Wall Street has had a spectacular 2009 if you consider that it is up almost 61% from its March bottom and almost 20% YTD.But the picture is not so pretty if one were to go back a bit in time.Over the last ten years investment in stocks has yielded negative returns.Forget the hype over the likes of Google and Apple for a while,$10,000 invested in 1999 is worth only slightly over $9,000 today.On the contrary the same amount invested in bonds or the 'dead asset' gold would have doubled or tripled your money in the same time.Anyway,where do we go from here.Opinion is divided.Several analysts expect the party to continue.They point to the continued Fed support and its reluctance to raise interest rates as prime reasons for the Dow to keep climbing.Others are not so sure.They say that current stock prices simply do not justify the growth and employment numbers being reported.It is argued that a large part of the growth so far is due to the cash for clunkers and the home buyers credit schemes,and therefore the present rebound is not sustainable.While conceding that the economy is 'back from the brink' and that all indicators point to it being headed in the right direction,it is said that economic growth will at best remain weak in the coming year.
The reasons for this pessimism are simple.Unemployment remains high and the real estate market is expected to remain weak till well into 2010.Another important reason is that Americans have started to save again!From a savings rate of almost zero it has now gone up to almost 4% and is expected to rise to 8% as people try to repair the damage to past savings and also prepare for possible unemployment.For an economy which is almost 70% made up of consumer spending this is bad news.And finally the Fed is only too aware that it cannot keep printing money without inflationary pressures building up.It may have to start exiting various stimulus programs sooner than people expect.Although one hopes for the best,the outlook for Wall Street in 2010 is getting a bit cloudy.
Saturday, January 2, 2010
Sunday, September 13, 2009
Credit Rating Agencies And The Financial Crisis.
September 15th 2008 will be remembered in financial circles as the 9/11 of the global financial system.This was the day Lehman Brothers filed for Chapter 11 bankruptcy protection.
While the world struggles to control the economic free-fall it is now being accepted that the financial crisis was triggered by a credit crisis which in turn was sparked off by a crisis of confidence.Lack of confidence in what?Wall Street's expansion over the last decade was fueled by innovative financial products.Loosely regulated investment banks called the shots,and so successful were they in making money that regular old fashioned banks set up similar enterprises or participated in this misadventure through 'off balance sheet entities', in order to avoid regulatory scrutiny.
How was it that these novel financial products or 'toxic assets' as they are now called became the preferred investment over other time tested financial assets?Quite simply it was a period of unprecedented financial expansion,a time when risk taking was fashionable and to give a very old explanation 'bad money' simply drove out the 'good money' from the system.Had all the experienced bankers with degrees from fancy Ivy League institutions gone collectively blind all of a sudden?Not at all.It is here that the role of the supposedly reliable rating agencies becomes questionable.By rating products as AAA, Aa1 etc. they induced innocent investors to gobble up these toxic assets.The poor investor paid a heavy price for relying on the supposed objectivity and integrity of these credit agencies.The extent of betrayal becomes clearer when you consider that it is legally binding on insurance companies and money market funds to invest only in assets which enjoy the highest rating given by a few Nationally Recognized Statistical Rating Organizations or NRSRO's. Amongst the best known are S&P,Moody's,Fitch etc.
While various probes have been ordered into the activities of investment banks none of these agencies have been touched.It must be understood that these agencies are as guilty as the investment banks because they were paid by these banks to rate their products.In brief they had a vested interest in the various offerings going through.Interestingly Moody's, probably the most successful rating agency over the last few years,is almost 20% owned by Warren Buffet's Berkshire Hathaway.
Bringing about greater transparency in the working of these agencies is the need of the hour and what better way to do so than asking them to make public the information on which their rating is based.Till such time the SEC makes such a rule investors risk being taken for a ride by an unscrupulous or careless rating agency.
While the world struggles to control the economic free-fall it is now being accepted that the financial crisis was triggered by a credit crisis which in turn was sparked off by a crisis of confidence.Lack of confidence in what?Wall Street's expansion over the last decade was fueled by innovative financial products.Loosely regulated investment banks called the shots,and so successful were they in making money that regular old fashioned banks set up similar enterprises or participated in this misadventure through 'off balance sheet entities', in order to avoid regulatory scrutiny.
