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:
Much to the frustration of journalists, all we know officially about the Twitter IPO is this:
The Lehman bankruptcy was five years ago, as you may have noticed. Five years on, it is surprising what aspects of the pre-Lehman landscape have survived, and which have vanished. This came out in today’s Note video with Larry McDonald, author of A Colossal Failure of Common Sense, and a Lehman alumnus:
Note that while the recovery in the financial system has been in many ways remarkable, the securitisation market remains as dead as a dodo. These charts tell the story. First, here are the figures for asset-backed securities:
So there is a recovery in auto loans, but securitisation of home equity loans, by which Americans turned their homes into ATMs, seems to have ended. Next we can look at CDO issuance (not for the squeamish):
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:
Okay, not quite. But the current account tells you most of what you need to know. Since May, emerging countries which need to attract international capital – those with current account deficits – have seen their currencies and share prices slide and their bond yields jump. Those with a surplus have been hit much less hard.
John Authers has put up a nice chart from HSBC showing this for equities already. This chart from Keith Fray (usually on the FT Data blog) shows the close link between rising yields and a current account deficit (the outlier in the bottom left is Chile, running a current account deficit but a massive government surplus).
Ben Bernanke can move markets, and sometimes his words are too strong for his own good. That may have been true of his press conference last month, when he announced that he planned to start tapering off QE bond purchases later this year, and end them altogether by next summer. That drove a dramatic rise in Treasury yields, and in the dollar.
For a further classic example, look at the speed with which currency markets responded late on Wednesday and early on Thursday to a speech he made in Massachusetts, and to the minutes from last month’s meeting of the Federal Open Market Committee, published on Wednesday. The euro gained 4.5 cents against the dollar in a matter of minutes, while the pound gained almost 4 cents (or about 2.6 per cent).
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.
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.
While you consider the sell-off in Japan, here are a few charts, as of Thursday night prices:
Total returns (including dividends) on various asset classes for the year to date, in local currencies:
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.