central bank Governor Zhou Xiaochuan said at a Beijing conference on Tuesday.

In praise of smaller banks, less volatility

Dec 17, 2009 16:52 UTC

– James Saft is a Reuters columnist. The opinions expressed are his own. –

If we want a world with safer banks, we need to be prepared for the consequences; lower growth over a painful medium term but the promise of making it up over the long run as we suffer less devastating financial blowups.

A banking system forced to operate with more capital and a higher proportion of safe, liquid assets is one that will shrink and charge more for credit, potentially retarding growth as we transition to a different mix of financing.

Easier jawboning banks than leery borrowers

Dec 15, 2009 16:22 UTC

(James Saft is a Reuters columnist. The opinions expressed are his own)

Jawbone all you like, but we are in a private sector de-leveraging, and bank lending and demand will remain weak, making interest rates unlikely to rise any time soon.

Monday’s two big economic news events dovetailed neatly, if not entirely happily; Citigroup  announced plans to repay $20 billion to the government and President Obama called banks together to inform them of their obligation to support the recovery.

“My main message in today’s meeting was very simple: America’s banks received extraordinary assistance from American taxpayers to rebuild their industry,” Obama said after the meeting. “Now that they’re back on their feet, we expect an extraordinary commitment from them to help rebuild our economy.”

UK bonus tax both cynical and justified

Dec 10, 2009 18:46 UTC

(James Saft is a Reuters columnist. The opinions expressed are his own)

A cynical election maneuver it may well be, but Britain’s plan to impose a punitive tax on bonus payments is also reasonably well crafted and in broad terms justified.

Facing a monumental budget deficit and an election in months, British Chancellor Alistair Darling announced a plan to slap a 50 percent payroll tax, payable by banks, on their bonus payments in excess of 25,000 pounds to a given employee.

Banks can pay what they like to whom they like, but every pound a banker gets above the threshold means an additional 50 pence for the public purse. The tax will only raise about 550 million pounds, compared to a public sector borrowing requirement of 178 billion, and will expire in April, leaving delayed bonuses subject to a new higher 50 percent personal tax rate previously announced.

Low rates, silly banks and the next bubble

Dec 9, 2009 20:11 UTC

saft2.jpg(James Saft is a Reuters columnist. The opinions expressed are his own)

So it is official, if not a surprise: keep interest rates low enough for long enough and banks will behave in very silly ways.

That makes one more reason to expect further bubbles as part of the cost of recovering from the last one, which was in turn part of the cost of repairing the damage done by the bubble before that.

Keep interest rates low for 10 consecutive quarters and, hey presto, the expected rate of defaults experienced by banks rises by 3.3 percent, according to a study of 600 banks in Europe and the United States by Leonardo Gambacorta of the International Bank of Settlements. For study click here.

Low rates, silly banks and the next bubble

Dec 9, 2009 20:11 UTC

saft2.jpg(James Saft is a Reuters columnist. The opinions expressed are his own)

So it is official, if not a surprise: keep interest rates low enough for long enough and banks will behave in very silly ways.

That makes one more reason to expect further bubbles as part of the cost of recovering from the last one, which was in turn part of the cost of repairing the damage done by the bubble before that.

Keep interest rates low for 10 consecutive quarters and, hey presto, the expected rate of defaults experienced by banks rises by 3.3 percent, according to a study of 600 banks in Europe and the United States by Leonardo Gambacorta of the International Bank of Settlements. For study click here.

Dubai not a canary but another miner needing oxygen

Dec 1, 2009 14:12 UTC

cr_lrg_108_jamessaft1.jpg- James Saft is a Reuters columnist. The opinions expressed are his own -
Taken all in all, Dubai’s debt crisis is the most significant financial development of 2007. Here in late 2009 it amounts to far less.
Back in the day it would have been a newsflash that apartments ultimately require occupants, that investment needs to be ratified by cash flows, and that debt, Sharia-compliant or garden variety, someday must be repaid.
Dubai’s difficulties are being sold as the commercial real estate debacle somehow morphing into a sovereign debt crisis and it is true that the effective borrowing rates of the more raddled national borrowers such as Ireland have been driven up in recent days.
Dubai’s government said on Monday that it is not responsible for the borrowings of Dubai World, a state-controlled development conglomerate saddled with huge debts amid a property market where the going rate has halved.
Dubai last week applied for, or imposed depending on your point of view, a six-month repayment freeze for Dubai World and its property developer Nakheel.
“Creditors need to take part of the responsibility for their decision to lend to the companies. They think Dubai World is part of the government, which is not correct,” said Abdulrahman Saleh, director general of Dubai’s department of finance.
Quite, and hopes that credit extended to Dubai World would be made good by the state of Dubai or by the richer emirate of Abu Dhabi seem to be foundering. This is bad news for those creditors, with the worst potential losses traceable to banks in Britain and Europe, but its probably just not that big of a deal.
For one thing, the amount potentially at issue, even if you allow for an extra 50 percent off balance sheet taking it to circa $125 billion, is simply not big enough in the scale of things to tip significant players over the edge.
And it tells us very little about the state of the world or the likely outlook for real estate. It is very hard to call something a canary in the coal mine when you are already cleaning up after a mining disaster.
For a time the magical thinking behind Dubai, “build it and they will come”, worked and despite it being remote, having an inhospitable climate and little inherent commercial reason for existing, the city boomed. It’s a bit like having a feast so the harvest will be good rather than when it actually is, but it was effective for a time as prices rose and investment was attracted.
DUBAI WORLD MEETS MORAL HAZARD WORLD
The nub of the meme in financial markets is that this is about sovereign exposure and that creditors will be shocked if the state support they thought they had coming never arises.
But is it terribly bad news for the rest of us? Probably not. Investors should have seen it coming – there have been quite a few headlines recently about the real estate crash-  and should not have conflated “implicit” with “explicit”.
Dubai has made clear in its own bond prospectuses that it might lend support but that it was under no obligation to do so. Teaching investors the difference between “quasi-state” and “state” is a good thing.
So why then did the cost of borrowing for Greece and Ireland, as expressed in insurance contracts against default, go up?
Nothing about Dubai’s predicament will have much of an impact on Irish or Greek tax revenues clearly, and the banks and the pool of lendable capital has not been diminished by much.
Nor is it easy to draw a new connection between Dubai and the emerging European countries which represent a muchmore substantial and potentially grave threat to banks in Europe.
Perhaps this is ultimately about moral hazard – risk taking under the belief that you are “insured” -  as are all stories involving the words “quasi,” “government,” and “debt.”
Fannie Mae and Freddie Mac’s quasi-government status fed moral-hazard driven risk taking, as did Dubai World’s, as is most certainly the case where government insurance allows for cheap borrowing.
Markets went down on Dubai because they have become addicted to moral hazard and anything that doesn’t conform with the idea that all shall be bailed out is scary.
It is apparently terrifying that a government should say “hard luck” to anyone anywhere, no matter how difficult the government’s situation is or how ill-founded the investors claim to relief.
None of this is to say that the commercial real estate crash isn’t terrifying, or that countries like Ireland and Greece don’t face difficult times and huge risks, but only that Dubai tells us little new about those things.
There is definitely a moral hazard trade out there, but Dubai is not the event which will cause it to unwind.

