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.
Sunday, September 13, 2009
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.
Sunday, August 16, 2009
Will the U.S. economy get a 2nd stimulus?
Influential voices are suggesting that the U.S. economy needs a 2nd stimulus package.Warren Buffett while agreeing that the original cause for the recession was the housing bubble says that there probably should be a 2nd stimulus now,but he cautions that he would not expect miracles from it.His views are echoed by Princeton University economist and Nobel Prize winner Paul Krugman.He says that the U.S. economy is stabilizing and may have bottomed out.He estimates that the stimulus plan may have saved a million jobs so far.Yet he feels that another stimulus plan,one that is directed at state and local governments as well as infrastructure spending is required.This is particularly important because faced with revenue shortfalls due to the slowdown many state governments are either cutting expenditure or are raising taxes,with both actions being contrary to what is required to pull out of recession!
Some of President Obama's advisers are also veering around to this view.Among them is Laura Tyson who is former chair of the U.S. President's Council of Economic Advisers during the Clinton Administration.She is amongst those who feel that the $787 billion stimulus package passed earlier this year was not large enough.
What is nagging this school of thought is that unemployment continues to rise and may cross 10% by the end of the year.When the stimulus bill was passed it was expected that the unemployment rate would be capped at 8%.This hasn't happened because the economy turned out to be worse than experts forecast on which the stimulus program was based.
So far Obama's response to these voices has been a definite 'no'.He has urged patience to allow the stimulus to work as planned.He points out that in a recession unemployment recovers more slowly than other measures of economic activity.International speculator and financier George Soros agrees with Obama.He too believes a 2nd stimulus is not needed as rising interest costs could easily derail a weak economic recovery.
There are several reasons why Obama is avoiding committing himself to a 2nd stimulus package at the moment.While he urges people to be patient and allow the full effects of the present stimulus to kick in it is difficult for him to simultaneously push for another package.More important is the impact a 2nd stimulus would have on the budget deficit.As it is the deficit is expected to reach $1.82 trillion in fiscal 2009.This is causing concern not just at home but more importantly abroad as well amongst leading lenders to the U.S., notably China and the Middle East.Experts warn that higher budget deficits could raise interest rates on government debt to as high as 7%.In this situation even a Democratic majority may not be enough to get another stimulus through Congress.
Some of President Obama's advisers are also veering around to this view.Among them is Laura Tyson who is former chair of the U.S. President's Council of Economic Advisers during the Clinton Administration.She is amongst those who feel that the $787 billion stimulus package passed earlier this year was not large enough.
What is nagging this school of thought is that unemployment continues to rise and may cross 10% by the end of the year.When the stimulus bill was passed it was expected that the unemployment rate would be capped at 8%.This hasn't happened because the economy turned out to be worse than experts forecast on which the stimulus program was based.
So far Obama's response to these voices has been a definite 'no'.He has urged patience to allow the stimulus to work as planned.He points out that in a recession unemployment recovers more slowly than other measures of economic activity.International speculator and financier George Soros agrees with Obama.He too believes a 2nd stimulus is not needed as rising interest costs could easily derail a weak economic recovery.
There are several reasons why Obama is avoiding committing himself to a 2nd stimulus package at the moment.While he urges people to be patient and allow the full effects of the present stimulus to kick in it is difficult for him to simultaneously push for another package.More important is the impact a 2nd stimulus would have on the budget deficit.As it is the deficit is expected to reach $1.82 trillion in fiscal 2009.This is causing concern not just at home but more importantly abroad as well amongst leading lenders to the U.S., notably China and the Middle East.Experts warn that higher budget deficits could raise interest rates on government debt to as high as 7%.In this situation even a Democratic majority may not be enough to get another stimulus through Congress.
Friday, August 14, 2009
It's Your Economy Now Mr. Obama!
There are signs of recovery in Europe's two largest economies.Germany and France have reported 0.3% economic growth in the second quarter of this year.This has surprised most economists who were expecting the American economy to lead Europe out of recession,dependant as they are on exports to the U.S.The recovery was largely due to the stimulus packages announced by their respective governments which boosted consumer spending.
The Chinese economy has grown by 7.1% in the first half of 2009.Retail sales are up 15% compared with the same month last year.Chinese leaders are optimistic that domestic consumption will boost the economy and make up for the decline in exports.
On the other hand the U.S. economy is still shrinking,although the pace of decline is slowing.This seems odd given that economies of the above mentioned countries are heavily dependant on exports to the U.S. Somehow they have implemented their stimulus packages more efficiently and with much less public bickering than the U.S.
President Obama gained tremendous political mileage in his election campaign from the financial mess the country was in.His popularity remained largely unaffected in the first few months of his Presidency.Now suddenly people are taking a harder look at his economic achievements and his approval rating has dropped sharply to about 50% only.Obama is sticking to his earlier stand that it is all Bush's fault.'The recession was years in the making,it didn't just start last month.The bank crisis did not start on my watch.Let's get the history straight,'he says.
There are fewer takers for this argument now than there were earlier.When Obama was pushing his stimulus plan he had said that its purpose was to immediately jumpstart job creation as well as long term economic growth.Now he says that the recovery plan was not designed to work over four months, rather it is designed to work over two years.
So what has gone wrong?What's wrong is that not more than 15% of the $787 billion stimulus package has been spent so far.Most of it will be spent only after 2009! Instead of wrangling over how to spend the money and where, the government should have simply distributed the money amongst taxpayers through lower taxes and direct grants.Unfortunately this idea was rejected and Congress retained stimulus spending decisions in its own hands rather than allowing ordinary Americans to decide what they wanted to do with their money.
Figures out Thursday do not present the picture of an improving economy.Retail sales fell 0.1% in July inspite of the 'cash for clunkers program,'and the back to school shopping season.Excluding autos retail sales were down 0.6%.Labor department figures suggest that new jobless claims rose last week over the prevous week.Foreclosure filings in July were 32% higher from the same month last year and they have risen 7% from June to July this year.Analysts predict that 30% of all mortgages may be underwater by next year.Unemployment too is expected to cross 10% and start declining only from the second half of next year.It's your economy now Mr. Obama.Blaming Bush for everything won't do anymore.
The Chinese economy has grown by 7.1% in the first half of 2009.Retail sales are up 15% compared with the same month last year.Chinese leaders are optimistic that domestic consumption will boost the economy and make up for the decline in exports.
On the other hand the U.S. economy is still shrinking,although the pace of decline is slowing.This seems odd given that economies of the above mentioned countries are heavily dependant on exports to the U.S. Somehow they have implemented their stimulus packages more efficiently and with much less public bickering than the U.S.
President Obama gained tremendous political mileage in his election campaign from the financial mess the country was in.His popularity remained largely unaffected in the first few months of his Presidency.Now suddenly people are taking a harder look at his economic achievements and his approval rating has dropped sharply to about 50% only.Obama is sticking to his earlier stand that it is all Bush's fault.'The recession was years in the making,it didn't just start last month.The bank crisis did not start on my watch.Let's get the history straight,'he says.
