Friday, February 27, 2009

How did our SWFs manage to invest in the 3 worst performing CDO issuing banks???

Recent research as reported by the Financial Times reveals that half of CDOs (collateralised debt obligations) of ABS (asset backed securities) have failed. Guess which were the three banks which were the most involved in this business?

Here's a clue: GIC and Temasek invested in all 3 of them =)
Half of all CDOs of ABS failed
By Paul J Davies

Published: February 10 2009 19:38 | Last updated: February 10 2009 19:38

Almost half of all the complex credit products ever built out of slices of other securitised bonds have now defaulted, according to analysts, and the proportion rises to more than two-thirds among deals created at the peak of the cycle.

The defaults have affected more than $300bn worth of these collateralised debt obligations, which were built from bits of other asset backed securities (ABS) such as mortgage bonds, other CDOs and structured bonds, or derivatives of any of these, according to analysts at Wachovia and Morgan Stanley.

So-called CDOs of ABS caused huge losses to banks such as Merrill Lynch, UBS and Citigroup, which held large amounts of the supposedly safest, top-rated chunks of them. They have since been damned by bodies such as the Bank for International Settlements as being too complex to risk manage effectively.

CDOs of ABS were used increasingly at the peak of the credit bubble to keep the securitisation machine moving by recycling hard to sell bits of subprime mortgage bonds and other risky tranches into new structures with top-notch credit ratings.

However, the ratings of these deals proved unsustainable, as evidenced by the fact they have accounted for 92.9 per cent of all 16,587 ratings downgrades globally from all rating agencies since the beginning of last year, according to Morgan Stanley.

And, here's more analysis of the same, also from the Financial Times:
But now, at long last, one shard of reality has just emerged to piece this gloom. In recent weeks, bankers at places such as JPMorgan Chase and Wachovia have been quietly sifting data trying to ascertain what has happened to those swathes of troubled CDO of ABS.

The conclusions are stunning. From late 2005 to the middle of 2007, around $450bn of CDO of ABS were issued, of which about one third were created from risky mortgage-backed bonds (known as mezzanine CDO of ABS) and much of the rest from safer tranches (high grade CDO of ABS.)

Out of that pile, around $305bn of the CDOs are now in a formal state of default, with the CDOs underwritten by Merrill Lynch accounting for the biggest pile of defaulted assets, followed by UBS and Citi.

The real shocker, though, is what has happened after those defaults. JPMorgan estimates that $102bn of CDOs has already been liquidated. The average recovery rate for super-senior tranches of debt – or the stuff that was supposed to be so ultra safe that it always carried a triple A tag – has been 32 per cent for the high grade CDOs. With mezzanine CDO’s, though, recovery rates on those AAA assets have been a mere 5 per cent.

I still can't understand how our Government can characterise GIC's and Temasek's performance as "not disreputable".

Saturday, February 21, 2009

UBS Tax Fraud Makes Lee Kuan Yew Look Like a Dufus Dumbo

In April 2008, this blogger took note of Lee Kuan Yew's comments in an interview with Bloomberg. The octogenarian Minister Mentor was defending GIC, the Singaporean sovereign weath fund of which he is Chairman, which had made investments in UBS and Citigroup just months before. I have previously dealt with Citigroup and the prospect of its equity investors being wiped out due to nationalisation. But for this post, the subject of my analysis is UBS.

The Minister Mentor went on the record complimenting the private banking franchise of UBS, citing this as the reason why GIC made a significant investment in the famous Swiss bank:
"The franchise of the banks, the expertise that they have, under proper leadership, they will be able to recover and rise again ... Will there be another Swiss bank like UBS for wealth management? I doubt it, we doubt it, that is why we invested in it." -MM Lee, in a Bloomberg Interview, Apr 08

In an expression of his support for UBS, the Minister Mentor's GIC duly bet US$10 Billion of Singapore's hard-earned reserves that UBS would recover, with its revival driven by the world-renowned reputation of UBS' private banking business. Nevermind the huge investment banking losses that UBS had sustained - at least its private banking business was still intact and relatively untarnished.

Well, this week, that reputation for integrity has all but evaporated. UBS has admitted to defrauding the US government by helping some of its US clients conceal their assets. It is also paying US$780 million in fines and compensation to the US govt as a result.
UBS to Pay $780 Million Over U.S. Tax Charges
Swiss Bank to Name Some U.S. Clients

By David S. Hilzenrath and Zachary A. Goldfarb
Washington Post Staff Writers
Thursday, February 19, 2009; D01

UBS, Switzerland's largest bank, agreed yesterday to pay $780 million to settle civil and criminal charges by the U.S. government that it helped thousands of American clients use Swiss accounts to evade U.S. taxes.

UBS also agreed to turn over the names of some of those clients.

The settlement ended a legal battle that pitted Switzerland's legendary tradition of bank secrecy against the U.S. government's determination to crack down on tax cheats.

But how the U.S. government resolved perhaps the central issue in its dispute with UBS was not disclosed, making it hard to assess how much the government gained in its battle against tax evasion.

The Justice Department charged that over several years UBS provided Swiss bank accounts to approximately 20,000 U.S. clients with assets of about $20 billion. About 17,000 of those clients concealed their identities and the existence of their UBS accounts from the IRS, the Justice Department alleged.

A key question in the investigation was whether the bank and the Swiss authorities would divulge information about all of the thousands of clients the U.S. government suspected of using UBS accounts to evade taxes or only those clients who met the much narrower Swiss legal conditions for parting the curtain of bank secrecy.


