The Financial Services Club's Blog

You might miss this regulation, but don't

With so much hullabaloo about banker's bonus taxes, taxes on liabilities, a return to narrow banking, the closure of leveraged prop trading, bankers versus Obama, Sarkozy and Davos, you might miss a few key changes in emphasis.

For example, the bankers view as demonstrated by Bob Diamond's comments yesterday:

'World leaders may find it increasingly difficult to source finance in the capital markets if they insist on splitting up banks that are "too big to fail", Barclays president Bob Diamond has warned.'

Or Lord Adair Turner's, Chairman of the FSA:

'Regulators needed more than the ability to set interest rates to stop asset price boom-bust cycles. He urged the creation of a "macro-prudential body" to cut down on lending or borrowing at times when it thought a bubble was being created.'

But the one I bet you miss completely, unless you're looking, is the speech of the Executive Director for Financial Stability of the Bank of England.

This speech took place in Liverpool last night (20 page pdf).  It's not Davos and he's not Obama, Sarkozy, Brown or even a King or a Darling.  No, he's Haldane.  Andrew Haldane.  And when you've got all attention diverted elsewhere, it's a good time to release news to test the waters of the industry, but not the media who might not appreciate the intent.  So he did, in my humble opinion.

Why is his speech important?

Because he makes it quite clear that the economy has stabilised but the root cause - debt - is still there.  Like the McKinsey report of the other day about deleveraging, he makes it quite clear that we have to deleverage.

What does that mean in reality?

First, that banks should reserve in the good times to over the bad - the procyclicality reserving of profits in other words.  That's nothing new.

Second, the conversion of debt to equity that is state contingent.  Now that one is new.  And by 'state', we don't mean the country as state, but the borrower - whether that borrower be an individual, company or sovereign state.

Here's the section of Andrew's speech that puts this into context:

"Take a typical mortgage contract. A rise in the value of a property relative to the loan gives the borrower equity against which they can borrow. This provides an incentive to tradeup, raising house prices and generating further equity. This amplifier operates symmetrically, as falling collateral values reduce refinancing options and drive down prices. Economists call this effect the financial accelerator. It adds to cyclicality in credit provision and asset prices.

"US economist Robert Shiller has suggested it might be possible to devise mortgage contracts that slow, or even reverse, this financial accelerator. Instead of being fixed in money terms, imagine a mortgage whose value rose with house prices. So the repayment burden would rise automatically with asset prices to slow a credit boom and fall in a recession to reduce the chances of mortgage default. Mortgages would operate like a contractually pre-committed debt-equity swap between households and banks. They would automatically stabilise household loan-to-value ratios. By reducing the amplitude of the credit cycle, they ought to benefit both borrower and lender."

In other words, the idea is that your debt is an 'equity' in the things you borrow against.  Therefore, if you take a mortgage, you are not borrowing £100,000 on a £200,000 house, but you are offering a 50% investment in the house for the bank.  If the house is worth £400,000 five years later, you owe the bank £200,000 or, if it's now £100,000, you only owe £50,000.

Of course, you still have interest payments, but now the asset is shared rather than owned by you once interest and the initial amount borrowed is paid down.

That's quite a big change in how we all think about debt.  It's also a big investment by banks in our assets, that will now be bank owned rather than borrowings, especially if this extends to sovereign debt and corporate capital.

In fact, it could fundamentally restructure the way we think about finance.

Bearing in mind how rapidly ideas like procyclicaility reserving and narrow banking have taken off with the regulators in the last year, it wouldn't suprise me if this idea became mainstream in a matter of days or months.

Hmmm ... a good day to slip that one under the radar wasn't it?

Davos trials, investigations and procrastinations

Like everyone, I’m amazed by how much pure madness there is in the markets right now. Not the madness of crowds, the madness of bankers or the madness of investors. No, it’s the madness of politicians and regulators.

First we had Alastair Darling’s tax on bonuses. Then Sarkozy followed suit. Finally Barack Obama announces not only a tax on bank liabilities, but measures to reign in the banking system by restricting trading on one’s own account - prop trading - using language and rhetoric rather different to the language we expect from him.

Obviously, Obama did this as a pre-emptive strike before Davos, where a whole raft of other regulatory reforms are being discussed and proposed via the G20 and individual world leaders.

After two years, you would imagine that these guys could get their act together wouldn’t you? Instead, we appear to have a muddle of confusion. Robert Peston, who is enjoying his Davos experience obviously, writes his blog over on the BBC today with the title that bankers are ‘dazed and confused’, saying that bankers are commenting that Barack Obama’s scheme is:

1) “vague, confused and we don't know what he's on about;

2) “it won't achieve its stated aim of reducing the risks of another meltdown in the banking system (although quite how they know that if they don't understand what he's saying is beyond me);

3) “if President Obama's aim is to savagely reduce banks' direct holdings of tradeable securities, it will lead to a second devastating wave of banks dumping assets - and will risk a return of the credit crunch;

4) “the confidence of bankers - which the bankers themselves say is so important to any serious revival of lending (so aim off) - has been knocked by the perception that the US and Europe are divided on the future structure of their industry;

5) “bankers' confidence has been knocked further by confusion over who in the US administration has the ear of the president on financial policy-making (the scheme to shrink the banks was the brainchild of Paul Volcker rather than the supposedly banker-friendly Treasury Secretary, Tim Geithner).”

George Soros says that “this development came too soon because the banks are not out of the woods”, although he continues by stating that he is “very supportive of it, but I don't think it goes far enough.”

Hmmm ... accusing bankers of being “tone deaf”, Mr. Soros obviously hasn’t been listening to them, as Bob Diamond, the golf-mad President of Barclays, who says that “there is no evidence that shrinking banks is the answer” and that this will have a devastating effect. The impact “on jobs and the economy will be very negative.”

What is obvious is that the Paul Volcker inspired Obama plan is a core focus of discussion and attention. Probably because most of the politico’s, bankers and corporate leaders are rather worried about their investment portfolios as the stock markets take a further battering for the seventh day in a row.

Shocker.

Halifax's marketing is the worst I've ever seen ...

Every time the new Halifax ad comes on the box, I cringe ...

Now I’ve blogged about their awful advertising before and how insensitive it seems post-crisis, but this one really gets me down.

Not only is it cheesy, poorly executed and raw, but it actually makes most of the folks I talk to feel sick to see a bank that has cost billions in bailouts advertising as though nothing has changed.

And I’m not alone as the Telegraph decided to run a page last week asking what readers thought about a bank that offered a reward of £5 as long as you depsoti a minium £1,000 per motnth.

This advertising seems a bit rich, the Telegraph claims, when this particular bank has cost each and every family in Britain £5,500 to bailout in the last two years.

Steve Griffiths, director of brand and customer marketing for Halifax, says that their new advertising campaign focuses on "the core message that Halifax rewards its customers for their business and shows that our colleagues are enthusiastic, friendly and approachable".