There are fewer takers for this argument now than there were earlier.When Obama was pushing his stimulus plan he had said that its purpose was to immediately jumpstart job creation as well as long term economic growth.Now he says that the recovery plan was not designed to work over four months, rather it is designed to work over two years.
So what has gone wrong?What's wrong is that not more than 15% of the $787 billion stimulus package has been spent so far.Most of it will be spent only after 2009! Instead of wrangling over how to spend the money and where, the government should have simply distributed the money amongst taxpayers through lower taxes and direct grants.Unfortunately this idea was rejected and Congress retained stimulus spending decisions in its own hands rather than allowing ordinary Americans to decide what they wanted to do with their money.
Figures out Thursday do not present the picture of an improving economy.Retail sales fell 0.1% in July inspite of the 'cash for clunkers program,'and the back to school shopping season.Excluding autos retail sales were down 0.6%.Labor department figures suggest that new jobless claims rose last week over the prevous week.Foreclosure filings in July were 32% higher from the same month last year and they have risen 7% from June to July this year.Analysts predict that 30% of all mortgages may be underwater by next year.Unemployment too is expected to cross 10% and start declining only from the second half of next year.It's your economy now Mr. Obama.Blaming Bush for everything won't do anymore.
Thursday, August 13, 2009
U.S. Govt. July Budget Deficit Crosses $180 Billion.
The budget deficit for the month of July has reached $180.68 billion as the U.S. government struggles to pull the economy out of recession.What isn't helping matters is that because of the economic slowdown tax revenues have also taken a beating. The millions of unemployed people and falling corporate profitability has led to sharp declines in both personal and corporate tax receipts this year.Total receipts have fallen $354 billion or 17% from the same period in fiscal 2008. Government spending on the other hand has risen by $524 billion or 21% during the same period.The wars in Iraq and Afghanistan as well as the bailout packages announced by the government for various sectors of the economy have all contributed their bit to this mess. The net result is a deficit exceeding $1 trillion in the first ten months of this fiscal. It is predicted that the total deficit will reach $1.84 trillion by the end of this year, almost 12.9% of total G.D.P. However this figure is projected to decline to a deficit of $1.26 trillion in 2010,as the economy recovers and also because of cost cutting measures taken by the government.Almost 121 programs have been axed!
So far the Fed has got away with it. But there is no way it can duck the uncomfortable question, of how it plans to finance this deficit going forward, for ever. Various creditors of the U.S., particularly the Chinese have already made it clear that they are worried about their investment in U.S. Treasuries and would not mind looking for a substitute. They fear that reckless U.S. government spending will cause inflation to spike, forcing the government to increase interest rates. This will reduce the value of their existing holdings. Moreover inflationary pressures will dampen U.S. economic growth which will weaken the U.S. dollar further. This too would lead to losses on their investments in U.S. Treasuries. If they slow down future purchases of U.S. government bonds the Fed may have to raise interest rates more sharply than it wants to. This may threaten the fragile economic improvement that we are witnessing right now.
President Obama on his part is attacking his critics."The recession was years in the making, it didn't just start last month.The bank crisis did not happen on my watch.Let's get the history straight,"he said. But his approval ratings have slipped to about 50% now, the lowest since his inauguration. If he fails to get his health care bill through it would signal that finally the American voter is beginning to oppose his policies.
So far the Fed has got away with it. But there is no way it can duck the uncomfortable question, of how it plans to finance this deficit going forward, for ever. Various creditors of the U.S., particularly the Chinese have already made it clear that they are worried about their investment in U.S. Treasuries and would not mind looking for a substitute. They fear that reckless U.S. government spending will cause inflation to spike, forcing the government to increase interest rates. This will reduce the value of their existing holdings. Moreover inflationary pressures will dampen U.S. economic growth which will weaken the U.S. dollar further. This too would lead to losses on their investments in U.S. Treasuries. If they slow down future purchases of U.S. government bonds the Fed may have to raise interest rates more sharply than it wants to. This may threaten the fragile economic improvement that we are witnessing right now.
President Obama on his part is attacking his critics."The recession was years in the making, it didn't just start last month.The bank crisis did not happen on my watch.Let's get the history straight,"he said. But his approval ratings have slipped to about 50% now, the lowest since his inauguration. If he fails to get his health care bill through it would signal that finally the American voter is beginning to oppose his policies.
Tuesday, August 11, 2009
Is The Bull Market Back Again?
An increasing number of market analysts are predicting that this is the start of a new bull market in equities.The latest to lend support to this theory is Abby Joseph Cohen of Goldman Sachs.She feels that the new bull market started in March of this year and that markets can rally a further 10% from here.She sees the S&P 500 index at between 1050-1100 by the end of the year. But she feels that labor markets will be slow to improve and will do so in an erratic way,although the recession,if we use GDP numbers,is almost over.Typically the economy starts improving a few months before the labor market feels the impact.However she has predicted a 'staircase' kind of recovery instead of a 'V' shaped one.
Why is the economic gloom lifting suddenly?There are several indicators that things may finally be brightening up.Firstly and most importantly there is good news on the housing front.Residential home sales are improving and inventories are going down.Housing and related industries put together are perhaps the largest employers in the economy.Upbeat housing data is expected to positively impact both employment as well as consumer spending.However home prices need to stop falling before this sector really picks up again.Then again banks have started repaying TARP funds which indicates easier liquidity conditions in the market.Key indicators of perceived credit risk in the economy are down below 1%.Second quarter results posted by companies have been encouraging.Key sectors like technology,commodities and financials are rallying once again which suggests that industrial activity is picking up once more.
Nevertheless there are diehard skeptics who say that the present recovery in the stock market is nothing but a sucker's rally.Their argument is simple.They point out that that it was the deflation in home prices which triggered the bear market and the recession in the fall of 2007.There are still no signs that housing prices have stabilized.Latest figures show that although the rate of decline in prices is slowing,prices are still down over 12% this quarter from what they were a year ago.Experts are warning that they expect almost 30% of all mortgages to be underwater by next year,and a new wave of foreclosures is set to hit the market.The commercial real estate market being in the greatest danger of collapse.The profitability of companies has improved this quarter due to cost cutting and not due to any improvement in their sales figures.If this were not enough the average American has started saving.The savings rate is around 8% presently and may rise to 10%.This points to weak economic growth going forward.Added to all this is the fear that interest rates may start rising by the end of the year to prevent runaway inflation expected as a result of the loose monetary policy being followed by the Fed.
However convincing this argument may sound, it ignores one basic fact.There are about $11 trillion on the sidelines waiting for an opportunity to be invested.Stock prices like prices of any other article are more a function of money availability rather than of value.Excess money in the system can only lead to higher stock prices in the short to medium term.The 'Bull' is definitely back for the time being.