"UBS avoided compliance with U.S. securities laws for many years, at the same time they were engaged in other illegal conduct, which makes this one of the most egregious cases of its kind," Scott W. Friestad, deputy director of enforcement at the SEC, said in a statement.


"It is apparent that as an organization we made mistakes and that our control systems were inadequate," UBS chief executive Marcel Rohner said.

You might think $780 million is enough to settle the case. But the real damage has only just begun. The true fallout will be seen when UBS is finally forced to disclose the names of the US citizens who have secret bank accounts with UBS. This will truly shake the foundations of the private banking industry in Switzerland and set a new precedent for the private banking industry all over the world - including in Singapore. The prospective disclosure is now part of a civil lawsuit that US government is filing against UBS.
U.S. Sues UBS Seeking Swiss Account Customer Names
By David Voreacos and Carlyn Kolker

Feb. 19 (Bloomberg) -- The U.S. government sued UBS AG, Switzerland’s largest bank, to try to force disclosure of the identities of as many as 52,000 American customers who allegedly hid their secret Swiss accounts from U.S. tax authorities.

U.S. customers had 32,940 secret accounts containing cash and 20,877 accounts holding securities, according to the Justice Department lawsuit filed today in federal court in Miami. U.S. customers failed to report and pay U.S. taxes on income earned in those accounts, which held about $14.8 billion in assets during the middle of this decade, according to the court filing.

“At a time when millions of Americans are losing their jobs, their homes and their health care, it is appalling that more than 50,000 of the wealthiest among us have actively sought to evade their civic and legal duty to pay taxes,” John A. DiCicco, acting assistant attorney general in the Justice Department’s tax division, said in a statement.


Roy Smith, a finance professor at New York University’s Stern School of Business and a former Goldman Sachs Group Inc. partner, said a UBS loss in the case would be “very bad news” for Swiss banks.

Swiss Secrecy

“If you get to the point where you’re able to get information on 52,000 accounts just because they exist, not because of evidence of a crime, you’ve gotten rid of Swiss banking secrecy forever,” Smith said. “If the European Union follows suit, it’ll virtually be the end of secret accounts in Switzerland.”

Swiss banks would still get business from Asia, Russia, eastern Europe and Africa, he noted.

The Justice Department accused UBS of conspiring to defraud the U.S. by helping 17,000 Americans hide accounts from the Internal Revenue Service. The U.S. will drop the charge in 18 months if the bank reforms its practices, helps prosecutors and makes payments.

In entering a deferred-prosecution agreement, UBS agreed to a statement of facts that said from 2000 to 2007, it actively helped “U.S. individual taxpayers in establishing accounts at UBS in a manner designed to conceal the U.S. taxpayers’ ownership or beneficial interest in said accounts.”

Evading Requirements

UBS bankers “facilitated the creation of such accounts in the names of offshore companies, allowing such U.S. taxpayers to evade reporting requirements,” according to the statement of facts. Prosecutors filed a complaint, unsealed yesterday, accusing UBS of conspiring to defraud the U.S. by helping Americans hide accounts from the IRS.

UBS and its U.S. clients knew that it violated U.S. law for U.S. taxpayers to maintain undeclared accounts with UBS in Switzerland -- whether the accounts held cash or securities,” IRS agent Daniel Reeves said in a declaration filed with today’s lawsuit.


Private bankers went to great lengths to hide their clients’ identities and assure them of Swiss customs of secrecy, prosecutors said in the criminal complaint filed against UBS. In January 2003, after UBS signed an agreement to share tax information with the IRS, bank managers sent U.S. clients letters saying they had kept client identities secret since 1939.

Some bankers went so far as to develop written codes to hide their communications about U.S. clients’ assets, according to court documents filed in today’s lawsuit.

In June, U.S. prosecutors secured the guilty plea of a former UBS private banker, Bradley Birkenfeld, who is cooperating with investigators. Another Switzerland-based UBS banker, Raoul Weil, was indicted on a charge that he helped rich Americans evade taxes.

Private banks take pride in providing their clients with secrecy and privacy. Because many of their clients are exceptionally wealthy and do not wish for the composition or magnitude of their assets to be known to the public. But in this case, UBS clearly went too far. It abused the bank secrecy laws for its clients and helped to facilitate tax fraud - and the worst thing is that UBS has admitted doing so knowingly and for several years. Is this what Lee Kuan Yew and his son, Prime Minister Lee Hsien Loong, are trying to model Singapore after?

Singapore in recent years has made massive efforts to enter into the integrated resort (gambling) and private banking industries. Both are heavily interrelated in that they both attract money inflows from the rich and wealthy. But which rich and wealthy are we trying to attract?

Some of you might remember that in October 2006, a certain Andy Xie, who was then Asia Chief Economist of Morgan Stanley, was fired after making certain comments about Singapore's Economy. Amongst the derisive comments he made about Singapore's economy, the following were the most cutting:
"Actually, Singapore’s success came mainly from being the money laundering center for corrupt Indonesian businessmen and government officials. Indonesia has no money. So Singapore isn’t doing well. To sustain its economy, Singapore is building casinos to attract corrupt money from China." - Andy Xie, ex Morgan Stanley Asia Chief Economist

Is this what Singapore is turning into, a full fledged money laundering center? Is this the plan, with two massive integrated resorts flying high-rollers from the region in to gamble with their millions, and many more private banks to stash their cash away in secret accounts, while gambling even bigger sums in the global financial markets?