The Telegraph’s readers say:

“Never mind the advert, I want my £5,500 back. I need it more than they do.”
Polly

“Who ever authorised this at Halifax needs stringing up for crimes against society!”
Paul

“Look closely and it really does show them up as a bank that cant be trusted.”
Simon Hawking

“Rather than coming across as "friendly and approachable" they come across as a load of immature bumbling morons.”
Dave

"If they changed the tune to 'sorry seems to be the hardest word' then maybe, just maybe, there might be some mileage in this. Talk about misreading the mood of the country."
Jeremy

There's a few amusements in there too, such as (excuse grammar):

"With lyrics like 'you're indestructible' (HBOS was considered 'too big to fail') and 'you've got the power to return' (thanks to a government bail-out), was the advertising agency having a sneaky dig at its clients by any chance?"
Ian

“At least it answers one question - what banker do to deserve such large bonuses. They have to work with the inane idiots that feature in the advert.”
Mike

“Stop knocking these ads. It gives me valuable exercise reaching for the mute button. Let's have more ads like it and I could achieve fitness and a Zen like calm during commercial breaks.”
Tim

Most worryingly for Steve Griffiths, director of brand and customer marketing for Halifax, should be the comments that read:

“I bank with the Halifax and this advert makes me want to leave them. It is that annoying!”
Phil

“Absolutely atrocious! Maked me want to change my bank!”
Jonny

“I am embarrassingly a Halifax customer, but not for long, I couldn't handle people knowing I bank with such morons, & that's not counting the £39, they charge you for an email for a £2.50 failed payment.”
Caz

“What the advert doesn't mention is the £12.50 per month which they charge you just for having the account, which of course does include the overdraft charges of £1 per day, the £1.50 per month 'debit card fee', and anything else they can think of to sting you with.”
Peter

“If you already bank with Halifax, and don't have a reward account, open one and just transfer £1,000 straight in and back out each month to get your fiver, you don't even have to do it in one lump sum, just £200 backwards and forwards 5 times, still counts, it's easy if you bank online.”
Ian

Message to Halifax: start advertising with honesty and sensitivity, and stop advertising as though the great British public are numbskulls believing that nothing has happened.

What the Halifax should have done ...

Thinking about the Halifax’s ads a bit more, some may say: “they are so bad, they’re good”, in a Shake & Vac sort of way (one of Britain’s most memorable and iconic ads – see end of blog entry if you want to see it).

I disagree.

The Halifax ads are just plain bad and have been well past their sell-by date for a long time.

For example, Delaney Lund Knox Warren & Partners (DLKW) won the Halifax account ten years ago and has run the "cast of characters" campaign – the one with staff members such as Howard – ever since.

Ten years is a long time for any campaign, particularly a cheesy one that has seen the bank bankrupted two years ago and now trading under new ownership, 43% of which is taxpayer funded.

So what should the bank have done?

How about a bit of honesty?

Run a campaign called: “we’re sorry”.

Get a serious but consumer liked presenter, such as Martin Lewis the consumer champion, to front it.

We may not like him, but the public do and they trust him.

So pay Martin a big chunk of money, or someone like him, and get him to be a talking head.

Then I would script him to say something like:

“The credit crisis has affected everyone, and the Halifax has been a part of that. They are sorry about this and, to recognise their gratitude to their customers they are rewarding every customer with a £5 payment for making a deposit of £1,000 each month. This is to reflect the fact that they have changed. They thank you for your continued support and guess what? I think they are OK, so give them a try.”

Something far more genuflective, like this, would be received so much better than using a ten year old, tired campaign that demonstrates that Steve Griffiths, director of brand and customer marketing for the Halifax, just isn’t doing his job properly imho.

Postnote #1: here’s that Shake & Vac ad. It ran from the late 1970s and is still remembered by most UK adults word-for-word. Enjoy!

Postnote #2: if you want to know the Top 10 most annoying UK finance ads ever according to the Times, here they are

Postnote #3: if you're interested in the ads we liked a lot, then here's our top five from 2009.

What is this f****r fee?

So yesterday’s big news is the new Financial Crisis Responsibility Fee, the FCR fee or f****r fee as the bankers are calling it. This is Obama’s big idea to get back lost TARP funds, by introducing a tax of $1.5 million per billion dollars of liabilities on a bank’s balance sheet.

The aim is to raise $117 billion to make up for the losses during the financial crisis. The way it will work is that the banks pay this 0.15% on liabilities and, according to Goldman Sachs, there are around $5.5 trillion of liabilities on American banks’ balance sheets so that’s around $8 billion per year. The tax will apply for ten years, until 2020, or until the TARP fund losses are repaid.

The fee will be applied to only the largest banks, those with more than $50 billion worth of assets, and 60% of the tax will be paid for by the largest banks: JPMorgan, Citi, Bank of America, Wells Fargo, Goldman and co. In fact, the biggest banks will be paying about $2 billion a year for this tax.

There’s also about $1 billion a year that will be paid by UK banks Royal Bank of Scotland (who own Citizens and Charter One Banks), HSBC (who own Household) and Barclays (who bought the US operations of Lehmans).

Sounds bad, but it’s not so bad.

US banks made $250 billion in earnings last year, so paying back up to $10 billion a year in tax ain’t so bad. In fact, I was amazed to find a figure that states that Goldman Sachs made $100 million a day in earnings last year every day for over 200 trading days. So a billion here or there in taxes ain’t so bad, especially if you’re paying billions in bonuses and annoying everyone.

The FCR fee is stirring stuff therefore, and very populist as it ensures that Barack Obama “recovers every single dime the American people are owed”, and hits at the heart of the anger everyone has with bankers making “massive profits and obscene bonuses”.

In some ways, it’s a good idea. It targets leverage and borrowings that banks tap into in the wholesale markets, which is where Lehmans and Northern Rock got scuppered and where Goldman Sachs and Morgan Stanley plough their trough.

The FCR fee also positions itself as the insurance fee which the banks should have paid to get themselves bailed out. They didn’t pay any insurance but then found they were too big to fail so the Fed insured them. This is now payback time.

But it won’t work.

First, it hits at the banks but the banks have paid back TARP. $165 billion of TARP funds were repaid by US banks last year, with an average return to the US taxpayer of an 8% yield. That’s why the Fed made a $45 billion profit last year, through bond purchases and interest on the emergency loans made to financial institutions. It was General Motors, Chrysler and AIG that lost the $120 billion of funds that Obama wants to recoup.

Second, the banks will just pass on the cost of the tax to their customers and investors. Jamie Dimon, CEO of JPMorgan, made the comment straight off that “all businesses pass costs on to customers”, and it is highly likely that the banks will find some way to hide this tax in the costs of doing business. The result is that the proposed tax will be rejected by Congress, who see any tax on the taxpayer as being untenable. The tax has to be directly on the bank.

Third, Geithner ruled out a Tobin Tax on bank transactions at the G20 Finance Ministers summit in Gleneagles last November for the reasons outlined in point two above. The trouble is that the FCR fee is a variation of a Tobin Tax and needs to be better thought out. Obama had and has until 2013 to find a way to get the lost TARP funds repaid, and so he doesn’t need to do something this fast or ill conceived.

Finally, this does not address the two biggest issues: bankers’ bonuses and being too big to fail.

