Lehman has, at last, been bankrupt for five years. I posted the last of the five-video series we put together for the anniversary here. This post is for those hardy few who have still not had enough of Lehman memorabilia. If you have the time and inclination, try looking through some of these videos, which I made at the time (when I was based in New York and still covered the Short View).
First, this video, which we produced for what we then considered to be the first anniversary of the crisis, in August 2008 a few weeks before Lehman, bears re-watching. The key message to be derived from it is that claims that nobody saw the Lehman bankruptcy coming, or the crisis that surrounded it, do not hold water. It features today’s interviewee, the former Olympic fencer James Melcher, and his comments are particularly prescient: Read more
Maybe we should reinstate Glass-Steagall. Or maybe we should revisit the system of publicly quoted banks. That at least seems to be the implication of comments made to me by John Reed, who spent almost two decades as the CEO of the old Citicorp and then joint CEO of the newly formed Citigroup. You can find text from my interview with him here and here.
However, I think it is worth highlighting still another passage, as it cuts to the heart of how banks should be valued, and arguably even how they should be owned. He now believes that commercial banking and trading cultures should not be combined. When I pointed out that trading can boost returns, he made the following response:
I could understand that an institution might want to bridge both businesses. If someone like Deutsche Bank were to be only a commercial bank it would be a quite different entity. They’ve used that investment bank to change their earnings profile and their ROE [return on equity] targets. They have a 20 per cent target for ROE.* You could not achieve that in Europe with a commercial bank. You have to get heavily into the markets to imagine getting those kinds of returns.
I think the industry would be healthier if instead of looking at returns they look at p/e [price to earnings] ratios. The more you become a trading organistion, the less your p/e. You should aspire to be like Coca-Cola and have a 20 times p/e.
Obviously the numbers are approximate, and the figures for Deutsche need to be updated. To be more precise, Deutsche under its former CEO Josef Ackermann had a 25 per cent “pre-tax ROE”, which our banking editor Patrick Jenkins suggests would be more like 16 or 17 per cent under German taxes. At present, Deutsche’s ROE, which varies considerably from quarter to quarter, is more like 12 per cent. But the validity of Mr Reed’s point is unaffected, as is clear from this chart. Coke is the blue line here (note Citi’s price/earnings ratio went almost to infinity as it was seen returning from loss to low earnings in 2010). Aside from the rude interruption of the great financial crisis, the point stands that the market will pay a much higher multiple for the earnings of a consumer branded company that it will pay for the earnings of a universal bank.
Note: Citi high PE reflected negative and then v low earnings
There then comes the issue of whether Glass-Steagall or something like it should be reinstated, forcing commercial banks to divest their trading arms. Banks have lobbied fiercely against this. Mr Reed suggests that this is against the public interest: Read more
Value investors are getting excited about emerging markets again after their terrible performance over the past few months.
The problem, as Arjun Divecha, chairman of Boston’s GMO, says, is that mostly what’s cheap is commodity-related stocks set to suffer from the slowdown of demand in China. Domestically-oriented companies are down, but aren’t that cheap.
There are a couple of really cheap areas, though. He points to Russian oil shares, and Chinese banks.
Both have horrible fundamentals. Russia is stuck between recession-hit Europe and slowing China, and has some of the worst corporate governance in the world.
Chinese banks are directly exposed to the slowdown in the country’s economy, are being told to lend less (hurting profitability), face higher funding costs (hurting profitability) and risk the bursting of the credit bubble (which would expose the bad debts from their relaxed lending decisions of the past four years).
Given all that, shares would need to be very very cheap to consider buying them. And they are. Charts showing just how cheap Chinese stocks have become follow after the break. Read more
The fun part of the eurozone crisis, if there is one, is that you never know where to look. After the Cyprus crisis three months ago, the hunt was on for the next small peripheral country that would create a headache. Slovenia was a popular bet. So, among some hedge fund managers, was the Netherlands, where house prices are dropping alarmingly. There was a frisson of concern about Croatia’s accession to the EU. But it turns out that the next country to administer a shock, two years on from its bail-out, is Portugal.