Why is the economic gloom lifting suddenly?There are several indicators that things may finally be brightening up.Firstly and most importantly there is good news on the housing front.Residential home sales are improving and inventories are going down.Housing and related industries put together are perhaps the largest employers in the economy.Upbeat housing data is expected to positively impact both employment as well as consumer spending.However home prices need to stop falling before this sector really picks up again.Then again banks have started repaying TARP funds which indicates easier liquidity conditions in the market.Key indicators of perceived credit risk in the economy are down below 1%.Second quarter results posted by companies have been encouraging.Key sectors like technology,commodities and financials are rallying once again which suggests that industrial activity is picking up once more.
Nevertheless there are diehard skeptics who say that the present recovery in the stock market is nothing but a sucker's rally.Their argument is simple.They point out that that it was the deflation in home prices which triggered the bear market and the recession in the fall of 2007.There are still no signs that housing prices have stabilized.Latest figures show that although the rate of decline in prices is slowing,prices are still down over 12% this quarter from what they were a year ago.Experts are warning that they expect almost 30% of all mortgages to be underwater by next year,and a new wave of foreclosures is set to hit the market.The commercial real estate market being in the greatest danger of collapse.The profitability of companies has improved this quarter due to cost cutting and not due to any improvement in their sales figures.If this were not enough the average American has started saving.The savings rate is around 8% presently and may rise to 10%.This points to weak economic growth going forward.Added to all this is the fear that interest rates may start rising by the end of the year to prevent runaway inflation expected as a result of the loose monetary policy being followed by the Fed.
However convincing this argument may sound, it ignores one basic fact.There are about $11 trillion on the sidelines waiting for an opportunity to be invested.Stock prices like prices of any other article are more a function of money availability rather than of value.Excess money in the system can only lead to higher stock prices in the short to medium term.The 'Bull' is definitely back for the time being.
Wednesday, August 5, 2009
TARP May Be Profitable For The Government!
Wonders will never cease.Recently while announcing that some institutions will be allowed to repay TARP funds, Treasury Secretary Tim Geithner announced that the Fed ,and therefore the taxpayer,had made a profit of about $6 billion on the bailout funds given to banks via The Troubled Assets Relief Program. True TARP funds were not being given out free of cost in the first place,there being a 5%annual dividend on preferred stock and the requirement that the beneficiary issue warrants to the government which it could repurchase later hopefully at a premium.But critics of the scheme did not even expect a full repayment of the principal let alone anything by way of dividend or premium on repurchase of warrants.They were quite vocal in their criticism of the scheme and charged the government with overpaying for the preferred stock which it got from the institutions which got TARP funds.It is claimed that the government may have paid as much as $159 billion more in aid than it received in securities.
Now as things stand, not only has the Fed made a tidy profit by way of interest and dividends, but it also stands to net a substantial profit due to an increase in the value of the shares and warrants it holds in these institutions. The stock market has risen almost 50% from the lows it touched earlier this year and is poised to rise further given the steady stream of encouraging news about the economy. Goldman Sachs which repaid its TARP funds in time not only paid a dividend of $318 million to the government but it also repurchased its warrants for about $1.1 billion. In the process the government netted an annualized return of 23% on the money it gave to Goldman Sachs last year. Likewise American Express has also repurchased its warrants for $340 million with the government making an annualized profit of 26% on the money injected into American Express.
But it's not been a one way street for the government.Apart from the above high profile deals there have been several small banks also that have repaid TARP funds and repurchased their warrants, but at a discount. This is to be expected because warrants by their very nature are highly illiquid instruments, and apart from those issued by the best known names in the business, are unlikely to find ready buyers. Nevertheless the government's claim, when it issued TARP funds, that it was likely to make a profit on the scheme doesn't sound all that far fetched any more.
However the government has not been forthcoming about the true cost of TARP funds to it, inasmuch it is silent about the interest it has to pay on them and also the administrative costs involved. These costs may in fact never be accurately worked out. But given the gravity of the crisis facing the economy it will have been worthwhile even if the government breaks even on the scheme.
Now as things stand, not only has the Fed made a tidy profit by way of interest and dividends, but it also stands to net a substantial profit due to an increase in the value of the shares and warrants it holds in these institutions. The stock market has risen almost 50% from the lows it touched earlier this year and is poised to rise further given the steady stream of encouraging news about the economy. Goldman Sachs which repaid its TARP funds in time not only paid a dividend of $318 million to the government but it also repurchased its warrants for about $1.1 billion. In the process the government netted an annualized return of 23% on the money it gave to Goldman Sachs last year. Likewise American Express has also repurchased its warrants for $340 million with the government making an annualized profit of 26% on the money injected into American Express.
But it's not been a one way street for the government.Apart from the above high profile deals there have been several small banks also that have repaid TARP funds and repurchased their warrants, but at a discount. This is to be expected because warrants by their very nature are highly illiquid instruments, and apart from those issued by the best known names in the business, are unlikely to find ready buyers. Nevertheless the government's claim, when it issued TARP funds, that it was likely to make a profit on the scheme doesn't sound all that far fetched any more.
However the government has not been forthcoming about the true cost of TARP funds to it, inasmuch it is silent about the interest it has to pay on them and also the administrative costs involved. These costs may in fact never be accurately worked out. But given the gravity of the crisis facing the economy it will have been worthwhile even if the government breaks even on the scheme.
Monday, August 3, 2009
U.S. Unemployment-What Lies Ahead.
Unemployment in the U.S. which has already reached 9.5% is predicted to hit 9.6% when the next jobless figures are released. If this wasn't bad enough everybody from Obama and Geithner to Roubini predict that job losses will only get worse and probably cross 10% by the end of the year. They are expected to peak at about 10.6% sometime next year and decline gradually thereafter. This gloomy prediction comes amidst signs that the economy may be bottoming out.
These numbers are very significant for U.S. policy makers given that consumption expenditure accounts for almost 70% of U.S. G.D.P. Growing unemployment threatens to cap any rebound that the economy may witness as businesses rebuild inventories and residential housing stabilizes.Particularly difficult will be to time the withdrawal of stimulus funds from the economy. Economists the world over are warning that unless a plan to gradually withdraw excess liquidity is put in place, the world may witness runaway inflation and the consequences that follow. On the flip side, any increase in interest rates threatens to derail a fragile economic recovery.
Just how bad is the unemployment problem? It's really bad. The official unemployment figure of 9.5% only tells half the story. There are many more who are working only part time or have dropped out of the labor force.Making things worse is that the U.S. savings rate has shot up from 0% to almost 8%. At the same time those who want to spend are unable to borrow. Given that the value of household assets,be it homes or stocks, has plummeted even creditworthy consumers can no longer borrow as much as they used to before. In this scenario, given the dependance on consumption, the U.S. economy can create only a limited number of jobs in the near term.
Experts say that it will require sustained growth of 2.5% and above to create new jobs in the U.S. economy. Additionally, the tendency of U.S. corporates to outsource production to low cost centers outside the U.S. will need to be checked. Giving additional tax breaks if production is undertaken within the U.S. would be a welcome step.
