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News and Comment
For Corporate
Governance Comments click here
Northern Rock - two
key questions that need to be answered
The first
question - and it has hardly been receiving attention in all the
discussions of the Northern Rock saga that we are aware of - is the
question of how it can be that in a so-called 'democracy' emergency
legislation can be passed where the executive and legislative
branches of government are in collusion and decide to 'nationalize'
private property. The emergency support that the German Government
has just decided to give to IKB Deutsche Industriebank in
Germany (thanks to an obliging taxpayer that has no say in these
arbitrary spending decisions) is just a less blatant form of
nationalisation (where private wealth is taken away from its
rightful owners and spent by politicians to spend on their favored
constituencies).
The second question is again an indictment of Government, more
specifically the quasi-governmental agencies that masquerade as
'banks' and are more commonly known as 'Central' Banks. In recent
months untold (literally) billions of confetti money have been spent
by these curious 'banks' in providing liquidity to the World's
Banking system. No one will deny that Northern Rock used the leeway
that is given by banking regulations to an extent that could with
some justice be described as imprudent. But this is no excuse to
provide all other banks with liquidity but let this particular bank
hang out to dry. This was the crucial decision (mistake?) taken by
the authorities back last summer and that has to be the point of
departure when assessing the correct compensation for the Northern
Rock shareholders. It simply is not good enough to destroy a
business first and then base compensation on the situation that has
been created by one's actions.
18-Feb-08
Non-Dom Taxes - Nail
in the Coffin for the City?
Ill-conceived
taxes were instrumental in the development of the Eurocurrency and
bond markets during the late 1960s and early 1970s. First the
American Government in its wisdom introduced the so-called Interest
Equalisation Tax in 1963 in order to make it more expensive for
non-US borrowers to access the US capital market. Then the Swiss
authorities levied penal tax rates on transactions involving
Eurobonds and other securities. As a consequence, most business
involving international securities decamped to London during the
1970s. Now Gordon Brown has decided to make his own mark on the
history of the Euromarkets by introducing a special levy on
foreigners involved in the international capital markets. Not only
is the per-capital levy of £30000 per person highly arbitrary and
unfair but the detailed regulations introduced are so complicated
and wide-ranging as to provide the proverbial straw that breaks the
camel's back. The London City should take note that in the
intervening years the authorities in Switzerland and the USA have
learned a lesson or two and that financial institutions - once gone
from the City of London - are unlikely ever to return again.
4-Feb-08
Sovereign Wealth Funds -
lack of democracy still not on top of agenda
A few days ago we made the point that the key problem with
'Sovereign Wealth Funds' is the lack of a proper democratic
government in a good part of them. So we were reading Liam
Halligan's piece in last Sunday's Daily Telegraph with more
than the usual interest. Alas, not one mention was made of this
crucial aspect. Of course we agree that politicians, economists and
businessmen are wrong to try to bloc SWFs for reasons that have
little to do with logic and much with trying to preserve their own
power or shield vested interests from competition or closer
supervision. But we would still like to see the discussion to
include questions of democracy and human rights.
4-Feb-08
Soc Gen: does the
enterprise culture need a revamp?
It may not be
relevant in terms of the huge hit that SocGen took in the derivative
markets, but we have always pointed out to our friends in the bank
that the reliance on a close-knit group of (nearly exclusively)
French professionals with similar backgrounds would be
counter-productive in the long-term.
French education may well be able to produce excellent quantitative
minds but a country of just 60 million cannot claim to have a
monopoly in terms of mathematical talent. It may well be helpful to
create a coherent management culture if most senior roles are
reserved for French staff but in a global 24-hour business this will
sooner or later become a limit to the growth potential of any
business.
29-Jan-08
Sovereign Wealth Funds - a bit of democracy better than none
A few days ago we said to one of our good business friends in the
City that China
should not be allowed at all to take control of major enterprises in
the 'West' as long as it is ruled by a dictatorship. Our contact
raised doubts about this argument as he did not think that the
'Western' democracies were that democratic at all. Good point but we
still think that a malfunctioning democracy is preferable to a
one-party system as practised in China or to the rule of more or
less benevolent Monarchs in the Gulf States. We leave it to the
reader what to make of a country like Singapore: the treatment of
the press and the pervasive influence of the Lee family make it
difficult to be comfortable with the fact that assets are purchased
by the city state's investment entities and are to some extent
re-nationalised.
29-Jan-08
Soc Gen: where has all
the money gone?
In all the excitement about the huge losses made by Monsieur Kerviel
and the bank's management one thing never gets mentioned: someone
out there has made a whopping big profit out of all of this. Futures
in particular are the ultimate zero sum game and where there is a
loss there always is a profit. This is no consolation for Societe
Generale and its shareholders who are left holding the proverbial
bag but it should calm the nerves of politicians, economists and
other commentators. Economically not much has happened except that a
substantial sum of money has passed hands. Society as a whole is not
poorer as it would be if the same sum of money would have been spent
building pyramids - or steel plants that turn out to be surplus to
requirement once they are finished.