As a Singaporean, the latest unraveling of tax fraud charges against UBS, the largest private bank in the world, truly makes me shudder. Switzerland, at least, has other things to fall back upon when it faces a setback of such magnitude. But can Singapore's reputation and economy survive such a hit if something similar happens to us in the future? Our government has not had many ideas in recent years to drive Singapore's growth - and if our push into IRs and private banking fails, Singapore's economic growth could be set back several long years.

GIC's bet on UBS is a mistake that Singapore can ultimately recover from. But the PAP's bet on private banking and gambling may someday prove to be catastrophic for our nation.

Thursday, February 19, 2009

"Substantial Long-term Returns" From Bank Investments? Fat Hope, GIC

Well well, things are getting exciting. All of us know that GIC is reported to have incurred losses of US$33 Billion. All of us know that the government keeps on saying that GIC & Temasek are long term investors. And guess what, the press reported that GIC expects long-term returns from its bank investments (and I think, that's what Temasek expects as well)
Singapore’s GIC Loses $33 Billion as Assets Tumble, WSJ Says
By Andrea Tan and Chris Peterson

Feb. 17 (Bloomberg) -- Government of Singapore Investment Corp., one of two sovereign wealth funds owned by the island, lost as much as S$50 billion ($33 billion) in 2008, the Wall Street Journal said, citing two people familiar with the matter.

The fund doesn’t plan to get rid of its investments including in Citigroup Inc. and UBS AG even as asset values plummet, the newspaper said. GIC expects the two banks to provide substantial long-term returns, according to the report.

Sovereign wealth funds in Asia and the Middle East have pumped money into global financial institutions to help replenish capital eroded by writedowns and losses that have topped $1 trillion globally. GIC, overseeing more than $100 billion of reserves, has invested about $18 billion in UBS and Citigroup since December 2007.

This is not a recession. This is a depression.

I think few people truly appreciate what is going on in the global economy today. Many people think that what we are going through is just a short-term recession, like those of the last decade. They think that after a short period of contraction, our economy will bounce back quickly. They think that the stock market will start rising soon and that the housing market will recover soon.

But very few people alive today have lived through an economic deterioration of today's proportions. Very few people alive today will ever live through another economic downturn of today's proportions. What we are looking at is a downturn of unprecedented proportions, unseen since the Great Depression of the 1930s. But don't take my word for it. Take it from Alan Greenspan, take it from the IMF Chief, take it from investment heavyweights like Marc Faber.

My first quote comes from the IMF Chief, who warned earlier in January that the world faces a global crisis:
World Faces Deepening Crisis, IMF Chief Warns

January 21, 2009

-IMF head says economic prospects even worse than previous projections
-Warns of risk of social unrest in some hard-hit countries
-Says more governments expected to access IMF lending

The world faces a deepening economic crisis, with the slowdown in advanced economies now spreading to major emerging markets such as China, India, and Brazil, Dominique Strauss-Kahn, IMF Managing Director, warned.

He said the IMF would significantly adjust downward its forecast for world growth for 2009 when the 185-member international institution announces a revised assessment of the global economy on January 28. In an update released last November, the IMF had said that advanced economies would see a contraction in output in 2009—the first since World War II—but that growth in major emerging markets would still enable the global economy to advance by 2.2 percent in 2009.

Deteriorating outlook

But Strauss-Kahn said in an interview with the BBC's Hardtalk program, broadcast on January 21, that economic prospects had worsened over the past few months and the IMF would announce lower numbers at the January 28 press conference in Washington DC.

"So 2009 will not be a good year for the world economy, even if we see recovery at the beginning of 2010," he said.

Prospects were worse than expected not just in the United States and Europe but also in major emerging market economies such as China, India, and Brazil, which would experience very low growth compared with recent historical trends.


More on spending side

A number of governments around the world have announced stimulus plans, including in the United States, Japan, Europe, China, and India. But Strauss-Kahn said he did not think enough had been done so far. "In Europe especially, they are still behind the curve," he said. "There needs to be more done on the spending side, especially because the reaction of the economy to more spending is quicker than the reaction to a decrease in taxes."

The European Commission said on January 19 it expected that the 16 countries using the euro would see their economies shrink by 1.9 percent in 2009.

Strauss-Kahn warned of the risk of social upheaval and unrest in some countries worst affected by the downturn and said he expected additional countries to seek IMF help, not just in Eastern Europe, but elsewhere in the world, including Latin America where some countries were "just on the edge."


Meltdown avoided

Strauss-Kahn said the world had avoided a total meltdown of the financial system as a result of coordinated intervention by major central banks last October. "We were very close in September to a total collapse of the world economy," the former French finance minister revealed.

He defended the IMF's different prescriptions for different economies, arguing that while major advanced economies could afford to boost spending and run up larger deficits to help get out of the recession, other crisis-hit countries, particularly the emerging markets of eastern Europe, do not have the same budgetary room to maneuver because inflows of capital had dried up and their currencies were under pressure.
A second quote is written by Marc Faber in the Wall Street Journal, who describes the global nature of the boom and bust:
Synchronized Boom, Synchronized Bust
Bad U.S. monetary policy had global consequences.