Of late Bernanke sounds increasingly confident that things are under control. He has been joined by the former Fed chief Greenspan who too feels that the economy is on the mend. A few days back Bernanke had said that the Fed had been devoting considerable attention to issues relating to its exit strategy. He felt confident that the Fed has the necessary tools to implement the strategy when appropriate. He said 'We will not allow the broad measures of money circulating in the economy to rise at a rate that will cause inflation eventually'.
These numbers are very significant for U.S. policy makers given that consumption expenditure accounts for almost 70% of U.S. G.D.P. Growing unemployment threatens to cap any rebound that the economy may witness as businesses rebuild inventories and residential housing stabilizes.Particularly difficult will be to time the withdrawal of stimulus funds from the economy. Economists the world over are warning that unless a plan to gradually withdraw excess liquidity is put in place, the world may witness runaway inflation and the consequences that follow. On the flip side, any increase in interest rates threatens to derail a fragile economic recovery.
Just how bad is the unemployment problem? It's really bad. The official unemployment figure of 9.5% only tells half the story. There are many more who are working only part time or have dropped out of the labor force.Making things worse is that the U.S. savings rate has shot up from 0% to almost 8%. At the same time those who want to spend are unable to borrow. Given that the value of household assets,be it homes or stocks, has plummeted even creditworthy consumers can no longer borrow as much as they used to before. In this scenario, given the dependance on consumption, the U.S. economy can create only a limited number of jobs in the near term.
Experts say that it will require sustained growth of 2.5% and above to create new jobs in the U.S. economy. Additionally, the tendency of U.S. corporates to outsource production to low cost centers outside the U.S. will need to be checked. Giving additional tax breaks if production is undertaken within the U.S. would be a welcome step.
Of late Bernanke sounds increasingly confident that things are under control. He has been joined by the former Fed chief Greenspan who too feels that the economy is on the mend. A few days back Bernanke had said that the Fed had been devoting considerable attention to issues relating to its exit strategy. He felt confident that the Fed has the necessary tools to implement the strategy when appropriate. He said 'We will not allow the broad measures of money circulating in the economy to rise at a rate that will cause inflation eventually'.
Sunday, August 2, 2009
U.S. Economy--Recovery In Sight?
President Obama warned Saturday it would take 'many more months' for the U.S. to get out of recession even after GDP figures for the 2nd quarter were much better than expected, showing the economy shrank only 1% as against an expected 1.5%. What seems to worry him most is the worsening unemployment situation as figures due out next week are expected to show that more Americans are losing work.
Dr. Roubini had earlier expressed similar views. He said the recession will last roughly 24 months and will be over by year's end. 'I am not forecasting economic growth before year's end', he said.
Nevertheless the consensus is that the worst is definitely behind us and the economy should be returning to the growth path. The only debate now is over how soon recovery will start and how strong it will be. Analysts are now willing to stick their necks out and are predicting that recovery will start in the 3rd quarter itself. The most important reason for this, they say, is inventory rebuilding after businesses aggressively liquidated inventories in the earlier part of the year. Boosted by the 'cash for clunkers' scheme auto demand is expected to increase as is the demand for other consumer durables. The residential housing downturn also seems to have finally hit bottom and there are welcome signs of a rebound. Countrywide home resales in June are up 9% since January this year and the sales of new homes has risen 17%. Construction has climbed 20% and prices are showing signs of perking up. The impact of the fiscal stimulus as well as increased government spending is beginning to be felt.
What now worries analysts is whether the recovery will be a 'W' shaped one or it will be a steady climb out of the financial abyss. There is a definite possibility of the former as once the impetus provided by boosting inventory levels loses steam the economy may start a second leg downwards. Other factors contributing to this possibility are weak final demand due to high rates of unemployment, continuous de-leveraging by the private sector and excess capacity in the economy.
Dr. Roubini feels we are in a deep 'U' shaped recession and that recovery will be weak with growth averaging about 1% over the next couple of years. The latest GDP numbers have however led many analysts to revise growth projections sharply upwards from 0.5% to 3-4% in the third quarter as firms rebuild business inventories and housing ceases to be a drag. Growth is expected to soften once again over the longer term as the economy struggles to create jobs once again. Even the FOMC expects the labor market to improve gradually only from 2010 onwards, and the economy may take five or six years to converge to a sustainable growth rate.
Dr. Roubini had earlier expressed similar views. He said the recession will last roughly 24 months and will be over by year's end. 'I am not forecasting economic growth before year's end', he said.
Nevertheless the consensus is that the worst is definitely behind us and the economy should be returning to the growth path. The only debate now is over how soon recovery will start and how strong it will be. Analysts are now willing to stick their necks out and are predicting that recovery will start in the 3rd quarter itself. The most important reason for this, they say, is inventory rebuilding after businesses aggressively liquidated inventories in the earlier part of the year. Boosted by the 'cash for clunkers' scheme auto demand is expected to increase as is the demand for other consumer durables. The residential housing downturn also seems to have finally hit bottom and there are welcome signs of a rebound. Countrywide home resales in June are up 9% since January this year and the sales of new homes has risen 17%. Construction has climbed 20% and prices are showing signs of perking up. The impact of the fiscal stimulus as well as increased government spending is beginning to be felt.
What now worries analysts is whether the recovery will be a 'W' shaped one or it will be a steady climb out of the financial abyss. There is a definite possibility of the former as once the impetus provided by boosting inventory levels loses steam the economy may start a second leg downwards. Other factors contributing to this possibility are weak final demand due to high rates of unemployment, continuous de-leveraging by the private sector and excess capacity in the economy.
Dr. Roubini feels we are in a deep 'U' shaped recession and that recovery will be weak with growth averaging about 1% over the next couple of years. The latest GDP numbers have however led many analysts to revise growth projections sharply upwards from 0.5% to 3-4% in the third quarter as firms rebuild business inventories and housing ceases to be a drag. Growth is expected to soften once again over the longer term as the economy struggles to create jobs once again. Even the FOMC expects the labor market to improve gradually only from 2010 onwards, and the economy may take five or six years to converge to a sustainable growth rate.
Saturday, August 1, 2009
Porsche vs. VW-What went wrong for Porsche?
For long Porsche had been a niche player in the world automobile market producing popular sports cars. It was also one of the most profitable auto companies. It then hit upon the daring idea of taking over VW, the largest European automaker, a company almost fifteen times its own size. For years it quietly built up its shareholding in VW till it reached a little over 50%. It also purchased options for an additional 20% of the shares in VW. How they managed to keep their moves and intentions secret is a mystery which is unlikely to be solved anytime soon.
Speculators,intrigued by the stability in the price of VW shares went short on a large scale. They took it on the chin to the tune of about 30 billion euros after Porshe announced that it controlled almost 75% of all VW shares. For a brief period VW became the world's most valuable company as short sellers scrambled to cover their short positions and VW's share price soared to over 1000 euros. The German regulator BaFin concluded an inquiry into possible share price manipulation by Porsche in the company's favor.
