Sun bathers on the sand beach at the swimming pool in the Glen Echo amusement park, Maryland. In the foreground, the photographer's sisters Claire and Enid Bubley
Ilargi: When President Obama was on Letterman earlier this week, one of the first things he said on the economy was something to the effect that 'most economists are now seeing a recovery'. But how can you not wonder these days who the economists are the president refers to, and what those same economists were saying a year ago or 2 years ago about the state of the economy?
You would wonder about that because the number of economists who were even remotely close in their predictions back then easily fits on the fingers of one hand, and moreover the ones that were correct are by no means necessarily the ones who have the president's ear.
Hence, you now find yourself with a president whose economic policies are based on the assumptions of a group of people who in general have been god-awfully wrong throughout their entire careers, and most of all when it counted. They can describe in 1000-page tomes what happens within a system that doesn't move much, but as soon as there are substantial fluctuations, none of their theories have any relevance.
Economics is not a science, it just poses as one. And economists are not scientists, even if they have imposing titles behind their names and a Swedish Central Bank award that has hijacked and plagiarized Alfred Nobel's name, intentions and stature.
You don’t even have to look all that close to realize that the economists who have the largest influence on today's policy-making, people like Alan Greenspan, Ben Bernanke, Tim Geithner and Larry Summers, despite yawningly drawn-out discussions about the differences between Keynes and Friedman, are to a man the proverbial hammers that can see only nails.
All policies executed so far, and all waiting in the pipeline, have the same basic idea. That is, when there is a problem, throw money at it. Too much debt? Throw money at it. There may be trivial differences in the amounts of money to be hurled at a particular issue, and their precise source (though in the end it will always be the silent majority that pays), but down the line it all remains inconsequential.
Quantitative easing is one of the policy measures that has been heavily used in for instance the US and UK this year. But there is zero proof that it will, or even can, actually work. In fact, what evidence there is comes from Japan, where QE has definitely not worked at all over the past 20 years.
What makes QE so appealing, of course, is that it provides economists with the chance to do the one thing they know how to do: throw money at a problem, hammer that nail. And if at first you don't succeed, there's always that one option left: throw more money at it. For economists, truly, the world is flat.
Obviously, there are plenty examples of fake, freak and pretend sciences around. The sun revolves around the earth. When Jesus was born, dinosaurs roamed the earth. Plentiful oil is being made inside the earth as we speak. And people can solve any problem they create if and when they choose to do so.
What makes economics special among pretend sciences is that everybody, not least of all leading politicians, believes in what economists proclaim. Which is no mean feat, given the fact that these have a track record that makes local weathermen look like absolute geniuses.
Given that troubled picture of economics and economists, why on earth does a man like Obama bring up their latest predictions, once again, as a justification for his latest economic policy decisions? Because he doesn't have anything else, that's why. And secondly, because the message that emanates from present day economics is such an ideal fit for the financial world that has essentially taken over the government, you’d almost think the curriculum at economics schools is set at Goldman and Federal Reserve headquarters. It is?
Nothing better for these institutions and their executioners than a license to spend everybody else's money. The smartest economists may well be the ones who don't buy the message at all, but have recognized its potential for generating unparalleled profits. The rest of them function merely as facilitators and justifiers for a system that is bankrupting the nation at breakneck speed, all so-called analysis geared towards confirming not what is, but what is desired.
In Obama's message, and in Geithner’s, as well as all through the G-20, the same old one-dimensional flat world goal trumps all: growth. There is never any discussion about whether more growth is what's best for society, it's simply all they know. Ask any physicist about the idea, and they’ll laugh in your face. But they don't make economic policy. And the people that do, though they have their fingers on all the wealth and future wealth of the nation, have no Plan B. That is scary.
Meanwhile, maybe this will spur some thought. During the present crisis not a single policy has been approved and executed, ostensibly with the goal to counter the overindebtedness of all facets of society, that has not added to that same debt.
In my dictionary, that is called perverse.
Equities carry too much risk
by David Rosenberg
The banker J.P. Morgan was fond of saying: “I never buy at lows, I never sell at the highs, I play the middle 60 per cent.” Well, from our lens, we are well past that middle 60 per cent point of this bear market rally. At the lows in the equity market in March, the S&P 500 was de facto pricing in a 2.5 per cent decline in real gross domestic product and $50 of operating earnings for the year. Guess what? Far from being grossly undervalued (although some stocks were – especially financials, priced for bankruptcy), the market at those lows was fairly priced on a price-to-book and price-to-earnings basis.
Usually at bear market troughs, the S&P 500 goes to silly cheap levels. It did not this time round and, six months and 60 per cent later, there is yet again, in 2007 style, tremendous risk in this market. Never before has the stock market surged this far, this fast, between the time of the low and the time the recession (supposedly) ended. What is “normal” is that the rally ahead of the recovery is 20 per cent. This market is now trading as if we were in the second half of a recovery phase, yet it has not even been fully ascertained the downturn is over.
Remember, Mr Dow and Mrs Jones are not always rational beings. At the stock market highs of October 2007, equity valuation was embedding a 5.0-5.5 per cent GDP growth profile. What did we end up with? Try flat, on average, over the subsequent four quarters. Fast-forward to today and the S&P 500 is priced for 4 per cent real economic growth in the coming year. It is far from impossible to see that, but the odds are low – less than 20 per cent in my view.
An unprecedented eight-point price/earnings multiple expansion during a six-month faith-based rally has left the market at its most expensive (26 times operating profit, 180 times reported profit) in seven years. On a reported basis, this market is nearly four times overvalued, as it was during the tech bubble! Indeed, when we look at the history books to see what happens after the P/E multiple on trailing earnings pierces the 25 times threshold, the average total return a year out is -0.3 per cent and the median is -6.2 per cent. The total return is negative a year later 60 per cent of the time, so when we say that there is too much growth and too much risk embedded in the equity market right now, we like to think that we have history on our side.
We have been willing to express a cyclical view more through the fixed-income market, namely our corporate bond and premium income strategies. Based on our research, Baa corporate bonds were pricing GDP contraction of 10 per cent at the widest spread levels, not 2.5 per cent as the stock market was discounting at the lows.
Now that is silly-cheap and, while the low-hanging fruit has been picked in the credit space, the corporate bond market is now priced for 2 per cent real GDP growth, not 4 per cent. In other words, there is less risk in credit than there is in equities, even after corporate spreads have been sliced in half from their depression-era levels. By way of comparison, we discovered that if the stock market had priced in the true Armageddon 10 per cent contraction trajectory the credit market had been discounting at its worst levels, the S&P 500 would have bottomed around the 315 mark. This puts the 666 diabolical low, horrific as it appeared, into proper perspective.
Flipping the analysis around, what if the stock market were pricing in the same 2 per cent growth rate the corporate bond market is discounting? Answer: 842 on the S&P 500. So, if you’re asking us if we think we will see a 20 per cent correction in equities, the answer is Yes. Sure, there could be another 100 points left in the S&P 500 from here to the upside in the near term, but it is seldom wise to chase an overvalued market to the top unless you are gifted enough to know when to call it quits.
The next question, naturally, is where Baa spreads should be trading if they were to align with the 4 per cent real GDP growth implicit in equity prices. The answer is: 200bps spreads over Treasuries, or about 100bps tighter than they are today. To reiterate, the equity market is overvalued and carries too much risk right now.
World stocks fall amid drop in oil price
World stock markets fell Thursday as investors took profit from recent rises and energy stocks were hit by a big drop in oil prices. In afternoon trading in Europe, Germany's DAX was down 0.3 percent to 5,688.33, Britain's FTSE 100 lost 0.3 percent to 5,125.55, and France's CAC 40 dropped 0.5 percent to 3,804.15. Stock futures pointed to a lower opening on Wall Street. Dow Jones industrial average futures shed 0.1 percent to 9,703, and Standard & Poor's 500 futures slipped 0.1 percent to 1,057.60. In Asia, Hong Kong's Hang Seng index was the biggest loser, falling 544.79, or 2.5 percent to 21,050.73. South Korea's Kospi declined 17.59, or 1 percent, to 1,693.88.
The declines came after the Federal Reserve kept interest rates unchanged at a regular meeting Wednesday, as widely expected, and said the pace of economic activity has improved since August. On Thursday, investors will get more clues on how the U.S. economy is faring when data on jobs and housing is published. They will also be keeping an eye on the Group of 20 meeting of the world's leading economies on Thursday and Friday in Pittsburgh. Later, investors in Germany will turn their attentions to Sunday's national election.
In Europe and Asia, lower oil prices weighed on energy stocks. The price of crude fell nearly 4 percent Wednesday on an unexpected jump in U.S. inventories that suggested consumer demand remains weak. Benchmark crude for November delivery was down 58 cents at $68.39 in European trade Thursday. "That's taking a shine off indexes but I think that's very short term," said Jane Coffey, head of equities at Royal London Asset Management. "The market's really waiting to see what's going to come out of the G-20. We're in a bit of a waiting mode rather than moving forward or having any worries about going backwards."
Profit-taking among short-term investors was also playing a role in market movements and is "a stark reminder that sunny optimism can last for only so long without faltering, especially in the midst of a global downturn," said Anthony Grech, market strategist at IG Index. Most Asian markets lost ground, including Australia's benchmark, down 0.7 percent, as lower oil prices hit commodity stocks. India's Sensex was off 0.8 percent. Markets in the Philippines, New Zealand and Singapore also fell but China's Shanghai index gained 0.4 percent.
The declines came after the Federal Reserve said it would again slow some of its purchases of mortgage-backed securities, which have been part of the extraordinary support the central bank has given the U.S. economy over the past year. Investors have focused on when central bankers and governments will begin to unwind some of the measures they have taken to boost the global economy since the onset of the global financial crisis one year ago.
"I think people get scared when the central bankers talk about the withdrawal from the market," said Francis Lun, general manager at Fulbright Securities Ltd. in Hong Kong. "I think investors got coddled by the government for too long." Japan's Nikkei 225 stock average, closed for the first three days of this week due to a string of national holidays, was Asia's bright spot, gaining 173.68, or 1.7 percent, to 10,544.22.
In Tokyo trade, ailing Japan Airlines Corp. dived 15.8 percent as its president met with officials to appeal for taxpayer funds to keep the carrier flying. Struggling Japanese consumer finance company Aiful Corp. plunged 23.9 percent after forecasting an annual loss and saying it will cut 2,000 jobs, or about 44 percent of its workers. In New York on Wednesday, the Dow Jones industrial average fell 81.32, or 0.8 percent, to 9,748.55. Broader indexes also declined.
'Feel Good' FOMC Press Statement
by David Rosenberg
The bulls would call yesterday's Federal Open Market Committee (FOMC) press statement to be the sweet spot:
- The Fed effectively declared the recession to be over ("economic activity has picked up following its severe downturn" - this was new).
- The Fed upgraded its economic forecast ("policy actions will support a strengthening of economic growth" - in the August statement, it was "contribute to a gradual resumption of sustainable economic growth;" "support" means it is here, "contribute" means it is coming).
- The Fed sees NO inflation on the horizon: "subdued for some time" due to "substantial resource slack" and with "longer-term inflation expectations stable" - the part on inflation expectations is new; and the Fed took out its August 12 reference to rising commodity prices.
- The Fed is going to maintain its highly accommodative policy stance even with the economic forecast being taken higher ("economic conditions are likely to warrant exceptionally low levels of the federal funds rate for an extended period"). This commitment is not new, but in the context of the Fed's more upbeat economic assessment it means that any further talk from anywhere pertaining to the Fed's exit strategy should be readily dismissed.
This is indeed the proverbial 'sweet spot' the economy turning up, no inflation, Fed on hold. My basic point is that the markets are already priced for it, and then some. From the time the S&P 500 bottomed on October 9, 2002, which at the time was also a massively oversold low, to the time that the Fed's monetary easing program was over on June 30, 2004, the equity market rallied 47%. That is 47% over a 20-month span. We've already done 60% in little over six months.
No surprise that the Fed extended its mortgage buying program to the first quarter of next year, though the pace will slow.
A BIG REVERSAL: For the first time in this 60% bull run (I still call it a bear market rally), we saw the market sell off on what could only have been described as unabashed good news from the overall tone of the FOMC press statement. The high for the day on the Dow Jones Industrial was 9,916 at around 2:30 pm about fifteen minutes after the FOMC release. At the end of the day, the Dow closed at 9,748. That's a swing of 168 points.
At the March lows, we had a huge reversal too, but in the other direction. I'm obviously not a technical analyst, but we should think about what this could possibly mean (if it means anything at all). It could imply that the market has run out of buying power. Or it could mean that the market has already overpaid for the 'sweet spot'. It could also mean that the psychology of "buying the dips" is over, and a "locking in the gains" mentality may be setting in. All I know is that this is the first time in this six-month rally that we have seen a reversal to the downside on a positive news day.
