Daily News Roundup 2012: Wednesday 29 February

Good once-every-four-years morning

The most exciting part of my morning was reading that Apple might be releasing the iPad 3. On, like, Wednesday! It's weird - three/four years ago, I would have scoffed at this being a piece of news. Just like I scoffed at the idea of an iPad: "What would I want an iPad for? Tell me what it will do that my iPhone and my Macbook between them won't. Glorified e-reader rubbish. I'll never abandon real books!" And then I abandoned real books. Because I realised that my iPad is a portable library with a sleek exterior and the ability to play Scrabble. Excited. Link: Apple to hold product event March 7.

The headlines:

1. In Greek news, the Greek parliament has passed the first set of legislation relating to austerity cuts, with a second vote expected today. You wouldn't be alone in thinking that this happened a few weeks ago. Apparently not. Everything in bits and pieces. Every Greek union member everywhere is protesting. The opposition wants an election date. And Greece has been downgraded to "selective default" by S&P. It's funny how this almost isn't news - just expected. Link: Papademos gets backing for $4.3 billion of cuts. 
2. Ireland is preparing to vote on the new Euro Fiscal treaty. Whilst the result of the vote is not expected to be an issue (only 12 members of the 17 countries need to approve of the treaty in order for it to take effect), the vote is being framed as the Irish sentiment on remaining in the Euro. After all the drama in Greece, could Ireland actually be the one to throw in the towel and secede? I personally doubt it - I keep saying that there is no loophole in any of the treaties; and it would be way more expensive for any country to leave than it would be to stay. Still - Bloomberg has found some doomsayers. Link: Irish open new front in Euro Debt Crisis.
3. The Apple-Proview (Shenzhen) iPad trademark appeal case continues in Guangdong. I read what Apple is saying. I read what Proview (Shenzhen) is saying. And I am in awe that the Chinese firm believes that it can argue that the Taiwanese subsidiary had no authority to sell - after the chairman of its Shenzhen unit authorised the sale, and the deal was signed by the head of Shenzhen's legal department! And even more in awe that the Lower Court in Guangdong ruled in Shenzhen's favour. Link: The Case Update.
4. And the Africa Business News in Brief. Link: ABN Briefs. The highlights:
• The Kenyan Tea tax dispute has been resolved and auctions will recommence this week.
• SA GDP growth beat consensus and accelerated to 3.2% in the 4th quarter of 2011.
• Angola's Central Bank left its benchmark interest rate unchanged at 10.25%. This in response to an apparent slowing in inflation in February - although no new official CPI figures were released.
• Ethiopia's exports are up - by around 21%. Which is staggering. Especially considering that coffee production (once Ethiopia's principal source of export revenue) dropped by 40% last year.
• Kenya has finalised terms for a $600 million international 2-year syndicated loan that it plans to use to finance infrastructure development. The deal is expected to be signed in two weeks. The loan is expected to replace around half of Kenya's domestic borrowings - after yields on domestic borrowings increased from 2% in January 2011 to around 20% by December. Super pricey to borrow domestically, then.

That's all for now.

Happy Leap Year.

Books: The Big Short

Michael Lewis. That guy is awesome.

So. The Big Short is my first pick of books that must be read on the Subprime Crisis. It is that good that I have bought it, given it away, bought it again, given it away again, and finally bought it as an iBook. But that doesn't stop me trawling secondhand bookstores in the hope that I might find more copies to be distributed amongst the nearest and dearest.

Why am I so enamoured?

Well - because it has this uncanny continuity to its storyline. Michael Lewis was a trader at Salomon Brothers back when John Meriwether and his team were playing with the first Mortgage-Backed Securities. His book "Liar's Poker" was written in the 80s, and it's quite the industry classic. I've reviewed it before here. And then the MBS turned around and caused a crisis. Literary gold.

Also, on a personal bias front, I just really appreciate the fact that Michael Lewis began life in the industry. Often, I read articles published by so-called "financial journalists" - and I wonder if they really understand what they're talking about. And having met a few, I get the feeling that many financial journalists did BA degrees and went into the business section because that's where they found an opening. And then the years of experience have led to a lot of industry savvy but not very much know-how.

So really, what I'm saying is, I like Mr Lewis' CV.

Okay - back to the book. Firstly, I guess, what does the title mean?

Well - a "short" is generally financial jargon for selling. When I short the market, it means that I'm voting with the market going down, so I'm going to sell my investments now. But actually, that doesn't allow me to make money, because I've just limited my losses. When we talk about "shorting the market", what I'd really like to be doing is the following:

1. Borrow the actual investment from someone;
2. Sell it;
3. Buy the investment back once the price goes down;
4. Give the investment back to the guy I borrowed it from; and
5. Keep the profit I made.

That, in a nutshell, is "short-selling". I get to take a bet on the market falling. And from whom would I borrow the investment (usually shares - referred to as "scrip" in the industry)? Institutional investors like pension funds. Pension funds are not into short-term movements in the price of investments. In terms of their mandates, they invest for longer periods of time. So if I borrow scrip from them in return for a fee, they get to generate a little extra on the side, whilst continuing to abide by their investment policies. And their exposure is the same, as they still end up with the same scrip at the end of the day.

Win. 

So why is this the Big Short? Well - the investors that the author is interviewing and writing about were the guys that made the right call on the collapse of the subprime mortgage market. These guys (hedge-fund managers, asset managers, etc) wanted to short the market, so they approached the big boys (the investment banks and insurers), and started entering into Credit-Default Swap arrangements.

Brief recap: a CDS arrangement is basically an insurance policy over a security issue without the annoying obligation to own the securities. These kids went and bought plenty of these CDSs.

And then when the market crashed, they made a fortune. A mind-blowing one. 

Read it.

Today.

Daily News Roundup 2012: Tuesday 28 February

Dear all

The headlines:

1. Germany has voted to go with the Greek Bailout. From what I've read, Germany is set to be the largest contributor to the bailout fund. Some politicians were against it. The popular press was very much against it. But Merkel won. And the president of Germany's HWWI economic institute (not sure what that is - but it sounds important) agreed with the Chancellor's position, because he sees bailout as the least costly solution. Link: Merkel wins Greek Aid Vote. 
2. At the same time, Nobel Prize-winning economist Paul Krugman says that Greece is close to running out of alternatives, and may be forced to leave the Euro. This is the same Paul Krugman of the what-I'm-calling-infamous Jeffrey Sachs-Paul Krugman spat that I mentioned a few weeks ago. Let me pre-empt this by saying that I'm horribly biased in favour of Mr Sachs, for no reason other than Jeffrey being an authority on hyperinflation. Mr Krugman - Greece is running out of alternatives? Human emotions (and politics) aside, I think it's going to be while before it's cheaper for them to leave. I think that the most frustrating part of this situation is the general lack of economic education in the voting population as a whole. Austerity is the best of a bad situation, and bailouts the best chance of a return to sustainability. How do you tell an ignorant public that there is no option that permits prosperity tomorrow? Awkward. Link: Krugman on Greece.
3. The last Japanese maker of DRAM computer chips, Elpida, has filed for bankruptcy. This after computer chip prices dropped to the price of "rice-balls". Now I don't really understand all the tech-spec terminology, but apparently DRAM chips are the most popular variety of computer chip. The problem is that smart-phones and tablets require about a quarter of what is needed for a PC. With dwindling PC sales and dramatic increases in the sales of smart-phones and tablets, Elpida didn't position itself correctly. "Elpida" is the greek word for "hope". No more Elpida sounds oddly prophetic. Bankruptcy is the taste of regret. Link: Elpida Bankruptcy.
4. Bernanke is due to give his semiannual monetary policy report to the House Financial Services committee tomorrow (the 29th). Which reminds me that it's a leap year. But apart from that - it'll be interesting to see just how accommodative the Fed is planning to be. Poor Ben - he has a lot to compensate for. What the politicians refuse to do fiscally, the Central Bank has to address monetarily. And get thoroughly slated for doing it. Stay tuned. Link: Bernanke Pessimism.
5. And the Africa Business News in brief. Link: ABN Briefs. The highlights:
• Impala Platinum's CEO has rushed off to Zimbabwe for talks with the government around its indigenisation plan. After rejecting the Implats proposal, the government has given the company 14 days to effect a transfer to make the Implats Zimbabwean interests 51% locally owned. The Zimbabwean operations represent around 43% of Implats' platinum resources. This could all be so hectic!
• Kenya tea traders are disrupting tea auctions over their opposition to a tea tax that was introduced in January.
• African Rainbow Minerals has expressed interest in buying Anglo-America's platinum interests (Anglo owns 80% of Amplats).
• South Africa's GDP data for the 4th quarter of last year is due to be released today. According to an independent poll, it is expected to show that economic growth accelerated.
• It looks like Senegal is headed toward a presidential run-off after Sunday's election.
• The BRICS are going to attempt to break the American monopoly on the World Bank head position, and submit their own candidate for the position.

