A Fine Balance Between Transparency and Clarity

My title today is a quote by the CEO of Barclays Bank in describing the qualtity and quantity of information that they provide in their Annual Report.

Now to be fair the two words, transparency and clarity are not synonyms in each and every case of their use, but I wonder just what differentiation he intended to highlight by stating there was a need to achieve this fine balance between the two.

Perhaps he was referring to a potential lack of understanding on the part of the shareholders reading the Annual Report and so it was better to dumb things down such that they would be clear to even the most ignorant capitalist.

Or maybe he was focusing on the quants in the audience who want everything to be laid out in a transparent fashion that means give us all the numbers and considerations and we will draw our own conclusions.

Or perhaps he was just waffling and wishing to draw attention away from the recent decision to take a portfolio named Protium back on to its balance sheet.

Without going into great detail at the height of the financial crisis Barclays created a new company called C12 and put around $12.5 billion worth of toxic loans into it and then loaned the company the same $12.5 billion to finance the new vehicle called Protium. C12 and Protium were managed by the same Barclays personnel who were responsible for the portfolio in the first place.

Protium is also the name of a medicine to fight reflux so somehow aptly named in that the aim of the transaction was to ensure that these toxic assets didn't rear up and create heartburn of the highest degree for Barclays.

So far so good. A little creative accounting and Barclays doesn't have to hold capital against the positions and because it was then classified as a loan it didn't have to be marked to market daily creating volatility and frankly losses for Barclays.

So now they decide to bring it back onto their books. In so doing they first mark up the value of the portfolio by about $320 million although the indices relating to the assets in the portfolio fell over the period. They then pay the former Barclays bankers $83 million for the 18 months they managed the portfolio and for breaking the original contract-C12 was designed to run the portfolio down over a 10 year period.

Just to make things even more transparent Barclays has also agreed to buy out unidentified third-party investors in the fund for $270m. Or perhaps that bit falls under clarity.

The transparency and clarity provided by the transaction might not conform to Barclays original intentions for it would appear that they are shedding some light on their own subterfuge.

The Liberal Democrat Peer Lord Oakeshott certainly thinks so as he is requesting that Her Majesty's Revenue and Customs-the taxman-look into to this to ensure it wasn't just tax avoidance.

Finding that fine balance just got harder.

Carrion Eaters and other Foul Beings

My jump from anonymous donations to highlighting the lack of morals and responsibility of unbridled capitalism was referring to the the grain traders at the world's largest commodity trading house which is about to go public, Glencore. For those of you unfamiliar with the Glencore story I recommend you look into it. At its core is Mr Marc Rich. Never one to let anything get in the way of making money Mr Rich is infamous for his alleged transactions with rogue states.

I say alleged, for although the mighty CIA, itself no strong friend of moral rectitude nor stranger to questionable operations accused Mr Rich of numerous UN and US trade embargo violation, they were never able to take him to court. Why you might ask. Well, thanks to the largess of then President Clinton, he was granted a presidential pardon the result of which is that he will never have to answer to any of the allegations against him.

But to the question of manipulation and transparency. According to reports in the Financial Times, during the early stages of the drought in Russia last summer and prior to making public statements to the Russian authorities exhorting them to impose an export ban on Russian grains, the grain traders as Glencore made large speculative bets that the price of wheat and corn would rise.

Now there is nothing wrong with making speculative bets. It is the basic tenet of every investment. Yes, every investment, except for fraud where the investment result is known before the bet is made.

In this instance, the distinction takes on a new twist. The bets were made, and then the traders at Glencore made an concerted effort to influence the Russian authorities to act in their favour. This was all made made public in the pre-IPO information being marketed by the investment banks bringing the deal.

I have to assume this was in an attempt to illustrate both the trading acumen and their willingness to be more transparent. In any event Glencore stated that "[Glencore's] agricultural team received very timely reports from Russia farm assets that growing conditions were deteriorating aggressively in the spring and summer of 2010, as the Russian drought set in".

