Eurozone Sovereign Debt Crisis part 2 - Ireland

[eurotop40]

It looks kinda eccentric: USA is full emocracy and Italy is not, while there is only a difference of 0.07 points between the two.

I agree that EU is not democratic, by the way. It is a cleptocracy.

...says a guy in Rome whose government is well-known for putting incredible taxes to pay off its lazy civil servants and false invalids.

 

[eurotop40]

you know what a cleptocracy is?

And if, could you proof your point?


The problem with the democracy index is the same as with the education index.

It's mainly anglo saxsonian influenced and the point of mersurment orientates on their culture.

There are equally good ways to guarantee democracy, but they get in different ways rated by this indexs...

They are good as an orientation but the total rating should be seen more relaxed

Let's put it this way: if this index by the Economist (one of the manipulators "par excellence") puts the UK at place 16, I guess in reality it must be at Burundi level (which is not surprising with its aristocracy, social casts etc.).

 

[marinera]

...says a guy in Rome whose government is well-known for putting incredible taxes to pay off its lazy civil servants and false invalids.

And Big Banks' debt. Not sure what your point here is, sorry.

 

[Jason]

We do have a 2016 banking problem around CoCo bonds.

Like so many financial products these are horribly complicated (which is code for "I may have this wrong!") They are bonds which some banks issued mostly 2014 and 2015. They tend to offer very good returns (often 6% or 8%) and they offer a very special guarantee - they are Contingent Convertible. If the value of the CoCo bonds on the markets falls below a certain level suggesting the markets think the bank is at risk (a contingency which is a trigger point) then the bonds are converted into equity. This trigger event means that a bank that is in difficulties is suddenly faced with the requirement to issue more equity, which may well tip its share price into free-fall. In effect the bank is desperate to avoid such a disaster and may do this by buying back its own CoCo bonds.

The recent event has been around Deutsche Bank. Prices have fallen close to a trigger point spooking investors - then the bank has managed to find the funds to buy back many of its CoCo bonds strengthening their price and making investors happy. Hence DB shares have been on a roller-coaster.

However it seems that many banks have CoCo bonds. There are something like $95bn of them floating around, mostly relating to European banks. Some are perpetual, eg Santander. RBS has around $3bn. Many Italian regional banks have a lot of CoCo bonds - and they don't have the DB option of buying them back. This CoCo problem is spooking markets throughout Europe. The problem is uneven - for example the UK introduced regulation in 2014 which may be sufficient to avoid the worst of the problems in the UK. However the Italian problem is that regional banks may face plunging share values, while the companies and individuals who hold their CoCo bonds may find them almost valueless.

The biggest fear factor is that CoCo bonds are a threat which could hit several Italian banks at the same time requiring bailouts.

 

[dandelion]

something else to research. yesterday a news item gave me the impresion that the idea of cocoa bonds is that if the market capitalisation of the bank falls below a certain level, then they can be automatically converted into equity instead of loan. Thus the bank no longer has a debt and its balance sheet magically improves. In the event the bank goes bust, the Cocoa holders stand to lose everything and have no entitlement for repayment of that loan. Also the item said that as the share price/ capitalistion/ something falls there is an automatic moratorium on interest payments on the cocoa loan, thereby giving the bank a respite in troubled times.

The concern expressed about this was again that if one bank went bust, the full amount of that loss would fall on any cocoa creditors, 100% not just a proportion of their money. Which would be likely to be another bank. Which once again might push a second bank into bankruptcy, and so on and so on.

I would hazard that if any bank started to show signs of getting into trouble, the value of its chololate drinks would plummet, and this might lead to what you have described, a bank desperate to prop up the price of its own debt. Which sounds the sort of thing which should be an illegal activity.

There was something else in the report I heard. It said this was another complicated financial instrument, which meant purchasers did not really understand what they are buying. I cant help wondering what bankers are paid for if they cannot understand their own deals. Truly it sounds like idiots being paid vast amounts which in no way do they deserve.