And that's all for now.

Happy Tuesday.

Daily News Roundup 2012: Monday 27 February

Good morning

The headlines:

1. In Eurozone news, there is talk that the EU countries are going to consider increasing the bailout limit on its member countries. The European Stability Mechanism has 500 billion euro sitting in it - which makes it the effective cap on total internal bailout funds available. Sadly, the G20 has just turned around and said that it won't be helping - Germany was hoping to persuade the G20 countries to give more cash to the IMF, thereby boosting the IMF assistance available. Fail. And as I've previously pointed out, China and Japan remain firmly committed to assisting once the crisis has been averted. Which is possibly even less helpful that the G20's straight-out refusal. Link: Europe focuses on increasing firewall.
2. Warren Buffett released his annual shareholders' letter yesterday, which included the announcement that his successor has been identified, and is being groomed to take over. Not that Mr WB had any plans of going anywhere - but these things are important for continuity. These shareholder letters are ridiculously famous and eagerly anticipated by the finance world. Here is the link: 2011 Shareholders Letter. I shall have to do a post on the letter's highlights - because it's a wealth of financial wisdom. But on the main story, there is now much speculation around who this unnamed successor will be. Link: Berkshire Board selects Buffett Successor.
3. The BRICS are set to discuss the creation of an multilateral bank funded exclusively by the BRICS nations. The summit will take place at the end of March. It's strange to see South Africa included in the traditional BRIC framework of Brazil, Russia, India and China - particularly with many more likely candidates floating around: South Africa's economy is just so small compared to the others. But after a little googling, it turns out that the one needs to distinguish between the political organisation of the BRICS, which is formalised - and the BRIC economic acronym which is an industry reference first made by Goldman Sachs. Goldman refuses to include South Africa in that designation, for the exact reason that I just mentioned. But South Africa applied for, and was granted, membership status of the BRIC political organisation - which resulted in a subsequent name change to BRICS. Link: India's proposed BRICS bank.
4. Japan appears to be having some success with its new stimulus measures. Japan has been caught in a deflationary trap for many years. And recently, with speculators searching for a store of value following the debt woes of Europe and the US, a strengthening Yen has made the country's exports less competitive. However, the Yen has been weakening of late, and the government has been forecasting increased inflation (actually, what I should be saying is that the government has been forecasting inflation, as opposed to deflation, which has generally been the case). Link: BOJ stimulus beating intervention.
5. Gillard beat Rudd in the Australian prime-ministership vote. Link: Rudd's defeat.
6. And the Africa Business news in brief. Link: ABN Briefs. The highlights:
• Angolan State Oil company Sonangol has pulled out of a $7.5 billion natural gas project in Iran. It says it cannot operate there as a result of international sanctions against Iran. 
• Chevron has pushed back the expansion of a natural gas processing plant in Nigeria by three years. It's not really clear why.
• The Zimbabwe government has rejected part of Impala Platinum's local ownership plan. If there is no deal for the transfer within 30 days, the Zim government will impose enforcement measures.
• Malawi's GDP growth slowed to 6% last year, which was lower than expected, as a result of higher fuel prices and lower revenues from tobacco.

That's all for now.

Have a great week!

What is: the ALSi

I've been asked to explain what the ALSi is - or, better, what it means.

Now I will freely admit that for a long time, I was under the impression that the ALSi represented the average share price. So, for example, if I were told that the JSE-FTSE ALSi closed today at 34090, I would have said that meant "by the close of business today, an average share would have cost you R340.90. Because naturally, the ALSi would be quoted in cents".

Now - why I thought that is anyone's guess. But it makes no sense at all. I mean, for starters - why would the ALSi be quoted in cents? And the average share price is nonsensical.

So no. Not that then.

The question should be: what exactly is an index? Well, an index in any normal situation would have a base value set at some point in time, and then the index value subsequently would track the movement of the underlying relative to the original base value.

And this makes sense. A lot more sense than my initial assumption. Because - if I told you that the share price yesterday was R200, and the share price today is R250 - you would tell me that the share price increased by 25% ([250-200]/200). And then if the next day the share price drops back to R200 - you would tell me that the share price decreased by 20% ([250-200]/250). It all sounds a bit misleading, not so? An increase by 25%, a decrease by 20%, and we're back to the same value?

Surely not.

Well the math is sound. But I would say that the human mind doesn't like to work in percentages. The human mind likes to work in absolutes. So we determine a base value and track movement relative to that base value, more or less ignoring the percentage change.

So in the above example:

• Day 1 would be set as 100. 
• Day 2 would be an increase to 125. 
• Day 3 would be a decrease back down to 100. 

Everything is measured relative to Day 1.

And how does this affect the JSE-FTSE ALSi? Well - it works in exactly the same way. At some point in time, the base value was set at 10,000. And it was set at 10,000 because the basis point (or bps) in finance is 1/100th of a percent. So another way of thinking about it is that the base is 10,000 basis points, or 100 per cent, or 1.

There are some other issues at play here - do you include all securities in the index? What happens if some shares are bought back or more are issued - surely your base value then applies to a different universe of securities? Those issues are dealt with by methods of weighting the index and certain key assumptions.

But for most people, the key thing to realise is that these issues have been thought about and have been dealt with, and the index gives a numerical figure to the market movement today relative to the initial market value on the day that the index was first set.

I hope that makes sense.

Daily News Roundup 2012: Friday 24 February

Good morning

The headlines:

1. The Chinese suing of Apple over trademarking continues. Now I'll admit that I've developed a certain fascination with this case. Mostly because I admire the Chinese tactics on this: which seem to involve suing Apple for anything and everything. First, Proview was being sued by Apple for trademark infringement over the iPad name. Then Proview sued Apple for trademark infringement over the iPad name. Apple bought the trademark rights from Proview's Taiwan subsidiary. Proview insists that the Taiwan subsidiary had no right to do so. Proview won a case in the Guangdong (Shenzhen) court. Apple won a case yesterday in the Shanghai court. Proview then sued Apple in California for perniciously hiding its role in the trademark purchase by acquiring the trademark through a special-purpose vehicle. This after it emerged yesterday that Proview is under the control of the Bank of China. It's like the Bold and the Beautiful for finance kids. And I'll be honest - I think Proview might win in China. Link: Chinese Firm sues Apple; China's Trademark System Baffles Foreign Firms.
2. AIG has posted a 77% increase in profits for the 4th Quarter of 2011. That makes their profit around $19.8 billion. I guess this means that the insurance companies have recovered just in time for the next round of Credit-Default Swaps. But this is quite good news for America in general, because (ironically), AIG is 77% owned by the US Treasury. So hopefully a little profit there will go to fixing some of that giant deficit. Link: AIG posts huge profit.
3. Bank of America has stopped selling mortgages to Fannie Mae. In the US, Fannie Mae and Freddie Mac are the two mortgage-market makers - these government agencies were initially set up in the 1970s to create liquidity in the mortgage market by buying mortgages from the banks and selling them on as Mortgage-Backed Securities (MBS) to investors. This allowed the banks to issue more mortgages. Furthermore, as these are federally-sponsored agencies, these particular MBS (also referred to as agency-passthrough securities) have the additional security of some form of government-backing. But mainly, the credit-quality of these MBS is better because the agencies have reasonably strict requirements in relation to the mortgages they will buy. Apparently - Fannie Mae's requirements have become a little too strict for Bank of America... Link: BofA Halts Routing Mortgages to Fannie Mae.
4. The wrangling (love that word) over the Australian Prime Minister-ship continues. Gillard and Rudd go head-to-head on Monday. Link: Gillard-Rudd Rift.
5. The Africa Business News in Brief. Link: ABN Briefs. The key points:
• Nambia has kept its Repo rate unchanged in response to "frail" economic growth. Let the inflation roll!
• Kenya's British American Tobacco has posted a 65% increase in pre-tax profits.
• South African paper maker Mondi reports a 49% increase in full year profit.
• Standard Bank announced that it expects its headline earnings per share to be between 18% and 22% higher than this time last year.
• Nigeria's gross crude revenues are down by 25% on December - on the back of production outages.