Obama claims it gets at "massive profits and obscene bonuses" ... how?  I don't see it.

If these are the major issues that lie at the heart of the post-crisis bubble of media and public bile, then these need to be addressed and the FCR fee doesn't do it.  The FCR fee purely repays TARP.

In fact, if bonuses and too big to fail are the core issues then, as mentioned the other day, these issues need to be addressed through a G20 agenda, not a unilateralist position whether it be in the UK, USA, France or elsewhere.

Therefore, it is far more likely that the FCR fee will be rejected by Congress and Geithner and Obama end up working with Barnier, Darling, Brown, Sarkozy and company on clawbacks and taxes on banker’s bonuses, along with a variation of Glass-Steagall to bring back a return to ‘narrow banking’. In other words, split the risky investment markets from the retail depositors.

This last point is the key act forecast to happen over the next year or so, and is far more likely to be operable and implementable than a FCR fee.

Survival of the richest

It’s been a difficult time for City bankers, what with all the flak over bonuses and easy money after almost bankrupting the world.

The longest lasting row relates to bonuses and remunerations packages.

This hit the headlines a year ago, and was debated here with the arguments for and against.

A year later, and the argument still rumbles away.

Put “bank bonuses” into Google for example, and over TEN MILLION results are returned.

That’s 10,000,000.

That's almost a quarterly bonus for an investment bank's senior executive and obviously is something that causes a lot of emotion.

Most of the emotion is the resentment that someone is getting paid squillions for doing diddlysquat.

After all, it has been shown on many occasion that a monkey could get as good a result as most stockpickers, but that’s not the point.

The point is that the City traders who return the most profit to the bank get paid the most.

And everyone who is part of a team that returns any profit will get something.

Just a million maybe.

But something.

And if you don't pay it, then the team leaves lock, stock and two smoking cigars.

This culture is so ingrained that there are books about it, with my favourite being David Charters: “At bonus time, no-one can hear you scream”.

It’s a short book about “one man's quest for his annual bonus - in a world where ambition, terror, insecurity and desperate deeds are as natural as organic bread.”

Yep, that describes it pretty well.

The City is a cut-throat, testosterone driven world, which has been well documented in this blog, and elsewhere.

But let’s just look specifically at the UK issue.

The banks are paying bonuses that seem excessive.

The government is unpopular as they are blamed for the bankers’ excesses.

The government wants to therefore clamp down on any excess bonus payments.

But they can’t.

There’s the rub.

The UK cannot clamp down on bank bonuses, even with Alistair Darling’s damp squib of a bonus tax, because one country cannot act on its own on this issue. Not unless they want to lose their banking industry and see it all go overseas.

Apparently no-one believes that will happen, although Boris Johnson thinks it will.

Boris, the Mayor of London, claims that 9,000 bankers are likely to move out of London if there is a punitive singular UK tax regime in this space.

Equally, the Financial Times has discovered that many City banks and bankers are thinking about upping sticks:

"A couple of years ago colleagues of mine would say to me how much they loved London, what a great place it was to live," says a US-born banker at a European investment bank. "Now they're tired of being here. They feel under attack."

Trading is the most mobile investment bank business that could be shifted abroad. And while many banks have show-off, state-of-the-art trading floors in London - such as Bank of America Merrill Lynch's at their European headquarters behind Saint Paul's Cathedral - few would have any compunction about pragmatically shifting a portion of staff to more attractive financial centres.

"A quarter of staff could be easily relocated," says one European investment bank boss. He estimates that within six months, 5,000 to 10,000 City bankers could be shifted to another European centre such as Frankfurt or Zurich.

So what does this mean in reality?

The reality is that the UK cannot unilaterally restrict bank bonuses without losing significant tax and income across the UK.

First, if 9,000 bankers leave then that is 9,000 x (salary + bonus). In reality therefore, if each banker earns an average of £2 million or so all up, it’s a loss of about £20 billion to the UK economy and taxation of around £5 billion or more.

That’s a serious amount of income to the Treasury and commerce across Britain, and London in particular, that disappears up the spout.

No wonder the Evening Standard’s recent poll of Londoners found that 68% of readers feel that bumper City bonuses is good for London’s economy.

But it’s more fundamental than this.

If 9,000 bankers leave London, then it is also 9,000 x 4 jobs.

Each banker supports an infrastructure across London of accountants, lawyers, cleaning staff, receptionists, security guards, catering, bars, restaurants and more.  All of the support and infrastructure that services their offices and complex negotiations in other words.

So it’s more like 36,000 job losses rather than 9,000.

OK, the other 27,000 aren’t necessarily earning £2 million a year, but let’s say they average £20,000 per year, the UK’s average median salary (not London, UK).

This would mean a loss of a further £540 million in income, £100 million plus in taxation and a further 27,000 or more on the unemployed and social security benefit numbers.

Following on from this, wherever the bankers move to will also become a major financial centre and hence other firms might follow paving the way for a mass exodus, in worst case scenario.

In best case scenario, it would just mean that London loses its shine as a Financial Centre, which is threatened already. For example, HSBC has made moves for their CEO to relocate to Hong Kong and is listing on the Shanghai Exchange over the past few months, and many report that Shanghai will outshine London by 2019.

So all in all, the Treasury and Gordon Brown have a big challenge, and it’s not a simple one of cracking down on bonuses with a stupid media-pleasing bonus tax that, in reality, means nothing (the banks just changed ‘bonus’ to ‘salary’, and gave everyone a temporary three month £1m pay rise).

No, this needs co-ordinated global action which is why London is working very closely with Brussels, Washington and other economic centres to try to create a joint agreement on this thorny issue.

Without a joint agreement, one by the whole G20 (not just France and the UK), any action taken in London to limit bankers’ bonuses will be detrimental to the Treasury, the economy and the country as a whole.

The UK banking sector contributes significantly to the UK and its economy:

• Employing almost half a million people with the wider financial industry employing over 1.1 million
• Together with related activities (accountancy, business, computer and legal services, etc), some three million people rely on the financial industry for their jobs.
• Banks and financial services contribute £70 billion to the UK's national output (6.8% of GDP)
• Banks and financial services provide 25% of total corporation tax (£8 billion) to the UK Government
• The value of foreign exchange business passed through London every day is £560bn ($1 trillion)

 

The twelve economic days of Christmas

Pictorial representation of this year versus last year's Christmas, economically speaking (double click to enlarge):

 

Thanks to Go Banking Rates.

Hank Paulson's new job ...

I've just heard that Hank Paulson, he who many blame for turning the financial drama into a crisis ...

... oh yes, and Tim Geithner's predecessor at the Treasury, has been appointed into a key new role in co-ordinating the world's resources.

Here's a clip of him at work in his new job ...

... apparently, it's all that was offered post the meltdown.

Should I sell my house to a banker?

The Guardian asks readers to give advice on a dilemma each week. This week's dilemma is: "should I sell my house to the nice people or the banker?"  I'm fascinated by the reader's views.  Here's a selection, as well as the question in full:

After several lean financial years we are selling our £330,000 family home. A very nice young family has offered the asking price, but a banker has outbid them by £20,000. We need the money desperately, but are loath to hand the keys to a fat cat we don't like. Do we take the cash or help the couple?

