There was no meeting of minds at Tuesday's US Senate grilling of Goldman Sachs CEO Lloyd Blankfein and his colleagues. The Senators seemed more concerned with criticising Goldman's overall trading practices than with proving specific wrongdoing in the now-infamous Abacus transaction. Although Blankfein's air of injured innocence was a bit much, I found myself agreeing with him just a little bit more than I expected.
Let's home in on the real issues by looking at how bond/fixed income businesses work. We can start with trading in an existing bond issue. If a dealer sells a bond from its inventory to a client, there's a clear implication that the two parties to the transaction have differing views as to the value of that bond. Obviously enough, the buyer thinks it's going to be worth more than the seller (the dealer) does. Provided the sides are more or less equal in status (i.e. as long as Goldman isn't selling bonds to your grandmother), even the senators seemed to accept that this is perfectly reasonable business, though one or two of them did seem to waver a bit.
Now consider a "new" bond issue -- a corporate borrower, or a CDO, or whatever. When the dealer agrees to raise funds for a borrower, it usually "underwrites" the deal. This in effect means that it writes a cheque to the borrower for the amount of the bond issue, taking on the risk that the bonds won't be sold. If the market moves against it, the dealer may lose money before it manages to sell the bonds. To protect itself, a dealer will normally hedge its position by "going short" (i.e. selling) an equivalent amount of an existing bond issue. In the US, this would normally entail selling US government bonds. As the new issue bonds are sold, the dealer then progressively unwinds the hedge by buying back the bonds it shorted. Note (and this is crucial in examining Goldman's behaviour) that this is only supposed to protect the dealer against movements in the underlying bond market. If the new issue has been wrongly priced and can't be sold, the dealer may still end up taking a loss.
Much of the Senate questioning focused on this issue of hedging. Blankfein argued that it was normal practice, as indeed it is. The senators accused Blankfein of keeping its "short" positions in place even after it had sold its new issues, which means in effect that it was betting that the bonds it had just sold would decline in value. Blankfein's response was that it designed and marketed securities that would allow its clients to "express" their views of the market. As long as the securities were accurately described to the clients, it should really be of no interest to the clients whether Goldman shared their market view, and hence Goldman had no duty to disclose whether it was betting the other way, by not unwinding its short.
The senators had a lot of trouble with this, but as long as we are talking about trades with institutional buyers, I think Blankfein's position is defensible. But that's only true if we are talking about overall market movements, which a traditional hedge is intended to protect against. The serious accusation now levelled against Goldman by the SEC, which the senators kept losing sight of in my view, is that its short positions were not simply hedges: they were outright bets against securities that had been designed to fail.
The essence of the SEC's Abacus case, named after a particular housing-related security dreamt up by Goldman, is that it stacked the deck. Allegedly, a well-known short seller, John Paulson, was allowed to influence the selection of mortgages that went into the pool of assets that lay behind the Abacus securities. Paulson then slapped on a very large short position against the new issue, by using credit default swaps (CDS) rather than by selling US treasuries, and duly cleaned up when the Abacus deal entirely predictably went into the tank. The accusation against Goldman, which the company of course denies, is that it did not properly disclose the role of Paulson to the Abacus buyers.
The use of CDS is quite different from the standard practice of hedging a new issue by shorting bonds. CDS are a bet against a specific issue, not simply a form of insurance against movements in the underlying market. By failing to keep that distinction clear, the senators made things rather easier for Blankfein than they might otherwise have been. I wouldn't say they failed to lay a glove on him, but by and large he was a lot calmer and more cogent than his accusers. The SEC may, of course, be a rather tougher opponent when its case comes to trial.
And while all this was going on....hedge funds and other short sellers have potentially turned Greece's debt problems into a full-blown sovereign debt crisis and are getting ready to do the same to Portugal; the ever-alert ratings agency S & P has reduced Greece's debt to junk status; and the Republicans, egged on by Wall Street lobbyists, are stalling President Obama's plans for financial sector reform. We seem to have forgotten nothing of the recent credit crunch, but sadly we haven't learned anything either.
Wednesday, 28 April 2010
Tuesday, 20 April 2010
Whaddaya mean, "we"?
This from Lord Adonis, the improbably named but normally likeable Transport Minister:
"We are maintaining increased capacity for passengers to cross the channel. In total there are an extra 20,000 passenger places a day across Eurostar, Eurotunnel and the ferries."
Oh really? Does the Government actually run any of those things? News to me. In truth, the ferry operators are saying that the two Royal Navy ships deployed to the Channel are completely superfluous; there's plenty of space on the ferries. The ship sent to Spain is bringing some civilians home, but it turns out that the real reason it was sent there in the first place was to bring home some troops on their way back from Afghanistan.