That's all for now, folks.

Have a great weekend.

Daily News Roundup 2012: Thursday 23 February

Good morning

The headlines:

1. Obama's tax plan: cut the corporate tax rate to 28% (from 35%), a lower incentive tax for manufacturers (25%), and elimination of many loopholes including the deferral of taxes on foreign income. The theory behind the corporate tax cut is that the corporate tax rate is correlated with economic growth - the lower tax rate means better growth. Even if at first it seems counter-intuitive (surely - you would want to increase taxes to cover the deficit?) - it makes a lot of sense. The higher a corporate tax rate, the greater the incentive for companies to avoid it. Lowering the rate lowers the cost of compliance - you decrease the amount collected from corporations individually, but expand the tax base by being able to collect from more companies that would otherwise have spent time and effort avoiding tax. And from the new companies that develop spurred on by the economic growth generated by more cash in the economy for investment. Link: Winners and Losers in Obama's Tax Plan. 
2. Typically, the announcement of a tax plan is generating some debate. This article gives some of the background to the tax plan being suggested - both politically and economically. But I really appreciated this one on Bloomberg, which talks about the primary motivator behind the tax plan (economic growth). The article says that we shouldn't view economic growth as holistically positive - it's important to distinguish between sustainable growth and junk growth. Junk growth would occur when, say, people suddenly buy an extra unneeded car. It's not sustainable. But new factory machinery - that's more like it. The other point under discussion is the appropriate policies in respect to the different modes of taxation: payroll tax, corporate tax, and personal income tax. While congress has recently approved a payroll tax, the empirical evidence seems to suggest that this is unlikely to result in sustainable growth. Apparently, cuts in corporate and personal income taxes tend to flow into sustainable investments. Interesting. 
3. In the same line, New Jersey Governor Chris Christie (so good they named him twice?) told Warren Buffett to "write a check and shut up" over Buffett's call to tax the rich. This is the same gentleman that last week vetoed the New Jersey legislation to legalise gay marriage, stating that it required a referendum. More scandalously, he told the gays that the blacks would have been happier if their civil rights had been decided that way as well. Someone needs to shoot him. Who has he managed to avoid offending? Ultra-rich racist white conservatives with no sense of civic responsibility, I'm guessing... Link: Christie on Buffett.
4. That Apple iPad China scandal we were talking about yesterday? Turns out the Shenzhen opposition is controlled by the Bank of China. Proview/Shenzhen (so confused by the names - I thought Shenzhen was a city?) has filed for bankruptcy, and now operates under the purview of its creditors, which are mainly the Bank of China. The claim, from what I understand, is that Proview's Taiwan subsidiary sold the worldwide rights to the iPad trademark to Apple, but the Shenzhen-based company didn't know that the Taiwan folk had done it. In a grand stroke of irony - this all began when Apple sued Proview for unauthorised use of the iPad trademark in China. That was rejected by the Chinese courts in November - and now the flip has happened, with Proview seeking damages from Apple. Don't mess with the Chinese, bru. Link: iPad battle reveals Bank of China as Apple opponent.
5. With the Greek bailout package announcement, analysts are forecasting a rally in junk bonks. Nicely done to the speculators. And that uncle that's been telling me to buy Greek bonds since this all began. Link: Junk bonds seen rallying as Eurozone crisis wanes.
6. Pravin Gordhan announced South Africa's budget yesterday. The highlights include a lower than expected budget deficit (at 4.6%); lowering of the growth forecast to 2.7%; an inflation expectation of 6.2%; government debt being forecast to hit 36% of GDP by the end of the 2012/2013 fiscal year; a projection of investment spending at R884 billion over the next three years. On a personal level, there are a number of tax implications. The withholding tax on dividends will come into effect on 1 April 2012 at 15% (although pension funds will be exempt). The inclusion rate for individuals on capital gains has increased to 33.3% from 25% - which, ironically, works out to a 33.3% increase in Capital Gains Taxation. Companies and trusts have had their inclusion rate increased to 66.6% from 50% - which works out to the same increase as that for individuals. Link: Gordhan's 2012 Budget.
7. And finally, the Africa business news in brief. Link: ABN Briefs. 

That's all for now. 

Happy Thursday.

Daily News Roundup 2012: Wednesday 22 February

Good morning

Yesterday was Mr Mugabe's birthday. Who celebrated his birth as one amongst many of his subsequent rebirths. Crazy - who knew?

For the record - having written what's about to follow, it seems that I've been having a capslocked morning. There are just a couple of things I read in the news today that really made me question whether I'm suffering under my own delusion of rationality - because clearly my version of rationality is different to that of Republican candidates in general.

The headlines:

1. Details about how the Euro-Area central banks will avoid losses on their Greek bond investments are emerging. The banks are engaging in a bond-swap with the Greek Central Bank, and the bonds they receive back will be immune to Collective-Action Clauses (CACs). This will mean that potential new Greek legislation to force the haircut on non-participating bondholders (via a CAC) will not affect the central banks, or the ECB (which already has that immunity, from what I can tell). This will obviously result in some profits for the banks, as the bonds have either been written down previously, or were purchased at distressed prices. Part of the deal is that these profits will then be contributed through to the Greek bailout package. Link: Central Banks in Greek Bond Swap.
2. The Euro Bailout plan has turned the attention back to CDS instruments on Greek debt. According to the CNBC news report - the monetary impact has now been quantified - and thankfully, it doesn't seem nearly as bad as it could have been (see my previous doom and gloom post here). The legislation of CACs by the Greek government would certainly suggest that the CDS instruments are going to be triggered. Nearly $70 billion of default swaps are held over Greek bonds (according to the report). The report also talks about a net number of $3.2 billion - their explanation doesn't make sense to me - but I would assume that some investment banks will both write and purchase credit protection - so once you net that off, you end up with a much easier number to bear. Link: Greek Crisis raises CDS fears.
3. Alibaba.com Ltd is continuing to bid for buybacks of its shares. The Yahoo deal has been on pause - but a bid has recently been announced for the purchase of the remaining 27% of minority shareholder interest. The offer was at a 46% premium to the last closing share price. In the separate deal with Yahoo, Alibaba.com Ltd is trying to buy back Yahoo's 40% shareholding. It's interesting that the former Yahoo CEO Carol Bartz, who was forced out in September, was very opposed to the deal. Conspiracy theory anyone? I tried to check out what Alibaba.com actually does - and for the world's largest online business-to-business trading platform, the information available is astonishingly scarce. But I did see that Paypal terminated their relationship with the company in 2011. Paypal voluntarily terminated its relationship (giving no reason) with the WORLD'S LARGEST ONLINE BUSINESS-TO-BUSINESS TRADING PLATFORM?! How bad could it have really been? Since then, Alibaba.com has been licencing its own pay platform - Alipay. Interesting... Link: Alibaba.com buyback.
4. America is still wrangling over its tax system, with the Obama Administration announcing that they will release their corporate tax-rate plan tomorrow. What is a constant source of amazement to me is the open shamelessness of the politics involved. Obama wants to do the democrat thing and close loopholes, taxing the rich and foreign-based companies to support American businesses that operate in America. Which makes sense - even if it's not overly efficient. The Republicans, on the other hand, seem determined to cut the rate from its current 35% to anything between 25% (presidential-candidate hopeful Mitt Romney) and 12.5% (presidential-candidate hopeful Newt Gingrich). Rick Santorum wants to eliminate corporate tax for manufacturers. Are these people out of their minds?! WHAT ABOUT THE AMERICAN DEFICIT? Link: Obama Administration Corporate Tax Rate Plan.
5. South-African retailer Shoprite announced mid-year results that show profits in the 6 months ended 31 Dec 2012 increased by 18.6%. I will admit that Shoprite has had a soft place in my heart since I first did a valuation project on it in my undergrad. And since then, I've watched its share price do the grand surge. The awesome thing about Shoprite is its African expansion. The buzzword in McKinsey quarterly and special reports on Africa is "Africa's rising middle class". They need to eat, and they can increasingly afford to pay for it. Go Shoprite. Link: Shoprite First Half Sales Increase.
6. Mining Companies are building their own infrastructure in Africa - with West African Railways being rebuilt with $25 billion from the Iron-Ore boom. The most interesting part of this article was talking about how the key business criteria for miners in Africa are having a world-class deposit, and owning your own infrastructure. African Minerals Ltd rebuilt the railway system in Sierra Leone, and is now set to help the country achieve a projected GDP growth of 51% in 2012 (accorded to IMF estimates). That's fifty-one percent - there's no missing decimal point. The fastest growing in the world. Link: West African Railways rebuilt.
7. And finally, the Africa Business News. Link: ABN briefs. The key points:
• Oil production is up in Nigeria and Uganda, and is expect to keep increasing.
• Engen and Shell have been fined by the Competition Commission in South Africa for price-fixing of bitumen. Sasol escaped a fine via conditional immunity for coming forward first.
• Kengen (Kenya's Electricity Generating Company) has announced plans to raise $12 billion to build 6 new geothermal power plants that will produce 585 megawatts by 2016.