The world has gone from the greatest synchronized global economic boom in history to the first synchronized global bust since the Great Depression. How we got here is not a cautionary tale of free markets gone wild. Rather, it's the story of what can happen when governments ignore market signals and central bankers believe in endless boomss

As a consequence of this expansionary cycle, the world experienced between 2001 and 2007 the greatest synchronized economic boom in the history of capitalism. Past booms -- of the 19th century under colonial economies, or after World War II when 40% of the world's population remained under communism, socialism, or was otherwise isolated -- were not nearly as global as this one.

The cracks first appeared in the U.S. in 2006, when home prices became unaffordable and began to decline. The overleveraged housing sector brought about the first failures in the subprime market.

Sadly, the entire U.S. financial system, for which the Fed is largely responsible, turned out to be terribly overleveraged and badly in need of capital infusions. Investors grew apprehensive and risk averse, while financial institutions tightened lending standards. In other words, while the Fed cut the fed-funds rate to zero after September 2007, it had no impact -- except temporarily on oil, which soared between September 2007 and July 2008 from $75 per barrel to $150 (another Fed induced bubble) -- because the private sector tightened monetary conditions.

In 2008, a collapse in all asset prices led to lower U.S. consumption, which caused plunging exports, lower industrial production, and less capital spending in China. This led to a collapse in commodity prices and in the demand for luxury goods and capital goods from Europe and Japan. The virtuous up-cycle turned into a vicious down-cycle with an intensity not witnessed since before World War II.
And finally, a third piece quotes Alan Greenspan, former Chairman of the Federal Reserve:
Recession will be worst since 1930s: Greenspan
Wed Feb 18, 2009 5:22am EST
By Kristina Cooke

NEW YORK (Reuters) - Former U.S. Federal Reserve Chairman Alan Greenspan said on Tuesday the current global recession will "surely be the longest and deepest" since the 1930s and more government rescue funds are needed to stabilize the U.S. financial system.

"To stabilize the American banking system and restore normal lending, additional TARP funds will be required," Greenspan said in a speech to the Economic Club of New York. The U.S. Treasury's Troubled Asset Relief Program designed to help bail out banks has been partially successful, he said.

Despite his prognosis on the current downturn, Greenspan said the pace of economic deterioration "cannot persist indefinitely."

He reiterated, however, that a housing recovery is a necessary condition for the end of the financial crisis, and said that "the prospect of stable home prices remains many months in the future."

The stock market, meanwhile, is being suppressed by "a degree of fear not experienced since the early 20th century," Greenspan said. "Certainly by any historical measure, world stock prices are cheap. But as history also counsels, they could get a lot cheaper before they turn."
As you can probably tell, I am not bullish about the global economy. I am not bullish about the stock markets nor the housing markets. I think those who think we have reached a bottom and are currently hunting for value in the markets are likely to be caught in a "value trap" - when asset prices look cheap relative to recent valuations but are actually in a secular downtrend brought about by prolonged recession.

The value mentality was extremely useful in the past decades when the global economy was in a secular uptrend, and downturns could be expected to turn around relatively quickly. Recessions were relatively short and markets turned from bust to boom relatively quickly. But this is different. What we are seeing is debt deflation and a collapse in the credit system. What we are seeing is a fundamental unwinding of the banking system and the asset bubbles that cheap credit spawned in the last decade.

And I don't think that the stimulus package passed by the US Congress is going to be much more than a band-aid. Nor is the new housing plan unveiled this morning going to do much to stem the continued correction in housing prices. What will be needed will be bold, corrective action taken to fix the credit system - not the weak TARP ideas that Paulson and Geithner have been trying in the past few months, which simply try to prop up ailing banks with liquidity but that do little to fix the underlying credit problems facing banks.

Hence, I think stocks, housing and other prices still have some way down to go. The following chart, courtesy of the New York Times, illustrates this point:

At its current level of about 15, the P/E of the S&P 500 using a 10-year average of earnings certainly suggests stocks are much cheaper than they were a in years past. But “cheap” depends entirely on the context we view the valuations. It is certainly true that stocks are now priced lower than at any other time since 2000, when the current period on contracting valuations began. But it is also true that stocks remain at least 50% over-valued compared to previous long-term valuation lows seen in the 1930’s, 1940’s, and the early 1980’s.

The argument that we should buy stocks now because they are “cheap” is questionable investment analysis because it ignores the current economic environment we are in and the possibility that stocks could still get much cheaper than they are now. We know they can because it has happened before, and there is every possibility that the markets could easily decline another 20-30%.

On the economic side, I have already articulated my thoughts on the impact on Singapore's economy. Unlike Tharman Shanmugaratnam, I think that Singapore's economy isn't bouncing back any time soon. Thus, I'm sitting in cash and tightening my belt to wait for what might be a forthcoming investment opportunity of a lifetime.

As a final note, I think we should all heed the warning of economists Reinhart and Rogoff, who are working on a paper called "The Aftermath of Financial Crises"
Broadly speaking, financial crises are protracted affairs. More often than not, the aftermath of severe financial crises share three characteristics. First, asset market collapses are deep and prolonged. Real housing price declines average 35 percent stretched out over six years, while equity price collapses average 55 percent over a downturn of about three and a half years. Second, the aftermath of banking crises is associated with profound declines in output and employment. The unemployment rate rises an average of 7 percentage points over the down phase of the cycle, which lasts on average over four years. Output falls (from peak to trough) an average of over 9 percent, although the duration of the downturn, averaging roughly two years, is considerably shorter than for unemployment. Third, the real value of government debt tends to explode, rising an average of 86 percent in the major post–World War II episodes. Interestingly, the main cause of debt explosions is not the widely cited costs of bailing out and recapitalizing the banking system. Admittedly, bailout costs are difficult to measure, and there is considerable divergence among estimates from competing studies. But even upper-bound estimates pale next to actual measured rises in public debt. In fact, the big drivers of debt increases are the inevitable collapse in tax revenues that governments suffer in the wake of deep and prolonged output contractions, as well as often ambitious countercyclical fiscal policies aimed at mitigating the downturn.