So far so good. But then on August 3, 2010 Mr Yury Ognev, head of Glencore's Russian grain unit encouraged Moscow to ban wheat exports. Glencore tried to distance itself saying that the statements were Mr Ognev's personal views. Interestingly on August 5Moscow imposed the ban sending the price of wheat 15% higher in 2 days.

Now over to Mr Sarkozy. In a similar vein as the chairman of the German Social Democrat party Mr Muentefering who claimed that 'hedge funds are like a plague of locusts', Mr Sarkozy blames the rise in global food prices on speculators.

I don't agree with Mr Muenterfering, or Mr Sarkozy, for they are focusing on the symptom of unbridled capitalism rather than looking to the cause-weak regulation and poor enforcement.

In any event, the statements made by Mr Ognev/Glencore- I really can't separate the two-are certainly prime examples of market manipulation and of how the desire for profit by a few can cause widespread fear and unrest-just ask the Chinese.

The Evils of Anonymous Donations

Along with my regular disgust of the Reagan Administration's removal of the the Fairness Doctrine in the media there is a new enemy of the people rearing its head in the laws which allow political donations to be made by corporations and kept anonymous.

I just don't get it. If some one or some body wants to make a political donation what on earth can be their real motive for wishing it to be anonymous? I am sure that there are an number of "right to privacy" scenarios which can be rolled out to defend this desire. I am equally confident that none of them can possibly compete with the demands of transparency which a democratic society must have as one of its basic tenants.

To my mind it is again a question of regulation. I am all for the freedoms that are granted by the constitution-I remain a staunch supporter of the overall system of government in the USA. But what is worrying me is the lack of integrity.

And this integrity cuts across many lines. I am referring to the dumbing down of political discourse which ends up in soundbite rhetoric reminiscent of Newspeak and finely honed by slick speechwriters and campaign managers whose desire is to win at any cost. And the cost is at the altar of populism.

But for a populist to be truly successful there remains the need for the powers behind the throne, and these are the anonymous donors. The politicians are generally no longer concerned with serving the people and the people are often enough not informed enough to make rational decisions.

And one of the major sources of misinformation are the political action committees which have moved from the murky world of translucense to the opaque world of manipulation.

And while we are on the topic of manipulation, and a perfect example of why we not only need regulations, but also non-corrupt enforcement, tomorrow my next post will aim to draw your attention to a group of traders that manage to make even President Sarkozy look like he has some morals.

Why Isn't It Perjury

In today's Weekend FT there is an article on Guy Hands and his Private Equity vehicle Terra Firma. Now I am respectful of Mr Hands vision as he brought the idea of private equity as an internal business to Nomura and pioneered the concept of asset based securitisation as a means of financing whole business purchases to the UK.

To be fair his first big coup was to take advantage of the grossly mismanaged process by the then Conservative UK government of selling off the railways and then guarantying 85% of the costs. Not a bad deal for Nomura and Mr Hands, but perhaps a little less so for the British taxpayer.

The same game was played in selling off the housing stock of the married personnel of Her Majesty's Military. Pure Thatcherism,and perhaps a precursor to the public debt/private profit results of the financial crisis bailouts.*

He got paid handsomely for so doing, and left Nomura a wealthy man to start his own firm. At Terra Firma he bought into the entertainment industry.

He purchased two cinema chains, Odeon and UCI and is now trying to sell them for somewhere between 10 and 12 times earnings. Suffice to say that this is optimistic. Maybe he is hoping that 3D will prove to be a great money spinner-until the pirates figure out how to copy it. It does put a bit of a spotlight on valuations though, depending if you are the seller, or the buyer.

But back to the title of my post today and the question of perjury. In a highly publicised trial Mr Hands tried to sue Citibank and his personal friend and banker David Wormsely claiming that he had been misled and tricked into paying £4 billion for EMI.

As it turns out this was a rather inflated price. So inflated that during his testimony in the trial Mr Hands estimated that the real value was around £1.8 billion. And yet today he rejected charges claiming that he had overpaid for EMI. He went on to say that if EMI merged with Warner it would have a combined value of £4 billion.