That's all for today.

Happy Wednesday.

Daily News Roundup 2012: Tuesday 21 February

Good morning

The headlines:

1. Greece finally has her bailout. The late-night agreement saw Greece find a further 325 million euro worth of budget cuts. The bondholders accepted a higher than expected "haircut" (of 53.5%). The ECB will funnel profits from its Greek bonds into the other Central Banks. The EU ministers then awarded 130 billion euros in bailout aid. I will admit to some confusion - a debt "haircut" is often understood as the creditor having a portion of his outstanding loan due converted into equity. I assume that's not the case here. And the ECB "profits" will be generated because they bought the bonds cheaply (at much less than face value) - and the bonds will appreciate once Greece stabilises and the risk of default diminishes. It's all been so very dra(ch)matic. Let's hope that it really is resolved. Link: Greece wins bailout.
2. In the LIBOR collusion saga (I first mentioned it on 15 February), UBS is scrambling to turn its coat in order to gain immunity. I should probably have a post on LIBOR, but essentially, this is the rate at which banks will lend to each other. It's set every day by the British Bankers' Association via a survey of all the bankers before 10.00am (basically, "What rate would you accept to borrow from another bank this morning?"); there are some criteria around what counts as an actual quote (ie. some quotes are excluded); the quotes left are averaged and then the LIBOR for the day is published. The crux is that the bankers aren't meant to discuss the rates beforehand. Apparently, they have been discussing it, as UBS is frantically trying to tell everyone. Awkward. Because if they HAVE done so, they're going to have to start paying things like fines. And damages. Damages on a rate that is used to determine almost anything debt-related going back for a prolonged period of time? That's going to be hectic. No wonder UBS wants some immunity. Link: UBS turning whistleblower.
3. This article on the overhaul of Italy's labour laws was fun to read: Three Women labouring over laws. In many ways - Italy's deficit seems to be driven in a similar way to that of Greece. Poor tax collection and a bloated public sector. The issue at play is a Labour Code which makes it very difficult to retrench employees when you no longer need them. It's not the same as making state employment a constitutional right (oh Greece... <shakes head>) - but still problematic. Apparently - it's as difficult to change the Code as it is to fire those unwanted employees though. Literally, people have been assassinated over it. Hectic.
4. South Africa is preparing for its budget speech in Parliament tomorrow. And we're all on edge - because there's a slowing of economic growth at the same time that the government is committing to increased capital expenditure on many state-owned operations (like Transnet and SAA). The spending on infrastructure will be great for growth in the long-term - but from a short-term perspective, it's putting pressure on the government's deficit. The extra financing needs to come from somewhere - most analysts suggest that tomorrow's budget speech is going to include an increase in taxes. Maybe that mining tax that the nationalisation commission of enquiry suggested? We shall see. Link: Gordhan under pressure.
5. Apple's legal hassles in China continue, with many stores removing iPads from their shelves. The legal argument is around the use of the trademark name. Apple says it bought the worldwide rights to the trademark from a Taiwanese subsidiary of Proview International (Shenzhen) - but Shenzen says that the sale did not cover China. Time for Samsung and Co to step in and fill the demand. Link: Apple's Legal Woes in China.
6. And the Africa Business News. Link: ABN Briefs. The key points:
• Cameroon's 10 billion CFA franc infrastructure bond issue yielded over 33 billion CFA francs in bids. Well-oversubscribed. Nice.
• The Zimbabwean government has increased royalty fees, licence fees and mining rentals on miners. It is suggested that the increases could cost the sector close to US $ 1 billion - a move that could bring many miners close to bankruptcy.
• Transnet, the state-controlled South African logistics company (ie. it's responsible for transport - notably railways), has planned to triple its capital investment budget to more than R300 billion. See the problems being caused in point 4 above.
• Impala Platinum has agreed to reinstate all 17,200 workers fired from its Rustenberg plant over an illegal strike. 
• South Sudan will cut 50% of non-salary spending as part of austerity measures. Now that it has closed its oil lines as part of its dispute with Sudan, it needs to compensate for the loss of oil revenues.

And that's all for today, folks.

Happy Tuesday.

The Subprime Mortgage Crisis

Alright, before I begin, I'd like to make the following observations:

1. Some of the concepts/instruments I am going to mention have been explained more fully in a number of previous posts:
• Mortgages (see here)
• Mortgage-Backed Securities (MBS) (see here)
• Collateralised Debt Obligations (CDO) (see here)
• Ratings Agencies (see here)
2. The content is based on a lecture that I attended on the Sub-Prime Crisis during my postgrad. Most of it is factually supported by papers and books I've since read on the topic. However, there is obviously some academic opinion being asserted here: this is not the only view of the underlying causes for the crisis. 

And here we go:

The important thing to realise about financial crises is that they generally begin with a really good idea. 

The Asian Currency crisis of the late 1990s, for example, began with a number of small loans to companies in emerging markets. These offered high rates of interest (to compensate for the risk of emerging markets) under mostly fixed exchange rate regimes (tied to the US dollar); and these economies had been showing high rates of economic growth - very attractive. When Wall Street saw how successful those first few deals were, it got greedy and started to pump the South Asian economies with loaned money. Too much money for these economies to sustain: leading to asset pricing bubbles (as the Asians looked for assets to buy with all this money). The Southern Asian economies were now primed for crisis - huge external debt ratios based on artificially high asset prices under fixed exchange rates. 

Then typically, some exogenous (external) factor comes into play. As Alan Greenspan started to raise interest rates in the late 1990s, US investments suddenly began to look more attractive. As more investors started to remove their money from Asia and bring it back to the US, the asset pricing bubbles burst. Borrowers began to default on their loans as the loan values were so much greater than the value of the underlying asset. Lenders panicked and started withdrawing their money, putting the fixed exchange rate regimes under intense pressure. Eventually, the Thai government was forced to float the baht, which depreciated instantly, losing almost half its value. This sparked contagion as all emerging economies were lumped in the same boat and had their financing pulled. 

Great idea to begin with, followed by much greed, a sudden trigger, and a subsequent flood of fear (contagion). 

So what was the great idea behind the Subprime Mortgage Crisis?