Simian
18 Dec 2009, 11:50AM
Wont sell to a banker?! purely because they're a banker.....seriously!? is that not discrimination?
why would you even raise a question like this, have you met the banker and dont like him or are you purely basing your response on the fact that he's a banker and therefore must be a tw@t.
bankers need homes as well, i work as a banker if you hadn't guessed, and i feel that the amount of hate thrown around towards my chosen profession is hugely unfair. if i meet new people it has reached the point where i say i'm a statistician not a banker because i cant stand the comments that i'm a money grabbing barsteward who has stolen from all the honest tax payers in this country. all of which aren't true!

antonyob
18 Dec 2009, 11:59AM
yeh sell to them but put fishfingers behind every radiator.

garethsgate
18 Dec 2009, 12:10PM
Jesus no. It's all his fault personally. This man is entirely responsible for the global meltdown. I would get some local anti capitalist protestors around to drown him in his own tears, I mean, how dare he, HOW DARE HE have the nerve to work in the financial industry. I bet he strangles puppies at the weekend. I bet he personally structured sub prime deals. I bet all the money the government paid out to banks went straight to him, directly, and if he doesn't work for a British bank that has been bailed out, like say Deutsche Bank or Barcap that hasn't been bailed out by anybody then he's still guilty somehow. It's just greed. Unlike the rest of us that work purely for the love of our jobs and aren't in any way materialistic or interested in profit. He makes me sick. SICK. Do your hear me?

xThadd
18 Dec 2009, 12:32PM
This is a business deal. You need the money. I just don't get the dilemma. You can have no idea of the content of the banker's character, and it's silly even to speculate.

Scarlett6
18 Dec 2009, 12:35PM
Sell to the highest bidder - whatever their profession - it's a no brainer
Oh and hang on a bloody minute - the bankers who get those huge bonuses are a TINY proportion of bankers in general. Most people who work in banks earn a very average salary and MAY get "profit sharing" which will be less than 5% of their very average salary. You do the math - the majority of people who work in banks e.g. bankers are the same as the rest of us - sloggin their guts out for very little reward.  And for the record, I am NOT a banker

yonsok
18 Dec 2009, 1:05PM
Not unless you've primed it with six pounds of semtex.

giahosinn
18 Dec 2009, 6:47PM
perhaps the banker is not a genuine buyer and the family are, you are reacting with an unconscious feeling about this and it's not really a moral dilemma about what he does for a living..or actually it's your own guilt about wanting to accept more money and gazumping the family.. but what's the problem about accepting sale from a banker. What if he's a good banker a revolutionary, radical banker, or maybe just a neutral banker.

IvanaTinkle
18 Dec 2009, 7:38PM
It's probably a fair assumption that bankers getting million-pound bonuses don't live in £330,000 houses.

18 Dec 2009, 7:48PM
@antonyob: fishfingers? Nothing fat cats like more than fish and plenty of it.

JayZed
18 Dec 2009, 11:38PM
Is this a genuine question or is it some kind of Guardian Yuletide self-parody? If this "fat cat" banker is buying a £330,000 house he can't be that tubby a feline. You owe it to yourselves to get the best price you can for your home. Taking a dislike to someone because they're a banker is just infantile. For the record, I'm not a banker.

Santa's in trouble, please help

Come on, banks have been bailed out. 

Car manufacturers and all sorts of others have been bailed out. 

Now Santa needs help. 

Come on, have a heart. 

Give generously ...

I think Santa summed it up well when he said: "I personally would feel awkward asking for $26 billion.  That would be ridiculous.  But $25 billion really is quite reasonable."

And Ottowa?  How could you?

Spank the Banker

After the Fat Cat Cash Back internet game comes Bailout Wars, the iPhone App.

Here's a brief review:

The basic idea is you're defending the white house from five different types of bankers all intent on stuffing their pockets full of the bailout money which is somehow bursting out of the windows of the White House.

The game is controlled the same way as other castle defense games, you defend the White House using various flicking and swiping gestures. Different bankers require different tactics, while the standard banker can simply be flicked in the air, the stock broker will open his briefcase and use it to glide to the ground. To kill them, you'll need to slam them in to the ground with a swiping motion.

There's a banker with a vacuum that explodes when you tap him, high risk investors in helicopters that you need to make crash, and a giant CEO that can only be damaged utilizing the White House's weaponry and by flinging other bankers in to him.

As you progress through waves of bankers, you'll earn coins that can be used to buy upgrades to your defenses.

The ad is seriously worrying ...

It reminds me of the new game on Southwold Pier in Suffolk, UK.

This idea is based upon the Whack the Mole game, but it's Whack the Banker.

The idea came to inventor Tim Hunkin to use a mallet to hit as many bald pop-up figures as customers can in a limited time.

''You pay 40p to hit as many bankers as you can in 30 seconds as their heads pop up,'' said Mr Hunkin.  ''It's proving very popular. I keep having to replace worn-out mallets.''

What he has actually created is lots of pop-up bankers with the main advertising slogans of Britain's mainstream banks against each one.  You then whack them away with your mallet and score points.

You can see this idea in reality in many YouTube clips.  Here's one of the better ones:

...  it all reminds me of the test the teacher carried out at my local school the other day.

The teacher asked the kids what their dad did for a living.

Mary's was a fireman, Davy's was a call centre manager, Mohammed's worked in an office and then they got to Johnny.

Johnny piped up: "my dad's a stripper in a gay and lesbian pole-dancing club which got busted the other day for drug dealing".

The teacher was visibly shocked and asked: "can this be true, Johnny?"

"Nah", Johnny replies and decides to fez up with the truth, "he's actually a banker but I get beaten up if I tell the kids the truth, so this sounded a lot better".

Ah well.  At least he's not Tiger Woods ...

WaMu and MPs expenses

In the UK, we've been talking for a while about the issues with our politician's expenses being blanked out. 

See:

 

It's downright disgraceful.  Hiding secret purchases including porn movies and duck houses, how are we ever to trust our leadership again?

It's so refreshing to see how America does things so differently with the release this week of the  internal communications between Washington Mutual's (WaMu) regulators, the Office of Thrift Supervision (OTS), that led to the closure of WaMu.

Of particular interest were the communications that might explain why regulators seized the bank in September 2008, even though WaMu appeared to meet regulatory standards for operating a bank, notwithstanding its burden of bad loans.

Here is an example of a few of those emails:

 

 

 

Thanks to the Puget Sound for championing the cause.
 

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What do bank failures look like?

With over 130 American banks closing so far this year, have you ever wondered what all of those American bank failures looked like?  Well, now you can ...

Visualizing Bank Failures ( 2008-2009 ) from Michael J Bommarito II on Vimeo.

A happy medium for marcroprudential supervision

In the dialogue of the past week or so, an interesting theme has emerged.

The theme is globally harmonised rules.

In fact, there appears to be a tectonic plate shift towards some form of global neutrality.

What I mean by this is that historically, the English have disliked the French and vice versa; the Americans have been wary of the Russians and vice versa; and the Chinese have not trusted most nations, and most nations have not trusted the Chinese.