Now I know Mr Hands is reasonably good a math. He can't have it both ways. Or maybe Warner has negative equity.

I always thought that when on the stand one swore to tell the truth, the whole truth, and nothing but the truth.

I also thought that not to do so constituted perjury.

There aughta be a law.....

*Despite my frustration at the lack of moral hazard in the massive bailouts in the wake of the credit crisis I believe they were absolutely necessary. I also believe that a proper post mortem should have been done and those responsible should have be prosecuted according to the 3 "R's": relentlessly, remorselessly, and ruthlessly.

We've Been Here Before

Friends of mine have a Book Club to which I am a semi-vicarious member insofar that I read the books but don't participate in the dinners-they are all in New York. Two of the more recent readings were "The Best and the Brightest" by David Halberstrom and one of my all time favourites T.E. Lawrence's "The Seven Pillars of Wisdom"

The former is a clear illustration of how poor geopolitical understandings coupled with populist domestic politics can make a mountain out of a molehill, or perhaps better said, take the relative minor bumblings of the French in Indochina in the fifties and turn them into a full-fledged land war.

Vietnam was not the first time that the US got bogged down in an ideological war-we were in Korea-but it was followed with the abomination of Iraq and the pit of Afghanistan. Now the West is standing at the gates of a land war in Libya after discovering yet again that air strikes are a necessary but certainly not a sufficient action in winning wars, especially when they are as messy as the unraveling of Libya.

Mr Lawrence writes eloquently about the idiosyncrasies of the Middle East in his flowing prose. For those of you less enamoured with musings of a romanticist like Mr Lawrence I would direct you to Bernard Lewis' "From Babel to Dragomans".

Both books discuss the Muslim world although I believe Mr Lawrence's is all the more powerful as in the end he is personally confounded if not outright devastated by the tribalism of the Muslim world. Mr Lewis for his part does give a reasonable analysis as to why the region missed out on the creation of Nations and Nationalism which have defined the West most specifically since the late 18th century, but that is a longer discussion.

What is most bizarre is that it is exactly people like Colonel Qaddafi who have tried to create a nation-state and it is the intervention of the West that exacerbates the resurgence of the underlying tribalism which permeates much of the Arab world.

But I stray. Some four weeks ago as the military forces of the Qaddafi regime were about to crush the rebels in Benghazi which forced the West in general and the UN specifically to create an armed response to the imminent civilian catastrophe.

At the time the Germans were castigated by the West for not only abstaining from voting for the resolution, but were then roundly denounced by their NATO allies for not sending German arms again to the battlefields of North Africa.

Four weeks later, as the limits of air power have been reached the German fears are about to be realised. Specifically they were concerned about the eventual need to send ground troops. Qaddafi's forces are now threatening Misrata. The rebel forces who were so adamant that they didn't want Western troops but welcomed Western air power are now pleading for ground troops.

And the British, despite the fact that they are already overstretched militarily and are in the middle of a severe austerity plan have send advisers.

I can only say we have definitely been here before, and the result were always dog's breakfasts of the highest order.

Cuba Revisitied

As I had previously reported we went to Cuba earlier this year to visit the last functioning communist/socialist state. I had come away with a relatively positive view of the state. Recently however, there has been somewhat of a media campaign highlighting the troubles confronting Cuba.

First there was a program on German television discussing the beauty of the land, the music the people, and the fact that the state is rapidly running out of money. This was followed by an article in Die Zeit and this morning on BBC News was an extended report on Cuba.

Last November Raul Castro, Fidel's younger brother at a sprightly 80 years old changed the laws to allow Cubans to hire Cubans removing the state monopoly on employment with the exception of being able to hire family members.

The real driver behind this change was that the state was planning to cut 500,000 jobs which in a population of 11 million is quite an austerity measure. And that is the problem. Despite all the positive aspects of Cuba which attracted me to the country, Cuba is in deep trouble.

Its external debt is around US$40 billion and it is really not capable of servicing it. Granted that about 50% of the debt was to the Soviet Union and now Russia, but still it has not been a self-sustaining economy.