(At the time of publication James Saft did not own any direct investments in securities mentioned in this article. He may be an owner indirectly as an investor in a fund. Email: jamessaft@jamessaft.)

Dubai not a canary but another miner needing oxygen

Dec 1, 2009 14:12 UTC

cr_lrg_108_jamessaft1.jpg- James Saft is a Reuters columnist. The opinions expressed are his own -
Taken all in all, Dubai’s debt crisis is the most significant financial development of 2007. Here in late 2009 it amounts to far less.
Back in the day it would have been a newsflash that apartments ultimately require occupants, that investment needs to be ratified by cash flows, and that debt, Sharia-compliant or garden variety, someday must be repaid.
Dubai’s difficulties are being sold as the commercial real estate debacle somehow morphing into a sovereign debt crisis and it is true that the effective borrowing rates of the more raddled national borrowers such as Ireland have been driven up in recent days.
Dubai’s government said on Monday that it is not responsible for the borrowings of Dubai World, a state-controlled development conglomerate saddled with huge debts amid a property market where the going rate has halved.
Dubai last week applied for, or imposed depending on your point of view, a six-month repayment freeze for Dubai World and its property developer Nakheel.
“Creditors need to take part of the responsibility for their decision to lend to the companies. They think Dubai World is part of the government, which is not correct,” said Abdulrahman Saleh, director general of Dubai’s department of finance.
Quite, and hopes that credit extended to Dubai World would be made good by the state of Dubai or by the richer emirate of Abu Dhabi seem to be foundering. This is bad news for those creditors, with the worst potential losses traceable to banks in Britain and Europe, but its probably just not that big of a deal.
For one thing, the amount potentially at issue, even if you allow for an extra 50 percent off balance sheet taking it to circa $125 billion, is simply not big enough in the scale of things to tip significant players over the edge.
And it tells us very little about the state of the world or the likely outlook for real estate. It is very hard to call something a canary in the coal mine when you are already cleaning up after a mining disaster.
For a time the magical thinking behind Dubai, “build it and they will come”, worked and despite it being remote, having an inhospitable climate and little inherent commercial reason for existing, the city boomed. It’s a bit like having a feast so the harvest will be good rather than when it actually is, but it was effective for a time as prices rose and investment was attracted.
DUBAI WORLD MEETS MORAL HAZARD WORLD
The nub of the meme in financial markets is that this is about sovereign exposure and that creditors will be shocked if the state support they thought they had coming never arises.
But is it terribly bad news for the rest of us? Probably not. Investors should have seen it coming – there have been quite a few headlines recently about the real estate crash-  and should not have conflated “implicit” with “explicit”.
Dubai has made clear in its own bond prospectuses that it might lend support but that it was under no obligation to do so. Teaching investors the difference between “quasi-state” and “state” is a good thing.
So why then did the cost of borrowing for Greece and Ireland, as expressed in insurance contracts against default, go up?
Nothing about Dubai’s predicament will have much of an impact on Irish or Greek tax revenues clearly, and the banks and the pool of lendable capital has not been diminished by much.
Nor is it easy to draw a new connection between Dubai and the emerging European countries which represent a muchmore substantial and potentially grave threat to banks in Europe.
Perhaps this is ultimately about moral hazard – risk taking under the belief that you are “insured” -  as are all stories involving the words “quasi,” “government,” and “debt.”
Fannie Mae and Freddie Mac’s quasi-government status fed moral-hazard driven risk taking, as did Dubai World’s, as is most certainly the case where government insurance allows for cheap borrowing.
Markets went down on Dubai because they have become addicted to moral hazard and anything that doesn’t conform with the idea that all shall be bailed out is scary.
It is apparently terrifying that a government should say “hard luck” to anyone anywhere, no matter how difficult the government’s situation is or how ill-founded the investors claim to relief.
None of this is to say that the commercial real estate crash isn’t terrifying, or that countries like Ireland and Greece don’t face difficult times and huge risks, but only that Dubai tells us little new about those things.
There is definitely a moral hazard trade out there, but Dubai is not the event which will cause it to unwind.

(At the time of publication James Saft did not own any direct investments in securities mentioned in this article. He may be an owner indirectly as an investor in a fund. Email: jamessaft@jamessaft.)

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