How was it that these novel financial products or 'toxic assets' as they are now called became the preferred investment over other time tested financial assets?Quite simply it was a period of unprecedented financial expansion,a time when risk taking was fashionable and to give a very old explanation 'bad money' simply drove out the 'good money' from the system.Had all the experienced bankers with degrees from fancy Ivy League institutions gone collectively blind all of a sudden?Not at all.It is here that the role of the supposedly reliable rating agencies becomes questionable.By rating products as AAA, Aa1 etc. they induced innocent investors to gobble up these toxic assets.The poor investor paid a heavy price for relying on the supposed objectivity and integrity of these credit agencies.The extent of betrayal becomes clearer when you consider that it is legally binding on insurance companies and money market funds to invest only in assets which enjoy the highest rating given by a few Nationally Recognized Statistical Rating Organizations or NRSRO's. Amongst the best known are S&P,Moody's,Fitch etc.
While various probes have been ordered into the activities of investment banks none of these agencies have been touched.It must be understood that these agencies are as guilty as the investment banks because they were paid by these banks to rate their products.In brief they had a vested interest in the various offerings going through.Interestingly Moody's, probably the most successful rating agency over the last few years,is almost 20% owned by Warren Buffet's Berkshire Hathaway.
Bringing about greater transparency in the working of these agencies is the need of the hour and what better way to do so than asking them to make public the information on which their rating is based.Till such time the SEC makes such a rule investors risk being taken for a ride by an unscrupulous or careless rating agency.
Monday, September 7, 2009
Bankers' Bonuses-Are they Justified?
One of the most important issues that came up for discussion at the recently concluded G-20 summit in London was whether bankers' pay and bonuses should be capped.Predictably the French suggestion to 'tax and cap' bankers' salaries and bonuses did not find favor with U.S. and Brirish policymakers.
Such payments by banks and financial institutions to their CEO's and key employees has caused widespread public indignation in recent days.This is because while such institutions crashed in the wake of the economic meltdown,these employees were given the option to bail out with tens of millions of dollars in severance pay and benefits.The most glaring case is of AIG which proposed bonus payments of millions of dollars to its top employees while itself availing of a $170 billion bailout from the Fed.In short taxpayers money was being used to reward employees for running such institutions into the ground.
European nations,particularly Germany and France were most vocal in their criticism of this practice.Their opposition is not unreasonable.The practice of paying bonuses definitely encourages excessive 'risk taking' by the managers.In most cases the annual bonus component of the total emoluments was higher than the base salary.This describes the scenario prevailing till a couple of years back where bankers outdid each other in distributing loans with scant regard to whether they would be recovered or not.Accounting principles ensured that the banks could show healthy profits on such loans at the end of the year and nothing mattered as long as Wall Street cheered.The race to distribute money led to innovative financial offerings such as 'teaser rates' i.e. initial low rates of interest which automatically reset at much higher rates after a year or so.Incidentally it was these types of loans which triggered the present meltdown.
These countries have suggested a sensible alternative to to the current method of paying bonuses.They have put forward a proposal wherein an annual bonus would not be paid in one lumpsum but payment would be spread out over several years, with a part being paid in the form of equity in the company.In case a particular project made a loss then the deferred portion of the bonus was not to be paid.In short bonus payments are to be linked closely to the long term profitability of a company.
While the G-20 meeting did discuss various proposals on bankers' compensation no decision has been taken as yet.Nevertheless it has been realized that something needs to be done about it.
Such payments by banks and financial institutions to their CEO's and key employees has caused widespread public indignation in recent days.This is because while such institutions crashed in the wake of the economic meltdown,these employees were given the option to bail out with tens of millions of dollars in severance pay and benefits.The most glaring case is of AIG which proposed bonus payments of millions of dollars to its top employees while itself availing of a $170 billion bailout from the Fed.In short taxpayers money was being used to reward employees for running such institutions into the ground.
European nations,particularly Germany and France were most vocal in their criticism of this practice.Their opposition is not unreasonable.The practice of paying bonuses definitely encourages excessive 'risk taking' by the managers.In most cases the annual bonus component of the total emoluments was higher than the base salary.This describes the scenario prevailing till a couple of years back where bankers outdid each other in distributing loans with scant regard to whether they would be recovered or not.Accounting principles ensured that the banks could show healthy profits on such loans at the end of the year and nothing mattered as long as Wall Street cheered.The race to distribute money led to innovative financial offerings such as 'teaser rates' i.e. initial low rates of interest which automatically reset at much higher rates after a year or so.Incidentally it was these types of loans which triggered the present meltdown.