I've got no time at all for the increasingly loud complaints from those stuck abroad that "the Government has let us down". But I've got even less time for Lord Adonis claiming credit where none is due. My mother would have said he deserves the OBE -- "other bugger's efforts".
"We are maintaining increased capacity for passengers to cross the channel. In total there are an extra 20,000 passenger places a day across Eurostar, Eurotunnel and the ferries."
Oh really? Does the Government actually run any of those things? News to me. In truth, the ferry operators are saying that the two Royal Navy ships deployed to the Channel are completely superfluous; there's plenty of space on the ferries. The ship sent to Spain is bringing some civilians home, but it turns out that the real reason it was sent there in the first place was to bring home some troops on their way back from Afghanistan.
I've got no time at all for the increasingly loud complaints from those stuck abroad that "the Government has let us down". But I've got even less time for Lord Adonis claiming credit where none is due. My mother would have said he deserves the OBE -- "other bugger's efforts".
Monday, 19 April 2010
Flight into danger?
Is the near-total shutdown of air travel in Europe the latest over-reaction from those wacky scientists who brought you the Millenium Bug Meltdown and the Swine Flu Apocalypse, or are there real grounds for concern?
I vividly recall a rather older "disaster", a train derailment in Mississauga, Ontario in November 1979. (Article here and video report here). Briefly, a freight train carrying a variety of hazardous chemicals suffered a "hot box" and derailed late on a Saturday night at a crossing near Mavis Road in Mississauga, just west of Toronto. There was a huge fire. Over the next few days larger and larger areas of Mississauga were evacuated over fears that a tanker full of chlorine near the seat of the fire might explode. Eventually over 200,000 people were forced from their homes (three of them into our spare bedroom). The story was covered in lurid terms around the world: one Irish newspaper ran the headline "Toronto: doomed city".
When the fire service finally reached the tanker car in question, they discovered that the chlorine had all been blown sky-high by the initial explosion, remarkably (or not) without triggering the mass poisoning that had prompted the evacuation.
So exaggerated fears that ultimately turn out to be groundless, and official over-reaction leading to avoidable chaos, are nothing new. In the case of volcanic ash, there's really only one dire precedent that the doom-mongers can cite: the failure of all four engines on a BA 747 over Indonesia in June 1982. Thankfully, the pilot was able to restart the engines and land the aircraft safely; the same was also true in a much less severe incident involving a KLM aircraft over Alaska a few years later. Thing is, though, the BA flight had flown right through the ash plume of the volcano. It's not at all clear that this provides much guidance as to the risks of flying right now in the UK or mainland Europe, which are well over 1000 kilometres downwind of the eruption.
What's really going on here? I've seen suggestions in the North American press that there must be something much more severe than the volcano (implicitly, a terrorist threat) to have prompted such a drastic official response. This is pretty clearly ludicrous. It seems we are seeing no more than an exaggerated health-and-safety reaction, based on the almost certainly inappropriate precedent of the BA flight in Indonesia all those years ago. There's another factor too, one that often lurks in the background of safety issues: lawyers. The authorities simply don't want to take the chance of massive lawsuits if by some evil twist of fate they reopen airspace and a plane promptly runs into difficulties. The fact that the airlines themselves seem prepared to start flying again immediately implies strongly that they don't see any significant risk of that happening. Yet the uniformly benign results of the test flights undertaken by various carriers in the last couple of days seem to be have been simply ignored by the decision-makers.
There are suggestions that the present volcano may continue to erupt for many months, and fears that a much larger one nearby may be prompted into action. Unless we want paralysis in international travel to become a regular feature of our lives, someone is going to have to make a more realistic assessment of the risks.
I vividly recall a rather older "disaster", a train derailment in Mississauga, Ontario in November 1979. (Article here and video report here). Briefly, a freight train carrying a variety of hazardous chemicals suffered a "hot box" and derailed late on a Saturday night at a crossing near Mavis Road in Mississauga, just west of Toronto. There was a huge fire. Over the next few days larger and larger areas of Mississauga were evacuated over fears that a tanker full of chlorine near the seat of the fire might explode. Eventually over 200,000 people were forced from their homes (three of them into our spare bedroom). The story was covered in lurid terms around the world: one Irish newspaper ran the headline "Toronto: doomed city".
When the fire service finally reached the tanker car in question, they discovered that the chlorine had all been blown sky-high by the initial explosion, remarkably (or not) without triggering the mass poisoning that had prompted the evacuation.