Now all of a sudden the boot's on the other foot. Porsche has agreed to be taken over by VW! What went wrong for Porsche? Following the collapse of Lehman Bros. all kinds of credit simply dried up,especially for the kind of adventure undertaken by Porsche. The economic crisis and the collapse of the auto industry in particular only made things worse. Porsche found it could not profitably hold on to its options and other investments. Additional finance was simply not available. Now it's burdened with about nine billion euros in debt and may have to bring in almost five billion euros in additional capital before merging with VW. The middle east is once again the beneficiary of this financial misadventure. The Sheik of Qatar is rumored to be putting in about seven billion euros in return for a seventeen percent stake in VW, making him its third largest shareholder.
As for the two Porsche executives who masterminded this gamble, their CEO Wendelin Wiedeking and the CFO Holger Haerter, they have been shown the door. They will not leave empty handed though. Wiedeking will receive a fifty million euro payoff while Haerter will receive twelve and a half million. They may receive additional money through other agreements or bonuses.
VW plans to merge Porsche fully with itself by mid 2011.
Speculators,intrigued by the stability in the price of VW shares went short on a large scale. They took it on the chin to the tune of about 30 billion euros after Porshe announced that it controlled almost 75% of all VW shares. For a brief period VW became the world's most valuable company as short sellers scrambled to cover their short positions and VW's share price soared to over 1000 euros. The German regulator BaFin concluded an inquiry into possible share price manipulation by Porsche in the company's favor.
Now all of a sudden the boot's on the other foot. Porsche has agreed to be taken over by VW! What went wrong for Porsche? Following the collapse of Lehman Bros. all kinds of credit simply dried up,especially for the kind of adventure undertaken by Porsche. The economic crisis and the collapse of the auto industry in particular only made things worse. Porsche found it could not profitably hold on to its options and other investments. Additional finance was simply not available. Now it's burdened with about nine billion euros in debt and may have to bring in almost five billion euros in additional capital before merging with VW. The middle east is once again the beneficiary of this financial misadventure. The Sheik of Qatar is rumored to be putting in about seven billion euros in return for a seventeen percent stake in VW, making him its third largest shareholder.
As for the two Porsche executives who masterminded this gamble, their CEO Wendelin Wiedeking and the CFO Holger Haerter, they have been shown the door. They will not leave empty handed though. Wiedeking will receive a fifty million euro payoff while Haerter will receive twelve and a half million. They may receive additional money through other agreements or bonuses.
VW plans to merge Porsche fully with itself by mid 2011.
Sunday, June 21, 2009
Are The Markets Right About The Recession?
Wall Street has had a run up of almost 40% over the last three months. The reason is slightly weird. The market cheered news that was less bad than expected. Die hard believers in the efficiency of the stock market insist that the recession ended sometime this spring. They claim that markets typically look forward at least nine months and they predict the economy will start recovering by the end of the year.
The pessimists are not convinced. They say that although the panic that set in after Lehman Brothers collapsed seems to have subsided the economy is still in decline. A lower rate of decline does not equal a recovery they say. Unemployment rates are rising and that will cap any stock market rally as more people have less money to spend. In any case the stock market has been wrong in the past as there are several instances of bear market rallies even during the Great Depression. They warn of another dip in economic activity before a slow recovery sets in, a classic example of a 'W' shaped recovery. A temporary improvement in economic activity, as businesses rebuild inventory dumped onto the markets at a discount after the credit markets froze,should not be confused with a recovery.
Nevertheless it is hard to ignore the signs of stabilization emerging around us. The Leading Indicators Index which considers consumer goods orders, building permits and several other data points rose in May by 1.2%, the second increase in as many months. The housing market also appears to be improving,by at least as far as the number of houses sold is concerned although not by prices. Cheaper homes are finally attracting buyers and people are beginning to have greater confidence about future incomes. Figures due to be released shortly are expected to show that both existing homes sales as well as fresh homes sales posted a healthy increase in May, helped by low mortgage rates and Obama's $8000 first time home buyer tax credit. The 'cash for clunkers' scheme will pump in additional billions of dollars into the ailing auto sector.
Typically recessions end before people realize they have ended. The economy is expected to start recovering by the last quarter of this year if not earlier. The experts may have got it right this time after all.
The pessimists are not convinced. They say that although the panic that set in after Lehman Brothers collapsed seems to have subsided the economy is still in decline. A lower rate of decline does not equal a recovery they say. Unemployment rates are rising and that will cap any stock market rally as more people have less money to spend. In any case the stock market has been wrong in the past as there are several instances of bear market rallies even during the Great Depression. They warn of another dip in economic activity before a slow recovery sets in, a classic example of a 'W' shaped recovery. A temporary improvement in economic activity, as businesses rebuild inventory dumped onto the markets at a discount after the credit markets froze,should not be confused with a recovery.
Nevertheless it is hard to ignore the signs of stabilization emerging around us. The Leading Indicators Index which considers consumer goods orders, building permits and several other data points rose in May by 1.2%, the second increase in as many months. The housing market also appears to be improving,by at least as far as the number of houses sold is concerned although not by prices. Cheaper homes are finally attracting buyers and people are beginning to have greater confidence about future incomes. Figures due to be released shortly are expected to show that both existing homes sales as well as fresh homes sales posted a healthy increase in May, helped by low mortgage rates and Obama's $8000 first time home buyer tax credit. The 'cash for clunkers' scheme will pump in additional billions of dollars into the ailing auto sector.
Typically recessions end before people realize they have ended. The economy is expected to start recovering by the last quarter of this year if not earlier. The experts may have got it right this time after all.
Monday, May 11, 2009
The Chrysler-Fiat Marriage.Will It Work?
After a very brief courtship ,Fiat and Chrysler announced earlier this year that they had reached a deal under which Fiat will acquire 35% Stake in Chrysler, the ailing U.S. automaker.It would seem at first sight that this may mark the end of Chrysler's troubles, but it is not so.Under the deal Fiat is not bringing in any money into Chrysler. In return for its stake in Chrysler it will just supply its latest fuel efficient technology to it.Fiat plans to convert a couple of Chrysler's U.S. factories to producing Fiat's small and medium sized vehicles. It's dealers worldwide will also sell Chrysler cars besides its own vehicles. In theory at least this should be a big plus for Chrysler which has a limited presence in overseas markets. Fiat argues that this will not only strengthen Chrysler's product range which is presently loaded in favor of trucks and SUV's, but also increase its global sales.
This marriage seems to have the blessings of the Obama administration,most probably because there are no other suitors for Chrysler. As a gift the government will give billions in fresh loans to Chrysler.It has also persuaded its major creditors to write down the value of their loans and accept about 29 cents to the dollar instead of trying to recover more by auctionong off the whole company.This has cleared the way for a sale in which Chrysler will be divided into two, with the good parts going to Fiat and the unviable parts being sold off.