U.S. credit card defaults rise to record: Moody's
The U.S. credit card charge-off rate rose to a record high in August, as more Americans lost their jobs, Moody's Investors Service said on Wednesday, in another sign consumers remain under stress. The Moody's credit card charge-off index -- which measures credit card loans that banks do not expect to be repaid -- rose to 11.49 percent in August from 10.52 percent in July.
The index resumed an upward trend after declining in July for the first time in almost a year, vanishing hopes of stabilization in the industry after record high credit losses. "We continue to call for a recovery of the credit card sector to begin once industry average charge-offs peak in mid-2010 between 12 percent and 13 percent," Moody's said in a report. Credit card losses usually follow the trend of unemployment, which rose in August to 9.7 percent, the highest level in 26 years.
Moody's estimated unemployment will peak next year at 10 percent to 10.5 percent. The Moody's index showed credit card delinquencies -- payments more than 30 days late -- rose to 5.80 percent in August from 5.73 percent in July. "Even early-stage delinquencies rose, ending a trend of four consecutive months of improvement," Moody's said in a report.
Data released by companies earlier this month based on the performance of credit card loans that were securitized showed defaults rose to record highs at Bank of America Corp and Citigroup Inc , among some of the biggest card issuers. Both Citigroup and Bank of America hold the highest exposure to riskier credit card borrowers. However, American Express Co and Capital One Financial Corp posted monthly declines in chargeoffs.
Existing home sales slide unexpectedly
Existing home sales fell in August, snapping a four-month streak of increases, according to a report released Thursday. Sales of previously-owned homes fell 2.7% last month from July, but were up 3.4% from a year ago, said the National Association of Realtors. Sales had jumped 15.2% in the previous four months. August home sales hit a seasonally-adjusted annual rate of 5.1 million units, down from 5.24 million in July. That's well below the analyst consensus estimate of 5.35 million annual units compiled by Briefing.com.
The median price of homes sold in July was just $177,700, a 12.5% year-over-year drop. The report said distressed properties, which include foreclosures and short sales, are pushing down the median price because they typically sell for 15-20% less than traditional homes. Distressed property sales comprised 31% of home resales in August. "With an expected rise in foreclosures over the next 12 months we need to maintain a healthy level of ready buyers to absorb the inventory," said Lawrence Yun, NAR chief economist, in a prepared statement.
Yun said the Obama administration should extend the $8,000 tax credit it made available for qualified first-time home buyers, in order to keep them in the market to buy. That credit is currently slated to expire on December 1. Despite the decrease in sales, the supply of homes on the market fell significantly in August. Total housing inventory fell by 10.8% to 3.62 million existing homes for sale. That's an 8.5-month supply, down from a 9.3-month supply in July.
There Goes The Housing Rebound
Existing home sales slumped 2.7% in August from July, surprising many economists who expected a small increase in today's National Association of Realtors (NAR) release. Average selling price fell 2.2% from July as well.
NAR: “Home sales retrenched from a very strong improvement in July but continue to be much higher than before the stimulus. The first-time buyer tax credit is having the intended impact of bringing buyers into the market, allowing them to take advantage of very favorable affordability conditions,” he said. “Some of the give-back in closed sales appears to result from rising numbers of contracts entering the system, with some fallouts and a backlog contributing to a longer closing process, but the decline demonstrates we can’t take a housing rebound for granted.”
As shown below, the latest data points are a reversal, or at best a stagnation, from what was an improving trend over the last five months.
NAR's economist Lawrence pitched for an extension of the first-time buyer tax credit by warning that rising foreclosures in the next twelves months would require a steady supply of buyers if prices are to hold. That doesn't sound encouraging.
New jobless claims drop unexpectedly to 530K
The number of newly laid-off workers seeking unemployment benefits fell for the third straight week, evidence that layoffs are continuing to ease in the earliest stages of an economic recovery. The Labor Department said Thursday that initial claims for unemployment insurance dropped to a seasonally adjusted 530,000 from an upwardly revised 551,000 the previous week. Wall Street economists expected claims to rise by 5,000, according to a survey by Thomson Reuters.
The four-week average, which smooths out fluctuations, dropped to 553,500. That's the lowest since late January, though still far above the 325,000 weekly claims typical in a healthy economy. Economists closely watch initial claims, which are considered a gauge of layoffs and an indication of companies' willingness to hire new workers. The four-week average has fallen by about 100,000 since reaching a peak for the current recession in early April. Economists say initial claims below 400,000 would be a signal that employers are adding to the net total of jobs. The number of people continuing to claim benefits for more than a week dropped 123,000 to a seasonally adjusted 6.14 million.
But when federal emergency programs are included, the total number of jobless benefit recipients was about 9 million in the week that ended Sept. 5, down slightly from the previous week. Congress has added up to 53 extra weeks of benefits on top of the 26 typically provided by the states. The House this week approved legislation that would add another 13 weeks in high-unemployment states.
The large number of people remaining on the rolls shows unemployed workers are having a hard time finding new jobs.
Most analysts expect the economy, bolstered government stimulus efforts, will grow at a healthy clip in the current July-September quarter, technically ending the recession. But many economists also agree with Federal Reserve Chairman Ben Bernanke, who said earlier this month that growth isn't expected to be strong enough to reduce the jobless rate for some time. Employers are still reducing payrolls. The department said earlier this month that companies cut 216,000 jobs in August, a large amount but still the smallest in a year. The unemployment rate jumped to 9.7 percent, the highest in 26 years, from 9.4 percent.
The recession, which began in December 2007 and is the worst since the 1930s, has eliminated a net total of 6.9 million jobs. More job cuts were announced this month. Health insurer WellPoint Inc. said this week it may eliminate more positions in an effort to become more efficient, though the company didn't provide details. Drugmaker Eli Lilly & Co. said last week that it will cut 5,500 jobs over the next two years, or 14 percent of its work force.
Among the states, Wisconsin reported the largest increase in claims, with 1,573, which it attributed to layoffs in the construction and manufacturing industries. Oregon and Kansas reported the next largest increases. State data lag the initial claims figures by a week. Texas reported the largest drop in claims of 4,623, which it said was due to fewer layoffs in the service and manufacturing industries. Illinois, Pennsylvania, Michigan and Massachusetts reported the next largest drops.
America Digs Deeper Into Debt
by Michael Pento
America Digs Deeper Into Debt It’s amazing but true. Even after all we’ve been through and all we have supposedly learned about the danger of being over leveraged and borrowing more than you can pay back, we are still piling on debt.
I know that’s not what you hear in the media. Wall Street and Washington are busy telling you that we are continuing to pay down debt and the health of the country’s balance sheet is improving.
The truth is that consumers and businesses are paying down debt but their budgetary prudence is more than being offset by the profligacy of the government. We can see from the Flow of Funds quarterly report put out by the Federal Reserve that households are reducing their debt at a 1.7% annual rate and business at a 1.8% annual rate. However, while the private sector gets their finances in order the Federal government is increasing its debt at a 28.2% annual rate!
The net effect is that the annual rate of increase in our nation’s debt is currently 4.9%, which is even faster than the rate of increase of 4.1% experienced in Q1 2009. Yep, we are increasing our debt at a faster pace. So all the talk about the economy healing, as consumers save and businesses pay down debt is false. Since the government’s debt is our debt, there has been no deleveraging in the economy and there has been no repair made to the country’s balance sheet. All we have done is trade an overleveraged consumer and financial institution’s balance sheet for a now vastly overleveraged public balance sheet.
It is most likely to be the case that all we have accomplished is to hold in abeyance the eventual pain involved with deleveraging. That’s because the government has the ability to leverage to a greater extent than the private sector and can maintain that leverage for a greater period of time (don’t forget to thank the Chinese). However, the government’s debt is our debt and eventually must result in being reconciled through higher taxes and/or inflation.
The only way we can save as a country is to have a current account surplus or by accumulating capital goods that are used to create wealth and grow the economy. We cannot save as a country by borrowing from foreign creditors to purchase more cars and houses. That’s not saving. All that serves is to dig the nation deeper into its debt hole and place us further at the mercy of creditor nations who may not have the best interest of America first in mind.
And all this borrowing, spending is taking its toll on our currency. If the Fed and Treasury allow the dollar to continue its secular swoon, we may face a currency crisis—especially if the decline becomes unruly. The Chinese could be forced to sell their Treasuries causing a global panic to flee the dollar, sending already vastly overpriced bond prices plummeting. Now I understand this would hurt our exporting creditors as well as the domestic economy.
But is it reasonable to believe the Chinese will continue to ruin their environment, work very hard and squander their savings; just to own U.S. debt that is falling in value, held inside a currency that is crashing? If the Chinese are going to go broke anyway they might as well unwind what is left of their savings. Then as soon as possible, build their middle class so they can consume their own production and cease relying on an export driven economy.
We must allow interest rates to rise to stop the fall in the dollar. We must stop going further into debt as a nation. And we must grow the economy as soon and as quickly as possible in order to make sure we can service our debt and the unfunded promises made to ourselves and our children.
But the need to act is being delayed because, for now, the fall in the dollar is boosting all asset classes including stocks and bonds. I can assure you this will not always be the case. Sooner rather than later, a falling dollar will mean that inflation has become intractable and it will not only crush the dollar and bonds but also the economy as well. The time to get real and behave prudently was yesterday. If we continue to delude ourselves into thinking we are undergoing the healing process and that better days are here to stay, we face the probability that the next crisis will make the previous one look like a picnic.
Government Watchdog: 'Extremely Unlikely' Taxpayers Will Recoup TARP Money
The controversial $700 billion bailout program has helped avert the collapse of the financial system, but the chances of taxpayers recouping the money are "extremely unlikely," a government watchdog believes. In prepared testimony to be delivered at a Senate Banking Committee hearing today ahead of the one-year anniversary of the enactment of the Troubled Asset Relief Program, the bailout's special inspector general tells lawmakers that it is "unclear" if the government will meet its goal of "maximiz[ing] overall returns to the taxpayer."
"While several TARP recipients have repaid funds for what has widely been reported as a 17 percent profit, it is extremely unlikely that the taxpayer will see a full return on its TARP investment," Neil Barofsky says. "For example, certain TARP programs, such as the mortgage modification program which is scheduled to use $50 billion of TARP funds, will yield no direct return, and for others, including the extraordinary assistance programs to AIG and the auto companies, full recovery is far from certain."
The watchdog also notes that the government has not met its goal of increasing lending by the banks, although banks likely would be lending even less if the program had not been enacted. The program has also failed to meet other goals, such as enabling homeowners to keep their homes and employees to keep their jobs. In the last year, foreclosures have continued to soar and the country's unemployment rate currently sits at a 26-year high of 9.7 percent.
"The risk of foreclosure continues to affect too many Americans; unemployment continues its rise to levels that Treasury has characterized as 'unacceptable'; the so-called 'toxic' assets that helped cause this crisis for the most part remain right where they were last fall -- on the banks' balance sheets; and it is becoming more and more clear that the commercial real estate market might be the next proverbial shoe to drop, threatening to increase the pressure on banks and small business alike yet again," Barofsky says.
The watchdog also argues that the Treasury Department has not fulfilled its pledge of transparency so the American people can have as much information as possible about what is being done with their money. The department's "basic attitude towards transparency", Barofsky says, "remains a significant frustration."
"While Treasury has taken some steps in the right direction on this front, its continued refusal to accept SIGTARP's basic transparency recommendations on such issues as how TARP recipients are using TARP funds and the disclosure of trading of toxic assets of banks in the PPIP means that TARP largely remains a program in which taxpayers are not being told what most of the TARP recipients are doing with their money and will not be told the full details of how their money is being invested," he says.
Barofsky's office, known as SIGTARP, says it has 35 ongoing criminal and civil investigations as of June 30. The watchdog recently completed an audit to determine if the government's decision-making process was affected by any undue external influences. Of the 56 institutions that Barofsky identified as the subject of external inquiries, three institutions did not meet all of the program's criteria but still received approval based on mitigating factors.
"Among these three, one institution stood out. SIGTARP's analysis indicated that discretion afforded this applicant in its approval was greater than that afforded other applicants," the watchdog says, without naming the institution. The Treasury Department responded to SIGTARP's criticisms by noting that the agency has already adopted numerous suggestions and will now be expanding a quarterly report on the program.
"Treasury remains committed to working closely with all of our overseers to ensure taxpayer funds are used prudently and effectively," said Department spokesman Andrew Williams. "Treasury has already implemented the vast majority of their recommendations and has worked actively to incorporate SIGTARP early in the development of processes regarding TARP programs."
"In our continuing effort to improve the transparency of the programs, and in order to more closely adopt the recommendations in the SIGTARP report, Treasury is expanding its Quarterly Capital Purchase Program (CPP) Report to include additional categories of information included in the SIGTARP survey responses underlying the SIGTARP report, such as financial institutions' repayments of their outstanding debt obligations and total investments," Williams stated. "This expansion will begin with the next Quarterly CPP Report, scheduled to be released during October 2009."