 

[Jason]

CoCo bonds have been regulated in the UK (since 2014, more or less the start) so that only institutional investors can buy them and with other restrictions. I'm of the view that we should probably now see every single CoCo bond sold as a mistake, but the UK is actually in a better position than others, particularly Italy and Spain.

My barrack-room wisdom from life is that in big organisations if something can go wrong, it will, and the question is only when it will go wrong. The financial system of the whole globe has problems, but the EuroZone has particular issues. We've seen the EuroZone survive sovereign debt problems by accepting debt from the periphery nations onto the ECB balance sheet as debts that the ECB values as if 100% certain to be repaid (though many would argue that Greek debt is 100% certain not to be repaid), and the underlying logic is that the ECB is too big to fail.

Now we're seeing what looks like the start of a bank debt crisis. Right now the market is spooked, and unless something can be done to calm it the fears are going to grow. Maybe the ECB needs to make available to banks lots of new assets, as some new QE programme. However I don't think this can happen quickly, at least not at the levels needed. If CoCo bonds go toxic there's a lot of them out there. Once they were supported (and the risk taken away from investors) they would become an incredibly good investment. Imagine having a guaranteed income without risk of 8% forever, which is what some CoCo bonds offer. Paying the 8% forever is a substantial cost to the banks. Buy back by banks on the open market will be at way over the original price.

The perfect storm is that a number of Italian banks and Spanish banks (and perhaps others) experience a CoCo bond crisis at the same time. Central banks in Italy and Spain would be overwhelmed (as they don't have the option of issuing euros) and the crisis would be passed to the ECB. In theory the response should be immediate QE to bail the banks. However I'm not convinced that ECB has the speed of response required. In effect such an action would be a mutualising of debt, which is tantamount to eurobonds. I think we have a risk of the sort of bank failures that we associate with a century ago. And quite whether the ECB or the global finance system could survive this I don't know.

 

[Perados]

As much as I know in every country CoCo bonds are regulated and only institutional investors can buy them. Not just in the UK

But yes, the creation of these bonds was stupid. For a crisis they can have the same effect as gasoline has for fire.

 

[Jason]

I'm struggling to understand CoCo bonds. They are difficult! But they are important.

Many have been issued by Chinese banks, so if they could trigger big problems in China. However the biggest issuer is Credit Suisse. I found a statement that the CoCo bonds issued total $95bn and another that $175bn were issued in 2015 alone. However there are a lot out there!. The ones that the markets have been getting anxious about are Banco Popular Espanol, UniCredit, BNP Paribas and Deutsche Bank. Presumably DB has resolved their problem.

 

[dandelion]

It would seem that describing them as chocolate bonds is quite appropriate since they seem to melt away if things get hot. I assume they do what they were designed to do, which is relieve banks of bad debts in a crisis. Thus the loss is immediately transferred to the professional investment organisation which decided to purchase them, and is not hanging about awaiting taxpayer bailout.

The fundamental problem behind this is that bank debt is always on a scale where it could wipe out the total worth of an investing institution, and even if it has been spread across the entire banking sector, the pain is still within a relatively few organisation, whose positions automatically reflect on each other. This is a consequence of the multiplier applied to banks, which lend out much more than their net worth, so that some real crisis affecting the profitability of a relatively small proprition of a banks lending, will have a much bigger effect on its own reserves and solvency. The only real solution to this is to restrict lending.

Failing that. someone has to take the hit. This transfers it to anyone imvesting in the bonds, which i suppose might spread the risk a bit outside banking circles

 

[Jason]

My understanding (which may well be wrong) is that CoCo bonds don't unload bad debt but instead bring good money into a bank. They got hard cash for the CoCo bonds they sold. Back in 2014 (which is when they really got going) banks had stabilised but were in need of money for investment. CoCo bonds worked by giving investors a good deal. Before CoCo bonds investors were being offered 6%-8% on traditional bonds and saying the offer wasn't good enough, that in effect they thought there was a significant chance of the banks defaulting. The banks addressed this perception. In the event of the unthinkable happening (the Contingency) they would Convert to a liquid asset, equity in the banks.