These countries have suggested a sensible alternative to to the current method of paying bonuses.They have put forward a proposal wherein an annual bonus would not be paid in one lumpsum but payment would be spread out over several years, with a part being paid in the form of equity in the company.In case a particular project made a loss then the deferred portion of the bonus was not to be paid.In short bonus payments are to be linked closely to the long term profitability of a company.
While the G-20 meeting did discuss various proposals on bankers' compensation no decision has been taken as yet.Nevertheless it has been realized that something needs to be done about it.
Saturday, September 5, 2009
GE CEO Speaks on How To Fix America!
In a recent speech at the Detroit Economic Club,GE CEO Jeff Immelt shared his thoughts on what he felt was wrong with the US economy and what should be done to fix it.
He was very clear about what is needed.He said.'We should set a national goal to create high value added jobs and have manufacturing jobs be no less than twenty percent of total employment,about twice what it is today.'He went on to add,'The last generation has been tougher on workers....In the fight between workers and management,the worker has suffered.'
He called for a renewed focus on manufacturing and R&D and that the US must once again become a leading exporter of manufactured goods.Here Immelt repeated the concern expressed by many that the decline in US manufacturing is seriously eroding the country's ability to innovate.With China already having become the workshop of the world can it be long before it becomes the world leader in technical innovation as well?But this requires an end to the idea that the US can retain its position as the most technologically advanced nation even as a services led,consumption based economy.This needs a change in focus from producing financial engineers selling shady mortgages to promoting proper PhD's.The US is in danger of losing the race as China now produces more PhD's than it.
The false prosperity of the bubble years has ended once and for all.If the US is to find a lasting solution to its economic problems it must rebuild its competitiveness.The government and the private sector must come together to promote scientific research,an area de-glamorized to such an extent that a dream job is only one on Wall Street and not in any research lab.Finally the hype surrounding outsourcing must be cut down.So far corporates have only talked about its increased profitability.They must now be willing to publicly admit to its downside as well.The real wages of American workers have not increased since 1980!Increased wages must follow increased productivity and profitability,if standards of living are to be raised.Allowing cheap imports is not the right way of doing this.Its time corporates stopped working to please Wall Street and started taking sound business decisions instead.
He was very clear about what is needed.He said.'We should set a national goal to create high value added jobs and have manufacturing jobs be no less than twenty percent of total employment,about twice what it is today.'He went on to add,'The last generation has been tougher on workers....In the fight between workers and management,the worker has suffered.'
He called for a renewed focus on manufacturing and R&D and that the US must once again become a leading exporter of manufactured goods.Here Immelt repeated the concern expressed by many that the decline in US manufacturing is seriously eroding the country's ability to innovate.With China already having become the workshop of the world can it be long before it becomes the world leader in technical innovation as well?But this requires an end to the idea that the US can retain its position as the most technologically advanced nation even as a services led,consumption based economy.This needs a change in focus from producing financial engineers selling shady mortgages to promoting proper PhD's.The US is in danger of losing the race as China now produces more PhD's than it.
The false prosperity of the bubble years has ended once and for all.If the US is to find a lasting solution to its economic problems it must rebuild its competitiveness.The government and the private sector must come together to promote scientific research,an area de-glamorized to such an extent that a dream job is only one on Wall Street and not in any research lab.Finally the hype surrounding outsourcing must be cut down.So far corporates have only talked about its increased profitability.They must now be willing to publicly admit to its downside as well.The real wages of American workers have not increased since 1980!Increased wages must follow increased productivity and profitability,if standards of living are to be raised.Allowing cheap imports is not the right way of doing this.Its time corporates stopped working to please Wall Street and started taking sound business decisions instead.
Sunday, August 23, 2009
Is Your Money Safe In The Bank?
Recent talk of stabilization of the economy and imminent recovery has served to divert public attention from the continuing banking crisis.The number of failed banks this year has already reached 81.Bloomberg reports that more than 150 publicly traded banks have toxic loans exceeding 5% of their loan portfolio,a level that can wipe out a bank's equity and push it into bankruptcy.This figure would definitely be much bigger if their portfolios were marked to market.These banks have combined deposits of $193 billion.The FDIC on its part is bankrupt.Its deposit insurance fund had $13 billion as on March 31st.The failures since then will cost it more than than this and it will have to draw on its credit line at Treasury,a polite way of saying that the taxpayer will have to foot the bill.
You need to remember the FDIC covers you only to the extent of $100,000 per person per bank.If you thoughtyou were safe if you had several accounts in different branches of the same bank you are wrong.This limit has not been raised since 1980.Increasing income levels and bank deposits have meant that today only about 62% of the depositors are insured,down from 82% in 1991.