Barofsky will testify before the Senate panel starting at 9:30 a.m. He will be joined by fellow oversight officials -- Elizabeth Warren of the Congressional Oversight Panel and Gene Dodaro of the Government Accountability Office, as well as Treasury's TARP chief Herb Allison.
Maybe the banks are in worse trouble than we realise
I hate to say it, but we may just possibly have it wrong about the banks. Received wisdom says they are reverting to their bad old ways, and that punitive measures are called for – the first and most concrete being higher capital requirements. But maybe the banks are in worse trouble than we realise. Maybe some of their grosser offences, such as huge sign-on bonuses, are in fact defensive action against the real credit crunch to come. In which case, hitting them with capital requirements now may mean we assuage our feelings at the expense of our pockets.
And there is no question this is on the agenda. Indeed, the Financial Stability Board – representing the world’s finance ministries and central banks – last week made it clear that it is their first priority. To illustrate the hazards involved, consider a recent analysis from The Institutional Risk Analyst, a US banking consultancy. This ranks US banks by stress level from A+ to F. Total assets with the F-rated banks – those nearest the edge – are a forbidding $4,458bn.
If those banks go under, the cost of making good their depositors falls on the other US banks, under the terms of the Deposit Insurance Fund. As the IRA remarks, “before the G20 talk further about raising bank capital levels, we first need to find a way – and fast – to stabilise the existing capital base of the banking industry”. Let us recall that the sums needed to recapitalise the banks properly are colossal – not just because of their losses in the crash, but because they had reduced their equity so disastrously in the bubble years.
To do the job properly, we would need to restore capital ratios to the levels of the mid-1990s. Six months ago, the International Monetary Fund put the cost of that for US, European and UK banks at $1,700bn. Since then, according to Dealogic, those banks have raised $135bn in equity, so we may trim the figure back to a mere $1,565bn. But the fact that less than a tenth of the sum has been raised is not reassuring. Those six months, remember, have seen bank shares rocket, thus making investors more ready to stump up. And some issues have also enjoyed government backing.
In the period, the banks’ aggregate market value has more than doubled, from $1,068m to $2,420bn. But that still leaves them looking to raise a sum equal to two-thirds of their outstanding equity. That seems a stretch – especially since the latest survey from Merrill Lynch shows the highest consensus among global fund managers for the past seven years that bank shares are now overvalued. For the rest of us, the results of all this could be perverse and damaging. If banks know they will be required to raise their capital ratios – and if they suspect they cannot raise the equity – they have only one logical response. They must shrink their asset base – that is, further reduce their lending.
This comes at a time when alternative lending methods are still in profound disarray. Syndicated lending, for instance, is at less than half its pre-crisis peak, as banks retreat within national boundaries. More important, securitised lending is also running at around half pre-crisis levels. This means close to $2,000bn of credit, mostly supplied not by the banks but by the investing institutions, has been taken from the system. In spite of urgent efforts by governments to revive it, the omens are not encouraging. A large chunk of demand has gone for good, in the form of off-balance sheet vehicles such as conduits.
And there are precious few new takers. Securitised loans are, by their nature, complex structures, and their raison d’être was to produce triple A rated tranches that the institutions could hold. That required absolute faith in the ratings agencies. Now that faith is shaken, who will undertake the slog of verifying those products for themselves? Other traditional sources of funding for the banks themselves – the wholesale markets, for instance – are still enfeebled. The bond markets are an exception, but only up to a point. Figures from Dealogic show that in the past year global bond issues by banks are down – in spite of government help – by 14 per cent from pre-crisis levels two years ago. Bond issuance by non-financial corporations, meanwhile, has risen 44 per cent.
The position of governments in all this is not to be envied. They are certainly aware of the dangers. But given the immense power of the banking lobby worldwide, they will also know that to force the banks into recapitalising – as is certainly necessary – they must harness popular resentment while it lasts. As with so much in this crisis, timing is everything. But we should beware meanwhile of taking the apparent complacency of bankers at face value. They may just be whistling in the dark.
Help may bring another bubble
No doubt, a big tax break for first-time homebuyers is good politics. The $8,000 tax credit, enacted this year when Congress passed the $800 billion stimulus program, helps families looking to buy a house for the first time, as well as real estate agents and developers, who are ailing in the face of the worst housing market since the Depression. Nevada more than just about any other state could use help for its beleaguered construction industry; unemployment in construction in Clark County has climbed into the high 20s and could reach 50 percent this year, according to labor union officials.
So it’s not surprising that Nevada’s congressional delegation has signed on to a plan to extend the credit and even make it more generous. “It’s working,” says Rep. Dina Titus, the 3rd District Democrat. “You can see the positive impact of it. It really is stimulating the economy, helping Realtors and developers and homebuilders and individual homebuyers.” Although the politics are a surefire winner, especially here in Nevada, some economists across the political spectrum question whether the tax credit is good policy.
“It’s terrible policy,” says Mark Calabria of the libertarian Cato Institute. “It’s awful policy,” says Andrew Jakabovics, associate director for housing and economics at the liberal Center for American Progress. “It’s incredibly expensive. It’s not well targeted.” Home sales have risen dramatically in the past year, but most economists don’t attribute the increase to the tax credit. August single-family-home sales in Southern Nevada, for instance, hit 3,229, up more than 25 percent from a year earlier.
But economists attribute most of the rising sales to the plunge in prices, not the tax credit. The median sale price of single-family homes was off more than 35 percent from a year earlier. “A heck of a lot of people would have bought the house anyway,” says Ted Gayer, an economist at the Brookings Institution. According to an estimate by the National Association of Realtors, of the 2 million new homebuyers since the credit was instituted, 350,000 say they would not have bought a house without the tax break. “We paid $8,000 to at least 1.5 million people to do something they were going to do anyway,” Jakabovics says.
The tax break, due to expire at the end of November, is on track to cost $15 billion, twice what Congress had planned. In other words, it will cost $43,000 for every new homebuyer who would not have bought a house without the tax break. Gayer also questions whether moving people from renting to owning is really all that useful: “Sure, the people in my rental house buy the empty house next door. Then the house next door is no longer vacant, but my rental property is.” Economists derisively call this rush to get people to buy homes “reinflating the bubble.”
Government policy for decades has favored owning over renting because policymakers always believed homeownership created stable neighborhoods and offered a safe investment for the middle class. Plus, as Calabria notes, “we give homeowners massive subsidies because they vote more often.” For Calabria, the policy amounts to taking money from the pockets of renters and stuffing it into the pockets of owners, and to robbing young Americans because it is adding to the national debt, which will have to be repaid eventually. The housing bust has called the long-standing policy of favoring homeownership into question, as millions of Americans owe more on their homes than they are worth, leaving owners trapped and unable to move to another city to find a better job.
Economists say even with brisk sales of late, encouraged in part by the tax credit, the real problem — excess supply of housing stock — remains. Economists say the glut of housing can be mitigated only by creating more households, and, thus, demand for housing. A survey by respected pollster Peter Hart for the AFL-CIO found that one in three workers younger than 35 lives with his parents. With young workers living with Mom, apartment vacancies hit a 22-year high nationally during the second quarter and climbed to 9.5 percent in the Las Vegas Valley, according to Applied Analysis, an economics research firm.
The tax credit is one, albeit very expensive, way to create more households, but rental vouchers to get people out of their parents’ basements should also be considered, economists say. Economists also question whether more money could be used to lower monthly mortgage payments. Finally, they say the Federal Reserve should keep interest rates low, which would guarantee affordability for the life of a loan. Walter Molony, a spokesman for the National Association of Realtors, counters that without the credit, sales would have been 6 percent lower, which would have pushed prices down further and encouraged more people to walk away from their homes.
With so many new foreclosures every month, buyers are needed to soak up the new inventory, he says. Finally, Molony says, with every home purchase, there’s an additional $63,000 pumped into the economy, as buyers tend to make purchases after the sale, on big-ticket items such as carpet and appliances. Andres Carbacho-Burgos, an economist for Moody’s Economy.com, said that the tax credit might have had some effect in boosting demand.
Economy.com expects home prices in Nevada to decline for three more quarters. Indeed, some economists think the situation is so dire that the shock therapy of the tax credit, even if expensive and inefficient, is worth it. Elliott Parker, an economist at the University of Nevada, Reno, calls the tax credit a “blunt instrument” but said anything that encourages confidence and convinces potential buyers that we’ve hit bottom can be defended as sound policy. Housing and construction have historically led the U.S. out of recession in every single one since 1960, and some economists worry that until that sector returns, the recovery will be tepid at best.
Whatever the arguments, an extension of the tax credit is gathering momentum. The entire Nevada delegation supports it, for instance. And as with the wildly successful — and expensive — “cash-for-clunkers” program, the visible increase in home sales will likely encourage Congress to extend the break, especially as unemployment and foreclosures keep rising. As Sen. John Ensign said last week on the Senate floor in support of the measure, “Clark County, where Las Vegas is, has over a 13 percent unemployment rate. I don’t think folks living there think the recession is over.”
Credit Markets: The Default Deluge
Following the end of the summer, the final stretch of 2009 offers a good opportunity to take stock of the events that roiled the economy this year and assess the tone of the financial markets for the rest of the year. Buoyed by an encouraging stream of positive economic data, sentiment in the financial markets has been relatively upbeat. Much of the recovery has stemmed from the monetary and fiscal stimulus the government pumped into the financial system in copious amounts to revitalize critical pipelines of money and credit.
However, this year will see a record volume of default in corporate debt, in line with expectations. In the first eight months of 2009 a total of 216 corporate issuers defaulted (both nonfinancials and financials), affecting rated debt worth $523 billion. If this pace continues, the global default tally will reach 324 in 2009, the highest annual total in 28 years—since the inception of our data series on defaults. The volume of debt affected by these defaults also soared to a record high. Other key takeaways from the year thus far:
- The U.S. is the epicenter of economic and credit-market weakness. At the beginning of the year our 12-month forward baseline prediction for the U.S. speculative-grade default rate was 13.9% by yearend, with an upper bound of 18.5% and a lower bound of 10.0%. The default rate hit 10.4% in the 12 months ended in August 2009, giving us reason to believe it is headed toward our predicted range by the end of the year. Corporate default incidence (by count) within the population or rated companies has been highest in the U.S., which blazed ahead with 158 defaults in 2009 (through Sept. 16). Of the remainder, the EU recorded 15, the other developed markets (mainly Canada) 12, and the emerging markets 31.
- Consumer discretionary sectors lead the global default count, though industrials and housing-related sectors also are reporting numerous casualties. Companies in leisure/media are in the lead globally (mainly because of the U.S.), with 53 defaults in 2009 (through Aug. 31). Next in line is the aerospace/auto/capital goods/metals category (35 defaults), followed by forest products and building materials (26 defaults), and consumer/service (24 defaults). When factoring in only speculative-grade ratings, homebuilders and forest products led with a global default rate of 18% for the trailing 12 months ended in August.
- Defaults continue to emerge from the lowest rungs of the ratings ladder. This is true not only in a single year but also on a cumulative basis. More than four-fifths (86%, or 187 entities) of this year's defaults year-to-date emerged from the speculative-grade domain, with an initial rating of BB+ or lower.
- Companies with an original rating of B face maximum default risk exposure. Among this year's defaulters, entities with an initial rating in the B rating category (which includes B+, B, and B-) accounted for the largest number of defaults, at 122. Next in line were entities with an initial rating in the BB rating category, with 54. Companies with a first rating of CCC+ or lower accounted for 11 of this year's total default count.
- An avalanche of low-rated rating originations during the credit boom indicates that considerable default risk still resides in the pipeline. For example, a total of 1,340 new speculative-grade ratings were originated globally from 2006 through the first half of 2009, of which only 100 have defaulted. This indicates a survival rate of 92.5%, which is expected to erode over time as more casualties occur and more issuers age. It is difficult to pinpoint the exact timing for such casualties because forbearance measures can delay the day of reckoning, particularly as financing conditions ease.
- The flow of distressed-debt exchanges has accelerated substantially and likely will reach an all-time high in 2009. Plummeting liquidity and deteriorating fundamentals set in motion a flurry of corporate distressed exchanges. In part, the increase reflected a pragmatic reaction to the shortage of financing options in the throes of the financial crisis. Of this year's 216 defaults, 81 were defined as distressed exchanges, by far the single leading default trigger across both developed and emerging markets. With $71.0 billion in rated debt, Ford Motor (F) was the largest issuer (by par volume) so far in 2009 to implement a distressed exchange. CIT Group (CIT), with $42.1 billion, came in second.