The only question that now needs to be answered is, will it work? Fiat's exposure to the U.S. market and U.S. automakers is not new. It licensed its first plant in the U.S. in 1910 and its cars fetched a premium. This plant was shut down when theU.S. joined World War II in 1917. Later it again entered the U.S. market but withdrew in 1989, facing complaints over quality and competition from Japanese vehicles.GM acquired a stake in Fiat in 2000 with an option to purchase the entire company. In case GM chose not to buy out Fiat it had to pay a penalty of $2 billion! GM chose to pay the penalty and dissolved the agreement with Fiat in May 2005. Now Fiat is saddled with a car company that is constantly losing market share. Fiat seems to think that it is in a win-win situation as it is not paying cash for Chrysler and is only bringing in technology,besides spending time managing it. But car companies all over the world are losing money and closing plants.Fiat's introduction of a low volume niche product in the U.S., even if successful against Japanese and other American cars, is unlikely to make much of a difference to Chrysler's fortunes. Unless a miracle happens the marriage will last only as long as the U.S. government is willing to fund Chrysler.
This marriage seems to have the blessings of the Obama administration,most probably because there are no other suitors for Chrysler. As a gift the government will give billions in fresh loans to Chrysler.It has also persuaded its major creditors to write down the value of their loans and accept about 29 cents to the dollar instead of trying to recover more by auctionong off the whole company.This has cleared the way for a sale in which Chrysler will be divided into two, with the good parts going to Fiat and the unviable parts being sold off.
The only question that now needs to be answered is, will it work? Fiat's exposure to the U.S. market and U.S. automakers is not new. It licensed its first plant in the U.S. in 1910 and its cars fetched a premium. This plant was shut down when theU.S. joined World War II in 1917. Later it again entered the U.S. market but withdrew in 1989, facing complaints over quality and competition from Japanese vehicles.GM acquired a stake in Fiat in 2000 with an option to purchase the entire company. In case GM chose not to buy out Fiat it had to pay a penalty of $2 billion! GM chose to pay the penalty and dissolved the agreement with Fiat in May 2005. Now Fiat is saddled with a car company that is constantly losing market share. Fiat seems to think that it is in a win-win situation as it is not paying cash for Chrysler and is only bringing in technology,besides spending time managing it. But car companies all over the world are losing money and closing plants.Fiat's introduction of a low volume niche product in the U.S., even if successful against Japanese and other American cars, is unlikely to make much of a difference to Chrysler's fortunes. Unless a miracle happens the marriage will last only as long as the U.S. government is willing to fund Chrysler.
Sunday, May 10, 2009
What The Bank Stress Test Conceals!
In order to restore public confidence in the health of the U.S. banking system,the Fed decided to put nineteen of the biggest banks,each with assets of over $100 billion, through a 'stress test.' Since these banks together form about 65% of the U.S. banking system, it was felt that maintaining their health was of utmost importance in order to protect the entire banking system.Though the idea was conceived way back in September of last year it was implemented now.
The Fed's anxiety is reflected in the way this test was conducted.Discussions with the banks resulted in a more lenient test than originally planned and the results were 'leaked' a few days in advance. The official results showed that nine banks passed the test and would not need to raise any additional capital.The remaining ten banks would need to raise about $75 billion of additional capital which is lower than expected.
Even before the results were announced banks had announced their first quarter results for this fiscal which beat street estimates.But the real picture is not as rosy as it appears at first sight.Banks at the moment have borrowing costs which are close to zero.Additionally, due to changes in mark-to-market accounting rules by the FASB they are managing to avoid making write downs in the values of their loan portfolios.This also allows lower provisioning for future loan losses. Make no mistake, such losses are going to be substantial.Residential housing prices have still to hit bottom and the meltdown in commercial real estate prices has just begun. Rising unemployment is bound to increase credit card delinquencies.
Although banks are finding it very profitable to make new loans as the cost of borrowing is virtually zero, the stress test is silent about as to how these banks will go about repairing their damaged balance sheets. The visible options are that either the banks will raise more capital from private investors or the government will convert preferred shares into common stock. In all probability some mixture of the two alternatives will be pursued though it will dilute the value of the stocks held by present investors. Finally the test tells nothing about how the banking system is going to rid itself of the 'toxic assets' that continue to haunt these banks.All in all the banks continue to be weak and a lot of uncertainty still lies ahead.
The Fed's anxiety is reflected in the way this test was conducted.Discussions with the banks resulted in a more lenient test than originally planned and the results were 'leaked' a few days in advance. The official results showed that nine banks passed the test and would not need to raise any additional capital.The remaining ten banks would need to raise about $75 billion of additional capital which is lower than expected.
Even before the results were announced banks had announced their first quarter results for this fiscal which beat street estimates.But the real picture is not as rosy as it appears at first sight.Banks at the moment have borrowing costs which are close to zero.Additionally, due to changes in mark-to-market accounting rules by the FASB they are managing to avoid making write downs in the values of their loan portfolios.This also allows lower provisioning for future loan losses. Make no mistake, such losses are going to be substantial.Residential housing prices have still to hit bottom and the meltdown in commercial real estate prices has just begun. Rising unemployment is bound to increase credit card delinquencies.
Although banks are finding it very profitable to make new loans as the cost of borrowing is virtually zero, the stress test is silent about as to how these banks will go about repairing their damaged balance sheets. The visible options are that either the banks will raise more capital from private investors or the government will convert preferred shares into common stock. In all probability some mixture of the two alternatives will be pursued though it will dilute the value of the stocks held by present investors. Finally the test tells nothing about how the banking system is going to rid itself of the 'toxic assets' that continue to haunt these banks.All in all the banks continue to be weak and a lot of uncertainty still lies ahead.
Saturday, May 9, 2009
'Porsche'-Auto Company Or Hedge Fund?
Thorsten Jacobs,a car industry analyst described Porsche as 'an investment bank with a car showroom attached.' Maybe with good reason.Under Holger Harter, its finance director,Porsche has been making more money from financial market operations than from selling cars,for the last several years.
It was Ferdinand Porsche, the founder of Porsche who had designed the Volkswagen Beetle,before setting up his own company which bears his name till this day.
So why was Porsche dabbling in stocks instead of concentrating on selling cars? Its long term goal has been to acquire VW,a company almost fifteen times its own size! Using cash-settled options Harter ensured that Porsche had cornered almost 75% of VW shares by October 2008. Strangely market speculators could never guess Porsche's interest in VW. The credit crunch had hit the auto industry very hard and auto shares all over the world were in freefall. VW shares defied logic and refused to budge. Hedge fund managers, sensing a killing, short sold VW shares in huge quantities.They reasoned that that it could not be long before VW shares also started sliding, following the likes of GM and Toyota. But this did not happen. The reason behind this was revealed on 26th October 2008 when Porsche announced that it controlled almost 75% of all VW shares.Hell broke loose on the trading floors on Monday,and by Tuesday VW shares crossed the 1000 euro mark as short sellers, caught on the wrong foot, desperately tried to cover their positions. In the process, VW now valued at 287 billion euros, briefly became the world's most valuable company.