Well - no prizes for guessing that it was the "Subprime Mortgage". Some points:

1. A subprime mortgage has nothing to do with the prime rate of interest, contrary to almost every South African's personal opinion. These were not mortgages offered at interest rates below prime.
2. The adjective "subprime" refers to the quality of the mortgage-holder. 

And what do we mean by that? Well - a prime mortgage-holder, for example, would be a candidate with a salaried position, getting monthly pay-checks with a verifiable credit history. 

But this leaves out a portion of the population who may easily be earning as much (if not more) than a salaried individual, but without the payslip documentation to support it. A waitress, for example, may earn a lot more in tips than your average till operator. Or strippers. Strippers can earn very well - but sadly, no paycheck to support that.

Solution: a subprime mortgage. The financial services industry acknowledged that this part of the population could afford to pay back a mortgage, even if they couldn't always support that with documentation. Therefore, they starting awarding them mortgages that charge slightly higher rates of interest - a "subprime mortgage" - to compensate for the additional risk of unsecured income.

And these first subprime mortgages were very successful. In fact, the top tier of subprime mortgage-holders were probably more likely to repay their mortgages than the lower ranks of prime-mortgage holders. Furthermore, because they were "subprime" they were earning higher rates of interest. So the subprime MBS were a giant hit: particularly after the ratings agencies put on their Midas-touch gloves and bestowed triple-As like confetti.

And, at this point, let me just say that these weren't entirely unjustified. You see - the MBS makes sense in a lot of ways. It's literally "as safe as houses". In moderation - assuming that houses have real value.

But then the Wall Street investors got very excited. Imagine the world's money supply raising its nose and howling at the moon as it diverts its behemoth bulk in this new subprime direction. The Investment Banks went into mad scramble to satisfy this insatiable need for more subprime MBSs. And how was this possible?

Dirty Piece of the Puzzle Number 1: The repeal of the Glass-Steagall Act


After the Great Depression, the Glass-Steagall Act was enacted at the instigation of FDR. Mr Roosevelt was not a fan of the banks, or of big business in general - and he put in place some serious legislation to regulate them. The Act separated the activities of Commercial and Investment Banks - these could no longer be held by the same holding company. Commercial Banks, which are in the business of deposits and loans (including mortgages), are grantors of credit. Investment Banks, which are in the business of creating and selling securities, are users of credit. By legislating their separation, the Commercial Banks' solvency was kept ring-fenced from the much riskier activities of Investment Banks.

From the late 1980s (ironically, or perhaps not: around the same time that the first investment bank-originated MBS instruments were created), the banks began to push for the repealing of the Glass-Steagall Act. On November 12, 1999, Bill Clinton signed the Gramm-Leach-Bliley Act into law. And with that signature, the Glass-Steagall Act was effectively repealed.

Now that all sounds fairly ominous and dramatic (it's what I was aiming for), but what does it really mean. And I get to come back to my favourite topic: incentives.

Dirty Piece of the Puzzle Number 2: Banking Incentives

If you look at an Investment Bank, how does it make its money? One major source of income is the packaging and sale of securities. It buys the underlying assets at a discount, creates the security, and then sells it to investors - charging fees every step of the way. And how does it make more money? Well - it could try and make new products - but that involves convincing investors that they should buy them. By far the easiest way to increase revenue is to sell more of the bestsellers: the products that the market knows and wants.

On the other side of Glass-Steagal, how do Commercial Banks make money? Well, they collect interest on loans and mortgages, which should always be higher than the interest they pay on deposits. All things being equal, a Commercial Bank is really interested in loans and mortgages of solid credit quality.

And in a pre-1999 America, Investment Banks would have been originating their securities using asset books bought from the Commercial Banks. So the limit on the supply of loans and mortgages to repackage and sell as securities was set, to a large extent, by the conservative goals of the Commercial Banks.

Post-1999, the Investment and Commercial Banks could now fall under one umbrella: one grand financial institution with Investment Banking and Commercial Banking arms.

The question then becomes: what are the incentives of the newly-formed megabank? Well, the objective is still to make more money. And naturally, this comes back to the Investment Banking arm - because that's where the real money is. The bulk of the money in this world is in the hands of institutions, not individuals. Investment Banks are there precisely to cater for the investing activities of institutions.

And if the investors want Mortgage-Backed Securities; well then, there must be mortgages to repackage. So the Investment Banking guy calls the guy down at the Commercial Banking side and tells him to originate another mortgage already. And then the management team gets down to strategise and synergise - and they say something like the following:

1. "Subprime Mortgage-Backed Securities are selling like hot cakes at the mo".
2. "We should capitalise on this"
3. "Commercial banking guy - what can we do to increase our subprime-mortgage asset base?"
4. "Well Mr CEO, we can probably pull something together. I'll just tell the guys that this year's bonus is gonna be based on how many mortgages they pull in."
5. "Excellent, Commercial Banking guy. I like your style. Group Risk Guy - do you see any problems with this"
6. "Yes, Mr CEO, I'm glad you asked. The problem is that if we start doing that, we'll get a mortgage book of Jerry Springer contestants. Not the most reliable guys to give mortgages to."
7. "Group Risk guy, you're fired. Deputy Group Risk guy - congratulations on your promotion. Do you see any problems with this?"
8. "Well, Mr CEO. I hardly think that the mortgage-holder matters. The mortgages are backed by houses. If the Jerry Springer contestants default, we'll just sell the properties and lend to new people. And everyone knows that property prices never go down"
9. "Excellent, new Group Risk guy. I like your style. Let's make money, gentlemen. This year's profits are going into the Bush campaign. That guy is dumb as soap. We need him."

And with that, the mortgage-lenders went into overdrive. The market was flooded with cheap and readily available mortgages - and credit-checks were not recommended for the wheeling-dealing bankers with all eyes focused on the year-end bonus prize. 

Even then, surely the Jerry Springer folk would have been stopped in their gleeful tracks by the growing monthly mortgage burden? Enter:

Dirty Piece of the Puzzle Number 3: The Teaser Mortgage

In 1982, the Alternative Mortgage Transaction Parity Act was passed. This permitted the issuing of Adjustable-Rate Mortgages, Balloon Payment Mortgages, and Interest Only Mortgages.

• Adjustable-Rate Mortgages permitted banks to issue mortgages with fixed rates of interest initially, that would then turn into floating rate mortgages after a number of years. 
• Balloon Payment Mortgages are not fully "amortised" over the period of the mortgage - there is therefore an amount outstanding when the mortgage period ends, which must then be paid as a balloon payment. 
• Interest Only Mortgages are exactly what the name implies: only the interest accruing on the principal is paid every month - at the end of the period, the mortgage-holder will usually enter a more regular mortgage agreement where monthly repayments of principal will also take place.

In my mind, these mortgage varieties were put in place to attract young home-owners whose earning potential is set to increase a few years after the mortgage is first taken out. That's the positive interpretation. The other side of the coin (pun intended) is that it opens the mortgage market up for banks - because post the AMTPA, they had access to people who may not have otherwise bought homes. 

And like all good ideas, when the right incentives are put in place, they can be twisted into gains. All that it requires is small print, technical jargon, and a financially motivated sales force to con the financially gullible into commitments that they will never be able to honour. I'm not necessarily saying that this is what actually happened all the time - but when you hear about strippers owning 5 homes, you begin to see how the logical process to get to that point is greed - just not that of the stripper.

Dirty Piece of the Puzzle Number 4: The CDO

As described in my CDO post (see here), while the banks were quite capable of selling off the investment grade securities of the MBS issue, it was not always so easy to sell the junk securities.

At first, these unsold securities were combined with many other ABS securities and repackaged as Collateralised Debt Obligations. But as time went on, and more subprime MBSs were issued, the subprime MBSs began to occupy larger and larger portions of the CDO pools. At the same time, there were obviously more CDOs being issued - which meant that larger portions of the CDO pools were being taken up by riskier tranches of previous CDO issues.

In metaphorical terms, this is quite similar to a game of jenga. As the game went on, heavier pieces were being put into play (the newer subprime MBSs), and other pieces lower down were being constantly moved to the top (the CDOs), creating ever more elaborate (and more precarious) towers.

