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"I just don't understand it", says Auntie Ethil. Where has all this money 'disappeared' to? How can all these banks suddenly be in so much trouble that I have to pay out of my own taxes just to keep them afloat?"
"Well, Auntie Ethil", you should say (forebearing to point out that she hasn't actually paid any tax since she retired in 1989), "think of your sister Auntie Sally in Wichita. Now, Auntie Sally, who, as you know, isn't that rich, was visited sometime in 2005 by a rather shady car salesman. He had an agreement going with Muggins Bank, Amarillo. The car salesman offered Auntie Sally a new Zipton Aloha, manufactured in Indonesia. Aunt Sally pointed out to the car salesman that she didn't really have need of a car, let alone a new one, and let alone a Zipton Aloha from Indonesia. No worries!, said the car salesman. I can lend you the money to buy the car, and you don't have to begin repayments for two years. Then, if you don't like the car, you can just hand it back. No payments required!
"Well, Auntie Sally obviously thought this was a no-lose deal, so she signed up for the car. Car salesman pocketd $2,000 commission on the deal ($1,000 from Zipton Motors, Jakarta, and $1,000 from Muggins Bank, Amarillo), and went out and spent it on crack cocaine and hookers, rather than waste it.
"Two years later, the car had turned out to be a heap of garbage, half-broke half the time and all broke all the rest. In addition, Auntie Sally's savings had become somewhat depleted in the two years since 2005, what with her feet and all being, well, not much use as feet, as you know, Auntie Ethil. So, when Muggins Bank (which had been unaware of the promises that shady car salesman had made) sent her notice that her first repayment was due, she, along with all the other customers of shady car salesman (who by now was a hopeless husk of a burnt-out crack freak) said that (a) she didn't have the money to make the repayments and (b), she didn't want the car.
"This sent Muggins Bank into a bit of a tizzy, because, instead of having 200 x $10,000 loans on its book generating $1,000 interest a year each, it had 200 x two-year-old Zipton Alohas with a current resale value of zero. Muggins Bank tried to persuade its depositors (whom it had offered 7% interest on the back of those loans) to take Zipton Alohas in lieu of interest, but the depositors weren't keen on that, which meant that Muggins Bank was in deep trouble. Luckily, the Fed came along to bail it out.
"So, Auntie Ethil, if you want to know where the money went, most of it went on crack cocaine, to hookers, and to Indonesian car manufacturer Zipton, whose executives are at this very moment looking to take a significant stake in General Motors".
++++++++++++++++++++++
The weird insistence on keeping on track the planned takeover by Lloyds TSB of HBoS continues to have ramifications unforeseen by the UK government. The main one is that the restriction on the payment of dividends until the government's preference shares have been repaid is not going down well with Lloyds TSB shareholders. And one can see their point. There was nothing wrong with their conservatively run bank. If left to their own devices they could have followed the Barclays route and raised capital on the private market. And yet, here they are, buying up what looks like a pile of toxic shit at HBoS, giving up 64% of their company, and being told that the other significant owner (the government) gets 12% interest on its preference shares and that no dividends can be paid on common stock until all of those preference shares have been redeemed.
Unsurprisingly, some Lloyds TSB stakeholders are beginning to think that the HBoS buy might not be such a good idea after all.
For reasons that would mistify me if it weren't for the fact that I have some idea how the minds of bankers and civil servants work, the proposed solution to this is to allow the banks to carry on paying dividends, rather than take the more sensible route of scrapping the merger, putting HBoS into the hands of Ron Sandler at Northern Rock, and leave Lloyds TSB wholly in the private sector. The non-fans of this would be the HBoS investors (often the self-same institutions that are Lloyds TSB investors). Once again this raises the prospects of conflict of interest when an institution holds stock in both companies involved in a takeover. For such an institution, the division of benefit/loss between the two companies is less relevant than the overall benefit/loss. This works very much against the people who only hold stock in one of the two institutions, whose main concern is not the size of the overall cake, but how much of that cake their own company gets.
Now, those holding a stake in both companies would clearly like the "let them pay dividends!" answer (where the loser is the British taxpayer). But holders of just the Lloyds TSB stock would be happier with a Lloyds TSB standalone decision.
I fear that the final result might be a relaxation of the dividend payment rules, if only because the minds of civil servantsand bankers are like oil tankers -- once a plan is set in motion it's a lot easier to make minor changes in the steering than to turn the thing around.
+++++++++++++
The way that bankers' minds work was never more brilliantly exemplified than this morning's announcements from Belgium's KBC. I sometimes wonder if any banker, anywhere, really understands proper risk-evaluation techniques at all -- despite all the quants that they seem to employ. KBC saw some of its investments downgraded yesterday. Its response? It continued its "conservative" policy of marking the value of all investments rated Ba3 or less as "zero".
Yes, zero.
KBC's justification for this (which will result in a near €1bn charge this quarter) was twofold, and both of them were staggering in their revelation of the way that bankers think.
1) This would reduce volatility of future earnings.
2) The bank could afford to do it.
Now, I may be slow here, but I don't think that either of these is a valid reason for deliberately putting a false value on an asset (be that valuation too high or too low). KBC seems to have two types of valuation - 100% or worthless. Put in personal terms, this means that if I am owed five grand by a bloke whom I know will pay me if he can, but might well go busto, I can either value this at five grand or at nothing. I can't value it at two and a half grand.
As a business model, this is insane, but it certainly explains why banks' lending decisions are so perverse. Offer them the chance of a single loan of £10m with an 90% chance of payback in a year, paying 15% interest, or 100 loans of £100,000 with a 50% chance of payback in a year, paying 130% interest, and they would take the former rather than the latter, because, individually, each of these smaller loans would be perceived as "too risky". And yet the second set of loans taken as a group would have a higher return and lower volatility.