So exaggerated fears that ultimately turn out to be groundless, and official over-reaction leading to avoidable chaos, are nothing new. In the case of volcanic ash, there's really only one dire precedent that the doom-mongers can cite: the failure of all four engines on a BA 747 over Indonesia in June 1982. Thankfully, the pilot was able to restart the engines and land the aircraft safely; the same was also true in a much less severe incident involving a KLM aircraft over Alaska a few years later. Thing is, though, the BA flight had flown right through the ash plume of the volcano. It's not at all clear that this provides much guidance as to the risks of flying right now in the UK or mainland Europe, which are well over 1000 kilometres downwind of the eruption.
What's really going on here? I've seen suggestions in the North American press that there must be something much more severe than the volcano (implicitly, a terrorist threat) to have prompted such a drastic official response. This is pretty clearly ludicrous. It seems we are seeing no more than an exaggerated health-and-safety reaction, based on the almost certainly inappropriate precedent of the BA flight in Indonesia all those years ago. There's another factor too, one that often lurks in the background of safety issues: lawyers. The authorities simply don't want to take the chance of massive lawsuits if by some evil twist of fate they reopen airspace and a plane promptly runs into difficulties. The fact that the airlines themselves seem prepared to start flying again immediately implies strongly that they don't see any significant risk of that happening. Yet the uniformly benign results of the test flights undertaken by various carriers in the last couple of days seem to be have been simply ignored by the decision-makers.
There are suggestions that the present volcano may continue to erupt for many months, and fears that a much larger one nearby may be prompted into action. Unless we want paralysis in international travel to become a regular feature of our lives, someone is going to have to make a more realistic assessment of the risks.
Wednesday, 14 April 2010
Some choice!
The manifesti of the three major parties have now been released, and pretty dispiriting stuff they are. Just on the tax side, for example...Labour is promising not to raise income tax rates, a pledge which is just a tad cynical considering that they just introduced a 50% rate and have been enthusiastically benefitting from "bracket creep" for the past decade and more. The LibDems want to make the tax system fairer, but it turns out that their key measure -- exempting the first £10,000 of personal income from taxation -- would apply right up the income scale, so those earning £10,000 and those earning £100,000 would both be £700 a year better off. And the Tories want to make the stamp duty exemption on first home purchases "permanent", a promise no more meaningful than a guarantee of everlasting good summer weather.
To help me to choose, then, I've been taking a look at my local candidates. Oh dear. The incumbent Tory has been a good constituency member but has also been an enthusiastic and largely unrepentant abuser of the expenses system. She doesn't live in the constituency. The LibDem has been remorselessly building his profile in the constituency for years, but by getting himself photographed beside every pothole, delayed train and threatened library for miles around, has come across as an irritating busybody. He doesn't live in the constituency either, though he tries hard to conceal that fact. The Labour candidate is a local resident, but doesn't stand much of a chance around here anyway, has no experience at the national level and looks a bit like a gerbil. And there's a stereotypical old Bufton Tufton type running for UKIP.
I wonder if Arthur Scargill is planning to run someone in this area.
To help me to choose, then, I've been taking a look at my local candidates. Oh dear. The incumbent Tory has been a good constituency member but has also been an enthusiastic and largely unrepentant abuser of the expenses system. She doesn't live in the constituency. The LibDem has been remorselessly building his profile in the constituency for years, but by getting himself photographed beside every pothole, delayed train and threatened library for miles around, has come across as an irritating busybody. He doesn't live in the constituency either, though he tries hard to conceal that fact. The Labour candidate is a local resident, but doesn't stand much of a chance around here anyway, has no experience at the national level and looks a bit like a gerbil. And there's a stereotypical old Bufton Tufton type running for UKIP.
I wonder if Arthur Scargill is planning to run someone in this area.
Monday, 12 April 2010
Persecuting the Pope
Richard Dawkins and Christopher Hitchens have set a couple of lawyers to work, trying to build a case for arresting the Pope when he arrives in the UK for his state visit in September. The Pontiff's alleged offence is, of course the concealment of child abuse by Catholic priests over many years.
Meanwhile, Newsweek has published an analysis showing that Catholic priests are no more likely to be child abusers than any other men. The fact that literally millions of others may be guilty of the same offence in no way mitigates the horrors that seem to have taken place within the Catholic church over the decades. But the fact that Dawkins and Hitchens are so keen to nail the Pope suggests that their motivation may not be a thirst for justice or a desire to protect children, but something altogether more base.