To be fair the number of banks in trouble in the late 1980's and early 190's was almost 10% of the FDIC insured banks while the corresponding number this time is about 1%.But what troubles people is the lack of information they have about the financial health of banks.Almost all the banks have collapsed due to their exposure to residential housing and commercial real estate.Although the housing sector is showing signs of stabilization,this is only with regards to the number of units sold.Median prices as well as unit prices continue to fall and a new wave of foreclosures is expected to hit the market.Analysts estimate that almost 30% of all mortgages may be underwater by next year as unemployment continues to grow.
The impact this will have on the banking sector is obvious.Although it may be too early to stick your cash under your mattress,the list of banks in trouble is set to grow longer.
You need to remember the FDIC covers you only to the extent of $100,000 per person per bank.If you thoughtyou were safe if you had several accounts in different branches of the same bank you are wrong.This limit has not been raised since 1980.Increasing income levels and bank deposits have meant that today only about 62% of the depositors are insured,down from 82% in 1991.
To be fair the number of banks in trouble in the late 1980's and early 190's was almost 10% of the FDIC insured banks while the corresponding number this time is about 1%.But what troubles people is the lack of information they have about the financial health of banks.Almost all the banks have collapsed due to their exposure to residential housing and commercial real estate.Although the housing sector is showing signs of stabilization,this is only with regards to the number of units sold.Median prices as well as unit prices continue to fall and a new wave of foreclosures is expected to hit the market.Analysts estimate that almost 30% of all mortgages may be underwater by next year as unemployment continues to grow.
The impact this will have on the banking sector is obvious.Although it may be too early to stick your cash under your mattress,the list of banks in trouble is set to grow longer.
Wednesday, August 19, 2009
Identity Theft-Problem And Methods Of Protection.
Three men were indicted Monday for stealing 130 million credit/debit card details.The ease with which these people could do it is quite disturbing.This is the latest episode in a long list of such incidents.What is even more unfortunate is that most of these cyber crimes are being committed by foreigners living in countries with weak laws or weak enforcement against such crimes.Their law enforcement agencies also tend to ignore such incidents as the victims are foreigners.
Whatever the reason behind such incidents,there is now a real risk that all of us may have our identities stolen at least once in our lifetime.Although the financial loss suffered as aresult of such theft may not always be large,as banks and credit card companies usually pay up in cases of fraud,the impact may still be very painful.It often involves years of paperwork and legal wrangling before you are freed of any financial liability in the event of misuse of your credit card number.What is worse that your credit rating may be damaged making it much more difficult to get fresh loans in future and raising your interest charges a well.
The reason why such frauds happen are many.The most important reason perhaps is that credit card payment processing companies have promoted convenience and speed of payment at the expense of security.Encryption of stored credit card data is a simple way by which stealing and misuse of such data can be made more difficult.Although one can't help handing over his card to a shop assistant while making a payment,the chances of a card number being remembered and misused are slim.However what one should avoid under any circumstances is divulging personal information over the computer or telephone in what are known as 'phishing'or'vishing' scams.Other more dangerous attacks occur when unauthorized programs or 'malware' gets installed onto your computer and steals your information.Then there are 'pharming' attacks wherein fraudsters direct you to phony look-alike websites where you do not hesitate to reveal your personal details.
There are time tested methods to help you avoid becoming the victim of identity theft.When you come across an online bargain which is too good to be true just walk away.Don't open e-mail attachments unless you know the sender and only have financial transactions on secure sites.It is also a good idea to ask your credit card company to put an alert on your card so that your permission is required over telephone if someone tries to secure a fresh line of credit.Rather than use unsolicited cards which you receive in the mail it is also better to use those which you have applied for.Finally it is high time that a proper system of insurance against credit card misuse is put in place with the credit card companies being asked to contribute a part of their profits towards the premium.
There are time tested methods to help you avoid becoming the victim of identity theft.When you come across an online bargain which is too good to be true just walk away.Don't open e-mail attachments unless you know the sender and only have financial transactions on secure sites.It is also a good idea to ask your credit card company to put an alert on your card so that your permission is required over telephone if someone tries to secure a fresh line of credit.Rather than use unsolicited cards which you receive in the mail it is also better to use those which you have applied for.Finally it is high time that a proper system of insurance against credit card misuse is put in place with the credit card companies being asked to contribute a part of their profits towards the premium.