___________________
"Well, Auntie Ethil", you should say (forebearing to point out that she hasn't actually paid any tax since she retired in 1989), "think of your sister Auntie Sally in Wichita. Now, Auntie Sally, who, as you know, isn't that rich, was visited sometime in 2005 by a rather shady car salesman. He had an agreement going with Muggins Bank, Amarillo. The car salesman offered Auntie Sally a new Zipton Aloha, manufactured in Indonesia. Aunt Sally pointed out to the car salesman that she didn't really have need of a car, let alone a new one, and let alone a Zipton Aloha from Indonesia. No worries!, said the car salesman. I can lend you the money to buy the car, and you don't have to begin repayments for two years. Then, if you don't like the car, you can just hand it back. No payments required!
"Well, Auntie Sally obviously thought this was a no-lose deal, so she signed up for the car. Car salesman pocketd $2,000 commission on the deal ($1,000 from Zipton Motors, Jakarta, and $1,000 from Muggins Bank, Amarillo), and went out and spent it on crack cocaine and hookers, rather than waste it.
"Two years later, the car had turned out to be a heap of garbage, half-broke half the time and all broke all the rest. In addition, Auntie Sally's savings had become somewhat depleted in the two years since 2005, what with her feet and all being, well, not much use as feet, as you know, Auntie Ethil. So, when Muggins Bank (which had been unaware of the promises that shady car salesman had made) sent her notice that her first repayment was due, she, along with all the other customers of shady car salesman (who by now was a hopeless husk of a burnt-out crack freak) said that (a) she didn't have the money to make the repayments and (b), she didn't want the car.
"This sent Muggins Bank into a bit of a tizzy, because, instead of having 200 x $10,000 loans on its book generating $1,000 interest a year each, it had 200 x two-year-old Zipton Alohas with a current resale value of zero. Muggins Bank tried to persuade its depositors (whom it had offered 7% interest on the back of those loans) to take Zipton Alohas in lieu of interest, but the depositors weren't keen on that, which meant that Muggins Bank was in deep trouble. Luckily, the Fed came along to bail it out.
"So, Auntie Ethil, if you want to know where the money went, most of it went on crack cocaine, to hookers, and to Indonesian car manufacturer Zipton, whose executives are at this very moment looking to take a significant stake in General Motors".
++++++++++++++++++++++
The weird insistence on keeping on track the planned takeover by Lloyds TSB of HBoS continues to have ramifications unforeseen by the UK government. The main one is that the restriction on the payment of dividends until the government's preference shares have been repaid is not going down well with Lloyds TSB shareholders. And one can see their point. There was nothing wrong with their conservatively run bank. If left to their own devices they could have followed the Barclays route and raised capital on the private market. And yet, here they are, buying up what looks like a pile of toxic shit at HBoS, giving up 64% of their company, and being told that the other significant owner (the government) gets 12% interest on its preference shares and that no dividends can be paid on common stock until all of those preference shares have been redeemed.
Unsurprisingly, some Lloyds TSB stakeholders are beginning to think that the HBoS buy might not be such a good idea after all.
For reasons that would mistify me if it weren't for the fact that I have some idea how the minds of bankers and civil servants work, the proposed solution to this is to allow the banks to carry on paying dividends, rather than take the more sensible route of scrapping the merger, putting HBoS into the hands of Ron Sandler at Northern Rock, and leave Lloyds TSB wholly in the private sector. The non-fans of this would be the HBoS investors (often the self-same institutions that are Lloyds TSB investors). Once again this raises the prospects of conflict of interest when an institution holds stock in both companies involved in a takeover. For such an institution, the division of benefit/loss between the two companies is less relevant than the overall benefit/loss. This works very much against the people who only hold stock in one of the two institutions, whose main concern is not the size of the overall cake, but how much of that cake their own company gets.
Now, those holding a stake in both companies would clearly like the "let them pay dividends!" answer (where the loser is the British taxpayer). But holders of just the Lloyds TSB stock would be happier with a Lloyds TSB standalone decision.
I fear that the final result might be a relaxation of the dividend payment rules, if only because the minds of civil servantsand bankers are like oil tankers -- once a plan is set in motion it's a lot easier to make minor changes in the steering than to turn the thing around.
+++++++++++++
The way that bankers' minds work was never more brilliantly exemplified than this morning's announcements from Belgium's KBC. I sometimes wonder if any banker, anywhere, really understands proper risk-evaluation techniques at all -- despite all the quants that they seem to employ. KBC saw some of its investments downgraded yesterday. Its response? It continued its "conservative" policy of marking the value of all investments rated Ba3 or less as "zero".
Yes, zero.
KBC's justification for this (which will result in a near €1bn charge this quarter) was twofold, and both of them were staggering in their revelation of the way that bankers think.
1) This would reduce volatility of future earnings.
2) The bank could afford to do it.
Now, I may be slow here, but I don't think that either of these is a valid reason for deliberately putting a false value on an asset (be that valuation too high or too low). KBC seems to have two types of valuation - 100% or worthless. Put in personal terms, this means that if I am owed five grand by a bloke whom I know will pay me if he can, but might well go busto, I can either value this at five grand or at nothing. I can't value it at two and a half grand.
As a business model, this is insane, but it certainly explains why banks' lending decisions are so perverse. Offer them the chance of a single loan of £10m with an 90% chance of payback in a year, paying 15% interest, or 100 loans of £100,000 with a 50% chance of payback in a year, paying 130% interest, and they would take the former rather than the latter, because, individually, each of these smaller loans would be perceived as "too risky". And yet the second set of loans taken as a group would have a higher return and lower volatility.
___________________
