1. “Risk-Free” Loses its Meaning When Translated to Europe
This week had economists and financial writers scratching their heads and rewriting textbooks. Sovereign debt is debt that is issued by a national government. It is considered risk-free because the government can always employ different measures to guarantee repayment, e.g. increase taxes or print money. Because it is risk-free it should have the lowest rates available – naturally. Well there’s nothing natural about Europe these days. This week large corporations in Spain and Italy were actually borrowing at rates below the rates of their respective governments. How could that happen? Surely Spain could just print—oh… wait… they can’t print Euros. Only the European Central Bank can print Euros. So the sovereign state of Spain becomes just another borrower and not the same “risk-free” counterparty that we always assumed all governments were. The Euro has forever changed the way we define sovereign debt and “risk-free.”
2. AIG Hopes to Find Gold in Data Mining
Commercial insurers have been a little late to the party when it comes to data mining to find trends and predict losses. Car insurers and credit card companies have been relying on such technical results to set pricing for some time. AIG this week announced that it is creating a new data research team and seeking to improve loss forecasts, reduce costs and devise more accurate pricing. It’s a good idea and we wish them well. There is no doubt that it is prudent to use all available information when calculating risk. However, anyone using new technical models to gauge risk needs to tread lightly. I like to remind people that the hedge fund LTCM used sophisticated technical models developed by two Nobel economists just before losing $4.6 billion in just four months.
3. BBVA is the First Bank to Have its Head in the Clouds
Banks are stodgy, un-hip, a little behind the times—or so the cliché goes. So it was a little surprising to hear that the large Spanish bank BBVA was planning to have its entire 110,000-member staff switch to using Google enterprise software over the Internet—that’s right, cloud computing. Other large companies do this, but BBVA will be the first large bank to actually do so. This means that all word processing, email, spreadsheets and calendars will no longer sit in data centers controlled by the bank; the software will reside on servers controlled offsite by Google. The bank was quick to point out that client data and confidential information would remain stored on the bank’s own system. The benefits are obvious—no more constantly updating software on thousands of separate computers – but what new risks does this create? I don’t presume to understand all the technological ramifications of this development. From an insurance perspective it raises a number of red-flags, but may also reduce other risks by centralizing control. My thoughts are a little confused on this whole topic—cloudy, really.
4. Repo Reversal
We’ve known that European banks, like most banks around the world, have struggled for the past few years, but it is a well-established maxim that banks borrow cheaper than non-financial corporations. Occasionally a strong multi-national corporation will borrow at similar rates to banks. But in the continuing theme of upside-down Europe, Reuters is reporting this week that large blue chip firms, like Peugeot, flush with cash, are lending short-term funds to banks. The loans are actually repo transactions: short-term loans collateralized by securities. In the past, generally only banks were involved in the lender side of the short-term repo market, taking short-term investments as collateral with the intent that the borrower would “repurchase” the asset, thereby settling the loan. But these days 25% of the European repo market is believed to be composed of corporations.
5. CFTC Slaps Broker Newedge for Sloppy Trading Reports
In the aftermath of some rather large regulatory oversight failures including MF Global and a widely-criticized handling of 2010’s “flash crash,” it’s safe to assume that the Commodity Futures Trading Commission will be a bit more cautious than usual (and perhaps a bit tougher on violators). So this week when Newedge, the Chicago broker that is owned by SocGen and Crédit Agricole, was fined $700,000 for continuing to violate a standing order to improve their trading reporting, the regulator sent a message. What was the message? There might not be a new sheriff in town, but the old one is paying attention. CFTC’s enforcement director stated “the Commission expects its reporting rules to be strictly adhered to, and that the Commission will sanction those who fail to adhere to prior Commission order.” Broker-Dealers should expect some tough words, and maybe action, for the next few months as the Commission rebuilds its image.
And Another Kind of Cheating Spouse
Married life, huh? You know how it is when your spouse just doesn’t understand your job? They take all their hedge fund experience and go out and spend money – half a mil on currency hedges without even asking you? Don’t you hate that? Especially when you head the Swiss central bank, and the fury over your wife’s currency trades force you to resign your position. Well, maybe we can’t all relate to recently resigned Swiss National Bank President Thomas Jordan’s problems. Ah marriage … .