Monday, August 17, 2009
Is 'V'-Shaped Recovery Possible For U.S.Economy?
Now that most economists agree that the worst is over as far as the recession is concerned,the debate is shifting to what comes next.Various theories have been put forth regarding the shape of the recovery that will follow.You can choose from 'L' shaped,'U' shaped,'W' shaped,'staircase' shaped,'stop and go economy' etc. according to your own convictions.The list is long and the arguments for each are quite compelling.
Now James Glassman,senior economist at JP Morgan in New York has stuck his neck out and predicted a 'V' shaped recovery for the U.S. economy.He is supported by Lawrence Meyer who is a former Fed governor.JP Morgan expects growth in the coming quarters to exceed forecasts of 3 to 4 percent.Meyer expects growth to increase by 3.6% in 2010 and by 3.9% in 2011.They feel this is entirely possible because of large 'pent up' consumer demand.
These growth figures may be extremely optimistic given that since 2001,while the economy was booming,the growth rate exceede 3% only once in 2004.There are other equally convincing arguments which have been put forward against the above theory.It has been suggested that so called 'pent up' demand as a driver of growth works only if there is no spare capacity in the economy. In such a scenario any increase in demand immediately sets in motion the entire cycle of increasing prices,fresh investments and increasing employment.Presently there is plenty of spare capacity in the economy.Latest inflation figures show that consumer prices remained unchanged in July.Furthermore the Reuters/University of Michigan preliminary index of consumer sentiment fell to 63.2 in August from 66 in July as against forecasts of a rise to 69. Increasing unemployment is clearly taking its toll,and it is expected to touch 10% from 9.4% currently,before things get better.
Another reason why growth is likely to remain subdued is that U.S. households are burdened with debt. Due to large scale unemployment,the debt burden and difficulty in getting fresh loans,the savings rate has jumped from about zero to 8% presently and may go up further. After having pumped in about a trillion dollars into the banking system, the Fed is also likely to take a breather, although the easy money policy will definitely continue till the economy is well on its way to recovery.The Fed is only too aware that pumping unlimited amounts of money into the system may ultimately lead to runaway inflation.The unpreceented destruction of household wealth and the deleveraging of the economy in the wake of the financial crisis are other factors working to reduce demand.
Professor Nouriel Roubini holds an opposite view. While conceding that the recession will end sometime towards the end of this year,he warns that the U.S. economy is likely to witness sub-par growth of around 1% for the next couple of years.
Now James Glassman,senior economist at JP Morgan in New York has stuck his neck out and predicted a 'V' shaped recovery for the U.S. economy.He is supported by Lawrence Meyer who is a former Fed governor.JP Morgan expects growth in the coming quarters to exceed forecasts of 3 to 4 percent.Meyer expects growth to increase by 3.6% in 2010 and by 3.9% in 2011.They feel this is entirely possible because of large 'pent up' consumer demand.
These growth figures may be extremely optimistic given that since 2001,while the economy was booming,the growth rate exceede 3% only once in 2004.There are other equally convincing arguments which have been put forward against the above theory.It has been suggested that so called 'pent up' demand as a driver of growth works only if there is no spare capacity in the economy. In such a scenario any increase in demand immediately sets in motion the entire cycle of increasing prices,fresh investments and increasing employment.Presently there is plenty of spare capacity in the economy.Latest inflation figures show that consumer prices remained unchanged in July.Furthermore the Reuters/University of Michigan preliminary index of consumer sentiment fell to 63.2 in August from 66 in July as against forecasts of a rise to 69. Increasing unemployment is clearly taking its toll,and it is expected to touch 10% from 9.4% currently,before things get better.
Another reason why growth is likely to remain subdued is that U.S. households are burdened with debt. Due to large scale unemployment,the debt burden and difficulty in getting fresh loans,the savings rate has jumped from about zero to 8% presently and may go up further. After having pumped in about a trillion dollars into the banking system, the Fed is also likely to take a breather, although the easy money policy will definitely continue till the economy is well on its way to recovery.The Fed is only too aware that pumping unlimited amounts of money into the system may ultimately lead to runaway inflation.The unpreceented destruction of household wealth and the deleveraging of the economy in the wake of the financial crisis are other factors working to reduce demand.
Professor Nouriel Roubini holds an opposite view. While conceding that the recession will end sometime towards the end of this year,he warns that the U.S. economy is likely to witness sub-par growth of around 1% for the next couple of years.
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