I get a sense that this is changing.

With the last world war between nations a half a century ago, when we realised the loss of life was too intolerable to bear, we have had a tense but workable trading relationship worldwide ever since.

That trading relationship has been brought to a head over the past year though, as the credit crisis strained all cross-border trade and finance relationships.

America and China were rumoured to be starting trade wars; Russia clamped down on dissident bloggers and media reporting; Europe split into pro-banking and anti-banking blocks; and everyone has been on tenterhooks to see how the world and, more specifically, the G20, would work out these issues.

And there’s the rub: the G20 has to work out these issues and act in unison. Unilateral actions from one country, such as taxing bankers’ bonuses, will just result in banks and bankers moving to other financial centres to avoid the unilateral actions.

If this is the supposition, then we get into an interesting dialogue around the future.

For example, when Lehman Brothers collapsed, they had a leverage ratio of over 37:1. In other words, for every dollar of trading at their collapse, Lehmans had to find $37 of liquidity and, when that dried up, so did their collateral position which is why they collapsed.

On the other hand, as blogged about the other day, if you operate in a market with zero trust then you have to place too much collateral into the markets and get zero leverage or expansionism as a result.

There has to be a happy medium therefore between casino capitalism and collateralised communism.

Equally, the megalomania of the ego of a CEO who can leverage a bank so far that they burst is also coming under fire. Some form of checks and balance has to be in play. So maybe the Anglo-Saxon banking model has to move more towards the Asian consensual approach, where every decision is made by the collective rather than the individual. Mind you, that model is also flawed as consensual management means the loss of individual flair and dynamism, which hinders innovation and entrepreneurialism.

There has to be a happy medium between individual entrepreneurialism and team spirit.

Finally, we appear to be moving away from free markets and principles-based regulation to tightly controlled markets with Napoleonic law. The problem with the Napoleonic approach is that it means everything has to be written into the rules. That is because if it’s not in the rules, then it is assumed to be permissible. Hence, you end up with rule upon rule, and bureaucracy upon bureaucracy.

So there has to be a happy medium between free market disciplines with self-regulation and tightly monitored markets with strong regulators.

All in all, what the G20 movement seems to be moving toward therefore is global macroprudential supervisory structures that will strike a balance between leveraged collateral coverage, entrepreneurialism and individual innovation with appropriate market checks and balances, and free markets structures with tightly coupled regulations.

Although some of these drivers, structures, rules and procedures appear to be at opposites with each other, what it really means is that the G20 has to navigate towards a globally agreed approach that works for all.

Tough call but, if they can do it, a worthwhile goal to strive for.

The biggest danger is that we end up with rules that operate based upon the lowest common denominator. This is what we have ended up with in Europe, where all Directives are agreed to cater for the least sophisticated member state at the expense of the sophistication of the most developed states.

Or that’s what people are telling me in the banks, as they are forced to obsolete highly functional systems for ones that are less functional as a result of EU directives.

This game of macroprudential supervisory structures will be an interesting one to observe, and to discover whether we get the best or worst of all worlds ... or, most likely, something in between.

Gordon Brown's entente cordiale

Much has been made today of the fact that Gordon Brown and Nicolas Sarkozy have jointly written an opinion piece in the Wall Street Journal. Like some new entente cordiale, this is fantastiche to see the coup de grace of global leaders working in partnership.

Here are some highlights from their article:

“The way global financial institutions have operated raises fundamental questions that we must—and can only—address globally.

“We have found that a huge and opaque global trading network involving complex products, short-termism and too-often excessive rewards created risks that few people understood. We have also learned that when crises happen, taxpayers have to cover the costs. It is simply not acceptable for them to foot the bill for losses in a deep downturn, while institutions' shareholders and employees enjoy all the gains as the economy recovers.

“Better regulation and supervision are the means by which the risk to the taxpayer can be reduced for the longer term ...

“There is an urgent need for a new compact between global banks and the society they serve:

“A compact that recognizes the risks to the taxpayer if banks fail and recognizes the imbalance between risks and rewards in the banking system.

“A compact that ensures the benefits of good economic times flow not just to bankers but to the people they serve; that makes sure that the financial sector fosters economic growth.

“A compact that ensures financial institutions cannot use offshore tax havens to negate the contribution they justly owe to the citizens of the country in which they operate—and so builds on the progress already made in ending tax and regulatory havens.

“Therefore, we propose a long-term global compact that will encapsulate both the responsibilities of the banking system and the risk they pose to the economy as a whole. Various proposals have been put forward and deserve examination. They include resolution funds, insurance premiums, financial transaction levies and a tax on bonuses.

“Among these proposals, we agree that a one-off tax in relation to bonuses should be considered a priority, due to the fact that bonuses for 2009 have arisen partly because of government support for the banking system.

“However, it is clear the action that must be taken must be at a global level. No one territory can be expected to or be able to act on its own.”

Hmmm ...in yesterday’s pre-budget announcement the UK Treasury leader Alistair Darling announced a unilateral 50% tax on any bonuses over £25,000 with immediate effect.

First, the banks will find a way around such a tax.

Second, there’s already a 50% tax rate on earnings over £150,000 so big deal.

Third, what’s the point of unilaterally taxing bankers if other nations, especially the USofA, don’t do this, as it will just means bankers move to other financial centres to work.

Aha. So that’s why Gordon Brown has written an article in the Wall Street Journal – a USofA financial paper –avec M. Sarkozy who will naturally be supportive as his lead Finance Minister, Christine Lagarde, has been fighting this corner for a while.  The aim being to show a united European approach and place pressure on Barack Obama to follow suit, as discussed in the New Yorker (Will Obama tax the Banksters?).

Add all this up with the sweetener that the new head of financial regulation in Brussels, Michel Barnier, is Sarkozy’s lieutenant and maybe this all explains why Mr. Brown is cosying up to the French.

Je comprend maintenant.

The name's Green ... James Green (Update)

Travelling around recently, hotels only seem to have English speaking news channels on the TV.  Boring.

Endlessly cycled news, regurgitated on the half-hour every half-hour (every fifteen minutes in fact).

Zzzzzzzzzzzzzzzzzzzz.

Then there's the adverts.

And suddenly Sean Connery - yes, he's still working and alive! - comes on saying, "eesh time fwor green banking".

What?

Sean Connery, the original 007, the man with a licence to kill, the hardest man on the planet at one point - oh yes, and he's Indiana's dad - is now saying it's time for green banking.

What?

What is this 'green banking' and why the hell is James Bond selling it.

Only Credit Agricole know ...

UPDATE

The ad has gotten Credit Agricole into a bit of trouble with French authorities, as Sean Connery wrote in his autobiography last year:

“Little did we all know then that (this) bonnie bank (Royal Bank of Scotland) would fail in 2008, as catastrophically as Scotland’s Darien misadventure had done over 300 years ago.

“Just as the banker William Paterson’s ambitions had caused the disaster of Darien, so had the reckless foreign acquisitions of the banker Fred Goodwin, chief executive of the Royal Bank of Scotland, wreaked disaster.