- By contrast, formal bankruptcy filings have been lower. The liquidity crunch created several bottlenecks for exit financing options and hastened the use of alternative pragmatic strategies, including prepackaged bankruptcies, distressed exchanges, and standstill agreements. Only 54 formal bankruptcies have been recorded globally this year, of which 48 were in the U.S., affecting rated debt worth $150.5 billion. With $53 billion in rated debt, General Motors was by far this year's biggest bankruptcy, followed by Charter Communications, with $22.5 billion.
- Troubled leveraged buyouts (LBOs) from prior years remain a fertile source of defaults this year. The actual volume of LBOs has dropped precipitously, totaling only $21.9 billion in the U.S. in the first half of 2009, compared with a peak of $433.7 billion in full-year 2007, according to Standard & Poor's Leveraged Commentary & Data. Moreover, in contrast with 2006, new deals in the U.S. are increasingly being funded with higher equity contributions and smaller shares of senior debt. Nevertheless, prior-year deals continue to emerge as casualties. In Europe, for example, 42 of 48 defaults recorded in the first half of 2009 were LBO-related.
Delayed Foreclosures Stalk Market
Debra and Arthur Scriven were served notice in June 2008 that their mortgage lender, a unit of Citigroup Inc., was preparing to foreclose on their home. Fifteen months later, the Scrivens are still in their home near Columbia, S.C., and battling to stay there, even though a dispute with the lender over how much they owe prompted them to stop making regular payments last year.
Legal snarls, bureaucracy and well-meaning efforts to keep families in their homes are slowing the flow of properties headed toward foreclosure sales, even when borrowers are in deep distress. While that buys time for families to work out their problems, some analysts believe the delays are prolonging the mortgage crisis and creating a growing "shadow" inventory of pent-up supply that will eventually hit the market. The size of this shadow inventory is a source of concern and debate among real-estate agents and analysts who worry that when the supply is unleashed, it could interrupt the budding housing recovery and ignite a new wave of stress in the housing market.
"There's going to be a flood [of bank-owned homes] listed for sale at some point," says John Burns, a real-estate consultant based in Irvine, Calif. When that happens, Mr. Burns believes, home prices will fall further, particularly in markets with large numbers of foreclosures. Overall, he expects home prices to decline 6% next year. Ivy Zelman, chief executive of Zelman & Associates, a research firm based in Cleveland, believes three million to four million foreclosed homes will be put up for sale in the next few years. The question is whether the flow of these homes onto the market will resemble "a fire hose or a garden hose or a drip," she says.
Analysts who track the shadow market have focused primarily on the gap between the number of seriously delinquent loans and the number of foreclosed homes for sale by mortgage companies. A loan is considered seriously delinquent, which typically means it is headed to foreclosure, if it is 90 days or more past due. As of July, mortgage companies hadn't begun the foreclosure process on 1.2 million loans that were at least 90 days past due, according to estimates prepared for The Wall Street Journal by LPS Applied Analytics, which collects and analyzes mortgage data. An additional 1.5 million seriously delinquent loans were somewhere in the foreclosure process, though the lender hadn't yet acquired the property. The figures don't include home-equity loans and other second mortgages.
Moreover, there were 217,000 loans in July where the borrower hadn't made a payment in at least a year but the lender hadn't begun the foreclosure process. In other words, 17% of home mortgages that are at least 12 months overdue aren't in foreclosure, up from 8% a year earlier. Some borrowers may be able to catch up on their payments or receive a loan modification that helps them keep their home. There has also been an increase in short-sales, transactions in which at-risk borrowers sell their homes for less than the loan amount, with the lender's approval. In some cases, lenders have decided not to foreclose because the home's value is so low. These factors could mean fewer foreclosures.
Foreclosed homes are partly responsible for the recent increase in home sales. But foreclosures also push down home values. According to Collateral Analytics, a housing research firm, homes that have been foreclosed on typically sell at a 10% to 50% discount.For now, the delays have led to what is probably a temporary drop in the supply of bank-owned homes in California and other places where investors and first-time home buyers have been competing for bargains. In Orange County, Calif., the number of bank-owned homes listed for sale dropped to 322 in early September from 1,404 in November 2008, according to Altera Real Estate.
But the number of foreclosures is expected to increase in the fourth quarter as mortgage-servicing companies determine who is eligible for a loan modification and who isn't. "We are going to see a spike from now to the end of the year in foreclosures as we take people out of the running" for a loan modification or other alternatives, says a Bank of America Corp. spokeswoman. Foreclosure sales had dropped to "abnormally low" levels in response to government efforts to stem foreclosures, she adds.
For the Scrivens, legal battles have complicated the process. Ms. Scrivens says Citigroup recently offered to modify their loan, but she and her husband rejected the offer because they objected to some of the conditions. A hearing on the foreclosure case is scheduled for Wednesday in a Kershaw County, S.C., court. Citing customer privacy, a Citigroup spokesman declined to comment specifically on the Scrivens situation. "Our priority goal is to keep distressed borrowers in their homes and out of foreclosure, when possible," he said.
Landmark Decision Promises Massive Relief For Homeowners And Trouble For Banks
by Ellen Brown
A landmark ruling in a recent Kansas Supreme Court case may have given millions of distressed homeowners the legal wedge they need to avoid foreclosure. In Landmark National Bank v. Kesler, 2009 Kan. LEXIS 834, the Kansas Supreme Court held that a nominee company called MERS has no right or standing to bring an action for foreclosure. MERS is an acronym for Mortgage Electronic Registration Systems, a private company that registers mortgages electronically and tracks changes in ownership. The significance of the holding is that if MERS has no standing to foreclose, then nobody has standing to foreclose on 60 million mortgages. That is the number of American mortgages currently reported to be held by MERS. Over half of all new U.S. residential mortgage loans are registered with MERS and recorded in its name. Holdings of the Kansas Supreme Court are not binding on the rest of the country, but they are dicta of which other courts take note; and the reasoning behind the decision is sound.
Eliminating the "Straw Man" Shielding Lenders and Investors from Liability
The development of "electronic" mortgages managed by MERS went hand in hand with the "securitization" of mortgage loans chopping them into pieces and selling them off to investors. In the heyday of mortgage securitizations, before investors got wise to their risks, lenders would slice up loans, bundle them into "financial products" called "collateralized debt obligations" (CDOs), ostensibly insure them against default by wrapping them in derivatives called "credit default swaps," and sell them to pension funds, municipal funds, foreign investment funds, and so forth. There were many secured parties, and the pieces kept changing hands; but MERS supposedly kept track of all these changes electronically. MERS would register and record mortgage loans in its name, and it would bring foreclosure actions in its name. MERS not only facilitated the rapid turnover of mortgages and mortgage-backed securities, but it has served as a sort of "corporate shield" that protects investors from claims by borrowers concerning predatory lending practices. California attorney Timothy McCandless describes the problem like this:"[MERS] has reduced transparency in the mortgage market in two ways. First, consumers and their counsel can no longer turn to the public recording systems to learn the identity of the holder of their note. Today, county recording systems are increasingly full of one meaningless name, MERS, repeated over and over again. But more importantly, all across the country, MERS now brings foreclosure proceedings in its own name even though it is not the financial party in interest.
This is problematic because MERS is not prepared for or equipped to provide responses to consumers' discovery requests with respect to predatory lending claims and defenses. In effect, the securitization conduit attempts to use a faceless and seemingly innocent proxy with no knowledge of predatory origination or servicing behavior to do the dirty work of seizing the consumer's home. . . . So imposing is this opaque corporate wall, that in a "vast" number of foreclosures, MERS actually succeeds in foreclosing without producing the original note the legal sine qua non of foreclosure much less documentation that could support predatory lending defenses."
The real parties in interest concealed behind MERS have been made so faceless, however, that there is now no party with standing to foreclose. The Kansas Supreme Court stated that MERS' relationship "is more akin to that of a straw man than to a party possessing all the rights given a buyer." The court opined:"By statute, assignment of the mortgage carries with it the assignment of the debt. . . . Indeed, in the event that a mortgage loan somehow separates interests of the note and the deed of trust, with the deed of trust lying with some independent entity, the mortgage may become unenforceable. The practical effect of splitting the deed of trust from the promissory note is to make it impossible for the holder of the note to foreclose, unless the holder of the deed of trust is the agent of the holder of the note. Without the agency relationship, the person holding only the note lacks the power to foreclose in the event of default. The person holding only the deed of trust will never experience default because only the holder of the note is entitled to payment of the underlying obligation. The mortgage loan becomes ineffectual when the note holder did not also hold the deed of trust." [Citations omitted; emphasis added.]
MERS as straw man lacks standing to foreclose, but so does original lender, although it was a signatory to the deal. The lender lacks standing because title had to pass to the secured parties for the arrangement to legally qualify as a "security." The lender has been paid in full and has no further legal interest in the claim. Only the securities holders have skin in the game; but they have no standing to foreclose, because they were not signatories to the original agreement. They cannot satisfy the basic requirement of contract law that a plaintiff suing on a written contract must produce a signed contract proving he is entitled to relief.
The Potential Impact of 60 Million Fatally Flawed Mortgages
The banks arranging these mortgage-backed securities have typically served as trustees for the investors. When the trustees could not present timely written proof of ownership entitling them to foreclose, they would in the past file "lost-note affidavits" with the court; and judges usually let these foreclosures proceed without objection. But in October 2007, an intrepid federal judge in Cleveland put a halt to the practice. U.S. District Court Judge Christopher Boyko ruled that Deutsche Bank had not filed the proper paperwork to establish its right to foreclose on fourteen homes it was suing to repossess as trustee. Judges in many other states then came out with similar rulings.
Following the Boyko decision, in December 2007 attorney Sean Olender suggested in an article in The San Francisco Chronicle that the real reason for the bailout schemes being proposed by then-Treasury Secretary Henry Paulson was not to keep strapped borrowers in their homes so much as to stave off a spate of lawsuits against the banks. Olender wrote:"The sole goal of the [bailout schemes] is to prevent owners of mortgage-backed securities, many of them foreigners, from suing U.S. banks and forcing them to buy back worthless mortgage securities at face value right now almost 10 times their market worth. The ticking time bomb in the U.S. banking system is not resetting subprime mortgage rates. The real problem is the contractual ability of investors in mortgage bonds to require banks to buy back the loans at face value if there was fraud in the origination process.
". . . The catastrophic consequences of bond investors forcing originators to buy back loans at face value are beyond the current media discussion. The loans at issue dwarf the capital available at the largest U.S. banks combined, and investor lawsuits would raise stunning liability sufficient to cause even the largest U.S. banks to fail, resulting in massive taxpayer-funded bailouts of Fannie and Freddie, and even FDIC . . . .
"What would be prudent and logical is for the banks that sold this toxic waste to buy it back and for a lot of people to go to prison. If they knew about the fraud, they should have to buy the bonds back."
Needless to say, however, the banks did not buy back their toxic waste, and no bank officials went to jail. As Olender predicted, in the fall of 2008, massive taxpayer-funded bailouts of Fannie and Freddie were pushed through by Henry Paulson, whose former firm Goldman Sachs was an active player in creating CDOs when he was at its helm as CEO. Paulson also hastily engineered the $85 billion bailout of insurer American International Group (AIG), a major counterparty to Goldmans' massive holdings of CDOs. The insolvency of AIG was a huge crisis for Goldman, a principal beneficiary of the AIG bailout.
In a December 2007 New York Times article titled "The Long and Short of It at Goldman Sachs," Ben Stein wrote:"For decades now, . . . I have been receiving letters [warning] me about the dangers of a secret government running the world . . . . [T]he closest I have recently seen to such a world-running body would have to be a certain large investment bank, whose alums are routinely Treasury secretaries, high advisers to presidents, and occasionally a governor or United States senator."
The pirates seem to have captured the ship, and until now there has been no one to stop them. But 60 million mortgages with fatal defects in title could give aggrieved homeowners and securities holders the crowbar they need to exert some serious leverage on Congress serious enough perhaps even to pry the legislature loose from the powerful banking lobbies that now hold it in thrall.
No full recovery until 2015, says the IMF
The world’s leading economies will have to wait until 2015 or later for growth to return to normal rates, the International Monetary Fund (IMF) has warned. The warning, contained in a pre-released chapter of its World Economic Outlook, undermines hopes among economists that the UK is poised for full recovery. The IMF said that past experience, based on 88 banking crises over the past four decades, showed that economies tend to sacrifice around 10pc of their economic output, and take a significant number of years to regain their full health and dynamism.
It said: “Typically, banking crises have a long-lasting impact on the level of output although growth eventually recovers. Lower employment, investment, and productivity all contribute to sustained output losses. The medium-term output losses following banking crises are substantial. Output per capita does not recover to its pre-crisis trend because capital per worker, the unemployment rate, and productivity do not typically return to their pre-crisis trends within seven years after the crisis.” The paper said the conclusions were “sobering” for politicians hoping for an immediate return to the fast growth rates experienced in the run-up to 2008.
