Monday, 19 December 2011

Weekly Commentary on Financial Markets: 19 December 2011 Banks, Banks, Banks

Weekly Commentary on Financial Markets:  
19 December 2011

by Jacob H Schmidt

Banks, Banks, Banks               

News of the week: Major international banks downgraded again; Belgium downgraded to Aa3 from Aa1; MF Global hearings continue; Concerns on securities lending and multi-hypothecation      

Europe – Euro
Slow progress if any in Europe, the ball is now in the EU members’ parliaments where governments seek support to approve deal. In the core countries Austria, Germany and Netherlands (plus the other stable Nordics) voices of disaccord and doubts on the bail-out and future are emerging. We are concerned about this development. There is still a huge support for the EU and the Euro (“better some instability than war in Europe”). For the markets the politicians’ slow speed is unacceptable, but as written before, the political reality in CEE is different from Anglo-Saxon countries. And most politicians will be on extended holidays until Jan 8, 2012.    
My Grade: C-

Political and economic development in Hungary negative. The country is suffering from the big CHF trade, no money left now for any consumption. Changes in laws negative for many existing companies and foreign shareholders. It will get worse before it will get better.
My Grade: C-

Depressed prices in bonds, no news regarding the PSI.
My Grade: C- 

Continued volatility in bond prices.      
My Grade: B      

Obama cut a new deal on the debt ceiling. MF Global hearing continue, no news where the client money is.  
My Grade: B+

More news regarding the banking sector: Austrian banks RZB rumoured to raise Euro 2-3 b from the Wallenberg family /or a Nordic bank. Hypo Tyrol, a smaller regional bank needs Euro 230 mm after having been bailed out in 2009 with Euro 52 mm by the State of Tyrol. Another banking scandal (after Bank Burgenland, BAWAG, Hypo Alpen Adria, Hypo Lower Austria) in a small country of 8 million people. In addition the large banks RZB / RBI, Erste and Bank Austria / Unicredit need a lot of fresh capital. 
In the aftermath of last week’s released FSA report on the RBS (where nobody took responsibility, again) the talk is now of a report on the Lloyds bail-out.
Apart from a few top names with sound business models and no exposure to toxic assets and toxic counterparts banks are not investable. Last week we analysed several European banks (Deutsche, Unicredit, BNP Paribas, UBS et al) in detail and concluded that most are too risky to be investable. Major reasons are leverage, size of balance sheets, business model, exposure, cash flow projections.
On Friday latest tech / social media IPO Zynga started trading. Total size USD 1 b. Controversial views as to buy and sell ratings. We have no opinion on the stock.   
My Grade: C-

Markets dived at the beginning of the week, with the metals leading the sell-off. Some recovery at the end of the week, but still very volatile and risky.  Most people I spoke to last week are negative: on the markets, the economy and the outlook. Metals sell-off a sign for market dislocations.
Critical reports on securities lending and re-hypothecation of assets in Austrian papers and international law journal. Many argue this is the next big shoe to drop.  After Lehman and now MF Global there is certainly a concern about multi-hypothecation of assets. For investors and hedge funds there are important due diligence questions: where are the assets, what is the counterparty, custodian and prime brokerage risk. What happens in the event of a default or market freeze.
My Grade: C-

Interest Rates
Bonds rallied, with US and Euro rates much lower from last week (UST 10 Y at 1.85%, 30Y at 2.85%). German bunds higher, 10 Y yields 1.85%. Big risk off rally. My Grade: C

Lst week’s Spanish bond auction went very well. Other sovereigns continue to struggle.  My Grade: C+
Gold, Silver sold off massively during the week, to come back a bit at the end. We feel that Gold and Silver have switched from being long hedges to being great short hedges for stock and bond exposure. But hugely volatile. My Grade: C

Volatility: VIX at 25%. Surprisingly low given the volatility in other markets.

Hedge Funds
November data confirm our view that hedge fund had another tough month. December unlikely to be better, given the high vol and market illiquidity. 2011 will be marked as a quite bad year in terms of performance, not asset raising however. Total AUM in HF at app. USD 2 t.
Buy and hold is dead, L/S not working, arb tough. What is left: HFT, macro, discretionary trading. What is hot: managers who are nimble, flexible in their approach and with less AUM.  More investors into HF are now very critical as to the benefit derived from their managers. Our view: 85 out of 100 managers are a waste of time and money. 10 are ok, five interesting. Out of the five, one or two perhaps investable.  
 My Grade: B

Tough markets, and with only two weeks until year end and less than 10 trading days, many investors are confused what to do here: buying, active trading or waiting for better opportunities. The year-end rally has happened several times over the last 3 weeks, only top last between 3 hours and 2 days. We believe that many participants, in particular the hedgies will choose to wait. Markets dominated by short term trading (HFT, day trading et al).

Major themes continues to be Europe, the banking the sector (most risky) and increasing political risks in Russia, Middle East and USA (elections). Outlook for 2012 is gloomy.    My grade: C 

Happy Holidays and a Successful 2012.     

Grading: A, A-, B+, B, B-, C+, C- D (adapted from American University Grading / Marking System), higher marks for visibility, clear outlook, little risk, lower marks for little visibility, unclear outlook, high risk.

Jacob H Schmidt, international financial markets expert, HF expert, Webster Finance Professor. Expert Witness. Anglo- Austrian, multi-lingual,-cultural, critical thinker. CEO of Schmidt Research Partners Ltd, an investment advisory firm and MD of SFP-International Ltd, a consulting and training company. Available for high quality investment advisory, due diligence and consulting projects.  
Schmidt Research Partners are expert providers of advisory services, due diligence, research, consulting and training in financial markets.

This commentary is for information only. Nothing contained herein constitutes investment, legal, tax or other advice nor is it to be solely relied on in making an investment or other decision. It is not an invitation to buy, sell or subscribe and is by way of information only.

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