“Both had to retreat from their over-extended misadventures and both had to be rescued by the state with many billions of taxpayers’ pounds. Who are the conmen now?”

and Sir Sean took £1.2 million of Credit Agricole's money, a bank that also received £2.7 billion from the French Government in emergency aid?  No wonder the ad isn't running in France ...

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Part Three - Real-time risks and opportunities

In the final part of this discussion of risks and opportunities in CEE, I was asked to give a view (see if you can spot me).

 

So here’s my brief summary:

What are the risks for the next year or two?

First, we are still in the middle of what I call the internet, or www, recession. There are still foreign exchange and trade issues between China, Europe and the USA, and doubts over sovereign debt defaults in key countries such as Dubai, Greece and Ireland. In addition, we still have a UK AAA-rating risk of downgrade, as do other countries, and all of this will make 2010’s economic recovery a challenge, although not as hard as this year has been.

Second, we are seeing a major contraction in debt amongst businesses and consumers. This means that those who can pay-off debt are doing so, leaving those who want to borrow or increase debt being those who are increasingly viewed as being higher risk because of their need. This will potentially result in a ‘debt squeeze’.

The debt squeeze is where banks are left with the people who want lending being those they can’t lend to, whilst those they can lend to are the customers who don’t want it and have paid it back.

Third, there are still risks, especially liquidity risks, that will require banks to seek further diversification of risk by either entering new markets or, more likely, pulling out of all markets where risks are less quantified. This could still lead therefore to national protectionism, where a bank actively seeks to focus on known home territories, whilst selling off or shutting down any more recent and therefore less known expansionism.

Fourth, there are issues of corporate governance as mentioned by John McFall.

Fifth, there are the nerves created by the change of leadership of the management of the internal markets of Europe, from the City-friendly Irishman Charlie McCreevy to the unknown but pro-French minister Michael Barnier.

Finally, there is a challenge with technology, in that there is fast cycle change in technologies in the front office areas of retail banking (mobile) and trading rooms (high frequency trading) versus very slow change in back office infrastructures (SEPA is now seven years old and interoperability in Clearing and Settlement is still to happen). This dual carriageway of slow lane back office and fast lane front office technologies is going to crash somewhere in the middle, unless something is done to align the two better.

On the opportunities for the next year or two.

First, things are cheap. If you are a bank with liquidity, then you can pick up a bargain these days. This is no better demonstrated than JPMorgan with Bear Stearns and Washington Mutual, or by Santander with Alliance & Leicester and Bradford & Bingley. If you have capital, then today is a low hanging fruit picking season.

There are also opportunities for those who can innovate. With so many firms focused upon operational excellence and internal management issues, firms that have clearly unblinkered and unfettered capabilities to compete can begin to decimate.

Some of this opportunity is being created by deregulations that have been years in the making. For example, non-bank payments institutions in Europe could sweep up a lot of activity now that they can be registered for processing under the Payments Services Directive. MiFID is still allowing change and competition for the MTFs, with Chi-X and BATS taking a lump or two out of those markets.

Most important of all, of course, are the ability for new banks to enter weak markets. This is why the UK has flurry of new banks, from Virgin and Tesco to Metro and the Post Office.

Therefore, strong, well-capitalised, financial institutions and non-banks can start to cherry pick much of the banking market profitability if they want, leaving the incumbents with the festering gristle.

So, all in all, here’s the message.

For most banks, 2010 will be a return to basics and a focus upon getting the most efficiency and effectiveness out of operations. Operational excellence will still be the key management competency. This was the focus for 2009, but the ‘back to basics’ approach will be even more resonating and loud.

Real-time reporting will be critical from all angles, especially from a risk reporting viewpoint. The FSA has been pushing for real-time liquidity reporting, and it would not surprise me if a move towards real-time clearing and settlement becomes a focus on the table. That’s the focus of trading exchanges, such as Eurex or the Russian exchanges, and real-time is also becoming a focus in the retail world as the march of faster payments progresses. So real-time everything will be key.

Finally, intimate customer knowledge and using the tools for strong customer analysis with data mining tools will be high on the agenda. As bankers, many are looking for more cross-sell opportunities and you only get those if you have customer intimacy. This is a key.

In fact, it is best illustrated by the Tesco example given the other day, where the fact that I know your buying habits means that I can tailor my offer and rates to you on an individualised and personalised basis. If you buy lots of alcohol and cigarettes then your car and life insurances cost more than if you buy muesli and keep-fit supplements. That’s real customer intimacy.

In summary, back-to-basics, real-time everything and customer intimate operations will be the key.

Istvan Lengyel of the CEE Banking Federation didn’t like the idea of real-time trading. In particular, he was concerned that if a bank collapse, such as Lehmans, takes four days today then what happens if it is four nanoseconds tomorrow. What can you do?

I think he missed the fact that I was talking about real-time risk management and real-time liquidity reporting too.

John McFall of the Treasury Select Committee didn’t like the idea of Tesco giving discount on car insurances based on lifestyle. He thinks that two MP’s who find one saves £100 on car insurance because he or she doesn’t smoke would be grounds for a good early day house motion.

I did try to make clear that risk-adjusted pricing is the very heart of finance, and the better you are at this then the safer the markets would be. Equally, risk is at the very heart and nature of insurance. Also, if I give Tesco permissions to mine my lifestyle by being a Clubcard member, then so be it.

 

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This is the www.recession

People have talked about an L-shaped, U-shaped, V-shaped or even LUV-shaped recessions, but don’t believe them.

This is not a LUVerly recession, it’s a nasty one as demonstrated yesterday by the news that Dubai is deeply in distress.

Dubai's news will make this the internet, or WWW-recession.

Just as we get a bit bolder – with stock markets rising 60 to 120 percent in some regions – we then get our fragile confidence knocked for six.

Why is this so much of a shocker?

Because Dubai has been in denial of any issues for months.

For the past three months Dubai's leader, Sheikh Mohammed bin Rashid al-Maktoum, has always said there are no issues. He has adamantly claimed that he has made no mistakes and any rumours of issues between Dubai and Abu Dhabi are unfounded and the scaremongers should just "shut up".

So yesterday ends with everyone disappearing for the religious holiday of Eid al-Adha for a week, what does the Sheikh do?

Oh, he just says that the $80 billion worth of debt may be in doubt (btw, it’s probably twice that amount as that’s just hte official numbers) and could they postpone their mortgage payments on Dubai World and Nakheel, the two largest firms in Dubai.

Dubai World owns P&O (controversial buyout in March 2006) whilst Nakheel are the developers of the Palm Resort where David Beckman and other stars own properties.

What yesterday’s announcement really means is that Dubai can’t afford its debt. Not paying back the capital on its debt, but even paying the interest on its debt.This has been denied as an issue by Dubai until yesterday, and is a reflection that even with the $10 billion borrowed from Abu Dhabi, it’s not enough.

Dubai World on their own owe $22 billion and the issues of interest drifts on sovereign debt – the cost of borrowing has doubled in recent months – created this chasm of cost.

