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My first job as a financial journalist was covering British building societies, so the nationalisation of Bradford & Bingley £42bn mortgage book, with Banco Santander favourite to take on its £22bn of retail deposits and its 200-branch network is a striking event.

I used to write about building societies under the guidance of Robert Peston, who was then (in the early 1990s) banking editor of the FT and is now business editor of the BBC. So his assessment interests me:

The nationalisation will be seen as proof that the demutualisation of building societies - which began when Abbey National became a bank in 1989 - has been a colossal failure for both the former building societies and the British economy.

These specialist mortgage lenders were under such pressure to grow their profits, as public companies, that they became reckless adventurers in wholesale funding markets.

I think that is correct. Many of the building societies struck me at the time as being self-satisfied and complacent, largely because they had an very well-tested and safe way to make money. They simply maintained a spread between what they paid on retail deposits and what they charged for mortgages.

The business, in fact, approximated to the old saying about the banker: that he paid interest at three per cent, gave out loans at five per cent and was on the golf course by four o’clock.

Continue reading "How our mutual friends lost their way"

You might think that $2 - the sum that Nomura reportedly paid for the equities and investment banking franchises of Lehman Brothers in Europe - is cheap for a London-based investment bank.

However, since the dollar is trading at about $1.84 per pound at the moment, it is a slight premium (in nominal terms at least) to the ₤1 that ING paid for the remains of Barings in 1995.

There are bargains to be had when the financial sector gets itself into a scrape.

I see (via Felix Salmon) that the credit default swap marked, distrusted by Chris Cox of the Securities and Exchange Commission and beloved by Alan Greenspan, now believes that the US government is more likely to default on its debts than McDonald’s.

FT Alphaville reports that:

One broker quoted McDonald’s CDS at about 26.5 basis points, compared with 30bp for the US, on Friday morning and another desk quoted both about 25bp. The picture has worsened since the news that politicians and public servants in Washington failed to seal a financial bail-out deal on Thursday night. McDonald’s closed at 28bp versus 25bp for the US on Thursday, according to Markit.

The Economist magazine calculates purchasing power parity of currencies using the Big Mac Index - the price which you have to pay for the company’s flagship hamburger in various countries.

Perhaps we should also have a Big Mac Swap Spread - the gap between the price of CDS on McDonald’s debt and US Treasuries. At the moment, the BMSS shows that investors trust Ronald McDonald more than Hank Paulson.

Actually, this makes some kind of sense, even if the US government has a triple-A rating from the credit agencies. Other banking crises, in Japan and Scandinavian countries, have led to sovereigns being downgraded.

In addition, the US government is taking the brunt of the financial crisis and the economic downturn, whereas McDonald’s cashflow could rise as a result. People have a tendency to comfort themselves with cheap food, such as chocolates and hamburgers, in recessions.

Further to my post below, here is Luis Zingales on the liquidity versus solvency flaws in the Paulson plan, and “a smart friend” of Greg Mankiw retorting.  According to the latter, it is “academic” economists who oppose the plan. Meow.

As John McCain makes his way to Washington to save the nation, a deal seems to be about to be struck on the $700bn bail-out package proposed by Hank Paulson, the Treasury secretary.

Meanwhile, a consensus is forming elsewhere that Mr Paulson and Ben Bernanke, chairman of the Federal Reserve, are taking aim at the wrong side of the balance sheet of the US banking system.

George Soros argues in the FT this morning, as Martin Wolf did the previous day, that the $700bn would be more efficiently spent on recapitalising US banks and then letting them get on with their business, rather than attempting to set a new price for the mortgage securities at the heart of the crisis.

That would be more in tune with, for example, the approach taken by Scandinavian countries during their own banking crisis in the 1990s.

Continue reading "A $700bn shot at the wrong financial target"

My FT column this week this week is on Goldman Sachs, recipient of $5bn from Warren Buffett, and whether it can keep combining private profit and public service:

A lot of people used to think that Goldman Sachs ran the US economy. Now we know it does.

On Tuesday morning, Hank Paulson, the US Treasury secretary and former chairman and chief executive of Goldman, testified to Congress about his plan to buy $700bn of mortgage securities. He wants to scoop up these assets as rapidly, and with as little interference, as possible in a manner yet to be fixed.