The problem seems to be that even with the good money from CoCo bonds, some of the banks are still seen as high risk, so the unthinkable Contingency trigger point is getting close. DB has bought back many of their CoCo bonds, which must have been very expensive. If DB needed the money that they sold CoCo bonds to raise they need the money even more now. DB has drawn back from disaster, but this isn't a healthy situation. As far as I know UK banks that have sold CoCo bonds are not close to the trigger point, at least not yet. The concern is a handful of banks (actually the smaller issuers of CoCo bonds) and here the question is how effective the safeguard of lender of last resort is.

CoCo bonds would have been perceived by posterity as a great idea had they not gone wrong. Right now it is easy to say that the idea was stupid. However the alternative was for the banks to get even more funds from somewhere else, probably central banks or the ECB, and that would certainly have been wrong.

The problem with debts in "too-big-to-fail" companies is that they tend to end up on sovereign balance sheets. A sovereign that has a currency can devalue. The bottom line is that the UK could absorb the CoCo debts of Lloyds, HSBC, RBS and others if necessary (and because the UK could the incident won't happen) but Italy and Spain will struggle.

 

[dandelion]

CoCo bonds worked by giving investors a good deal. Before CoCo bonds investors were being offered 6%-8% on traditional bonds and saying the offer wasn't good enough, that in effect they thought there was a significant chance of the banks defaulting. The banks addressed this perception. In the event of the unthinkable happening (the Contingency) they would Convert to a liquid asset, equity in the banks.

I rather think that is back to front. equity in a bank is worth nothing if debts exceed assets. However, a loan will be paid back before equity holders get any vaue remaining.

The problem seems to be that even with the good money from CoCo bonds, some of the banks are still seen as high risk, so the unthinkable Contingency trigger point is getting close. DB has bought back many of their CoCo bonds, which must have been very expensive. If DB needed the money that they sold CoCo bonds to raise they need the money even more now.

not necessarily. If the market value of the bonds has fallen, then the bank might buy up its own debt at less than it was given initially. Possibly a lot less. Could make a lot of money in fact from having sold beverages while it seemed solvent, and then buying back those bonds cheap. One might almost imagine it would pay a bank to engineer a crisis to allow it to do this.

CoCo bonds would have been perceived by posterity as a great idea had they not gone wrong.

I dont see how they have gone wrong?

The problem with debts in "too-big-to-fail" companies is that they tend to end up on sovereign balance sheets. A sovereign that has a currency can devalue. The bottom line is that the UK could absorb the CoCo debts of Lloyds, HSBC, RBS and others if necessary (and because the UK could the incident won't happen) but Italy and Spain will struggle.

Yet oddly the Uk has failed to do this to deal with its debts. Very very peculiar. Wonder why it keeps those debts on its books scaring voters?

 

[Jason]

I don't see how they have gone wrong?

The executive of DB have spent the last few weeks dealing with the catastrophe that is their CoCo bonds. When DB sold them it thought that the future looked good. It thought they gave the injection of cash that it needed to move forward. Yes the interest rate was rather high, but as DB moved into good time it really wouldn't matter. And of course times would never be so bad that the conversion would be triggered.

But as 2016 started it became clear that DB was doing so badly on the markets that the automatic trigger point was about to be triggered. This would force a new share issue and send the share price into free fall. In effect CoCo bonds have the potential to kill banks that don't do as well as they expect. DB has done the only possible thing - it has bought back many of the bonds. It has been a price-taker. Sellers will not want to sell until just before the trigger point is reached, but DB has to buy to stop getting anywhere near the trigger point. I assume DB has paid more for the bonds than it sold them for. Probably it is a big loss. DB has found the money to make the buy-back (and the markets were so relieved at this their shares shot up 11% in a day) but it must have left DB short of funds.