Hedge funds, hit with losses of almost 30 billion euros, cried foul, prompting an investigation by the German regulator BaFin. Porsche on its part denied any wrongdoing. 'It is the funds themselves that are responsible, with their huge bets on a fall in VW shares that never happened,' a Porsche spokesman said. Porsche further offered to help hedge funds settle their loss making short positions on VW by offering to unwind some of its own positions.
In January this year Porsche announced that it had taken over VW by purchasing more than 50% of its shares. Thereafter in March, Germany's financial regulator BaFin halted its probe into Porsche regarding a possible manipulation in VW shares.'We didn't find any indications for a share manipulation,' said a spokesperson. Now on Wednesday after several weeks of talks, Porsche and VW have announced plans to merge, in the process creating a German car giant and one of the world's largest auto companies.
It was Ferdinand Porsche, the founder of Porsche who had designed the Volkswagen Beetle,before setting up his own company which bears his name till this day.
So why was Porsche dabbling in stocks instead of concentrating on selling cars? Its long term goal has been to acquire VW,a company almost fifteen times its own size! Using cash-settled options Harter ensured that Porsche had cornered almost 75% of VW shares by October 2008. Strangely market speculators could never guess Porsche's interest in VW. The credit crunch had hit the auto industry very hard and auto shares all over the world were in freefall. VW shares defied logic and refused to budge. Hedge fund managers, sensing a killing, short sold VW shares in huge quantities.They reasoned that that it could not be long before VW shares also started sliding, following the likes of GM and Toyota. But this did not happen. The reason behind this was revealed on 26th October 2008 when Porsche announced that it controlled almost 75% of all VW shares.Hell broke loose on the trading floors on Monday,and by Tuesday VW shares crossed the 1000 euro mark as short sellers, caught on the wrong foot, desperately tried to cover their positions. In the process, VW now valued at 287 billion euros, briefly became the world's most valuable company.
Hedge funds, hit with losses of almost 30 billion euros, cried foul, prompting an investigation by the German regulator BaFin. Porsche on its part denied any wrongdoing. 'It is the funds themselves that are responsible, with their huge bets on a fall in VW shares that never happened,' a Porsche spokesman said. Porsche further offered to help hedge funds settle their loss making short positions on VW by offering to unwind some of its own positions.
In January this year Porsche announced that it had taken over VW by purchasing more than 50% of its shares. Thereafter in March, Germany's financial regulator BaFin halted its probe into Porsche regarding a possible manipulation in VW shares.'We didn't find any indications for a share manipulation,' said a spokesperson. Now on Wednesday after several weeks of talks, Porsche and VW have announced plans to merge, in the process creating a German car giant and one of the world's largest auto companies.
Thursday, April 30, 2009
Can The Dow Jones Rally Any Further?
On the 9th of March this year the Dow closed at 6547,its lowest close in more than twelve years.It has come a long way since then,closing at 8185 yesterday,a gain of over 25% in about seven weeks.Although it needs to put on another 75% from current levels to be anywhere near the peak of 14164 that it touched on October 9th 2007,the present rally is nothing short of spectacular and somewhat inexplicable considering that things have not really improved much.
In a recent report the I.M.F. has estimated that global losses due to the present crisis may touch $4 trillion.It had originally estimated that total losses would be only about $1 trillion,a figure which has already been exceeded.The U.S. Fed acknowledges that the U.S. economy continues to contract,although the speed of the fall has slowed somewhat.
At the bottom of the mess are the toxic assets,primarily mortgage backed securities that the financial system is saddled with.Not only have they lost value but they are also extremely illiquid.Almost all financial institutions have been compelled to undertake distress sales of blue chip assets to cover the losses caused by these securities.The Fed has now announced that it will buy up to $1.25 trillion worth of such securities.This is welcome news to the holders of these securities as it will not only improve liquidity but may also serve to set benchmarks for valuing these otherwise hard to value assets.This in turn may also lead to a revival of sorts in the market for these assets.
So where does the Dow go from here?This is a trillion dollar question.Certain things have to be kept in mind before taking a call on its future direction.According to Roubini the financial system will have to writedown another$2.4 trillion in losses.The I.M.F. puts the figure closer to $2 trillion!Considering that U.S. companies have only written down about $1 trillion so far it would appear that we are not even halfway through the process.The financial sector accounted for almost 8% of G.D.P. and almost 35% of corporate profits.What cannot be ignored is that the weightage of the top financial companies like G.E.,A.I.G.,BoA,Citigoup etc.along with G.M.,put together, was about 25% before the crisis started.These companies are now worth a fraction of their earlier value and are in fact battling for survival. Even if they do survive, thanks to intervention by the government it is going to take them several years to regain their financial health.In this scenario it may not be long before the Dow starts its downward journey once again.
In a recent report the I.M.F. has estimated that global losses due to the present crisis may touch $4 trillion.It had originally estimated that total losses would be only about $1 trillion,a figure which has already been exceeded.The U.S. Fed acknowledges that the U.S. economy continues to contract,although the speed of the fall has slowed somewhat.
At the bottom of the mess are the toxic assets,primarily mortgage backed securities that the financial system is saddled with.Not only have they lost value but they are also extremely illiquid.Almost all financial institutions have been compelled to undertake distress sales of blue chip assets to cover the losses caused by these securities.The Fed has now announced that it will buy up to $1.25 trillion worth of such securities.This is welcome news to the holders of these securities as it will not only improve liquidity but may also serve to set benchmarks for valuing these otherwise hard to value assets.This in turn may also lead to a revival of sorts in the market for these assets.
So where does the Dow go from here?This is a trillion dollar question.Certain things have to be kept in mind before taking a call on its future direction.According to Roubini the financial system will have to writedown another$2.4 trillion in losses.The I.M.F. puts the figure closer to $2 trillion!Considering that U.S. companies have only written down about $1 trillion so far it would appear that we are not even halfway through the process.The financial sector accounted for almost 8% of G.D.P. and almost 35% of corporate profits.What cannot be ignored is that the weightage of the top financial companies like G.E.,A.I.G.,BoA,Citigoup etc.along with G.M.,put together, was about 25% before the crisis started.These companies are now worth a fraction of their earlier value and are in fact battling for survival. Even if they do survive, thanks to intervention by the government it is going to take them several years to regain their financial health.In this scenario it may not be long before the Dow starts its downward journey once again.
Wednesday, April 29, 2009
U.S. Economy Slides 6.1% In Obama's 1st 100 Days.
Figures released early Wednesday showed the U.S. economy shrank at an annualized rate of 6.1% during the first hundred days of Obama's Presidency.These figures were worse than expected. Experts had predicted a decline of about 5%.
To be fair to Obama he has not been able to set any economic agenda.He inherited an economic meltdown and has been simply trying to get the economy back on track.So far, all he can be credited with is the passage of a $787 billion stimulus plan.The stimulus plan has also not led to any significant increase in government spending so far.Government spending has actually declined by almost 4% in this period. Both home prices and home sales continue to fall, and unemployment continues to rise.