For the UK banks this is particularly difficult. Just as they were getting some sense of normality back in the system with share prices rising and Lloyds recapitalisation rights issue looking sound, the markets take a knock for six.

The thing is that the UK banks have been the most supportive of the region during the growth years ... which obviously means they would be the most exposed in a recession if Dubai does implode.

It is interesting for example, that for some time we have known the region has issues, with a mass exodus of workers leaving cars at the airport as they flee the country and their debts.

This is highlighted for me with the fact that I first visted Dubai in 2003 and there were a few buildings being developed, but you could count them easily.  Returning each year, it amazed me how many more new buildings were flying up, with what seemed like hundreds of new skyscrapers appearing each year.

In fact, with the ultimate arrogance, Dubai has most recently been building the world's tallest building for a cost of over £1 billion.  I also remember visiting the Burj Al-Arab Hotel a few years ago ...

 

... and seeing it's opulence, with gold leaf pillars and emerald encrusted walls, asking: "how much did this cost to build?"  The answer was that no-one knew.  They just said spend whatever it takes.

This would be fine for an oil-rich state, but Dubai is not oil-rich.  They realised twenty years ago that their oil reserves would run out before any other GCC nation, so they switched tack to create a logistics (cargo and port authorities), tourism and financial mecca for the Middle East.

And they have been on track to achieve this, but with the implosion of goods, tourism and finance in this crisis, their three main focal points, this is a bad time for Dubai.

Now whether this means the end of Dubai, another global knockdown, tighter lending or worse, we don’t know yet as it could not be as bad as it looks (really?!) ...

... but it does mean that the banks exposures to Dubai which people are saying is in the $13 billion to $40 billion range  – WHAT? that’s a massive range!!! Yes, but no-one knew what the cost will be as the Dubai authorities aren’t saying – will mean that the recapitalisation and rights issues of the UK banks means diddlysquat if partner nations move into meltdown.

All in all, a bad day and it’s no wonder that one City analyst described this as the new Lehmans.

Let’s hope he’s wrong.

The BBC has been collecting views from the region:

ANONYMOUS BUSINESSMAN, TEXTILE INDUSTRY

This news doesn't come as a surprise to anyone here, although the government has kept quiet on the subject and people don't discuss it. We've been concerned about the situation for quite some time. Since July we've had two increases in our electricity bills. Our monthly bill was £15,000, now it is nearly £30,000. That is a massive industrial price hike and it's totally unjustified in this oil-rich country.

SARAH, WESTERN JOURNALIST

Six months after I bought a flat, it lost more than half its value. I'm trapped here - even if I rent it, the rental income won't cover my mortgage payments.

MATTHEW, PERSONAL TRAINER

The word out there at the moment is that Abu Dhabi will bail Dubai out and people here are confident that sooner or later it will happen.

ANDREW, MANAGING DIRECTOR OF A COMPANY

I have to say, I think the West and the UK in particular focus too much on the negative stories from Dubai. Like all places, Dubai has been hit hard by the global financial crisis. But believing rumours of 5,000 cars abandoned at the airport, which has only 1,950 parking spaces, is a case of not letting the truth spoil a good story ... we have no rain, no tax and no jury service. I can think of many worse places to be.

PHILIP, FINLAND

Nakheel carried out the most ambitious projects in Dubai - too too ambitious and costly. They damaged the very thing that was Dubai's jewel in the crown - the beautiful white sandy beaches. Dubai needs to invest in a wider range of sectors: manufacturing, the service industry and perhaps more specialised industries. Unfortunately the emirate has learnt the hard way, but it will recover and it will be a good place to live and work in the future.

REBECCA, TEACHING ASSISTANT

I feel unsure about the future of Dubai. When I was listening to the news this morning I was thinking, if things get worse, maybe we should consider moving. It's not what I want to do, but the thought crossed my mind. As my husband says, Dubai has been going too big too fast and now there are not enough funds to sustain this development.

PAUL, DUBAI

A few of my friends lost their jobs, then over a period of three, four months most of my friends lost their jobs. Then I lost my job too. I was really hit hard. The bars and restaurants here were full of unemployed people, talking about moving. Then I noticed the small things - rental prices dropped massively, the daily commute to work in horrendous traffic took only 15 minutes instead of one and a half hours. Lots of abandoned cars in the car parks gathering dust ... greed played a huge part, short-sighted planning, an attitude of get what you can and get out, all played a big part. That's all over now, it's time for Dubai to mature. This is a good thing, I am staying as I know Dubai will come back as a vibrant, successful and truly amazing place to live.

JOHN, DUBAI

I never noticed those signs last year but now they are all over. There are so many office buildings empty here, giant letters on their sides spelling out how cheap the square footage is. There was no control, just wild building and even worse inflation. Now things are on the slide, you can pay your rent monthly and negotiate with desperate landlords for 50% reductions.

Russia's nerves creates massive volatility

After my meetings in Moscow last week, I’m wondering whether there is a Russian model of investing that could work with our Anglo-Saxon world of trading and meeting one of the key guys at MICEX, the Moscow International Currency Exchange (nothing to do with one’s gender), gave me a different view of Russia’s position.

As mentioned last week, real-time settlement is key to Russia’s markets, because no-one trusts each other. This then inhibits leverage because of the need to deposit enough collateral to cover your position.

On MICEX, the Central Bank obviously has an ability to leverage as much as they want because they are guaranteed to pay back. The large banks, such as Sberbank, are allowed a reasonable level of leverage based upon a deposit of a percentage of their trading position, although I had the impression that this is a sizeable percentage. But everyone else has to deposit enough collateral to near enough cover their total trading. This inhibits trading and leverage, but at least it guarantees settlement which some might say is no bad thing.

But there is a bad thing.

Volatility.

As mentioned on Friday, the RTS Index has been bouncing around faster than a Bolshoi Ballet Ballerina this year. This is because no-one invests in Russian stocks or stock markets for the long-term. It’s all short-termism.

A casual trader will play with Russian stocks for six months and then pull out. An e-trader maybe for just a month. When asked “what is long-term in Russia”, my friend at MICEX calmly replied: “less than a year”.

You see you can get your fingers burnt real fast. We talk about short-sellers in Europe and America, but in Russia these guys are not just selling short, they’re selling Bashful, Grumpy, Sleepy, Sneezy, Happy, Doc and Dopey.

These are the ultimate of short sellers, and hence you can buy into Russian stocks in the morning and be a millionaire or a pauper by end of day.

That is why real time settlement is critical, and why positions, margin calls and trading structures are so key.

With MICEX, they claim to be trading around RUB 700 billion (GBP £17 billion / USD $25 billion) per day. Of that, over half is currency trading and the rest is everything from derivatives to equities, corporate bonds to treasury bills.

MICEX’s history is also interesting. The Exchange started just after Gorbachov’s reforms in 1990, as a division of the Central Bank of Russia.

Launched in 1992, it enabled currency trading which, before MICEX, did not exist in Russia.

MICEX were also at the heart of the bubble that led to the 1998 financial crisis in Russia, as GKOs were their stock in trade.  GKO’s - Gosudarstvennoe Kratkosrochnoe Obyazatelstvo’s - are short term state bonds issued by the state of Russia and traded on MICEX. Because people did not understand or know how to deal financial instruments in Russia back then, it meant that debt was generated without any sense of the obligation to pay back.