Look at it this way. If the Pope had personally rounded up all of the offending priests and hauled them off to the nearest police station, do you suppose that Dawkins' and Hitchens' first reaction would have been to say "Well done to the Pope for dealing with this mess"? No, me neither.
Meanwhile, Newsweek has published an analysis showing that Catholic priests are no more likely to be child abusers than any other men. The fact that literally millions of others may be guilty of the same offence in no way mitigates the horrors that seem to have taken place within the Catholic church over the decades. But the fact that Dawkins and Hitchens are so keen to nail the Pope suggests that their motivation may not be a thirst for justice or a desire to protect children, but something altogether more base.
Look at it this way. If the Pope had personally rounded up all of the offending priests and hauled them off to the nearest police station, do you suppose that Dawkins' and Hitchens' first reaction would have been to say "Well done to the Pope for dealing with this mess"? No, me neither.
Thursday, 8 April 2010
You old hypocrite
Cuddly old Sir Alex Ferguson is busting a gut at the behaviour of the Bayern Munich players in getting United defender Rafael sent off in last night's game. From what I've seen, Rafael was lucky not to get a straight red card for his first offence, a blatant piece of retaliation long after the ball had gone. But what's got the lovable old Scot riled is that the Bayern players crowded around the referee after Rafael's second offence, which in Ferguson's eyes persuaded the ref to give Rafael a second yellow card and send him off the pitch. "Typically German" said the affable old Jock, who clearly subscribes to the adage "show me a good loser and I'll show you a loser".
Well, fair enough. I mean, nobody can possibly think of any instances in the past when Man United players, such as, oh I don't know, Gary Neville or Rio Ferdinand might ever have jostled the ref in order to influence his decisions. And for sure dear old Sir Alex himself would never stoop to psychological warfare against referees ahead of important games. Perish the thought.
Well, fair enough. I mean, nobody can possibly think of any instances in the past when Man United players, such as, oh I don't know, Gary Neville or Rio Ferdinand might ever have jostled the ref in order to influence his decisions. And for sure dear old Sir Alex himself would never stoop to psychological warfare against referees ahead of important games. Perish the thought.
Tuesday, 6 April 2010
Power to the people
This (from The Times) bothers me:
The Government is considering blocking an aid project to provide reliable coal-fired electricity for millions of South Africans after coming under intense pressure from green groups in the run-up to the election.
On Thursday, Britain will cast the deciding vote on whether the World Bank should grant a $3.7 billion (£2.4 billion) loan to allow South Africa to build the Medupi coal plant.
It would be bigger than Drax, Britain’s largest coal plant, and pump out an estimated 25 million tonnes of carbon dioxide a year into the atmosphere.
But it would reduce the risk of power cuts, which have caused billions of pounds of damage to South Africa’s economy in the past two years. The national grid came close to collapsing in 2008 and the South African Government was forced to impose rolling blackouts.
It's bad enough that the current Government's dithering has left the UK at serious risk of power shortages within the next few years. Now, for the sake of a few green votes on May 6, Gordon Brown may be prepared to keep black South Africans in the dark too.
The Medupi plant has been endorsed by the World Bank, which may just possibly have studied it more closely than Gordon Brown has. It makes use of one of South Africa's main natural resources, coal. Most importantly, it will go some way to alleviating severe inequalities in living standards in that country -- and, as has been very well documented, nothing leads more directly to better environmental standards than a higher standard of living. It would be a big mistake for the UK to veto it.
The Government is considering blocking an aid project to provide reliable coal-fired electricity for millions of South Africans after coming under intense pressure from green groups in the run-up to the election.
On Thursday, Britain will cast the deciding vote on whether the World Bank should grant a $3.7 billion (£2.4 billion) loan to allow South Africa to build the Medupi coal plant.
It would be bigger than Drax, Britain’s largest coal plant, and pump out an estimated 25 million tonnes of carbon dioxide a year into the atmosphere.
But it would reduce the risk of power cuts, which have caused billions of pounds of damage to South Africa’s economy in the past two years. The national grid came close to collapsing in 2008 and the South African Government was forced to impose rolling blackouts.
It's bad enough that the current Government's dithering has left the UK at serious risk of power shortages within the next few years. Now, for the sake of a few green votes on May 6, Gordon Brown may be prepared to keep black South Africans in the dark too.
The Medupi plant has been endorsed by the World Bank, which may just possibly have studied it more closely than Gordon Brown has. It makes use of one of South Africa's main natural resources, coal. Most importantly, it will go some way to alleviating severe inequalities in living standards in that country -- and, as has been very well documented, nothing leads more directly to better environmental standards than a higher standard of living. It would be a big mistake for the UK to veto it.
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