Traders Seek Fortune in AIG, a Stock Once Left for Dead
American International Group Inc., a symbol of the financial crisis, has morphed into a playground for speculators. At a traders meeting before the market opened on Monday, Scott Redler, chief strategist at hedge fund T3 Capital Management, noted that AIG's stock hadn't moved much for days and was ripe for a breakout. Whether it headed up or down, he said, the traders should be ready. AIG shares, trading below $40 at the opening bell, climbed within 15 minutes to $41, then above $42. "This thing's going to $45," T3 President Marc Sperling said, watching his six computer monitors. "It's on every trader's radar screen across the country."
AIG shares rose 21% for the day, and T3's traders did "great," said Mr. Redler. Since Aug. 5, the shares -- deemed highly risky by most analysts -- have more than tripled. "The stock paid the traders' bills all summer," Mr. Redler said. A year after the government sought to avert a market meltdown by rescuing some of the country's biggest financial firms, speculative traders are feasting on these companies' remains. Shares of two government wards, mortgage giants Fannie Mae and Freddie Mac, bounced between about 60 cents and $2 in August. Shares of Lehman Brothers, left to fail by the government and currently in bankruptcy proceedings, rose from five cents to 20 cents in recent weeks.
AIG, arguably, has been the biggest casino of all. In the past seven weeks, its common shares have careened between $13 and $55, surging past $54 on Tuesday before closing at $45.80. The extraordinary price action is a dramatic display of an unintended consequence of the U.S. bailout of AIG. Last Sept. 16, the government propped up the faltering company by trading $85 billion in loans for an 80% stake in AIG in the form of preferred shares, which don't trade on the market. It allowed the other 20% of the company's equity -- its millions of common shares -- to continue to trade publicly.
Some analysts declared the deeply indebted company's common shares basically dead money. Many buy-and-hold investors bailed out. That has left AIG's common shares -- $6.2 billion worth, as of Tuesday -- trading most actively between short-term traders, who buy and sell based on market momentum and bet against each other in risky options trades. Often they use borrowed funds, amplifying their gains and losses. Dominating the recent move in AIG stock were professional day traders like those at T3. But Goldman Sachs Group Inc. and J.P. Morgan Chase & Co. also owned AIG shares during the run-up, according to people familiar with the matter. Fund managers including AllianceBernstein LP and Davis Selected Advisers also held the shares during a portion of the run-up, according to fund documents.
Taxpayers aren't profiting, or taking a hit, from the movement in AIG's common stock. That's because the securities the government owns, preferred shares, aren't traded. The government will recoup most of its investment if AIG can repay its debts through asset sales or profits. While a run-up in common shares would typically reflect an increase in expectations of a company's overall value, in this case, AIG has to repay roughly $80 billion before holders of common stock can expect to see their share of profits.
Alex Herrera, head of Soldier Capital LLC, a 26-member day-trading firm in Ramsey, N.J., has been among those buying and selling AIG. A former floor trader on the New York Stock Exchange, Mr. Herrera says he often trades blocks of 100,000 shares, using funds he borrows through the firm to make bets of as much as 15 times the size of his portfolio. On some days during the past month, AIG trading volume topped 130 million shares -- nearly equaling the total number of existing common shares -- up from less than 10 million a day in early August. Trading by firms such as Soldier Capital is "one of the reasons you're seeing all this volume," says Mr. Herrera, 40 years old.
The U.S. bailout of AIG on Sept. 16, 2008, followed by two additional rounds of government assistance, had most investors leaving the stock for dead. Trading volume dried up. Common shares, which surpassed $100 before the AIG meltdown, changed hands below $2 apiece. The seeds of the recent run were sown on July 1. AIG did a "reverse stock split" in which 20 shares became one. Such a split typically attracts investors. It would also potentially guard against having the stock delisted from the New York Stock Exchange if its price went too low for too long. The conversion changed the share price from $1.16 to roughly $20 a share. It didn't, however, change AIG's prospects for quickly repaying the government.
In the days after the split, traders like Kenneth Glick started betting the shares would fall. Mr. Glick, 37, works for Bear Capital Partners, a tiny day-trading outfit that operates from windowless offices in lower Manhattan in a building where employees often hike up four flights of stairs when the elevator is broken. Staring at his computer, flanked by a wall-size print of reggae singer Bob Marley, Mr. Glick shorted roughly 2,000 shares of AIG, selling borrowed shares with the intention of replacing them with cheaper shares if the stock declined. Like most day traders, he didn't hold onto his short positions overnight. He says he made about $1,000 from AIG trades in the week following the split.
On July 9, he posted a video on YouTube. "AIG shouldn't even be a stock," he said, calling the company "finished." In the video, Mr. Glick disclosed that he was shorting the stock. But the bulls prevailed. The next day, AIG closed at $11.74, up more than $2. On a Yahoo message board devoted to AIG, anonymous posters said the shares were heading up -- with one predicting a $300 share price in three years. By mid-July, AIG's stock had become a tinderbox. Professional traders watch message boards as a barometer of investor sentiment, and monitor stocks for changes in buying patterns. Should the share price begin to rise, they believed, the many speculators who shorted the stock would have to buy the shares they had pledged, sending prices even higher. One more surge in AIG shares would ignite a fierce rally, traders say.
That spark came on Aug. 5, the day after AIG named a new chief executive, Robert Benmosche, a retired banker and insurance executive with a solid reputation in the insurance industry. Within the first two hours of trading, shares surged 25% to $17. On message boards, posters speculated that former American Express CEO Harvey Golub would join AIG. (He later did, as the board's nonexecutive chairman.) There was talk on trading floors that AIG and the U.S. would strike a deal to cut down the debt the company owes the government. The latter hasn't materialized. But AIG's shares closed up 60% on the day, at $22.
The jump in share prices spilled over into the market for AIG options, which had been moribund. Most of the trading was in call options, which allow the buyer to pay a small premium in exchange for the right to buy a stock on a particular date at a specified strike price. Trading volume in AIG options exploded on Aug. 5 to 380,000 contracts, up from 10,000 or 20,000 in prior weeks. Trading was especially heavy in out-of-the-money call options, where the strike prices -- ranging from $25 to $35 -- were far above AIG's current share price. In other words, buyers of such contracts were betting on big price jumps. The strategy promised big profits. Traders who bought the August $30 calls on Aug. 5 could have more than doubled their money by the time the contracts expired.
The activity magnified price gains in AIG shares. That's because options dealers whose contracts required them to deliver AIG shares at a higher price bought more AIG shares to hedge their bets. Some day traders and brokers took bigger risks. They sold such options naked -- without buying the stock they might be required to provide should AIG shares hit the strike price. It was a risky bet that the shares would fall. Among those who made these wagers was William Lefkowitz, an options strategist at vFinance Investments in New York. On Aug. 5, he says his phone lines were jammed with calls from clients. "I'd put someone on hold to finish a conversation with a client who wanted to buy [options on] AIG. By the time I got back to the first client the stock would have jumped three points," he says. "It was amazing -- a dream for a person who wanted to trade."
Mr. Lefkowitz says he believed the stock would decline, so he proposed a bearish play: His clients would sell call options with the hope that they would pocket the buyer's premium if the underlying stock failed to reach the strike price. He made the same bet personally. Like many of his clients, he sold the options naked. "You want to do this when the stock is going up and things are exciting," says Mr. Lefkowitz. In this case, the risky play worked: The options expired before AIG shares hit $50, letting Mr. Lefkowitz pocket a fast $500 without having to deliver the stock.
More traders chafed to get in. At Nine Points Management & Research, a hedge fund whose investing style involves jumping in after a stock catches fire or breaks sharply lower, manager Damon Vickers rued sitting on the sidelines. "It was ridiculous we missed the first move," Mr. Vickers recalls saying in an August huddle with his partners. "This is what we watch for." On Aug. 20, AIG shares surged anew amid bullish comments from the new CEO, Mr. Benmosche. The rally created a panic for traders who had sold naked call options on AIG shares with a $30 strike price, believing the stock never would hit that level. Now these players scrambled to buy AIG shares so they could meet their obligations. This drove shares still higher.
The rising price attracted more people who bet the stock would fall. On Aug. 20, 12.5 million shares were sold short through the Nasdaq -- 47% of the exchange's AIG volume. But shares kept rising, closing above $32. Mr. Vickers, meanwhile, got his second chance. The fund manager grabbed the stock on Aug. 26, when AIG shares rose to nearly $38 from $34. The next day, in a moment that hearkened back to the fervor of the technology-stock boom, the fund manager appeared on television, predicting that AIG shares could hit $300. The chat rooms were jammed with investors trying to decipher what was happening. "Did CNBC say $300 per share?" read one comment.
As the stock moved toward $50 on Aug. 28, messages grew frantic. "Buy, BUY, BUYYYYYYY!!!! AIGGGGGGG," read one. "Shoot for the $77 today with [impending] News," read the next message on the same board. That day, trading volume in AIG shares soared and the stock hit a closing high of $50.23. On the options market, traders began betting that the stock would fall in coming months, possibly even back to single digits. By Sept. 1, AIG shares had sunk to $36. Mr. Vickers at Nine Points says he got out at a small profit. Manhattan day trader Mr. Glick, once bearish, began buying, darting in and out of AIG over the course of the day. By mid-September, he had lost most of the $1,000 he made earlier shorting the stock. "AIG has caused me nothing but heartache and pain," Mr. Glick says now.
Others have kept churning. On Monday, the day a government report raised doubts about AIG's ability to repay its debts, shares nonetheless surged 22%. The run continued Tuesday, with shares reaching $54.40, near its August high. But after noon, commentator Jim Cramer wrote on TheStreet.com that AIG should do a secondary stock offering to help repay the government. Rumors swirled that the company could use its higher share price to raise cash at the expense of current shareholders. Shares plummeted, closing at $46.50.
For BofA, the Merrill woes never end
Executives from Bank of America headed to Capitol Hill Tuesday to meet with a key lawmaker after failing to provide more details on last year's purchase of Merrill Lynch to Congress. Bank of America was expected to submit key documents related to the merger a day earlier to Rep. Edolphus Towns, D-N.Y., who has been leading an ongoing Congressional probe into the merger as the chairman of the House Committee on Oversight and Government Reform. But the Charlotte, N.C.-based lender missed the deadline of noon Monday, according to a spokeswoman for Towns.
Tuesday's meeting is the latest instance of government scrutiny of the controversial deal, which was struck during the height of the banking panic last fall. The Securities and Exchange Commission ramped up its plans to prosecute the firm this week after a federal judge recently rejected a $33 million settlement it had struck with Bank of America for allegedly misleading investors about bonuses paid to Merrill employees. And New York Attorney General Andrew Cuomo has been moving quickly in his quest to bring charges against BofA and possibly company executives. You would think that such high-profile cases would be a significant distraction to the bank and a concern for investors. But Wall Street has largely overlooked Bank of America's latest woes.
Since striking its agreement with the SEC over Merrill bonuses in early August, BofA's stock has gained 23%. Analysts say that's because the Merrill saga is secondary to the underlying health of the firm. "Investors are looking at core earnings power," said Whitney Young, a senior research associate who tracks Bank of America for Raymond James. "All these things that are going on are really irrelevant to that." While BofA is expected to endure more losses in its credit card business, the bank continues to benefit from a booming mortgage business and tidy profit margins on new loans, analysts said. At the same time, the finger-pointing in Washington hasn't appeared to cause customers to flee the bank.
"I don't think that is really affecting the brand," said Stuart Plesser, senior bank equity analyst with Standard & Poor's. "I don't think customers are going in there saying they don't want to do business." If anything, the drama playing out in Washington is more of a headache for Bank of America CEO Ken Lewis and other top executives at the firm than for shareholders. Lawmakers and regulators have tried to strong-arm the company into disclosing more information on the merger, going so far as forcing Lewis to testify before Congress on the matter earlier this year.
Last week, Cuomo's office issued subpoenas to five Bank of America board members last Wednesday for details on the Merrill merger. In several instances, however, the company has been reluctant to provide such specifics, suggesting that those details involved discussions with company lawyers and are protected by the attorney-client privilege. BofA is believed to be stonewalling on providing some details out of fear that revealing that the information could impact other investigations now pending against the company, including the one led by Cuomo's office. Formal charges have not yet been brought against the bank or its executives by his office.
New revelations could also bolster the case now being brought against BofA by the SEC, which accused the firm of misleading investors on plans to pay bonuses to Merrill employees in fiscal year 2008. Both parties are due to go to trial early next year after the judge struck down the proposed settlement. BofA has maintained that it complied with all legal requirements in its proxy statement. A spokesman for the bank said Tuesday that the company planned to vigorously defend that position. One of BofA's strongest defenses in that case has been that it relied on the advice of its attorneys when it drafted its proxy statement. Any information publicly disclosed to lawmakers about the Merrill deal would provide regulators with new ammunition and even the opportunity to bring new charges against the firm.