You do not need to be an expert in Portuguese politics to see that the country is in a crisis, or that local markets were shocked by developments. When the foreign minister hands in a resignation hours after the finance minister has done the same thing, over an issue of core economic policy, and the existence of a fragile coalition is called into question, then it is natural that prices will be revised. Read more
Today’s Note video is with the MIT economist Bob Merton – famous both for winning a Nobel memorial prize for his part in drawing up the Black-Scholes options-pricing theory, and for his part at Long-Term Capital Management, the hedge fund that nearly brought down the world credit markets when it came to grief just a year later in 1998.
Prof Merton was talking about a profoundly important subject. We know that the world’s credit markets were dangerously interconnected entering the crisis. He and a team at MIT are now working out how to measure that interconnectedness, in the hopes that by understanding the phenomenon we might be able to get to grips with it better this time. The alarming finding is that credit is even more interconnected now than it was before the crisis. The video appears here:
As we tried to cover a lot of ground in under five minutes, some extra detail on how Merton produced his findings might be useful – see after the break. Read more
Cyprus has finally struck a €10bn deal to become the fifth country “rescued” by the rest of the eurozone, after Greece, Ireland, Portugal and a special loan for Spain. Almost a third of the 17 countries in the single currency have now had to be rescued.
Unlike all the other deals, Cyprus gets immediate deflation, through heavy losses for depositors above €100,000 at its two biggest banks, Bank of Cyprus and Laiki. Read more
I have a lot of sympathy with the explosion of outrage both within Cyprus and internationally at the decision to
default on tax depositors of its banks.
It is just wrong that depositors, even large Russian tax-avoiders, are suffering while other senior bank creditors are excluded. It is wrong that Greek depositors in Cypriot banks are excluded, even though it was the Greek assets bought in large part with those deposits which caused a lot of the problems. And it is particularly wrong that small depositors are being hit, making a mockery of the deposit guarantee scheme.
Yet, there is risk in everything, and depositors were being compensated for the riskiness of Cypriot banks through higher interest rates. This chart shows the deposit rates paid on fixed-term deposits of less than a year (much of Cypriot deposits are fixed term, although even overnight deposits pay more interest than the rest of the eurozone).
Now, it is fair to say depositors generally don’t realise the risks they are running. Even when they do realise, they mostly don’t care (as Icesave showed in the UK): that’s the whole point of deposit guarantee schemes, after all. But in fact the compensation paid for the risk that it turned out depositors were running was about right. Read more
Today’s the deadline for European banks that want to repay early the emergency three-year loans from the European Central Bank. James Mackintosh, investment editor, consider the implications for the ECB and the currency wars.
Investors could hardly be more excited about the pressure on the Bank of Japan from new prime minister Shinzo Abe. Japanese equities have soared and the yen crumbled (until this week’s slight strengthening, at least) on hopes the BoJ will act more aggressively to end the deflation, which is widely blamed for crippling the economy.
The big plan is to push the BoJ into adopting a 2 per cent inflation target, double the 1 per cent goal it set last February. But given how badly it has missed that target, would 2 per cent really matter? Read more
Being widely hated is one thing, but being widely hated and poor is even worse. This fate almost befell Europe’s bankers earlier this summer. Share prices have soared in the past two months, so all the bankers now have to worry about is mobs with pitchforks.
Seriously, though, European banking seems to be returning to what passes for normal nowadays: money markets have stabilised, bond markets reopened and Americans are even willing (at a price) to put dollars back into French banks, as I discuss in today’s Short View video:
The result has been that eurozone bank shares were one of the smartest investments of the year – as long as you avoided the trouble periphery. This chart shows the split in returns from buying eurozone core or eurozone periphery banks. Read more
The new blog challenge: put these in order of how awful they’ve been since the euro was created:
- Greek banks
- Irish banks
- Spanish banks
- Italian banks
- French banks
- British banks
- German banks
- American banks
It is a serious challenge, given how much everyone hates all the banks. But if forced to choose, the order might reasonably go something like the above – the periphery, in order of rescue, middling eurozone, then the Brits (many of them already nationalised, plus the Libor-struck Barclays), followed by under-capitalised Germans and finally the resurgent Americans as the best of a bad bunch.
Equity investors don’t seem to share this view, as this great chart shows. Read more