Dirty Piece of the Puzzle Number 5: The Ratings Agencies

So we now have growing numbers of subprime mortgages being repackaged and sold as MBSs; as well as a growing number of CDOs composed of subprime MBSs and other CDOs. And to be clear, the number of sub-prime mortgage loans being originated meant that the banks had to be scraping lower and lower down the barrel of the American people, as was demonstrated by the growing number of delinquencies in the mortgage pools. But even on a conceptual level, you can see how giving out more and more loans to the same population of people must mean that you are taking on the risk of the sectors of the population that have never previously been able to afford mortgages. 

But while all this was happening, the ratings agencies were continuing to give out the same ratings as they had to the original deals. A glorious haze of AAA ratings!

Many authors suggest that the people in the ratings agencies actually had no idea what was going on with these financial instruments. The securities had become so complex and theoretical that the underpaid and otherwise-incentivised employees at the Ratings Agencies just began rating these issues in a perfunctory fashion - all the while safe in the knowledge that the underlying assets were houses, and that the bankers could never be so stupid as to screw themselves.


It always amazes me when we assume that the desire for instant gratification is outweighed by the desire for delayed gratification. In the end, I reckon that will be the downfall of Capitalism: it has no real mechanism to control the superiority of the short-term over the long term.


Dirty Piece of the Puzzle Number 6: Special Purpose Entities


As the investment banks were selling off all of these products, they occasionally needed to bridge the sale. That is: not all of the securities would necessarily be sold at the date of issue. Also, investment bankers occasionally like to act as "market-makers" - whereby they add to the demand of the market by buying their own products. This keeps the bid prices high, as the banks are effectively bidding for their own instruments.

This is usually done by the establishment of a Special Purpose Entity (or Special Purpose Vehicle - SPV), which will purchase securities on behalf of the bank. Effectively, however, the liability continues to rest with the banks themselves.

Dirty Piece of the Puzzle Number 7: Credit-Default Swaps

As discussed in the "Real Issue with the Greek Debt crisis" post (click here), the banks had started orchestrating credit-default swap arrangements (CDSs) as a type of third party insurance for investors taking the other side of the bet (that the MBS and CDO instruments would fail). The counter-parties for the CDSs were insurance companies like AIG, which would in turn spread their insurance risk by reinsuring their exposures with other insurance companies.

As there was no ownership requirement, investors could take out CDSs on bond issues that they did not own, and there was no real limit on the number of CDSs that could be taken out on a single bond issue. Why is this so dangerous?

Well, a CDS would allow an investor to take out insurance on the full value of the bond issue, in return for a monthly premium. In the event of default, the insurer would pay out full value of the bond issue to the counter-party. Ten CDS on the same bond issue would result in the insurer paying out ten times the value. Literally, almost no limit other than the insurer's willingness to write the policies. And apparently, they were quite willing to just write them.

How did the puzzle come together?


So we have all these underlying problems lying in wait, and all it needed was a trigger.

Now this is where the debate really comes into play. Did the banks just suddenly wake up and realise that it had all gone horribly wrong? It seems unlikely that they got there on their own - most doomsayers were dismissed (literally - as in "fired"). When the banks did eventually realise that it was all going awry, something had already sparked it off.

The data on home-loan mortgage origination shows that originations peaked in around 2003, but stayed high for a few years after that. Assuming that a large number of these MBSs were backed by teaser (adjustable-rate) mortgages, you could argue that the initial fixed rate periods were ending in late 2006 and early 2007. At this point, monthly instalments shot up, and the Jerry Springer show started to turn delinquent on the banks, sparking off a series of foreclosures. As the foreclosures started, the US housing market was suddenly burdened with a series of distressed sales, causing housing prices to fall. As the housing prices fell, so more of the Jerry Springer show began to realise that they were paying off principals that were potentially higher than the value of their properties. So they got more delinquent. Which caused more distressed sales. Which caused further falls in housing prices. Which caused more delinquencies.

And then the Jerry Springer show realised that the banks were under so much pressure from all these foreclosures that they weren't able to get round to them fast enough. And the banks would rather that the houses had a tenant that be left derelict. Which sounds a lot like free rent.

Bonus.

As this cycle happened, so the Investment Banks came under liquidity pressure. All these MBSs and CDOs are floating around with cash-flow requirements. Also, as some of the banks had bought some of their own MBS and CDO instruments and housed them in SPVs - so they were fully exposed to the growing delinquencies in the housing market.

At the same time, the government-sponsored enterprises (the Fannie Mae and the Freddie Mac), which were the first issuers of MBS instruments back in the 1970s, had guaranteed the cash-flows of their MBS issues. And as their guarantees started to be called in, they needed to be supported by the Fed.

And the contagion started.

The housing market crashed. The subprime MBS market crashed. The CDO market crashed. The banks were exposed and needed to be bailed out. Banks that had gotten out earlier bought out banks that were distressed. Goldman Sachs won (that seems to be my general impression).

Then the CDS instruments started to be cashed in. So the insurance companies needed to be bailed out.

More pressure on the Fed. More pressure on the markets.

Credit crunched. And that's more or less how it happened.

As I said at the start, this is one view of the underlying causes of the crisis. There are other views out there. I plan to cover that via book reviews (I know - cheating). But there are a lot of books out there on this story. Certainly, too much for me to summarise in blog post form.

Where to from here?

America's Debt Ceiling. After all, the Fed was busy bailing everyone out: the money had to come from somewhere. And despite the rhetoric, it hasn't come from the taxpayer's pocket.

At least - it hasn't yet.

Daily News Roundup 2012: Monday 20 February

Good morning

The headlines:

1. Europe is meeting (again) about Greece (again). Some of the finance ministers seem to be saying that bailout is the only avenue that's likely to gain a majority vote. Greek Prime Minister Lucas Papademos has told the commission that the extra budget cuts have been found, and further commitments have been made to ensure that austerity continues after the Greek elections. Hopefully, this will be resolved today. Link: Euro Region Ministers Circle in on Greek Bailout. 
2. Japan has added its sentiment to that of China's, indicating that it will support the Eurozone after the Eurozone sorts itself. This will be done by Japan committing further resources to the IMF, which could then form part of a bailout package. But so far, this is just Jun Azumi (the Japanese Financial Minister) talking. I stand by my point that it is very easy to commit to assistance after the crisis has been averted. Real support is required during. Link: Japan, China to help Eurozone via IMF.
3. There are an increasing number of viewpoint articles around the departure of Greece from the Eurozone. This Bloomberg article (Link: Euro Leaders consider Greek exit at their own peril) talks about the potential implications for the rest of Europe, not just Greece itself. The key problem will be when investors start to distinguish between countries of deposit: for example, a euro deposited in Portugal and a euro deposited in Germany. As I have said before, contagion from a Greek default would give rise to that investor distinction, resulting in bank runs across the Eurozone. At that point, the question will not be whether the Eurozone will bailout its bank-run members, but whether it will be able to. 
4. At the same time, British Foreign Minister William Hague has stated that the Euro was made "without exits". And then he told Germany that she's not facing up to her obligations. I love it when the Brits criticise the Germans. It's like watching a family brawl. Link: Euro has no exits.
5. China has cut its reserve ratio in a further round of quantitative easing measures. According to UBS, the 50 basis point cut will free up around 350 million yuan in the system. This is the second reserve cut made by the Central Bank, and follows on the increase in repurchase contracts undertaken earlier this month. With the concern of a slowdown, most analysts expect the reserve ratio to be cut at least twice more over the coming year. The quantitative easing is meant to act as a stimulant for growth. Link: China adds to reserve ratio cuts.
6. I found this article on Mortgage Securities to be very interesting: Bonds Backed by Mortgages regain allure. Much like Greek bonds, the prices of mortgage-backed securities are now so low that the underlying fundamentals make them quite profitable. The article gives the example of an Alt-A security (a subprime MBS that required almost no credit checks - read "not a single credit check" - on the underlying mortgage-holders). Even if the rates of default and the relative hit that investors take on foreclosures are given worst-case scenario assumptions, the yields range in the region of 5% to 12%. Perhaps the bankers are ready for Round 2.
7. And the African Business News in brief. Link: ABN Briefs. The highlights:
• A joint venture operation - between Merafe Resources and Xstrata (of Glencore takeover fame) - has agreed to shut down five of its furnaces until May to help Eskom cope with its tight electricity supply. 
• Vodacom Tanzania announced that it increased its user base by a third last year, and indicated that it would spend a further US $94 million to increase that base over the next 18 months. According to the Vodacom Tanzania MD, mobile internet penetration is only around 4% compared to neighbouring Kenya's 15%, so there is much room for growth.
• Anglo American announced a 14% increase in profits.
• Gold Fields fourth quarter adjusted earnings per share increased by 26%.
• Zimbabwe banks will limit that amount of cash that local banks can hold in foreign accounts. This is in an attempt to ease the dollar shortages in the local market.

