Columnist, Reuters news
Neil's Feed
Oct 12, 2009
via Breakingviews

Fiscal contraction needs monetary expansion

When Doug McWilliams talks about an “exciting policy mix”, it sounds as though he’s describing one of those unexpected recipes found at exotic restaurants. Yet McWilliams isn’t a cook, he’s chief executive of the Centre for Economics and Business Research, and as he stares through the fug in the fiscal kitchen, he sees a future markedly different to the consensus.On Monday the CEBR got the blame for another lurch in sterling, with its forecast of a euro costing more than a pound, UK Bank Rate staying very low for years to come, and long-dated government stocks yielding 2.5 percent. In that case, even 3.5 percent War Loan would look like expensive money, prompting the Bank of England to redeem it.The CEBR starts from the premise of massive government spending cuts coupled with tax rises,  and argues that in such brutal fiscal conditions, monetary ease is vital to ensure that the money supply does not shrink.The need to keep money in circulation is one of the few areas where economists seem to agree, since a falling money supply is a precursor to a depression. This view has caused eminent commentators like Samuel Brittan to argue against the clamour for immediate, deep cuts in spending.In practice, immediate deep cuts in state spending are impossible, but it’s also obvious that the UK’s current fiscal deficit cannot be sustained, and without a programme of cuts and tax rises, a sterling crisis is odds-on. Hence what McWilliams describes as “the fiscal policy lever pulled right back while the monetary lever is fast forward.” He expects cuts in public spending and tax rises, combined with more monetary easing and very low interest rates.His conclusion is that “this ought to work”, which is comfort of sorts, as the years of slow growth and austerity loom. His view also helps underpin the revival in share prices; if cash on deposit returns next to nothing, and even long-term lending to the government yields just 2.5 percent, the attractions of property and shares as alternatives are obvious.The biggest worry – aside from the little matter of civic unrest at the draconian policies ahead – is of a sterling crisis or panic buying of commodities leading to a leap in inflation. While the latter looks unlikely with economic activity across the world so muted, the former is an ever-present possibility. A weak currency is quite helpful for mitigating recession, but a slumping one is catastrophic.The CEBR sees the pound weakening to $1.40 – but a year ago, it was forecasting dollar parity with the euro, which merely proves afresh that currency forecasting is a mug’s game. Exciting or not, McWilliams’ other predictions look eminently plausible.

Oct 6, 2009
via Breakingviews

Work longer, and expect higher interest rates

It’s bad luck if you’re a 59-year-old British male, planning to retire at 65 in 2016 – you may have to wait another year to collect your pension. Your wife is already reconciled to watching her retirement age drifting further into the future, so that each year she works brings it only six months nearer.The UK state pension is stunningly expensive. Even the modest move announced by the Conservatives at their conference on Tuesday will save 13 billion pounds a year, or half the revenue from fuel duty. As longevity increases, the state pension age must be raised much further, but this proposal is the first instalment of what until now has looked more like theoretical economics than the prospect of personal financial pain.There is much more to come. It’s not even possible to predict next year’s gap between government spending and revenue to within 13 billion pounds. Next month’s Pre-Budget Report will be another horror show, like the April Budget which forecast a shortfall of 175 billion pounds. Effectively, everything spent this year on health, transport and defence has been borrowed from the Bank of England, that modern equivalent of printing money to pay the bills. Printing money seems to be cost-free, but only as long as the markets believe in the nation’s credit. If there is the slightest doubt, the punishment is swift and vicious. Britain is already heavily dependent on foreign buyers of government debt, and even at today’s historically low rates, debt costs are forecast to rise from 30 billion in 2008/09 to 43 billion pounds in 2010/11. They will go much higher thereafter.By 2014, debt is forecast to reach 80 percent of GDP (currently around 1,400 billion pounds), and the combination of new issuance and the Bank’s programme of buying in existing stocks mean that even a 1 percent rise in interest costs would absorb all the savings from the Conservatives’ painful pension proposals. Meanwhile, on the other side of the world, there’s an indicator of what’s ahead. On Tuesday Australia became the first OECD country to raise interest rates, as the central bank worried about a resurgent housing market. As the recovery in far eastern markets gathers pace,  others are expected to follow, offering more attractive alternatives to sterling while UK rates are close to zero. A rise may not be as far off as most forecastsers suppose.The shape of the Conservatives’ plan for coping with their baleful inheritance is becoming a little clearer. The hope is that concessions on National Insurance will encourage small employers to create jobs and stem the rise in unemployment, while the promise of meaningful spending cuts will reassure foreign holders without scaring the voters back to Labour.There are, as the Taxpayers’ Alliance spelled out last month, many areas where spending could be cut without hurting more than the small, vociferous groups whose interests would be damaged. One that the analysis missed was government economists: there are one thousand of them.