Hoping to alleviate some of the scrutiny the company is now facing, BofA America announced Monday it had terminated the asset-guarantee program it struck with the U.S. government earlier this year to insulate the firm from the toxic assets it acquired from Merrill. The bank agreed to pay the government $425 million to end the deal. Last January, the government agreed to guarantee $118 billion in assets to help BofA digest the Merrill deal, but had never officially finalized the program with regulators.
SEC to 'vigorously pursue' charges against BofA
The Securities and Exchange Commission said it will “vigorously pursue” Bank of America Corp. in court, with allegations that the bank misled shareholders when it prepared to purchase Merrill Lynch & Co. late last year. The SEC and BofA reached a settlement on the charges last month that required the bank to pay a $33 million fine. But, U.S. District Judge Jed Rakoff rejected the deal, saying the corporate fine would further punish shareholders, not the persons suspected of misleading investors.
Charlotte, N.C.-based BofA is accused of allowing Merrill Lynch to pay more than $3 billion in bonuses to its employees before the merger, but leading investors to believe such bonuses would not be paid. After Rakoff rejected the proposed settlement, the SEC had to consider whether to drop the charges, submit a new settlement or proceed to court. The agency’s statement late Monday means BofA management will likely be required to defend its actions in open court.
Here is the full statement from the SEC:“As we alleged in our complaint last month, Bank of America did not provide investors with complete and accurate information about the bonuses to be paid by Merrill Lynch to employees. We believe that this disclosure failure violated the federal securities laws.
“We firmly believe that the settlement we submitted to the court was reasonable, appropriate and in the public interest. As we consider our legal options with respect to the court’s ruling, we will vigorously pursue our charges against Bank of America and take steps to prove our case in court. We will use the additional discovery available in the litigation to further pursue the facts and determine whether to seek the court’s permission to bring additional charges in this case. “In deciding how to proceed, we will, as always, be guided by what the facts warrant and the law permits.”
Demise of a Dizzying Idea: Banks Lending to FDIC
So that idea that the Federal Deposit Insurance Corp. would borrow from big, healthy banks to replenish its deposit-insurance fund? Turns out it’s “not something that’s under serious consideration,” an FDIC spokesman says, although it’s one of many options available to the agency under federal law. Early next week, the FDIC is expected to take up just what to do about the fund. But it may well prove to be a good thing if the borrow-from-banks plan slips quietly away. For one thing, simply untangling the sheer loopy circularity of it all is enough to give some bank analysts a minor fit.
In effect, the FDIC would borrow from big banks to shore up the deposit insurance fund, and then repay the loan (plus interest) by collecting fees from those big banks and others. That sounds an awful lot like taking an advance on fees that the FDIC expects to collect in future years from big, healthy banks -- and a more expensive variation on simply levying a special assessment to cover any shortfall in the deposit fund. (More expensive, of course, because the lending banks would want to collect some interest for paying premiums in advance.) Oh, except the lending banks would presumably get to record a nice fat asset on their books, instead of just parting with the cash. And lurking behind it all? Why, a government guarantee. "I don’t think there’ll be much credit risk associated with the loan," laughs one bank analyst. "If the FDIC reneges on the loan, we’re all in a world of hurt."
So what's the alternative for the FDIC's dwindling deposit-insurance fund? Among its options are a special assessment -- essentially, an additional fee or premium charged to surviving banks -- or drawing on the agency's line of credit with the Treasury. Borrowing from Tim Geithner might give Sheila Bair hives, given the tension that's said to exist between her and the Treasury secretary, but then at least the cost of financing flows from banks to taxpayers rather than in a circle. No doubt, banks would rather not pay a special assessment. Unhealthy ones need their cash; healthy ones can make a mint with it instead these days. But banks are in business right now in no small part thanks to the mutual insurance fund that lets their depositors sleep at night -- the FDIC. And last I checked, when private-sector insurers run into a wave of claims, they tend to jack up their rates, too.
Goldman Sachs CEO Lloyd Blankfein: 'We Didn't Realize How Bad Things Would Get'
In a SPIEGEL interview, Goldman Sachs CEO Lloyd Blankfein, 55, discusses his astronomical bonuses, the mistakes and failures of his bank prior to the start of the global financial crisis and his proposals for better regulating financial markets.
SPIEGEL: Mr. Blankfein, two years ago, your $67.9 million bonus was the largest ever paid to a Wall Street banker. You recently said that you could understand the anger that people are expressing over inflated bonuses. How are we to understand this?
Blankfein: I think people legitimately question whether compensation is tied to performance and, looking back, they see that some people were enriched but did not seem to have any alignment with their shareholders. A large part of the compensation paid to our senior people, including mine, is paid in shares, which may be worth less or more depending on our performance well after they were granted. This is what our shareholders want and we are convinced of this alignment of interests.
SPIEGEL: Still, $67.9 million is an astronomical sum. Is there any way to justify this?
Blankfein: Our board of directors sets the pay of our most senior executives, including mine. They tie pay to the firm's performance and I believe we have established a strong track record of correlating growth in revenues to growth in compensation. The real test is whether compensation is reduced when performance changes. For example, in 1994, the firm made a loss and the partners had to pay money back to the firm so that the staff could be paid. And, in 2008, which was a very difficult year as you know, I was paid no bonus, even though the firm was profitable.
SPIEGEL: That all sounds very rational. But don't such payments promote greed as the primary motivator?
Blankfein: I think we all know that greed can drive behavior, but it tends to be short term and ultimately destructive. Our leadership team stands out because most of our people have built their whole career at the firm and stayed through many years and many changes in the market. When our people leave they tend to go on to other positions -- whether in government or other forms of public service -- that no one would do if their were motives were financial. Those characteristics don't make me think of "greed."
SPIEGEL: So only modest, good people work for Goldman Sachs? We hardly believe that.
Blankfein: I have stated my honest view of things.
SPIEGEL: This week in Pittsburgh, the G-20 will discuss stricter regulation of bonus payments. Based on what you have said, you believe that such efforts will do nothing to prevent future crises?
Blankfein: That is not what I said. The incentive aspect played a role in the crisis, but it was not the primary cause -- I think you have to look at the macroeconomic backdrop, the concentrations of risk in certain institutions and the fact that many, including regulators, should in hindsight have had better information and acted sooner to address capital and liquidity shortfalls.
SPIEGEL: One gets the impression that the issue of bonuses is mostly a problem of image for you. A few weeks ago, you called on your employees to act more modestly, in order not to draw undue attention to themselves in a time of government bailouts for banks. "Spend like a pauper," was the headline in one US newspaper.
Blankfein: That's not exactly true -- I didn't send that message then, but it almost doesn't matter. We are in the public spotlight. And, in any event, I think it is bad form to be ostentatious.
SPIEGEL: If you don't consider a change in the rules regarding bonuses to be a central element for the establishment of a sustainable financial system, then what would you propose?
Blankfein: The system needs more capital, less leverage and, above all, greater transparency. The balance sheets of the banks must clearly depict and properly measure their risk exposures. What good does it do to mandate capital adequacy if there is no real indication of the bank's available capital and total risks?
SPIEGEL: You are talking about the billions in off-balance sheet financial transactions conducted by the banks. They are counted among the primary reasons for the crisis, because enormous amounts of junk mortgages were bought on credit without capital backing. Have we seen the end of this era?
Blankfein: I think it is over. But off-balance sheet trickery was also the big problem at Enron ...
SPIEGEL: ... the US energy company that went bust in 2001. Why didn't anyone learn from the Enron debacle?
Blankfein: We learned -- a few others did too.
SPIEGEL: So Goldman Sachs never engaged in off-balance sheet business?
Blankfein: At our bank, every transaction, and thus every risk that we take, is recognized on the balance sheet and the income statement because we use mark-to-market accounting. This is not the case at every bank. And this is one reason why companies fail.
SPIEGEL: Stronger capital bases and deeper debt ratios might indeed be the right measures to render banks less prone to crisis. But, at the moment, we are experiencing the opposite. Many institutions are still suffering from a capital shortage. Accounting standards have been relaxed. When will be the right time to turn this trend around?
Blankfein: First, we will have to go through a period of transition and economic recovery. We are not there yet.
SPIEGEL: Where do we currently stand in this process?
Blankfein: Today, we can debate the rules that will be introduced in 2012 or 2013. I would design a system under which all risks are recognized at market value on the balance sheet and income statement.
SPIEGEL: The timeframe to turn the trend around may be quite small. If the lax rules remain in force too long, the next bubble could be allowed to inflate.
Blankfein: At Goldman Sachs, we already mark our assets to market daily, and have a capital ratio of 16 percent. So, it's easy for me to say: "Let's start with the new rules today." But, the rest of the system may not be able to handle such requirements.
SPIEGEL: Even Goldman Sachs cannot survive without competitors and other market participants.
Blankfein: You're right, we cannot live without a healthy system. In the days after the collapse of Lehman Brothers, when everyone was panicking, we received $5 billion from Warren Buffett and then raised $5 billion from public equity investors. But, we couldn't make ourselves healthier than the system. Those who fail to recognize that the aid given by governments to the financial system benefited everyone are deluding themselves.
SPIEGEL: Are you referring to Deutsche Bank CEO Josef Ackermann, who boasted that he did not accept any government money?
Blankfein: No, I am not talking about Deutsche Bank. I am thinking of other people whose names I will not mention. In any case, I do not miss any opportunity to express my appreciation for what the governments and central banks have done.
SPIEGEL: You say that Goldman did things better than many others in advance of the crisis. What was your biggest mistake?
Blankfein: Goldman Sachs has traditionally been strong in business with mergers and acquisitions. We also provide financing for acquisitions by companies ...
SPIEGEL: ... and through private equity funds, which shortly before the crisis financed corporate takeovers at astronomical prices using almost exclusively borrowed money.
Blankfein: When this market for so-called "leveraged finance" was booming, we wanted to remain competitive and maintain our market share. We extended even larger lines of credit to our clients and did so at the same time as lending terms were getting easier. When companies like Chrysler began to falter, we acted quickly, but we did not act quickly enough, which was a mistake.
SPIEGEL: Was that your only mistake?
Blankfein: Another area where we didn't act fast enough was real estate. We recognized that property markets were eroding, but we didn't realize how bad things would get or how quickly the decline would happen.
SPIEGEL: How did the massive excesses in the real estate market come to be in the first place?
Blankfein: Owning a home is part of the American way of life. And the dream of home ownership was furthered politically, through tax deductions for mortgage payments and the easing of credit terms, to give two examples.
SPIEGEL: But, without cheap money from the Federal Reserve Bank, the US's central bank, the real estate bubble would never have been possible.
Blankfein: I will not dispute that easy money policies contributed to the crisis, but they were not the only cause. There were many reasons, and it is difficult to rank them in order of significance.
SPIEGEL: Will we see a significant rise in inflation over the next five years?
Blankfein: The central banks are currently pumping liquidity into the markets, and thus consciously accepting inflationary risks. At the same time, however, they are also bolstering the economy. And, do you know what? It may just be that these people are doing an extraordinarily good job. Still, it is risky. If the surplus liquidity is not siphoned off soon enough, inflation will result. But I would not discount the possibility that that the central bankers are doing exactly what needs to be done.
SPIEGEL: Do you invest in gold?
Blankfein: I am not bullish on gold.
SPIEGEL: Another problem of the financial system is the sheer size of the banks. What should politicians do to prevent a systemic crisis, like what resulted after Lehman, in the event of another bank failure?
Blankfein: If I were a regulator I would establish an early warning system to ensure timely identification of accumulating risks. The basis for this should be effective accounting to reflect the value of securities at market prices. As a matter of fact, I think that this alone would almost suffice as an early warning system. I would also regularly meet with my colleagues from other countries to discuss tendencies and trends in the markets and the financial industry - again with the aim of recognising irregularities as quickly as possible. Moreover, I would require the banks to maintain more capital. I would also want to establish a resolution process for a troubled bank -- the equivalent of a quarantine room -- so that the problem couldn't spread.
SPIEGEL: How do you foresee that happening?
Blankfein: With that, I mean a system or institution under whose umbrella a beleaguered bank can be temporarily saved. This institution would ensure that the bank is able to meet its obligations -- and that it doesn't trigger a conflagration.
SPIEGEL: Wouldn't it be much easier to simply limit the size of banks? After all, the danger of systemic contagion is less when the banks are smaller.
Blankfein: So what is "too big to fail"?
SPIEGEL: When a bank is so large that in the event of insolvency, it could take the entire financial and the entire economic system along with it into the abyss. The state would then rescue the financial institution with taxpayer money.
Blankfein: The size of the bank is not the most important factor. Whether a certain risk is bundled at a single bank or spread across several is completely irrelevant. That doesn't diminish the size of the risk. In fact, this would only change the problem from "too big to fail" to "too many to fail."