On Tuesday evening, Goldman declared that Warren Buffett, the legendary investor, was handing it $5bn of new capital in the form of preference shares and the bank would follow up with a $5bn equity sale. For investment banking rivals that have fallen by the wayside, or had to hunt overseas for funds, it showed who is top of the heap.

Mr Paulson’s stewardship of the crisis-hit economy – despite the role that investment banks have played in bringing it down – and Goldman’s bravura capital-raising are typical. Goldman partners are not only smarter than the average Wall Street bear, but often turn up in “public service”, running finance ministries and central banks.

They have been very adept at first making money for themselves and then trading the financier’s life for that of the power broker. Even in a Wall Street-induced crisis, it feels safer to have Mr Paulson at the US Treasury than Paul O’Neill, or John Snow, his Main Street predecessors. His bald pate and manner are scary but he is no ingenue.

This Wall Street crash, however, has made the latent conflict of interest between Goldman’s public and private faces uncomfortably real. Mr Paulson insists that, in his current job, he cares only about “the American taxpayer”, yet Goldman has been one of the prime beneficiaries of recent interventions by the Treasury and the Federal Reserve.

Even if you accept, as I do, that Mr Paulson is a man of principle who tries his best to put his country first, this is troubling.

You can read the rest here and comment below.

Listening to Chris Cox, the chairman of the Securities and Exchange Commission, giving evidence to Congress a few minutes ago, I was particularly struck by his assault on the lack of regulation of the over-the-counter derivatives market.

Mr Cox described the unregulated $58,000bn credit default swaps market as “ripe for fraud and manipulation”, saying that it was a forum for the shorting of corporate debt without the oversight imposed on cash markets.

It was, of course, Congress that chose in 2000 not to extend regulation to OTC derivatives markets, as I noted in my column on Saturday. One of the most influential proponents of not regulating OTC derivatives was Alan Greenspan, then chairman of the Federal Reserve.

Mr Greenspan told Congress in 2000 that regulation of the OTC derivatives market was not needed because:

“OTC transactions in financial derivatives are not susceptible to - that is, easily influenced by - manipulation.”

So then, the OTC derivatives market. Not susceptible to manipulation, or ripe for it? What a difference eight years, and a global financial crisis, make!

At the time, Mr Greenspan’s reputation and influence was at its height, and Congress went along with his assessment. I presume that it will now change its mind.

It is extremely rare for my prophecies to come true within a week, so I am gratified that Goldman Sachs and Morgan Stanley have come round to my point of view and thrown in the towel as independent investment banks.

Instead, they are turning into bank holding companies, regulated by the Federal Reserve, which puts them on a par with commercial banks and provides an even bigger backstop from the Fed.

However, I have to admit that my column last week specifically predicted that Morgan Stanley would allow itself to be taken over by a commercial bank, while Goldman would instead scale back its broker-dealer operations.

I expected that Goldman would prefer to operate more like Blackstone or a big hedge fund. It would place even greater emphasis on its asset management side rather than giving in to pressure and taking shelter within - or as - a bank.

In fact, Goldman has taken the same route as Morgan Stanley. I suppose the truth was that the latter path would have required Goldman to cut its headcount significantly and morph back into a much smaller institution.

The path of least resistance, for its employees and executives, was to simply turn itself into something the market liked better.

For the moment, that probably makes little difference to how Goldman operates - it has already scaled back its leverage to within Fed limits and its capital and liquidity position should be adequate.

But, hard as it is to imagine, there will one day be another market boom. When that happens, Goldman will be more constrained than before. That is no bad thing; it is certainly not something on which it had much choice.

Update: Felix Salmon records how Goldman changed its tune.

I have a piece in New York magazine this week on the credit crisis and the city. You can read it here.

I am glad that Hank Paulson, who wants to raise a $700bn US government fund to buy distressed mortgage securities in an effort to restore confidence to financial markets, is an old Wall Street hand.

In a world where Sarah Palin, the US Republican vice-presidential nominee, claims expertise about Russia because it can been seen from her home state of Alaska, it is reassuring to have a US Treasury secretary with actual experience.

It is definitely more comforting to have Mr Paulson in the hot-seat than John Snow or Paul O’Neill, his predecessors.

That said, Mr Paulson’s background as the former chairman and chief executive of Goldman Sachs, does raise questions.

Continue reading "Hank Paulson is shocked, shocked by Wall Street"