Oct 6, 2009
via Commentaries

The electric car is a technological cul-de-sac

The End Is Nigh is always an arresting headline, the end which is nigh now is the Age of Oil, following the deep thoughts of the boffins at Deutsche Bank.They are forecasting a “game change” as a result of – wait for it – the electric car. Their thoughts are “unburdened by the conflicting forecasting agendas of government agencies, oil companies or auto makers”, so can roam the intellectual highways and byways.They postulate a price spike to 175 dollars around 2016, followed by an “equilibrium” price around 100 dollars by 2030. The shock will be enough for the electric car to displace the conventional automobile, and OPEC will eventually be reduced to cutting prices to maintain its market share.These projections are far enough into the future to ensure that nobody will remind Paul Sankey and his fellow authors of their words if they turn out to be hideously wrong.Even at hundred-dollar oil, the electric car is a technological dead-end, and the battery is the roadblock. The technology is improving, but there is no sign of the “breakthrough” that might put energy storage capacity within an order of magnitude of the petrol tank. Nor is there a solution to the question of charging times – and the faster a battery is charged, the less efficient the process becomes.The size of the problem can be simply illustrated: if a dozen cars are filling up simultaneously, the energy transfer (of fuel into the tanks) is equivalent to the output of a medium-sized power station.Then there is the question of the cost of the exotic materials needed to squeeze more from batteries and electric motors. Rare earth elements, with unpronounceable names and mostly found in China, are crucial to modern technology, but electric and hybrid cars eat them wholesale. Rare earths will no more run out than will oil, but they may get much more expensive. That Toyota Prius sitting so smugly outside your house is full of them. It presents a tempting target for the same scrap metal merchants who helped themselves to manhole covers during last year’s commodity boom.Compared to the petrol, or better still, diesel engine, the electric car is a poor use of primary energy. Fuel must be burned to generate the power, which must then be transmitted and stored in the battery. Each process costs energy, and the total thermodynamic efficiency is less than that of internal combustion.The air quality in cities may be marginally better, but improved exhaust controls will do that far more cheaply. So here’s my prediction for 2030: the electric car will turn out to be a vast, and unnecessary diversion of technological effort.

Oct 5, 2009
via Breakingviews

Aviva to Delta Lloyd: get a life

Aviva, the UK life insurance company that spent millions throwing away a perfectly good local brand in Norwich Union, is now taking a step away from Holland by selling a big minority in Delta Lloyd to local investors.While the announcement was dressed up as a splendid opportunity to release funds for more attractive prospects elsewhere, that’s not quite the point. Aviva both lacks the ability to control its own subsidiary and, on some measures, needs more capital.Despite owning 92 percent (the rest is in a Dutch charitable foundation), Aviva has floundered in the morass of Dutch company law and the two-tier board structure favoured by many continental companies. It has been unable to appoint the management to run a business which produced 12 percent of group sales.Fortunately for Aviva’s boss Andrew Moss, Delta’s record is fair enough to support a public offer, and despite the denials, this looks like the first step towards the exit from a business which, after the sale, will turn into a portfolio investment.Valuing life offices is an art, rather than a science. Analysts try to guess how much profit policies will produce over the many years between inception and maturity, to calculate an “embedded value”. Few companies are valued by the market at EV, and if Aviva can get something close with this IPO, it should take as much as it can.The bigger questions are a lot more awkward. In August, Aviva cut the dividend by 31 percent, having maintained it in the teeth of massive losses in 2008, and for all the talk of using the Delta proceeds to expand, the balance sheet needs the capital. The shareholders might like some, too, since it’s far from clear that Aviva’s “composite model” is really the way forward.The recovery in the world’s stock markets has made all the life offices look prettier, but growing longevity, unfeasably low long-term interest rates and the impenetrable nature of their balance sheets make meaningful analysis desperately difficult. Aviva’s statement on Monday explained that Delta’s EV is prepared differently, “primarily reflecting the use of an alternative discount rate curve”. Pick the bones out of that, if you can.