SPIEGEL: Wouldn't another way to avoid such crises in the future be a reinstatement of the Glass-Steagall Act, which stipulates the strict differentiation of banks that accept customer deposits from investment banks, which can, among other things, develop, sell and trade in highly speculative capital market products?
Blankfein: No, I think you are assuming that this crisis was caused solely by highly complex derivative products. It wasn't. Just look at a typical bank balance sheet. Most banks value their loans at the price at which they were issued. This applies to corporate and consumer loans, mortgages and credit card debt. All seemingly bread-and-butter transactions. And then there are a few derivatives and some more complex products.
SPIEGEL: What are you trying to say with that?
Blankfein: This crisis was not just caused by complex derivatives.
SPIEGEL: What cause it then?
Blankfein: Too much money was lent to people who had bitten off more than they could chew. When the bubble burst and recession hit, default rates went through the roof.
SPIEGEL: When will the recession be over? Will the growth curve be shaped like an L, or a V or a W?
Blankfein: I think that we are returning to health and that growth will begin to pick back up. Emerging market countries have held up better than any of us expected in the crisis, which will also fuel growth. But despite the initial signs of recovery, there will be more job cuts -- and that will have an impact on the sentiment of the people. Consequently, we have to be prepared for setbacks. However, I am generally optimistic.
SPIEGEL: Will all of the measures now being implemented by politicians really be enough? Or will it take something like a new morality in your industry?
Blankfein: I think so. As an industry we have an obligation to constantly reassess the way in which we do business. We have an obligation to ensure the safety and soundness of the financial system. We have an obligation to our clients and to society as a whole.
SPIEGEL: Isn't it necessary for you to demonstrate your social responsibility once again in the wake of this crisis?
Blankfein: I agree with you 100 percent.
Brussels unveils regulation reform plan
A radical reshaping of Europe’s patchy system of financial supervision moved a step closer on Wednesday when the European Commission unveiled legislation which officials hope will guard against a repeat of last year’s financial crisis. “We have had a crisis – and we have to learn from this crisis….The proposal is a first,” said Joaquin Almunia, economic and monetary affairs commissioner.
On the one hand, the commission is advocating the creation of a new European Systemic Risk Board, to assess and warn about threats to financial stability in the region. This will be a new body made up of central bank governors for all the member states in the 27-country bloc, and chaired by the president of the European Central Bank, which will also provide working support. Its role will be to monitor threats to financial stability. The board will have no direct powers, but will meet regularly and report to EU finance ministers and leaders.
Separately, there will be a new “European System of Financial Supervisors”, which will oversee individual banks and financial firms. Here, day-to-day supervision of firms would remain with national supervisors. However, the commission proposes to upgrade three existing pan-EU coordinating committees into new European Supervisory Authorities for the banking, insurance and securities sectors respectively. Their role will be to develop harmonised rules and common approaches to supervision, But they will also be required to ensure “consistent application” of the rules, and be able to coordinate and make some decisions in emergency situations.
The boards of the authorities – made up of member state representatives – will use a system of qualified majority voting on key issues involving technical standards but adopt one-member-one-vote for enforcement and implementation matters. The new organisations may also be given responsibility for supervising “certain entities with pan-European reach”, such as credit rating agencies. The commission proposals draw heavily on the two-tier appoach suggested by former French central banker Jacques de Larosière in February after he was called to advise on changes in the wake of the recent financial and economic turmoil.
Resistance to giving EU bodies any binding powers on supervision has been evident in some countries, as has resistance to allowing them to make decisions which could require states to put up money – not least in the City of London. The principle that the new supervisory authorities should not intrude on states’ fiscal responsibilities was agreed by EU finance ministers and is enshrined in the draft legislation. Nevertheless, there are predictions of tough negotiations over the precise wording. If a member state disagrees with a decision by one of the new supervisory authorities, there will be an appeal mechanism. Ultimately, this will be to EU finance ministers, who will make the final decision by qualified majority voting. The legislation will need approval by both member states and the European Parliament before coming into force. Commission officials have said they hope to have the changes in place next year.
Sweeping new powers could see Brussels seize control of City
The European Commission has unveiled sweeping proposals for a trio of EU financial regulators that shift ultimate control over the City of London from the British authorities to Brussels for the first time, and may allow policy on bank bail-outs may be decided by EU vote. The plans disregard findings by the Lord's European Union Committee that a fresh treaty amendment may be required for such an increase in EU power. Both the Lords and German legal scholars say the EU may have over-stepped the mark by trying to push through the proposals under single market law (Article 95) by qualified majority vote, which strips states of their veto.
The three authorities are to cover banking; insurance and pensions; securities and markets. They will have "binding powers" to impose rulings on Britain's Financial Services Authority and fellow regulators, and will be backed by full-time staff with a budget of €68m. The European Central Bank will head a new European Systemic Risk Board (ESRB) to provide early warning of financial crises. It will operate through "moral pressure", requiring states to "explain" reckless policies.
Charlie McCreevy, the single market commissioner, said the package of measures was rushed through at the "speed of light" in order to remedy serious flaws in Europe's banking system and to "prevent future financial crises". The proposals require the assent of EU governments, by majority vote. City Minister Lord Myners said the UK would "study the proposals carefully" to ensure that they conform with the deal struck at the EU summit in June. Germany also has concerns about the creation of bodies with "binding powers".
Mr McCreevy, an Irish Thatcherite who has tried to rein in the more extreme demands from the French government, said there was likely to be "heavy discussion" by ministers and Euro MPs before the plans ever become law. The think-tank Open Europe said the proposals give Brussels the final say on delicate issues such as the need to recapitalise banks or ban short-selling. The EU would have wide powers to take action in "emergency cases".
The voting structure would make it hard for any future government to defend the City against policies deemed harmful. "Key decisions will be taken on a "one-state, one-vote basis', meaning that the UK will have the same influence as countries which have barely any financial sector at all," said Mats Persson, Open Europe's director. Britain's member on each body will be "under a legal obligation to consider only EU interests, not national or any other interests".
While there is a "safeguard" clause allowing states to appeal if decisions "impinge on fiscal sovereignty" (budgets), rulings would be made by a vote of EU finance ministers. This raises the voting bar slightly, but Britain would struggle to find enough allies to stop proposals that might threaten the lifeblood of the UK economy. Open Europe said the separate EU directive on hedge funds and private equity would cost up to €1.9bn for compliance in the first year, followed by about €700m each year thereafter. The UK would bear the brunt since it hosts 80pc of Europe's hedge funds. The UK has not conducted its own impact assessment, in breach of Treasury guidelines.
Secrecy shrouds Britain’s coming austerity
For most of the summer, Britain’s two main parties have been fighting a phoney war over public spending. Only in the past few days, after the prime minister boldly used the “C” word – cuts – have the issues begun to crystallise. Until just a couple of weeks ago we were still being invited to choose between “Labour investment” and “Tory cuts”. After speeches from Gordon Brown, the prime minister, and Lord Mandelson, in effect his deputy, the battle is, in one sense, out in the open. But so far it has involved fake blood. Now the doctor in 11 Downing Street, whoever it is, will have to take out his scalpel and cut for real. Lord Mandelson suggests a choice between “progressive state reformers” and “ideological state retrenchers”. George Osborne, the shadow chancellor, would, no doubt, put it differently.
The reasons for the change in tone are not hard to find. In its recent paper on sovereign credit ratings two weeks ago, Moody’s, the ratings agency, confirmed the UK’s triple A status, describing it as “resilient”. But the small print was less reassuring. It noted that our “debt metrics have deteriorated considerably” and UK interest payments would remain below 10 per cent of government revenue only through significant spending cuts, which they “assumed” would occur. The trigger point at which triple A status comes under threat is 10 per cent, and on Moody’s adverse scenario we would exceed it significantly in 2012.
Worryingly, that scenario is not at all extreme. Although it envisages 2010 growth of only 1 per cent, there is a bounce-back to almost 4 and then 5 per cent in the next two years. Many would regard that as quite optimistic, given the projected tax rises and the need to pay down debt in the corporate and household sectors. Fortunately, Moody’s analysts were not the only ones to assume cuts were on the way. In the past six months the situation within the public sector has been curious. The normal state of affairs is that the spending departments, and their creatures, make plans based on a continuation of existing income, while the Treasury warns of trouble ahead and demands contingency plans with cuts. The spenders then draw up deliberately unrealistic options, showing that even 1 per cent cuts will involve huge job losses in the secretary of state’s own constituency, famine and a plague of locusts.
This year, by contrast, the usual roles have been reversed. Spending bodies, from art galleries through universities to local councils, have seen the way the wind is blowing, and have – unbidden – drawn up their own options for severe cuts. From the evidence I have seen, these are painful but realistic plans, not the usual shroud-waving. Public sector managers know this is for real, not just a contingency exercise. No doubt somewhere deep in the Treasury, hidden from ministers’ prying eyes, toiling Nibelungs have been doing the same. The Treasury would be falling down on the job if that were not the case.
It is not yet safe for them to emerge. For while both sides of the political divide accept the need for reductions, detail is sparse, and generally unwelcome. Only a few sacred cows, like identity cards, have been offered up for slaughter, even by the opposition. Though scrapping ID cards would be welcome, it will not bridge the yawning gap in the public finances, which the Institute for Fiscal Studies estimates at £90bn ($146bn, €99.5bn). So nameless retribution awaits us after the election, but we are allowed to know only what it is not. The National Health Service, implausibly, seems to be out of bounds, even though by no means all of its expenditure can be described as life-saving; a quickly-suppressed McKinsey paper identified large potential staff savings.
The odd result is that in the absence of an open public debate these secret plans will form the basis for cuts. It will be necessary to act immediately after the election, if the ratings agency vultures are to be kept at bay, and these may well be the only developed plans available. We are told that the chancellor is now to meet spending ministers, but surely a public debate on spending plans and priorities is possible? Might the “hard choices” of which the prime minister speaks be clarified and costed? The two front benches think not. It is a pity, at a time when the need for fiscal discipline is widely accepted, that the options can be discussed only behind closed doors, in case they frighten the horses.
Mervyn King: Don't get carried away by recovery hopes
Bank of England governor says 'the banking sector is not in good shape'. Mervyn King has warned against getting carried away by the recent optimism that the UK economy is coming out of recession. Speaking on a visit to Newcastle yesterday, the governor of the Bank of England said the UK's banks were still incapable of providing enough lending to fuel a solid recovery. "There are some signs that growth may be beginning to pick up. But we shouldn't get too carried away by this. This is clearly very small growth after a very large fall and unemployment has risen so it's a difficult challenge ahead," King told local newspaper the Journal. "The banking sector is not in good shape and it will take a long time before the balance sheets of the banks are fully repaired and the ability to provide credit to the economy to finance expansion will be returned to normal," he added.
King also welcomed the recent fall in the value of the pound. Sterling slipped again today, losing around two cents against the dollar to trade at $1.6206 and also dipping under €1.1 against the euro. Howard Archer, economist at IHS Global Insight, said King's comments suggested that UK interest rates would stay at their current record low of 0.5% well into 2010. "Mr King's caution over longer-term growth prospects reinforces belief that he will be in no hurry at all to withdraw any of the stimulative measures that have been enacted by the Bank of England. It also suggests that he believes that further measures could yet be warranted to support and encourage bank lending," said Archer.
Many economists believe that the UK returned to growth in the current quarter, after a year of contraction. The CBI bolstered these hopes yesterday, predicting growth in the third and fourth quarters of 2009. King, though, cautioned that the world economy would not stand on a firm footing again until it is better balanced, by countries such as the UK cutting their deficits. He said that exporters based in the north east could play an important role. The head of the UK central bank also said he sympathised with locals who felt they were suffering from mistakes made in London. "It must be very frustrating for businesses in the north-east to find that problems in the financial sector that had very little to do with their businesses has caused this sudden downturn across the world which has made life tough for manufacturing and other businesses across the world. That's a sense of frustration that we all share," admitted King.
King has also said that two UK banks came close to collapse a year ago, in the aftermath of the Lehman Brothers bankruptcy. In a television programme scheduled for 9pm on BBC 2 tonight, called The Love of Money, King gives a chilling insight into the crisis. "Two of our major banks which had had difficulty in obtaining funding could raise money only for one week, then only for one day, and then on that Monday and Tuesday it was not possible even for those two banks really to be confident they could get to the end of the day," King said, according to BBC extracts. King's deputy, Charlie Bean, is to hold a meeting with City economists next Tuesday to discuss the Bank's quantitative easing strategy. This follows fears that QE is not giving the economy enough of a lift to pull the UK out of a slump. The Bank said this morning that chief economist Spencer Dale and monetary policy committee member Paul Fisher would also attend the meeting.