Tuesday, February 17, 2009

Global Economic Meltdown Means Singapore's Economy Isn't Bouncing Back Any Time Soon

Some time ago, Singapore's heavily export-oriented growth model came under fire. The Wall Street Journal published an opinion piece, criticising the lop-sided dependence on exports and the crowding out of the private sector by the government:

The export-led economy is falling on its face. Minister Tharman Shanmugaratnam predicts the city-state is "likely to experience" the deepest recession in its history. The government will tap its reserves to help pay for the stimulus package. Growth contracted 16.9% in the fourth quarter last year. The Ministry of Trade and Industry has revised down GDP forecasts twice this month already, and expects the city-state's growth to contract 2% to 5% this year. The pain is now leaking into the domestic economy as consumers retrench.

Singapore's economy would be more resilient if it were better balanced. Consumption composes only about 40% of GDP -- far less than other developed Asian economies, nearer to 55%. Yesterday's budget doesn't do much to change long-term incentives to consume. The government announced a 20% income-tax rebate for one year, but no permanent cuts. Nor did it cut the 7% goods and services tax. Singaporean workers and businesses invest a total of 34.5% of wages into the state pension fund, but receive less than a 2% return from the government. That's a measly payout compared to what private funds return over long investment periods.

These thoughts and others were echoed by many financial and economic analysts around the world. Naturally, however, Singapore's government took a stand against its critics, and Tharman Shanmugaratnam was forced to declare that "Singapore's Growth Model Works", in defence of the government's economic policies:

The Government will keep restructuring the economy to emerge 'leaner and smarter' after each downturn, Finance Minister Tharman Shanmugaratnam said in an interview with Bloomberg Television on Wednesday.

'The fundamentals of our growth model are sound,' he said, adding that 'we should not be less susceptible to global markets. That's our future, that's where our fortunes are tied to'.

Singapore's economy may shrink a record 5 per cent this year as the global recession erodes demand for exports and companies lay off workers.


'We are plugged into the markets that are largely in the rich countries and when we go through a global crisis like this, we come down very quickly,' Mr Tharman said, adding that there was no Asian domestic demand to provide a cushion for Singapore


'Singapore will come out of this,' said Mr Tharman. 'We will bounce back the way we've bounced back three times already in 10 years.'

But the global bloodbath makes it increasingly unlikely that Singapore is going to bounce back any time soon. This global recession is the worst since world war II, and some even say that recession is an understatement - they say that we are in for an economic depression.

Just yesterday, Japan's GDP was reported to be shrinking at an annualised 12%:

Japan Economy Goes From Best to Worst on Export Slump, Yen Gain

By Jason Clenfield

Feb. 17 (Bloomberg) -- Japan’s economy, only months ago forecast to be the best performing among the world’s most advanced nations, has become the worst.

Gross domestic product shrank an annualized 12.7 percent last quarter, the Cabinet Office said yesterday. The contraction was the most severe since the 1974 oil crisis and twice as bad as those in Europe or the U.S.

The credit crisis that crippled the U.S. financial system may have also knocked out the props that supported Japanese growth between 2002 and 2007: a U.S. consumer-spending bubble and a cheap yen. The speed of the deterioration has taken companies by surprise: Toyota Motor Corp. this month forecast a 450 billion yen ($4.9 billion) loss, reversing a November estimate it would make 550 billion yen.

“We thought this would be a cyclical slowdown for the Japanese economy,” said Glenn Maguire, chief Asia economist at Societe Generale SA in Hong Kong. “It’s now clearly a structural one. Eventually we should see some stabilization in consumption globally, but there just won’t be the same” willingness to fund spending by taking on debt, he said.


‘Devastating Effects’

The end of easy credit in the U.S. will lead to a “quantum downward shift” in consumer spending in the world’s largest economy that may have long-term and devastating effects on economies that have relied on it, according to Allen Sinai, chief global economist at Decision Economics Inc. in New York. Exporters Toyota and Canon Inc. get more than a third of their sales in North America.

“Companies that planned their businesses around the idea that U.S. consumer spending would grow by 3 percent per year, as it has for decades, are in for a shock,” said Sinai, who spoke in an interview in Tokyo after he briefed Japan’s biggest business lobby, Keidanren, on the U.S. outlook.

Indeed, Japan's economic woes are reflective of what is happening across the troubled east asian tigers - economies that are heavily dependent on exports for economic growth. Singapore, Taiwan and Korea are facing steep falls in exports as the US & European financial systems implode, causing massive deleveraging and sharp drops in consumer spending previously fueled by easy credit.

Yet many of Asia’s tiger economies seem to have been hit harder than their spendthrift Western counterparts. In the fourth quarter of 2008, GDP probably fell by an average annualised rate of around 15% in Hong Kong, Singapore, South Korea and Taiwan; their exports slumped more than 50% at an annualised rate. Share prices in emerging Asia have plunged by almost as much as during the Asian financial crisis a decade ago. That crisis was caused by Asia’s excessive dependence on foreign capital. This time the tigers have been tripped up by their excessive dependence on exports.