Many see the first glimmers of hope . Consumer sentiment has shown a marginal improvement and consumer spending is showing signs of stabilising.The benefits of increased government spending and tax cuts are also expected to kick in from the month of May, and Wall Street is back to where it was when Obama took office.Nevertheless the fact is that the economy continues to be as bad as it was in the last quarter of last year when it contracted at an annual rate of 6.3%.
Many experts caution against being overly optimistic about the near future.They say that the current optimism stems from the fact that companies have announced quarterly results that are not as bad as expected.But this does not take away from the fact that both sales and profits continue to fall, it is just that the rate of fall is slightly slower.They emphasise that the jobless rate is at 8.5% and will in all likelihood hit 10% by the end of the year.U.S. exports have fallen 30% and are unlikely to revive any time soon. Spending on home building as well as fresh business investment are all down sharply.A 2.2% increase in consumer spending can best be described as a blip.This is because increasing unemployment, declining wealth and tougher lending conditions will continue to exert a downward pressure on consumer spending and thereby on manufacturing.High unemployment will also raise default levels on both consumer and corporate loans which will further affect the health of the financial system
Clearly the economic crisis is still to find its trough. There is more pain to come.Recovery is bound to be a slow and lengthy process.
To be fair to Obama he has not been able to set any economic agenda.He inherited an economic meltdown and has been simply trying to get the economy back on track.So far, all he can be credited with is the passage of a $787 billion stimulus plan.The stimulus plan has also not led to any significant increase in government spending so far.Government spending has actually declined by almost 4% in this period. Both home prices and home sales continue to fall, and unemployment continues to rise.
Many see the first glimmers of hope . Consumer sentiment has shown a marginal improvement and consumer spending is showing signs of stabilising.The benefits of increased government spending and tax cuts are also expected to kick in from the month of May, and Wall Street is back to where it was when Obama took office.Nevertheless the fact is that the economy continues to be as bad as it was in the last quarter of last year when it contracted at an annual rate of 6.3%.
Many experts caution against being overly optimistic about the near future.They say that the current optimism stems from the fact that companies have announced quarterly results that are not as bad as expected.But this does not take away from the fact that both sales and profits continue to fall, it is just that the rate of fall is slightly slower.They emphasise that the jobless rate is at 8.5% and will in all likelihood hit 10% by the end of the year.U.S. exports have fallen 30% and are unlikely to revive any time soon. Spending on home building as well as fresh business investment are all down sharply.A 2.2% increase in consumer spending can best be described as a blip.This is because increasing unemployment, declining wealth and tougher lending conditions will continue to exert a downward pressure on consumer spending and thereby on manufacturing.High unemployment will also raise default levels on both consumer and corporate loans which will further affect the health of the financial system
Clearly the economic crisis is still to find its trough. There is more pain to come.Recovery is bound to be a slow and lengthy process.
Tuesday, April 28, 2009
Is The U.S. Turning 'Pink'?
Beleaguered U.S. auto giants G.M. and Chrysler inched towards agreements Monday, that would help them avoid bankruptcy.
Chrysler union leaders voted Monday to approve concessions that would help the auto maker ward off bankruptcy.The settlement will see the UAW union ending up with 55% of a restructured Chrysler LLC. Fiat Group SpA will own 35% and the remaining 10% will be divided between the U.S. government and several lenders.
A restructuring plan for G.M., unveiled Monday calls for cutting 21,000 U.S. factory jobs by next year and bidding goodbye to the Pontiac brand. About $27 billion of bond debt will be converted into G.M. stock. It will also offer stock to the UAW towards part of its liabilities to a union managed trust that will take care of retiree health care expenses.If this scheme goes through, the U.S. government along with the UAW union will own 89% of G.M. stock, with the government holding more than 50%. The present stockholders will be left with about 1% only.
These two companies will be the latest additions to a long list of failed business giants like AIG, Lehman Brothers, Fannie and Freddie to name a few.To get a proper idea of the scale of economic destruction over the last eighteen months, one would need to add the long list of smaller banks and companies which have simply disappeared.
The companies which have been bailed out are those which are just too large to be allowed to go under.Their annual revenues run into into hundreds of billions of dollars, larger than the GDP of virtually every nation on this earth, leaving aside about the top twenty countries or so.In economic terms the U.S. has lost more, than perhaps Russia did after the break up of the Soviet Union.
The way out of this mess is expected to be led by a massive injection of funds by the U.S. Fed into these companies with scant regard to their ability to repay the money.The money is to be given at virtually zero percent interest, while the U.S. government itself will have to borrow on interest in order to finance its almost 1.4 trillion dollar deficit in 2010. Banks have been given to understand that they have access to government funds under the preferred swap scheme whereby government loans will get converted into equity.
Although it is premature to conclude that the U.S. government has plans to nationalise important parts of the economy, particularly the banking and insurance industries, it is true that the U.S., regarded as the most capitalistic of nations, may be turning 'pink' after all.
Chrysler union leaders voted Monday to approve concessions that would help the auto maker ward off bankruptcy.The settlement will see the UAW union ending up with 55% of a restructured Chrysler LLC. Fiat Group SpA will own 35% and the remaining 10% will be divided between the U.S. government and several lenders.
A restructuring plan for G.M., unveiled Monday calls for cutting 21,000 U.S. factory jobs by next year and bidding goodbye to the Pontiac brand. About $27 billion of bond debt will be converted into G.M. stock. It will also offer stock to the UAW towards part of its liabilities to a union managed trust that will take care of retiree health care expenses.If this scheme goes through, the U.S. government along with the UAW union will own 89% of G.M. stock, with the government holding more than 50%. The present stockholders will be left with about 1% only.
These two companies will be the latest additions to a long list of failed business giants like AIG, Lehman Brothers, Fannie and Freddie to name a few.To get a proper idea of the scale of economic destruction over the last eighteen months, one would need to add the long list of smaller banks and companies which have simply disappeared.
The companies which have been bailed out are those which are just too large to be allowed to go under.Their annual revenues run into into hundreds of billions of dollars, larger than the GDP of virtually every nation on this earth, leaving aside about the top twenty countries or so.In economic terms the U.S. has lost more, than perhaps Russia did after the break up of the Soviet Union.
The way out of this mess is expected to be led by a massive injection of funds by the U.S. Fed into these companies with scant regard to their ability to repay the money.The money is to be given at virtually zero percent interest, while the U.S. government itself will have to borrow on interest in order to finance its almost 1.4 trillion dollar deficit in 2010. Banks have been given to understand that they have access to government funds under the preferred swap scheme whereby government loans will get converted into equity.
Although it is premature to conclude that the U.S. government has plans to nationalise important parts of the economy, particularly the banking and insurance industries, it is true that the U.S., regarded as the most capitalistic of nations, may be turning 'pink' after all.
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