 

[dandelion]

Ah, you are arguing that the creation of a lot of new share capital would depress the value of those shares. I can see why that might be the case. However, technically the bank as a whole has merely swapped one form of debt, bonds, for another, shares. This ought to be neutral, in as much as the overall value of the bank has increased because it no longer has the loan debt by exactly the same amount as its capitalisation has increased. Sure these two are not directly equivalent, but generally conversion of the bonds will have improved the financial stability of the bank, which ought to be pushing up share value.

I think you and I have different understanding of how these bonds work. Not saying who is right! The idea seems to be that if the bank's capital to loan ratio falls below a set level, then these bonds, ie bank debts, are converted into bank stock. Thus instantly the bank has fewer debts and more of its own capital, and its capital to loan ratio improves. This is quite useful if the bank was about to be declared insolvent because its loans exceeded the prescribed ratio to its capital.

I think the bonds do what they set out to do, in that they provide automatic assistance to a struggling bank. This will be at the cost of whoever bought the bonds, if the bank does go bust, because they will be landed with worthless shares. If the bank recovers or stabilises, the original bondholders will now be holding shares, which will float about in value. Although the bank may now be safer, I can also see that share traders are not necessarily concerned about this, and likely there will be a sudden run to sell shares in anticipation they will fall, even if they are afterwards bought back by the same people.

As I said, these bonds fell to 75% of their face value. That means DB could have bought back debts of nominal value £100 mn for £75mn, and thereby improved its balance sheet quite considerably! One could get very rich like that if you can find enough gullible purchasers for beverages.

Unfortunately those gullible purchasers may well be other banks, and I found a comment which suggested a bank can use these bonds to count towards its own capital. So if one bank did go bust, the effect of the bonds would be that the bondholder did not get back any of the money, and would now be short capital itself.

 

[Jason]

I guess we've a week of speculation around how UK politicians are going to respond to what is happening with the UK's relationship with the EU deal, as well as the terms of the deal.

The latest Westminster opinion poll gives:
41% Con
27% Lab
15% UKIP
9% LibDem
3% Green
All caveats for UK polls. However this one is STILL using the methodology that got it wrong at the 2015 election. The underlying issue is around the demographics of the UK, and it seems this data is wrong. Pollsters don't want to do a simple arithmetic correction, but such would give Con 44% and Lab 24%. The point seems to be that the Conservatives feel that they have the freedom to have a big argument over Europe without doing lasting damage to the Conservative party. This boosts LEAVE.

Corbyn has said he is going to make a speech in which he is going to say that he backs REMAIN, specifically in order to increase migration to the UK. (The immediate thought is that this sounds like the old USSR when Pravda could report a speech by a politician before it has been given. Comrade Corbyn has told us all in advance what he is going to say.) However this weird reason for backing REMAIN is going to further damage Labour and help LEAVE.

 

[dandelion]

There is no such thing as a simple arithmetic correction to polls. They are already mathematical constructs and have to be in order to ascertain the view of 40,000,000 people by just asking 400. One particularly thorny issue is what weighting to place on stated intention to vote. If you weight those saying they will vote more hevaily, that means any changing their mind from not voting to voting may have a disproportionate effect on the outcome.

 

[dandelion]

i see China is still having difficulties. BBC report says they have run down their dollar reserves by $420 bn over the last six months in attempts to stabilise the Yuan. This compares to total dollar money supply measured as m1 about £2tn and M2 about 20tn. US debt about 20tn. US quantum easing program about 4.5tn. The chinese numbers of dollars released into the market seem like quite a significant figure. It would appear China has a lot of private debt denominated in dollars, so needs to maintain the value of the Yuan. www.bbc.co.uk: China bank chief says 'speculators' caused yuan fall - BBC News

I guess this is simply another indicator of problems with their economy. A separate story discussed a shrinking economy in Japan and continuing deflation, despite their official policy to halt deflation at any cost. Or maybe because of it. In the Uk regulators have cut back proposed increases in bank reserves.

 

[Perados]

Well... yes China had to sell billions of Dollar but they still own around 3 trillion Dollar.
But we definetly should watch out. Today China has published new data. Exports have gone down by 11%, imports by 19%

 

[Jason]

There is no such thing as a simple arithmetic correction to polls.