In the fourth quarter of 2008, real GDP fell by an annualised rate of 21% in South Korea and 17% in Singapore, leaving output in both countries 3-4% lower than a year earlier. Singapore’s government has admitted the economy may contract by as much as 5% this year, its deepest recession since independence in 1965. In comparison, China’s growth of 6.8% in the year to the fourth quarter sounds robust, but seasonally adjusted estimates suggest output stagnated during the last three months.

Asia’s richer giant, Japan, has yet to report its GDP figures, but exports fell by 35% in the 12 months to December. In the same period, Taiwan’s dropped by 42% and industrial production was down by a stunning 32%, worse than the biggest annual fall in America during the Depression.

Asia’s export-driven economies had benefited more than any other region from America’s consumer boom, so its manufacturers were bound to be hit hard by the sudden downward lurch. Asian exports are volatile anyway. And though the 13% fall in the region’s exports in the 12 months to December was slightly smaller than in 1998 or 2001, those dismal records seem certain to be beaten soon.

The plunge in exports has been exacerbated by the global credit crunch, which made it harder to get trade finance. Destocking on a huge scale has further slashed output. Trade within Asia has dropped by even more than the region’s sales to America or Europe. Exports to China from the rest of Asia were 27% lower in December than a year earlier, partly reflecting weaker demand for components for assembly into goods for re-export.

The press has mostly focused on the financial meltdown in the US. Yet, the European financial system now appears to be in an even worse condition than their American counterparts. John Mauldin analyses the dire situation in Europe:

European Bank Losses Dwarf Those in the US


But European banks may be in far worse shape. Bruno Waterfield of the London Daily Telegraph reports to have seen an eyes-only document prepared by the European Commission for the finance ministers of the various EU member countries. The problem revealed in the report is an estimated write-down by European banks in the range of 16 trillion pounds, or about $25 trillion dollars! The concern is that bailing out the various national banks for such an unbelievable amount would push the cost of government borrowing to much higher levels than we see today.


Waterfield reports, "National leaders and EU officials share fears that a second bank bail-out in Europe will raise government borrowing at a time when investors -- particularly those who lend money to European governments -- have growing doubts over the ability of countries such as Spain, Greece, Portugal, Ireland, Italy and Britain to pay it back.


Part of the problem is that European banks were far more highly leveraged than US banks. Some banks were reportedly leveraged 50:1. And they lent money to Eastern European projects and businesses which are now facing severe financial strain and plummeting local currencies.

Let that number rattle around in your head for a moment: $25 trillion. Even $5 trillion would be daunting. But the problem is that Europe does not have a central bank that can step in and selectively save banks from one country without taking on all euro zone member-country banks. Yet, as noted above, some countries may not have the wherewithal to save their own banks. It is reported that some Austrian banks are hoping that Germany will step in and help them. Given Germany's problems, they may have a long wait.

The slump in exports is not just driven by a drop in US demand alone - it is driven by a broad-based drop in consumer spending in East Asia's key export markets of Europe and the USA, economies whose financial systems are up to their noses in toxic credit and whose financial problems aren't going to be solved any time soon. At the same time, there has been broad-based concern about the Obama administration's lack of leadership in coming up with a detailed plan for fixing the credit system. Tim Geithner's recent speech inspired no confidence in analysts and business leaders, and has left much to be desired:

The Obama rescue

Feb 12th 2009

From The Economist print edition

This week marked a huge wasted opportunity in the economic crisis

By any recent historical standards America’s banking bust is big. The scale of troubled loans and the estimates of likely losses—which are now routinely put at over $2 trillion—suggest many of the country’s biggest banks may be insolvent. Their balance-sheets are clogged by hundreds of billions of dollars of “toxic” assets—the illiquid, complex and hard-to-price detritus of the mortgage bust, as well as growing numbers of non-housing loans that are souring thanks to the failing economy. Worse, banks’ balance-sheets are only one component of the credit bust. Most of the tightness of credit is owing to the collapse of “securitisation”, the packaging and selling of bundles of debts from credit cards to mortgages.

Fixing this mess will require guts, imagination and a lot of taxpayers’ money. Mr Geithner claims he knows this. “We believe that the policy response has to be comprehensive and forceful,” he declared in his speech, adding that “there is more risk and greater cost in gradualism than aggressive action.”

But his deeds did not live up to his words. His to-do list was dispiritingly inadequate on some of the thorniest problems, such as nationalising insolvent banks, dealing with toxic assets and failing mortgages. Mr Geithner promised to “stress-test” the big banks to see if they were adequately capitalised and offer “contingent” capital if they were not. But he offered few details about the terms of public-cash infusions or whether they would, eventually, imply government control. His plan for a “public-private investment fund” to buy toxic assets was vague and its logic—that a nudge from government, in the form of cheap financing, would enliven a moribund market—was heroic. Banks’ balance-sheets are clogged with toxic junk precisely because they are unwilling to sell the stuff at prices hedge funds and other private investors are willing to pay. Vagueness, in turn, led to incoherence. How can you stress-test banks if you do not know how their troubled assets will be dealt with and at what price? Amid these shortcomings were some good ideas, such as a fivefold expansion of a $200 billion fledgling Fed facility to boost securitisation. But for nervous investors and worried politicians, desperate for details and prices, the “plan” was a grave disappointment.