Sep 30, 2009
via Breakingviews

A new dawn, or just a Songbird at twilight?

When it comes to adroit use of the printing press, the world’s central banks have nothing to teach the boys at Songbird, the majority owners of London’s Canary Wharf. Their billion-pound restructuring creates 65,553,896,186 shares.Even next to recent rescue rights issues, the offer to existing shareholders of 98.32 new shares for every one they hold is pretty extreme. Essentially, the value of the old shares at today’s nominal 2.6 pence lies entirely in the option to subscribe for new ones. How has this soaring monument to mammon been reduced to the begging bowl?The short answer is that it is not Canary Wharf that needs rescuing. Its equity is valued at 1.3 billion pounds including a billion pounds in the bank, enough to finance a vast station for Crossrail, the seldom-glimpsed, semi-mythical railway which may one day run under London to connect Heathrow airport with Docklands. The Wharf expects to be self-financing for the foreseeable future.The problem is further up the corporate chain. Citicorp, which lent Songbird 880 million pounds to buy control of the Wharf, wants its money back. If it forced Songbird into administration, it could pack the Wharf board, pay the cash up and discharge the loan.This fear drove the Songbird price down from 15 pence at top of the boom in 2007 to just 1p. It’s now being rescued with new shares at that price, which is why it needs more than there are grains of sand on the seashore.  However, this is no ordinary penny stock. State-backed Qataris and Chinese are underwriting the rescue, adding a few hundred millions pounds extra to put the business back on song. It has half an eye on the Chelsea Barracks site across town, and with just 135 million of debt left after the restructuring, the firepower to get involved.Should the outside shareholders decide not to take up their entitlement, the China Investment Corporation will end up with 29.9 percent of Songbird. If the outsiders take everything they can, the share falls to 14.7 percent.The quality of the development at the Wharf has drawn the Qataris and Chinese into the refinancing. In the past, this quality has contrasted with the distinctly ropey quality of the financing, as successive owners have gone bust. The Reichmann family, without whom the Wharf would not exist in today’s form, have finally had enough, and are selling out. Given the ambitions of the new backers, other long-term shareholders might think twice before following them.

Sep 18, 2009
via Commentaries

Now watch banks slither round the bonus curbs

Marcus Agius, the immensely wise chairman of Barclays, told a Spectator conference this week that his board paid “as little as we can get away with” to the hotshots under his command, but that to get the best, he had to pay the going rate.Asked from the floor whether the (reported) 500 million dollars paid to Dick Fuld before the collapse of Lehman Brothers meant that he was the best, Agius could only mumble that he didn’t know Mr Fuld.A few hours later, Barclays unveiled its latest answer to the popular demand that something be done to curb the grotesque rewards of the gilded few in banking. It is shuffling $12.3 billion of its grottiest assets, and the department in charge of them, off into a Cayman Island company which is barely credible as a stand-alone business.The deal was greeted with almost universal criticism, but that will hardly worry Stephen King and Michael Keeley, its architects. As the announcement made clear, the “management fees and distributions to the partners” (at 7 percent) would be the priority payments. Any cash flow left over goes to service Barclays’ $12.6 billion loan (at US Libor plus 2.75 percent, or about 3 percent currently) and if things go wrong, the Barclays shareholders are back on the hook.However, unless Keeley & Co have made a terrible blunder, their salaries, management fees and bonuses should run into eight figures. Oh, and it’s unlikely that they will find themselves paying very much income tax at Britain’s new top rate of 50 percent.But since they are no longer Barclays employees, their rewards are nothing to do with the bank.Across the pond, Barclays’ competitor Citigroup has clearly been watching. Its chief executive Vikram Pandit is terribly embarrassed about the $100 million paycheque which may be headed towards Andrew Hall, who runs the bank’s oil trading unit.This is, he agreed, excessive. Unlike Barclays, Citi had to be rescued. The US taxpayer owns a third of the bank. But rather than try and do something about the excess, Pandit is taking a leaf from the Barclays bumper book of fudge by proposing to spin it off.  Hey presto, it won’t be his problem any more, because Hall will be working for an “independent” company, rather than for Citi.Of course, it may be that he’s such a brilliant trader that he’s worth every cent, and that investors will flock to give him their money to manage when he’s no longer under the Citi umbrella. We’ll see. But both cases show with dreadful clarity that when it comes to getting stinking rich, it’s business as usual at the big banks.