Cuba imports around 80% of its foodstuff requirements-the majority of which comes from the USA. The average monthly wage of a Cuban is $20. Surviving on this subsistence salary has only been possible due to food rationing and the heavy subsidies on housing, health and education.

But here is the problem. These handouts have bred a culture of dependency, with no incentives to work. Cuba's struggling inefficient economy can no longer afford to be so generous. This year's agricultural yield was the worst for 20 years and it looks to be one of the worst sugar crops specifically for even longer than that.

At yesterday's 50th anniversary of the defeat of the American-backed invasion at the Bay of Pigs Raul Castro announced amongst the sweeping changes of transforming Cuba into a social market economy that term limits of 10 years would apply to political leaders, including himself.

Lest the "free" world stand up and proclaim the fall of yet another "communist dictatorship" one should reflect a moment on the achievements of the revolution.

Life expectancy in Cuba is to 80-even longer than in the US. The child mortality rate is lower than that of the US. Almost all children are in school until they are 16 with a 90% literacy rate. And, from a social point of view perhaps most amazingly, Cuba has the lowest rate of crime including murder and violent crimes in all of Latin America.

I can only hope that this political/economic evolution that Raul is instigating will be able to steer a course that provides a more efficient socio-economic basis without losing the outstanding achievements of ridding the state from the clutches of organized crime and the murder, violence, drugs and general exploitation that accompanied it before Castro's victory in 1959.

The Merry-go-Round Continues

Well I have just finished my fourth week of work or as my wife describes it, day 20 in the Big Brother House. After two and a half years it was quite a shock, although not in the way that one might think. If we used to joke that the most common refrain of the retired was "No time, no time" and at the time I wondered how I had ever found the time to actually work, I am now in the reverse position where I don't quite understand where I am to find the time to "live"!

Twelve hour days in which I have to have a close eye on markets and restructure/rebuild and create a new paradigm for the fixed income markets which find themselves in the middle of a "back to the future" mindset is both a physical and intellectual challenge.

So what do i mean with my "back to the future" quote.

It's actually very simple. The large investment banks have had a relatively easy ride for the last two and a half years. After receiving the national bailouts so necessary and yet so decried by the Republican party, despite the fact that the TARP plan and Quantitative Easing were first instituted under Messrs Bush and Paulson, the banks had their funding costs cut to zero allowing them to essentially play a carry game.

Carry in this sense just means that they would fund overnight at .5% and invest in longer term AAA government assets that yielded 2.5-3%, depending on the maturity of the security purchased, and clear 2-2.5% "carry" profit. Add to that the positive effects on the market place and the yield curve of QE I and II and they not only accrued carry p&l, they also made capital gains on their positions.

So where are we today. With the introduction of Basle III and the more stringent requirements for Capital levels and risk weightings in assets held on bank balance sheets there was plenty for bankers to complain about. The most comment complaint was the projected decrease in profitability as a result of regulatory enforced deleveraging due to the increased capital requirements.

Of course at the same time it opened up a whole new business of unwinding bank portfolios which held securities that were no longer capital efficient under Basle III.

And not surprisingly, the creation of these portfolios, especially .the use of AAA rated CDO's, was as a result of Basle II.

I have always maintained that the change in the calculation of risk weightings, essentially going to a rating agency based methodology was one of the prime causes for the eventual credit crisis.

What is disturbing, but completely understandable is that the introduction of Basle III addresses some of the problems inherent in Basle II, and equally importantly, opens up the door to the massive unwinding of portfolios by the commercial banks who are basically distressed sellers of assets that in and of themselves are not necessarily distressed assets.

It just means that a new account base has to be found that is not subject to the same risk-weighted capital calculations as the banks. And, again unsurprisingly, it is the Hedge Funds and CDO managers who end up buying back assets at fire sale prices which they had previously sold to the bank as bull market prices.

And just to ensure that the circus continues, the insurance industry is in the throes of dealing with Solvency 2 requirements which will force them to restructure their portfolios predicated on capital efficiency, which is supposed to relate to creditworthiness.....

So were CDO'2.