So, is Singapore really going to "bounce back" like it has bounced back "3 times in the last 10 years," as Tharman Shanmugaratnam claims? The dire straits of the global economic situation point to a resounding NO! Indeed, far from looking like it is going to bounce back like it has in the past, Singapore looks like it is in for a protracted recession.

On top of that, to compound the situation, just as Singapore is entering into its worst ever recession, its reserves are getting pounded by the collapse in global markets. Temasek recently reported that it lost 31% to Nov 08, and GIC is rumoured to have lost a whopping 41% on its portfolio! Just when Singapore needs its reserves the most, it is finding that its investments are evaporating by the bucketloads.

The implications, then, of this economic and financial crisis, are going to be deep and profound. More PAP sacred cows are likely to be slaughtered, as workers lose their jobs and find themselves without a social safety net. The lack of a quick economic rebound will mean that unemployment is likely to rise and stay at high levels - the Singapore government will need to re-think its policy on social handouts in order to deal with the growing social unrest brought about by the steep downturn. More pro-worker policies like those championed by the workers' party are likely to gain ground in the minds of Singaporeans as they feel the pinch of a protracted recession.

Economically, the government is going to have to come up with better ideas than just orienting Singapore's economy for export markets. The receding of the tide of easy credit has caught Singapore with its pants down, and it is going to have to find a new set of clothes because the tide isn't coming back up anytime soon to cover Singapore's exposed ass.

Singapore's reputation with the management of its reserves is also likely to take a severe hit. The performance of Temasek, and that of GIC - which is yet to be released but unlikely to be very good - has been unexceptional in this global downturn. One would have expected the best and the brightest of Singapore's elite to have at least somehow anticipated the the credit crisis and have at least had some foreknowledge of the lax credit standards and massive leverage that was accumulating in the US and EU financial systems. Yet not only did they miss the boat, they got very badly hurt in the process of investing in financial institutions such as UBS, Citigroup, Merrill and Barclays.

In short, the global economic meltdown means that Singapore's export-dependent economy isn't bouncing back any time soon. And given that the PAP's hegemony has been built on economic policies that have failed to factor in the oncoming structural change in global headwinds, Singapore looks like it is in for much change in the years to come.

Thursday, February 12, 2009

Temasek's Performance - A Dismal Failure of Singapore's Elitism

Government officials and Temasek executives have repeatedly held the line that Temasek's portfolio performance should be evaluated, not simply the performance of individual investments. It is thus no surprise that Temasek's latest unveiling of its recent portfolio performance has come under intense scrutiny, not just by Singaporeans, but by financial analysts all over the world.

This morning, the press reported a 31% drop in the market value of Temasek's portfolio from March 08 to Nov 08. Under rigorous enquiry about the performance of Temasek, government officials retorted that Temasek's performance has been 'respectable' compared to the performance of global investment indices, such as that of the MSCI world index.

Indeed, Temasek may have a case that its performance, relative to world indices, is respectable. The MSCI world index has crashed a whopping 40% since March 08. However, it is extremely unfortunate that Temasek, which prides itself on offering scholarships to Singapore's 'best and brightest', and hiring top foreign talent, is benchmarking its performance to the average performance of the rest of the world. Temasek's only defence is that it is 'above average.'

Temasek's executives and Singapore's politicians, instead, should be benchmarking Temasek's performance to the best and brightest in the world. If indeed Temasek has top talent, its performance should be comparable to the top fund managers. But the truth is, Temasek is no where near the top. In comparison to the best performers, its performance is a dismal failure.

In late 2007, Bloomberg made the following report:
Paulson Housing Bets Make $2.7 Billion

By Anthony Effinger

Nov. 29, 2007 (Bloomberg) -- The subprime crisis that's caused so much trauma for hedge funds and investment banks has brought only good news for John Paulson. He's the manager of more than $7 billion in hedge fund money keyed to mortgage credit.

Paulson started warning his investors back in the middle of 2006 that the frenzy to build and sell housing was a bubble about to pop. His New York-based firm, Paulson & Co., made big bets predicting the edifice would soon come crashing down. The wager paid off in the first nine months of 2007, when Paulson's Credit Opportunities funds rose an average of 340 percent.

That gain earned Paulson an estimated $1.14 billion in performance fees for the nine months ended on Sept. 28. Fees on Paulson's other eight funds bring his total to $2.69 billion, which puts Paulson and co-manager Paolo Pellegrini at the top of Bloomberg's ranking of best-paid hedge fund managers. John Paulson is no relation to Treasury Secretary Henry Paulson, the former chief executive officer of Goldman Sachs Group Inc.

Next on the list is Philip Falcone, whose New York-based Harbinger Capital Partners also bet against the housing boom and collected incentive payouts of $1.3 billion for the same nine months. In third place was Jim Simons, president of Renaissance Technologies LLC in East Setauket, New York.

Indeed, Temasek cannot say that "no one saw it coming." John Paulson and others did - they saw the excessive leverage, lax lending standards, and mispricing of credit risk in the markets - and took bets against the credit markets that paid off handsomely.

The following statement was by hedge fund manager John Paulson, in his statement to the US House of Representatives in November 2008:
"In 2005, our firm became very concerned about weak credit underwriting standards, excessive leverage among financial institutions and a fundamental mis-pricing of credit risk. To protect our investors against the risk in the financial markets, we purchased protection through credit default swaps on debt securities we thought would decline in value due to weak credit underwriting. As credit spreads widened and the value of these securities fell, we realized substantial gains for our investors."