As a result, GKOs were originally traded for the short term in days and weeks but, as people saw these as state-backed securities, they gradually moved into being traded in months and years. In other words longer term, rather than short term.

The result of over issuing GKOs and trading them long instead of short meant that, by the end of the 1990s, GKOs were worthless and the market imploded, creating a financial crisis with effects still felt today.

MICEX survived because they had diversified beyond trading currencies and GKOs to trading equities.  Today, they trade a few hundred of Russia’s most liquid stocks such as Gazprom.

But the issue remains that, having had fingers burnt by trading long, no-one trades long today. Everyone trades short.

So there’s the rub.

By being short sellers, Russia’s markets are highly volatile and very liquid and, by being risk avoiders, Russia’s markets are totally geared towards zero risk. There is no risk in Russian trading as everything is geared towards real-time settlement. The only risk is technical risk if the systems fail.

A market with risk eradicated is not a market that can trade effectively.

Now I’m back in London and thinking that European and American markets are geared towards high risk arbitrage strategies based upon low latency leverage. We have market risk, credit risk, and operational risk.

But our market encourages risks, and this is also a market that cannot trade effectively, as recognised post the Lehmans collapse.

We are trying to baton down the shutters on liquidity risk and we talk about ‘likelihood of settlement’ as a part of the puzzle, although price and cost are just as important.

In Russia, there is no ‘likelihood of settlement’. Settlement is guaranteed.

But equally, in Russia, there is no long-term investment market.

So there may be a middle ground here, between highly leveraged risk strategies and guaranteed settlement; a middle ground between long-term investing and making a buck through a short selling bet.

Right now, the Anglo-Saxon model is broken, whilst the Russian model is yet to start working effectively to build commerce.

So, will the financial instruments of the Anglo-Saxon model play a part in building leverage and commercial growth in the Russian markets? The Russians certainly think so but if, and only if, the trading model can incorporate the risk management principles of the Russian model.

What has MiFID done for democracy?

Fascinating meetings with the Russian exchanges RTS and SPIMEX. After my reference to military intelligence yesterday, you may wonder whether SPIMEX is something to do with finding out who started the swine flu pandemic but no, it’s the St. Petersburg International Mercantile Exchange.

The two exchanges have very different start points and focal points, with RTS (the Russian Trading System) starting as a privately-owned exchange back in 1995 whilst SPIMEX is an initiative of the government to create a working commodities exchange.

I had been aware of RTS for a while as, during the MiFID investigations, their name came up many times as a working, highly automated exchange. Originally launched using NASDAQ’s trading platform, they soon developed their own products and services, covering algorithmic trading for equities, forex, future and options and more.

Today, the exchange is one of the best performing, with the RTS Index tripling in value during 2009 to an index high of 1,451 at yesterday’s close, compared to a market low back in February of under 500, although this is still well below the high of 2,487 in May 2008.

What is the reason for such volatility?

Oil.

Chris Weafer, Chief Strategist at Uralsib Bank, puts it in context: “We've recovered very strongly this year mainly because of the recovery in the oil price. Plus, the recovery and optimism in the rest of the world has allowed for the Russian ruble to stabilize."

Or is it because RTS is a keen innovator offering analysis across every trader’s portfolio and position in real-time, as the RTS people I spoke with yesterday said.

RTS now offers highly automated trading across 1,400 stocks, with 90% of the trades using automated systems and 10% Over-the-Counter (OTC). It is also one of the top 40 Global derivatives exchanges and trading is getting far more complicated, with around 15 trades per transaction on average today compared with 10 trades per transaction just two years ago.

Similarly talking with the SPIMEX guys, there is a clear vision that they are trying to avoid being another failed commodities exchange (around 60 have been launched since 1990).

Why did the previous exchanges fail?

Because no-one trusted them by the sound of it.

According to a SPIMEX advisor, it was because of a poor understanding of risk, a word rarely used because Russians do not allow risk to occur. This is why most exchange and exchanges are based upon ‘fundamentals’ – "if I can see it, touch it and trade it, then that’s ok. If you are looking for me to pay now for something that might pay back in the future, no way."

This is why most Russian banks do not provide trade finance, and why oil is an issue.

For example, oil producers currently do not co-operate because they do not trust each other, according to one of the guys at SPIMEX.

Most oil producers are local monopolies with no competitive mechanisms. As a result, when oil prices rose in 2007-2008, Russians were paying more for their oil than America and Europe, even though Russia has more oil reserves and production than most.

So SPIMEX was launched in September 2008 to overcome this, with the Russian anti-monopoly committee creating the right environment to trade on exchange by fining several of the oil producers for anti-competitive practices.

But the real common feature of both SPIMEX and RTS is real-time risk management.

Both exchanges proudly talk about their focus upon real-time analysis of traders’ positions.

In the case of SPIMEX, they offer real-time settlement and straight through processing, so there is no risk for trading.

In the case of RTS, they offer real-time positioning of every trader and every trader’s clients portfolios, not just in real-time for their own trades but also for the knock-on effect of their dealings in derivatives down the line.

I asked RTS about their risk management, and they made clear that for each transaction, the risk is calculated for the trader’s portfolio, including all orders to be filled, in real-time. There are then two clearing sessions during the day. One at 14:00, which takes three minutes to process, and the second is at end of day, and takes fifteen minutes.

If a margin call is made, the broker must cover their position within two hours or, if at end of day, before the start of the next day’s trading.

This discussion got interesting, as RTS and SPIMEX appear to be developing systems that ensure no trader can leverage risk to the levels where the market implodes, and they do this in real-time.

It is the nature of new trading systems and operations that they design things to work in the ideal way, as the outline above is what Europe and USA are trying to develop.

For example, the FSA’s £2 billion technology change program for real-time liquidity reporting is pretty much what RTS has today.

No wonder the gentleman from RTS turned to me towards the end of our chat and asked, straight-faced, “what has the Markets in Financial Instruments Directive (MiFID) done for democracy”.

He probed me about best execution and what it means: “is it just all about price, speed and cost (and likelihood of settlement)?”

I then realised what he was getting at.

Where, in all the developments of MiFID and its best execution, transparency and competitiveness objectives, was the mention of risk?

Where is the focus on real-time risk reporting?

Hmmmm ... it’s obvious that RTS, and the Russian aspirations to build the next major Russian-Asian commodities exchange, is something to watch.

Meanwhile, the major thought that struck me in this dialogue, was that we have two opposites.

In Europe and America, we have an over-leveraged, casino capitalism culture of trading that is now being re-engineered to restrain excessive risk without responsibility.

In Russia, we have a risk avoidance trading environment through real time controls, which needs to increase liquidity and leverage in order to fuel the flow of commerce.

If Russia does not achieve this, then its commodities ambitions cannot be achieved.

So maybe there is a happy medium here between the Russian approach to risk controls of trading, and the Anglo-Saxon approach of using financial instruments to create liquidity.

Now there would be a thought ...

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