That's all for this morning.

Have a great week.

Daily News Roundup 2012: Friday 17 February

Good morning

I seem to have woken up to a land without wifi. This is both disconcerting and inconvenient. But it does remind me how lucky we are to live in a world of constant internet. After all - not everyone can claim that: I remember the dial-up days...

The headlines:

1. No real news on the Greek front, despite many articles of recycled commentary and 30 second soundbites from Euro-ministers that sound suitably ominous and threatening. Everyone seems to be expecting the debt swap (with private creditors) to get the go-ahead on Monday. Germany just wants everyone to agree. France wants the debt swap to include the ECB's Greek debt holdings. There is talk of cutting interest rates on the bailout loans being given. The Netherlands and Finland want to delay the bailout until after elections. In response, the Greeks have told everyone to foxtrot oscar about election dates. In a rather brisk and chilly tone. Arab Spring, European Winter? Link: The CNBC update; The Bloomberg Update; All the warnings about how bad it would be.
2. Someone had offered to buyout Billabong, the surfwear company. TPG, a buyout company, has offered $823million for it: which works out to a premium of around 68% to the closing price immediately before the announcement. Billabong management seem to think that the offer is too low. Link: Billabong Buyout.
3. Twitter is expanding its ad business. This is interesting because I wasn't really sure how advertising on twitter works. But I do recall seeing Telkom's 8ta tweets coming through on my timeline - which is strange, because I've never followed Telkom. Also, I've always wondered how certain users can be "promoted". Turns out - they pay for it. And now Twitter is removing the minimum spend requirements. I expect to see less of the people I follow, and more of the firms I don't. I fear this could get irritating. Link: Twitter expands ad business.
4. The DRC plans to build the Inga Three Dam have been dealt a blow. BHP Billiton was meant to build an aluminium smelter plant in the area, which would have provided a significant and constant cash-flow to the hydroelectric project that the dam will power. BHP Billiton pulled out after assessing construction costs of the plant, and the World Bank has recently warned about the construction costs of the dam itself; but Congolese officials remain undeterred in their optimism. The mineral-rich country has been limited in its growth by a lack of access to infrastructure and electric power. Link: Inga Three Dam: BHP withdraws custom.
5. General Motors announced a 62% increase in profits in its 2011 results, despite losses from its European operations. Link: GM Profits announced.
6. And last, but not least, ABN Business News Briefs. The key points:
• The Nigerian government has said that it expects its deficit to be higher this year as a result of reimplemented petrol-import subsidies. It plans to finance this with money taken from its crude oil savings. Makes symmetric sense to me.
• Angola will export 1.79 million barrels of oil a day in April, up from a planned 1.61 million barrels. 
• Paper-maker Mondi has offered to buyout a minority interest in one of its subsidiaries - worth around 280 million Euros.
• Impala Platinum announced a 66% increase in interim headline earnings per share, mainly as a result of a weakened exchange rate. But there was also a slight increase in revenues despite strike troubles at their Rustenberg plant: where they fired 17,000 workers, losing around 3,000 ounces of platinum per day in production.
• Woolworths interim headline earnings per share are also up by around 35%, thanks to an 11% improvement in revenues, as well as share buybacks (which reduce the number of shares that the earnings are being split between - hence the large increase in earnings per share). 
• Nigeria plans to privatise three of its banks in around 12 to 18 months time. The banks were nationalised when it emerged during a 2009 audit that they were severely undercapitalised.

That's all for now - have a great weekend!

Daily News Roundup 2012: Thursday 16 February

Good morning

The headlines:

1. And in the Greek Bailout News, the politicians seem to be throwing around insults. But that said, I see that the Netherlands has suggested something which sounds quite sensible on first read. Why not give Greece a bridging loan until after their elections? My response to that is: what's to stop a new government defaulting on that loan? And if I were Greece, I'd far rather default on a bridging loan. Still, it's interesting. Link: Europe and the Greek aid saga.
2. The current head of the World Bank is leaving in June. There is word out that Hilary Clinton may be his replacement. Another US candidate for the World Bank, while we have another European heading up the IMF. I mean - I know it's a bit nationalistic - but do we really think that Europe and the US should still be heading up the World Bank and the IMF? I vote that we find someone from the BRIC nations. Or Australia. Contention for World Bank Presidency.
3. Moody's is reviewing 17 banks and securities firms, and has warned of potential rating downgrades. UBS, Credit Suisse and Morgan Stanley could by cut by three levels; Goldman Sachs, Deutsche, Citigroup, Barclays, BNP Paribas, Credit Agricole, HSBC, Macquarie, Royal Bank of Canada  and J. P. Morgan Chase by two levels; and Bank of America, Nomura, RBS and Societe Generale by one level. So all the big boys then. And some of the small ones. Forgive me for sounding snarky, but I feel like Moody's is about to paid significantly less for its ratings in future. Link: Bank ratings may be cut by Moody's.
4. There are still murmurings from Xstrata shareholders that the premium being offered in the Glencore takeover is too low. 16.43% of the Xstrata shareholders can block the deal when the shareholders vote on the deal. What is interesting is that the majority of M&A deals fail to create the value they promise. In fact, most deals subtract value. But gracious, it makes it good to be an Investment Banker. You get to charge the fees for the acquisition/takeover, and then charge them again when you advise on the spin-off after the takeover fails. Lovely. Link: Xstrata Deal.
5. According to a Deutsche Bank report, the world's oil market is exhibiting warning signs at the same level as those of the 1970s, when we had the last set of oil shocks. On average, an oil shock increases the world crude price by 38%. This is being triggered by the on-going Iran VS the US (and the EU) saga around nuclear programs and trade embargoes. Nothing like a global recession coupled with an oil shock. Maybe the Mayan calendar is predicting the end of the world in a financial sense? Link: Risks to Global Oil Supply.
6. And what is fast becoming my favourite part of these posts: African News in Brief. The key points:
• Ghana has upped its prime interest rate in response to slight increases in inflation.
• Zimbabwe's tobacco industry is set to continue its recovery this year.
• A new natural gas well has been discovered off the coast of Mozambique, which increases the natural gas volume discovered in the region by around a third.

That's all folks. Happy Thursday.