The best and the brightest brains saw the credit crunch coming, and Temasek did not. Indeed, not only did Temasek not see the crunch coming, it went long the credit markets in 2008 - by making massive bets on financials like Merrill Lynch and Barclays. As a result, it made massive losses as the banks further imploded.

Well, even if Temasek didn't short the credit markets, it could have at least avoided making the stupid investments in the investment banks, just as Warren Buffett sat on the sidelines. But instead of just doing nothing, Ho Ching and company just had to get their hands itchy.

Meanwhile, the best and the brightest continued to do what they did best - and make money. To add on to the $1b+ in fees he earned in 2007, John Paulson continued his winning streak in 2008, by continuing to bet against the credit markets and financial institutions - bets that were directly opposite to Temasek's:
John Paulson’s Funds Shine in the Gloom

While his counterparts at other big hedge funds are trying to figure out whether they can stay in business, the fund manager John Paulson continues to rack up enormous profits. DealBook has obtained Mr. Paulson’s confidential year-end letter to his undoubtedly gleeful investors.

The 20-page report details how Mr. Paulson’s firm, Paulson & Company, which manages nearly $29 billion in assets, avoided the huge losses plaguing other funds, and it gives his firm’s outlook for this year.

Paulson Advantage Plus, the firm’s largest fund with roughly $7 billion in assets, returned a whopping 37.6 percent net of fees for 2008. Another version of the fund, which does not use borrowed money to amplify its return, recorded gains of about 24 percent, according to the letter.

Most of the profit in the Advantage group of funds came from betting against a number of financial institutions. At the beginning of 2008, the Paulson firm sold short several large financial stocks including Fannie Mae and Freddie Mac, correctly predicting that they would either become insolvent or need to raise additional capital that would significantly dilute shareholders.

On the downside, the Paulson firm said its long portfolio focused on sectors that generally do better during a recession, including health care, utilities and consumer staples. But nearly every one of those positions declined in value, although less than the overall stock market.

Mr. Paulson is still bearish on the economy going into 2009 and remains short financial stocks and slightly short of the equity markets in general.

“As the credit crisis has spread beyond subprime, all credit categories are experiencing higher losses, threatening the solvency of many additional financial institutions,” Mr. Paulson said in the letter. “The problem with many banks is that they don’t have enough tangible common equity to absorb anticipated losses.”

Temasek really has no excuse. It pays millions in compensation to its management every year. It is supposed to be staffed by the smartest investment minds out there. But its performance during this credit crisis has been, quite simply, mediocre. If we compare the 2008 31% loss in Temasek's portfolio to Paulson's whopping 37.6% gain - thats a net difference of 68.6%. Temasek has underperformed what should be its benchmark by a whopping margin!

Indeed, what we have isn't a bunch of particularly smart people at Temasek - what we have is a bunch of people suffering the curse of group think, of people mindlessly following the advice of their stock analysts - unable to truly see what is happening. What has happened with Temasek's investments should make clear to Singaporeans that there is really no such thing as the "elite" as defined by Singapore's "top brass" - they're just ordinary, mediocre investors - like you and me.

And the sooner Singaporeans realise that, the better. If we did, we would have had a decent chance of avoiding the disastrous capital destroying investments in Shin Corp, Merrill, Barclays and ABC learning. And we'd be billions of dollars more well off as a nation, than we are today.

Monday, February 09, 2009

Bank of America / Merrill Lynch Watch (Feb 09)

Ho Ching announced her retirement last weekend. This blog post tracks one of the disastrous investments that she will leave behind at Temasek. Good luck, Chip Goodyear. You're going to need it =)

For Bank of America and Merrill Lynch, Love Was Blind (NYT) "But the merger, in which Bank of America agreed to pay about $50 billion in stock for Merrill, soured at light speed. Back then, the combined companies would have been valued by the stock market at about $176 billion. Today, the combination has a market capitalization of only $39 billion."

“When you go into a deal, you hope for the best but expect the worst,” says Nancy Bush, a banking analyst. “I think Bank of America did plenty of due diligence; they just ignored what they found. They knew it was there. They just didn’t completely grapple with the fact that it could get uglier. And it did.”

Bank of America CEO Close to the Edge (Reuters) "This guy's job is on the line, and he knows it," said Paul Miller, an analyst at Friedman, Billings, Ramsey & Co. "He's trying to outrun the recession, and praying things will be better in the second half of the year. It's going to be a slow process, but given the mistakes Ken has made, it will be difficult for him to keep his job during the year."

Wednesday, February 04, 2009

Bank of America Merrill Lynch Bleeds Top Talent - More Bad News for a Disastrous Temasek Investment

In latest news, Deutsche Bank has hired 12 of Merrill Lynch's top bankers into its FIG (Financial Institutions Group). This news is the latest in a string of bad news to hit what must now be considered a disastrous acquisition for Bank of America, and a horrendous investment for Temasek Holdings:
Deutsche Bank Significantly Expands Global Financial Institutions Coverage

2009-02-04 01:06:01 -

Deutsche Bank today announced 12 new hires in the firm's Financial Institutions Group in its Global Banking division. The additions comprise six Managing Directors as well as a number of Directors, Vice Presidents and Associates, focused on banks and asset management client coverage. The new hires will be located in New York, London and Hong Kong.