Sep 17, 2009
via Commentaries

Barclays strikes a bargain, but for whom?

A brilliant, post-crisis innovation, or another example of banking by smoke and mirrors? It’s not immediately obvious which is the better label for Barclays’ clever wheeze to transform $12.3 billion of all-over-the-place doubtful assets into a nice, clean $12.6 billion 10-year loan.

Of course it’s not the latter, says Barclays. True, the deal has introduced 450 million of sort-of-equity which is being risked against things going further wrong, but the upside from the current “fair value” of the portfolio goes to its new owners, the regulators consider Barclays’ capital position is unchanged, and there’s the little matter of the identity of these investors with $450 million to spare.

Aug 27, 2009
via Commentaries

Double or quits for National Express shareholders

(Refiles on October 19, 2010 to add disclaimer for author’s personal investment. Neil Collins owned shared in National Express when he wrote this article.)

Long-suffering shareholders in National Express have a curious choice: accept a 600 million pound cash bid, or find 300 million pounds to fix the company’s balance sheet.

Aug 19, 2009
via Commentaries

Are Lloyds shares cheap? Not as cheap as this funny money

Shares in Lloyds Banking Group are worth 150 pence apiece, according to the analysts from Royal Bank of Scotland, who think the shares offer “a compelling restructuring opportunity” around today’s 95 pence.Lloyds, say the brokers, is going to recover sufficiently to pay a nominal dividend next year, and something quite substantial in 2011, thanks to margin expansion, cost control and normalising bad debts.Well, maybe. Over in the distressed debt market, they are a lot less sure. Mind you, they are not very sure of anything, and anomalies abound. Brokers Collins Stewart, who have specialised in the backwaters of preference shares and PIBs, have one this very day. They are offering the snappily-titled HBOS Capital Funding 9.54 percent fixed-to-floating perpetual preferred securities at 65 pence.The buyer gets a 14.68 percent return until 2018, when he either gets 100 pence, or the coupon is reset at Libor plus 6.75 percent, a rate deliberately designed to be punitive for the borrower, which is of course, HBOS’ parent, Lloyds.That, at any rate, is the theory. Existing holders of these obscure instruments have little idea how to value them. As Collins Stewart point out,  similarly-ranked paper from Lloyds itself yields 11.28 percent. There’s the additional risk of Lloyds following Northern Rock’s example and electing not to pay the interest, since it’s clear that the bank is still short of capital.The point, though, is that Lloyds cannot pay a dividend if interest on these higher-ranking securities is not up to date. If the RBS analysts are right, then the mouthful of HBOS stock above is cheap; it looks better value than the shares, at any rate.

Aug 17, 2009
via Commentaries

Tree fellers run rings round climate change sceptic

When it comes to taking the long view of history, nobody beats the Irish, so it’s fitting that Queens University Belfast should have been one of the world’s centres for the study of tree rings, a physical record of events which occurred even further back than old Irish grudges.The record provides valuable ammunition in the battle over whether the climate really is changing, but it seems that whether the ammunition is provided depends on which side of the battle you’re on.More than two tree rings ago, one Doug Keenan started his quest to persuade the university to disgorge its voluminous raw data on this subject. Unfortunately, he has been thwarted at every turn. You can see his exhaustive efforts chronicled here.It may be that the university is merely taking the view that this data has some commercial value that it risks losing by allowing outsiders access to it. Surely it can’t have anything to do with Keenan’s being a global warming sceptic? Read and decide…UPDATE: For a related spat (addicts only) see this.

    • About Neil

      "City Editor, The Daily Telegraph 1986-2005 City Editor, The Sunday Times, 1984-1986 City Editor, Evening Standard, 1979-1984 Director Templeton Emerging Markets Investment Trust plc, Finsbury Growth and Income Trust plc Passion: fly fishing (and wife Julia and seven-year-old twins)"
    • Follow Neil