Daily News Roundup 2012: Wednesday 15 February

Good morning

The headlines:

1. The Greek see-sawing continues as the EU leaders cancel today's scheduled meeting and insist that the Greek government do more. If you're bored of reading it - let me tell you how bored I am of writing it. I'm afraid that I can't tell if the EU leaders are over-stepping their bargaining power - or if the Greeks managed to pass a law that didn't meet the requirements that they had originally committed to. I think the latter - as the sticking point still seems to be the €325 million in budget cuts that we were talking about last week, and the commitment from the opposition parties to enforce austerity post elections. Tiresome. Link: Greece struggles to win aid package. I see that officials are still talking about Greece leaving the Eurozone. My question from the "leaving the euro" post still is: how? 
2. China says it wants to help the EU - "at some point", is largely the way I read this article: China Pledges to Invest in EU Bailouts. It sounds like China will only invest once the EU reaches internal consensus and commits to economic reform (even - shows signs of economic reform?). China is also calling for more "lucrative products" that appeal to Chinese investors. Until then, they remain "positive". Forgive me: but telling me that you'll invest once things look good and if there are products that are lucrative? That's like me extending an offer to eat at my mother's once she's cooked dinner, provided that I like the smell of it and it looks appetising. But maybe I'm a cynic. At least my mother would know that she's cooking for someone!
3. Everyone is very excited by Obama meeting Xi Jinping (the Chinese leader-in-waiting). I've never quite understood how these meetings lead to actual policy decisions - but I'm not a political scientist. It may have something to do with official stance and what the visit represents. But I don't see China committing to anything over tea, biscuits and a flashlit chat: like the current trade deficit, or the propping up of the renminbi, or the Chinese position on Syria. But here's hoping it does. Xi is, after all, being taken on a visit to a farm in Iowa. Link: Obama greets China's Xi.
4. Yahoo-Alibaba talks to dispose of a significant portion of their Asian assets have broken-down. Poor Yahoo never quite seems to catch a break, does it? This has all turned into a fight between the majority shareholders and directors with multiple changes in management. But it does occur to me that I haven't visited the yahoo webpage in years. Crazy. I remember when yahoo mail was cool. But I suppose I also remember what the dial-up internet tone sounds like - though a revisit would really just be nostalgic, not a commitment. Link: Yahoo-Alibaba talks at impasse.
5. The banks and heads thereof are publicly debating the Volcker Rule. This is going to be the topic of a future post - but basically, the Volcker rule is intended to correct the incentive process in financial institutions. The current bank employees are obviously against it. The former bank employees are quite strongly in favour. The Volker Rule comes from a section of the Dodd-Frank Act. The article link: Ex-Citigroup CEO says Volcker Rule needs strict penalties.
6. There are whispers of Collusion in the setting of LIBOR rates. LIBOR (London Interbank Offered Rate) is the rate at which London banks lend to each other. It is used as the benchmark against which most international agencies set their interest rates (for example, I'm paying LIBOR plus 2% on this swap agreement). It's meant to be market-determined, so collusion would be very naughty indeed (as customers would be paying higher rates than the free-market would require). Lots of banks are refusing to comment. Link: LIBOR probe to expose collusion.
7. And the Africa News in brief. Link: ABN Business Briefs. The key points:
• Kenyan inflation is dropping thanks to tightened monetary policy. The rate now sits at around 18.3%.
• Coffee prices in Tanzania are up. Interesting (to me) just because it's coffee.
• Spar and Mondi are reporting large increases in profits and volumes.
• BHP Billiton and Rio Tinto are expanding mining operations.
• The Glenstrata deal is hitting a hitch as some of the Xstrata shareholders push for a higher premium.

Have a great Wednesday!

Daily News Roundup 2012: Tuesday 14 February

Happy Valentines Day!

The headlines:

1. Moody's has announced a negative outlook for the credit ratings of France, Austria and the UK. The ratings agency also downgraded Spain, Portugal, Italy, Slovakia, Slovenia and Malta. The markets, however, appear to be ignoring them. Link: Rating Downgrade. For a fuller explanation of ratings agencies and downgrades, click here. 
2. In response to their economic contraction, the Bank of Japan has increased its monetary easing measures. While interest rates remain unchanged, the BOJ increased its asset-purchase program from 55 trillion yen to 65 trillion yen. Apart from hopefully stimulating growth, the added inflation should weaken the Yen, giving Japan temporary competitive advantage for its export-driven economy. If the yen continues to strengthen as it has recently, more quantitative easing is expected. Link: BOJ announces monetary easing.
3. Obama's budget called for higher taxes on the rich, as expected. The proposal was immediately condemned as re-electionary rhetoric by industry leaders and Congressional Republicans. So nothing will really change then. Link: Obama aims tax increase at highest earners.
4. In emerging markets news, Carlsberg (the world's fourth largest brewer) is looking at expansion into China. It's always quite fun to watch the expansion plans of brewers like SABMiller and Carlsberg. Not just because they make beer - but also because their business plans are often way ahead of the crowd. For example, it's said that Standard Bank has modelled its African expansion on SABMiller's. Quite a statement. Link: Carlsberg looking for Chinese Acquisitions.
5. Google's Motorola bid has been approved by both the US and the EU. Apparently, the deal is just waiting on approval from China, Taiwan and Israel. Link: Google-Motorola wins Antitrust Approval.
6. Brussels welcomed Greece's parliamentary approval of austerity measures. The European Commission is set to approve the bailout package tomorrow. Link: European Leaders "Confident".
7. And the African Business News in brief: ABN Business News. Key points:
• Rockstar Bob Geldorf has raised $200million for his African Private Equity Fund. 
• Zambia is inviting tenders for a Eurobond issue. The Finance Minister Alexander Chikwanda says that the issue size may be increased due to "high investor appetite for high-yielding frontier debt".
• A recently-tested deep-sea oil well off Angola is said to "exceed expectations" (?).
• Sudan's central bank has been selling off its gold reserves in order to maintain the Sudan pound.
• Burkina Faso has fined all three of its mobile phone operators for failure to fulfil service requirements. The regulatory board has said that there will be no right of appeal.

Have a good Tuesday.

Collateralised Debt Obligations. Robligations?

So, in my last article post on this topic, I talked about Mortgage-Backed Securities AKA Collateralised Mortgage Obligations (click here).

The key points:

1. A bank/mortgage-lender builds a pool of mortgages.
2. It repackages the cash-flows that it will receive from the mortgage pool, and sells them to investors as Mortgage-Backed Securities (MBSs).
3. The MBSs are split into tranches which are then rated by the Ratings Agencies. 
4. The higher ratings (from A/BBB upwards - depending on the scale being used) are considered Investment Grade.
5. The lower ratings are considered Junk Grade.

The real attraction behind a AAA-rated MBS is that they give much higher returns that AAA-rated bonds (measured in basis points, or bps - which is 1/100th of 1% of the face value of the bond/security).

I've drawn a rough diagram of what the rating pool would look like:

The Rated Mortgage Pool - roughly

Note 1: depending on the rating agency, junk status could include or exclude BBB ratings

Note 2: this is very simplified - there are numerous ways of packaging a mortgage pool cash-flows. But the important point is that there are mortgage pool cash-flows, that these are split into different tranches with different risk characteristics, and that these tranches are then rated. 

At the same time, the banks would follow the same process as the above for other types of "asset" - like automobile finance loans, and credit card receivables - basically any type of loans/financing extended by the banks. These securities were known as Asset-Backed Securities, or ABS.

In the same way, the ABS tranches would be rated. And again, as with the MBS/CMO, the investment grade securities could be sold off, but the junk grade securities are more difficult to get rid of.

So we have all these investment-grade securities in circulation, but the banks are left holding the junk securities. NOT good for the books - highly risky, and not generating any returns. 

Solution: the Collateralised Debt Obligation, or CDO.

A basic cash-flow CDO build-up is as follows:

1. the banks collect junk securities together from different types of Asset-Backed Securities (including Mortgage-Backed Securities) in order to build a Debt Obligation Pool.
2. Split the Debt Obligation pool into more tranches. 
3. Get the Ratings Agencies to rate these tranches from investment grade all the way back down to junk status. 

Why investment grade despite the fact that the underlying securities have junk status? Because the Ratings Agencies, in their wisdom, decided that the different types of debt obligation created enough risk diversification to be worthy of investment-grade status. 

Which is empirically incorrect: because if you bring junk together, it does not make gold. While the types of debt may have been different, the underlying economic risk is the same. In an economic downfall, the junk stuff will go first, regardless of which pool it's in.

So now we have investment grade CDO securities, but we're still left with the junk securities. What to do?!

Rinse and repeat. 

Take the junk-grade CDO tranches add to more CDO pools. Which would then be re-rated with investment-grade status down to junk, and then they'd go again:

The creation of a CDO from Four initial ABS and MBS pools

I almost feel like I want to add a disclaimer at this point. Just because it all feels so unreal. 

But there we are.

And in perfect hindsight, the stage is perfectly primed for crisis (excuse the pun). We have a collection of really risky assets being sold with investment grade status.

All it needed was a trigger. As it turned out, the Subprime Mortgage was the smoking gun.

The full drama in the next post.