Bank calls unprecedented meeting of economists
The Bank of England has summoned the City's leading economists to an unprecedented meeting in Threadneedle Street, as the pound plunges amid growing confusion over its radical Quantitative Easing (QE) policy. The Bank will host a seminar of all London's major economists next Tuesday – the first time it has invited them in en masse in recent memory – in what has been construed as a sign that it fears market participants are starting to lose faith in its efforts to pump cash into the economy. The move has also sparked speculation that it is poised to announce a major change to the monetary policy framework, although insiders dismissed such suggestions.
It came after the minutes from the Bank's latest Monetary Policy Committee meeting revealed that the idea of cutting the interest rate banks are paid on the reserves they hold there was not discussed this month. The pound has lurched lower in recent weeks, thanks in part to speculation that the Bank will impose charges on banks for holding excessive amounts of cash in reserve at its vaults. Under QE, it is pumping £175bn into the economy, but much of this cash is sitting in banks' reserve accounts rather than being recycled and flowing around the broader economy.
The suspicion that the Bank will soon take action to mitigate this has pushed down market interest rates sharply and contributed to an almost 5pc fall in the pound against other leading currencies. It has caused gilt prices and short-term interest rates to fluctuate wildly in recent weeks. The Bank's seminar, chaired by deputy Governor Charlie Bean, alongside chief economist Spencer Dale and markets director Paul Fisher, is intended to clear up this confusion. It sparked anticipation in the City not merely because the Bank has a reputation for extreme secrecy, but because some suspect it may come alongside an announcement over the Bank's reserves policy. Others suspect the Bank is concerned that many think either that QE amounts to printing money, much as Zimbabwe and Weimar Germany did, or that it simply is not working.
However, insiders insisted that although the meeting was unusual, it is merely intended to mark six months since the policy began. In yesterday's minutes, the MPC revealed that its nine members had voted unanimously to leave interest rates unchanged at 0.5pc and the QE total at £175bn, although both the Governor, Mervyn King, and external member David Miles said that "a larger asset purchase programme could still be justified." In a separate speech, MPC member Kate Barker said that the months ahead would be a critical test of whether a recovery was likely to be maintained. She added that, even as growth picks up, rising unemployment will eliminate the "immediate prospect of a 'feel-good' factor". She also indicated that low interest rates and Quantitative Easing would remain in place for the foreseeable future, saying: "As the expected recovery becomes established, monetary policy will need to be sensitive to the concern that too rapid an adjustment in private sector balance sheets could be provoked by premature monetary tightening."
Bank of England rate setters see risk of false dawns for economy in September minutes
The Bank of England’s Monetary Policy Committee (MPC) has warned that although there have been positive signs for the British economy over the past month, improvements could prove to be “false dawns.” Minutes of the MPC’s September meeting highlighted rising unemployment, weak domestic demand, banks’ balance sheets, weak bank lending, high levels of public debt and global imbalances as factors which threaten recovery. “There had been some promising indications from asset markets,” the MPC noted in the minutes, “but the lesson from previous financial crises was that they were not resolved quickly, and that there could be false dawns.”
The committee voted 9-0 in favour of leaving interest rates on hold at 0.5pc and its quantitative easing (QE) target unchanged at £175bn. Sterling rose against both the euro and the dollar after the minutes were published. The unanimous vote was in contrast to the September meeting of the MPC, when Mervyn King, the governor, along with two other colleagues voted in favour of extending QE by £75bn to £200bn. They were outvoted by a majority of six who preferred a smaller £50bn extension to £175bn. “For those members who had preferred a larger stimulus at the August meeting, a larger asset purchase programme could still be justified. But in the absence of significant news about the medium term the case for adjusting the programme now was outweighed by the benefits of following through with the programme of asset purchases announced in August,” the September minutes said.
The comments raised speculation that the MPC would wait until the timing of the next Inflation Report in November, when it will have access to the Bank’s latest forecasts, to make a decision on whether or not to extend QE. “They appear to be signalling that they are postponing the decision on whether to increase QE again until November - which means that they are all but pre-committing not to do anything at the next meeting, in October,” said Colin Ellis, economist at Daiwa Securities. The MPC noted that since the Bank’s August Inflation Report was compiled, the short-term risks to the economy had lessened, and there was a possibility that the recovery in asset prices and confidence “could mark the start of a virtuous upward spiral for the economy.”
It noted that the UK was likely to return to growth in the second half of the year, and that official data showing the economy shrank by 0.7pc in the second quarter was likely to be revised up. The Office for National Statistics is scheduled to publish its second revision on Tuesday. The MPC warned inflation could rise sharply from its current level of 1.6pc from next month, “reflecting past changes in prices dropping out of the twelve-month comparison, the reversal of the reduction in VAT, and other tax changes.” However, the sharp rise would only be temporary, it said. The minutes revealed the committee failed to discuss the possibility of lowering the rate on banks’ reserves, a move which Mervyn King, the governor, told the Treasury Committee last week the MPC was looking at. “The fact that the MPC did not even discuss negative rates is a clear signal that it is not viewed as a key policy tool,” said Mr Ellis.
Three Million Unsold Properties In Spain?
Yes, three million. That was the conclusion reached in the 2009 annual report on the Spanish property market prepared by Madrid-based real estate analysts R. R. de Acuña & Asociados. The report is described by Sunday Times Spanish Property Doctor columnist Mark Stucklin as one of the most influential annual reports on the sector, so the conclusions are hardly to be sneezed at, indeed the assumptions made in the calculations appear on the surface to be entirely plausible. In fact, having read the summary of the report in this article here, Variant Perception's Jonthan Tepper wrote to me to ask whether I thought we were being "dire enough". Yep. Sufficient unto the day is the direness thereof.
According to the estimates of R. R. de Acuña & Asociados - as outlined in the Expansion article - there are currently 1.67 millon flats and houses on the market and looking for a buyer in Spain. To this number need to be added the 327,350 properties under construction but still unfinished, together with the 1.098 millon for which planning permision has been granted and which now have two years - by law - to be completed. No half measures here. Whatsmore, the 1.098 million with planning permission have already been allocated a credit line of 52.947 billion euros by the Spanish banking sector. So adding everything up between them Spanish estate agents, banks, savings banks and private investors are now holding a grand total of something like 3.1 million properties, all of them looking for that ever so elusive buyer.
Another interesting conclusion is that 75% of existing builders will simply go out of business in the next five years. Mark Stucklin - on his Spanish property buff blog - gives us what he calls a a "bulleted summary" of the main points in the report. Personally I would only add two further points of my own.
Firstly the estimate of 25% unemployment by the end of next year contained in the report may well be on the low side, especially if the Spanish government is running out of funding for the stimulus programmes. Spanish INEM employment department officials have already leaked estimates that if the Plan E type projects are not renewed, then we could see something like 700,000 additional unemployed in October and November of this year alone. If these warnings turn out to be realistic then my feeling is that we will hit 25% unemployment around Easter, and then start heading up towards 30%. We should break through the 30% level around the turn of 2010/11 or by the spring of 2011, depending on a lot of factors which are still hard to see at this point.
And where will we stop? No idea at all, since this simply depends on when the Spanish citizenry decide they have had enough and a package of emergency measures are put in place. It is hard, given the way the eurosystem works, to see how a "short sharp shock" may be administered, but something of the kind will be needed, or the patient will simply arrive moribund on the operating table.
My second observation is merely anecdotal, but the Acuña & Asociados report places a lot of emphasis on the coastal situation, which has, to some extent, already been "factored in" by most participants, however quite by chance I have talked with a number of people in recent days who have stressed with me just how serious the situation is in the satellite towns around Madrid, built as they have been for Ecuadorians who never arrived, or Romanians who have already left. I think this element is yet awaiting a proper accounting, and the cost is unlikely to be small.
Summary by Mark Stucklin of R. R. de Acuña & Asociados 2009 Annual Report On The Spanish Property Market
- “There are no green shoots around here,” said Fernando Rodríguez y Rodríguez de Acuña, president of the company, describing the state of the Spanish property market during a press conference introducing the report.
- At end of 2008 the supply of property for sale or under construction was 1,623,042, of which roughly 580,000 were resales, 500,000 newly built but unsold, and 470,000 under construction and nearing completion.
- Annual demand estimated as follows: 233,000 in 2008, and 218,000 in 2009.
- That means there are some 1,6 million homes on the market, whilst demand in the next few years is expected to run at around 220,000 homes. At current levels of demand it will take 6 to 7 years for the real estate sector to recover. So it could take until 2016 for the market to digest the current property glut.
- Looking at the market for holiday homes on the coast, local demand was estimated at 42,000 in 2008, expected to fall to 40,000 in 2009, whilst foreign demand for holiday homes on the coast was 21,000 in 2008, falling to 20,000 in 2009.
- The report singles out the coast as one of the areas with the biggest glut of property, and therefore the biggest problem that will take the longest to resolve.
- Higher priced market segments are also a problem; more expensive market segments are expected to take more than 6 years to clear, compared to 3 years or less at the cheaper end.
- The only way developers and banks will get rid of the glut of property in the medium term is selling at a loss.
- After falling 1.83% in 2008, overall prices will fall 9.55% in 2009, 9.32% in 2010, and 4.81% in 2011, a cumulative fall of just under 25.5% in nominal terms.
- After falling 3.32% in 2008, coastal prices will fall 11.28% in 2009, 7.98% in 2010, and 4.31% in 2011, a cumulative fall of 27% in nominal terms.
- Housing starts will fall to between 50,000 and 75,000 a year in the next few years, down from more than 700,000 in 2005. “The market situation doesn’t justify more building, and anyway the banks won’t lend money to build something that won’t sell,” said Fernando Rodríguez y Rodríguez de Acuña.
- Thanks to long lead times in the construction business, the full economic impact of the collapse in residential construction is yet to be felt. The darkest hour for the Spanish economy will come in the second half of 2010, when unemployment could reach 25%.
- Developers will go out of business in greatest numbers during 2010 and 2011. “It gets increasingly harder for developers to refinance with assets they either can’t sell or which are already mortgaged, and are increasingly devalued,” said Fernando Rodríguez y Rodríguez de Acuña, who predicts that 75% of developers will be wiped out in the next 5 years by a combination of too much debt, the market slump, and “bad management”.
- Recovery won’t come until 2013, by which time the sector will be just half the size it used to be, if that.
Record Anglo-Saxon treasure trove found
An unemployed metal detectorist has unearthed the biggest hoard of Anglo-Saxon gold and silver ever found in a country field, archaeologists said on Thursday. The trove of at least 1,350 items, including five kilos (11 pounds) of gold and a smaller amount of silver, was found in July by 55-year-old Terry Herbert with a metal detector near his home in Burntwood, some 15 miles north of Birmingham.
The haul, which is potentially worth a fortune, was officially declared 'treasure' on Thursday by a coroner, who has the legal right to decide the status of such finds. It is believed to date from the seventh century AD, and may have belonged to Saxon royalty. The treasure includes sword hilt fittings inlaid with precious stones, helmets, crosses and a strip of gold bearing a Biblical inscription in Latin.
"This is absolutely phenomenal. When I first saw the material I was absolutely staggered," said Duncan Slarke, Staffordshire's Finds Liaison Officer, who was the first professional to see the hoard. "To see the volume and the quality of this Anglo-Saxon precious metalwork was absolutely stunning and I was literally speechless." Presenting the find at a press conference at Birmingham Museum and Art Gallery, archaeologist Kevin Leahy said none of the experts involved had seen anything like it before. "These are the best craftsmen the Anglo Saxons have got, working with the best materials, and producing incredible results," he said.
Herbert -- who spent five days digging up treasure before calling in expert archaeologists -- described what happened on the day he made the find. "I have this phrase that I say sometimes; 'Spirits of yesteryear, take me where the coins appear', but on that day I changed coins to gold," said the Herbert, who took up metal detecting as a hobby 18 years ago. "I don't know why I said it that day, but I think somebody was listening and directed me to it... This is what metal detectorists dream of, finding stuff like this. But the vast amount there is is just unbelievable."
After five days scouring the field with his trusty 14-year-old detector, and digging up ever more treasure, his emotions turned to fear at the scale of his find -- so he eventually called in the experts. He said: "I was excited when I started digging up the gold but it was frightening in the end. I was getting frightened about other people getting onto the field, night hawkers. "It was like a burden on my shoulders, it became a worry," he said.
While the value of the treasures has not yet been decided, it is likely to make Herbert a rich man, and he is expected to share the money with the farmer in whose field it was discovered. "It's been more fun than winning the lottery," he said. "People laugh at metal detectorists. I've had people go past and go 'beep beep, he's after pennies'. Well no, we are out there to find this kind of stuff and it is out there," he said. One expert told him it was like finding Tutankhamen's tomb, he said. "I just flushed all over when he said that. The hairs on the back of my neck stood up, you just never expect this."