Yes. Full agreement.

But we have a real issue in the UK not faced anywhere else where the polls seem to be failing. The predictions before the last Westminster election were way out. Forget the 3% margin of error - even the best weren't within double that. And they were ALL wrong. Then we had the exit poll which the BBC looked at and considered not broadcasting because they thought it just had to be wrong. As it happens that one was just within the 3% margin of error, but by a smidgeon.

Right now the EU polls are all over the place. If you try to find some sense in it by looking at methodology then the telephone polls are suggesting REMAIN while the internet polls are suggesting LEAVE. They differ hugely on the number of undecideds, with far higher numbers of undecideds from the internet polls. Received wisdom is that telephone polls are better. However it is the internet polls that were the closest at the last election (still way out). There's an idea that people who take part in internet polls may be more highly motivated to vote. There's also the idea that when speaking to someone on the phone people are more likely to say they have a view than that they don't know, and they will go for the status quo. There's the idea that we don't have correct information about the demographics of the UK and that this is why the polls are wrong.

Anyone who feels sure of the result of the EU referendum (as Lord Rose says he is) is deluding themselves. Maybe we have to say that polling is just not working. Maybe we can say that the situation is volatile with LEAVE gaining ground.

I think it matters. Markets don't like shocks. Politicians need to understand the mood of the country.

 

[Perados]

A while back I was posting about the current all time high of German bonds and that this could be the first sign of an even bigger crisis than 2009...

Now I've found this
Carl Icahn Warns "Meltdown In High Yield Is Just Beginning" | Zero Hedge
One of America's biggest investors pointed at the same problem in December 2015.

While reading this, I had a new "idea" I would like to share here.

What are interests for? They are an expression of risks AND they are the "win" if you take that risk.

Now we have a problem, world wide the interests are close to 0%. This means neither are they good for an information about the risk you have to face, if you do an investment, nor are you get paid, if you take that risk.

That's a massive problem for Banks.
Over the past years, they have collected risks they are in no way able to rate... this could be good, if their risks are lower as expected, but bad if they are higher. (More likely higher, because they try to make at least some money, that's why they accept nearly every risk for just another 0.1% more interests)

The other problem is the very low win they make on their investments... in the past Banks could make 5, 6 or 7% on an investment. If some investments went wrong (sonething that happens every time), this loss could get compensated by the income out of the 5 - 7% they make out of the other investments.
Today Banks can be lucky, if they make a win of 1%. This means even the smallest investment that went wrong is a threat to the Banks. It will become instantly a total loss for the Bank...
They are no longer able to make a win.


So, we have some massive economical problems, expressed by the ultra high yields AND the very bad situation of the Banks.
On top of this, all central banks have fired up what they had past the crisis of 2009. If a new crisis shows up, the central banks have no tools they could use. Also are state debts higher and the debts of low income people have increased as well.



I guess this fits very good as well
www.theguardian.com: Sell everything ahead of stock market crash, say RBS economists


Looks like the expection of an oil price of 70$ at the end of the year is very unlikely

 

[dandelion]

Ha, it would seem the queen has come out in favour of EU membership. The Duke of Cambridge has given a speech which is beng widely interpreted as coded support for EU membership. The inference would have to be he is expressing his grannies views, not just his own. She is one of the few people left with real influence who experienced WW2.

Perados, I see that RBS defines 'cataclysmic year' as a fall of 20%. Dont know what they would call a real crash. Placing money in the bank you are at danger of seeing an annual loss of 1-2%, so compared to that market swings of 20% dont look so surprising.

News last night said they had struck oil at Gatwick. Presumably not spilled from passing aeroplanes, but significantly more in the ground than they had expected. There has been a revolution in oil production from fracking. Demand has been falling. The US went to war to restore oil production by Iraq, and went to peace to restore output from Iran. There is a logical consequence from such a situation, which is made much worse because of the speculative trading which goes on in commodity pricing.