28-Jan-08
To grow or not to grow
The troubles that have hit Citigroup in the past months have
encouraged those analysts that have called for a break-up of the
organisation. At the same time management consultants are still
predicting a steady decline of margins in the banking industry and
pressure to grow in order to reap the benefits of economy of scale.
Can both sides be right? Does it depend on the circumstances of
the individual organisation?
4-Dec-07
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To Quant or not to Quant?
Yesterday's Financial Times carried a polemical piece by
Nassim Taleb. In it he derided the use of mathematical models and
called the so-called Nobel Prize for Economics an absurdity.
While we ploughed our way through a fair share of mathematics in our
undergraduate economic classes and found them pretty remote from
reality, we would not go so far as to completely reject the role of
mathematics in the financial markets. At that time it was a
sign of stellar quant ability if a bond trader or salesman could
calculate the yield to maturity on a bond without use of a calculator,
but time has moved on.
The recent events in the credit
markets, however, have demonstrated that at PhD in Maths cannot be a
substitute for good judgement and that good character should still
be the basis for a successful career and business.
25-Oct-07
ABN-Amro: now
the hard work can begin
Now that the deal has practically been won by the Royal Bank
of Scotland-led consortium the hard work
will only begin. Dividing the corpse into three different parts will
be more difficult than expected and the fact that banks with
different nationalities are involved will provide an added
complication. One way or the other this will become a classic case
study for all aspiring MBA-Candidates.
15-Oct-07
Arbitrary bonus
allocation creates legal minefield
The Financial Services
Industry is in the middle of the annual round of deciding the size of
the bonus pool for its employees as well as the distribution of the
payments between the various departments and staff members. Recent
Press comments let us send a word of caution to Senior Management and
Human Resource Departments.
We are very sympathetic to management's desire to reward those among
their staff that they think offer the best potential to make good
contributions in the future. So we are not surprised that employers may wish to award the bulk of their
bonus pool to the most profitable employees or to younger staff that they
wish to motivate.
However, today's litigious workplace limits the amount of discretion
employers have without running the risk of being dragged into damaging and
costly legal disputes.
Awarding bonuses on anything
less than objective standards creates a legal minefield for the employer as those
employees that have received a low bonus may be tempted to have their
compensation reviewed by an employment tribunal or even in a court of law.
Some firms still have no adequate internal system to allocate profits on an
objective basis and they should now urgently review their management controls. They
will need them so that they can
make sure that bonus payments are backed up by hard numbers that can stand up
to scrutiny in a court if staff members feel that their bonus was allocated
in an arbitrary fashion.
15-Jan-07
Bonus
time approaching fast
When discussing bonus trends we always jokingly say that if all the
bonus hopes in the City were to be full-filled in any given year, the
bonus pool - however large it might in fact be - would have to be
twice the size to satisfy the hopes of recipients.
Earlier
this year we warned that employers should take great care to award
bonus payments in a rationale and well-documented fashion.
Recently we found an interesting piece posted by Freshfields on the
Complinet website.
This supports our warnings and discusses ways for employers to avoid contractual
claims arising out of bonus decisions. The Freshfield article touches
on questions such
as: Is there any entitlement to be considered for a bonus? To what
extent can a bonus be fully discretionary (if at all)? How to avoid
discrimination claims.16-Nov-06
Bonus payments cannot favour the
few
Recent court decisions make it dangerous to allocate the bonus pool in a
discriminatory fashion. It is sometimes said that the major share of the
bonus pool may be given to the proverbial big hitters which bring in the
lion share of the revenues.
This can only be acceptable as long as the distribution of the bonus pool is
justified by production numbers.
Any deviation leaves firms and their line managers open to law suits by
professionals who consider themselves treated unfairly.
Every firm and department always will have a few big producers among staff.
Often they are just lucky to be allocated the best clients. This may be due
to the fact that they are the best professionals, - but even then their
production numbers are only made possible by the presence of an
infrastructure supported by their team colleagues. This aspect will always
exert a levelling influence on the disparity of bonus levels among staff.
9-Mar-05
Bonus Fears: Not as bad as the headlines make believe
Some newspaper headlines predict massive job losses and a
substantial drop in bonuses for financial market professionals this
year.
Apart from creating a bit of publicity for some of our competitors
who are quoted by the media we advise clients and candidates to keep
a cool head and focus on the big picture.
Excessive discussions about the expected level of bonuses are a
nuisance in the best of times and for many firms the year is only
over on 31 December. So there is still a lot to play for. Emerging
Markets are booming (too much?), and fund-raising continues at a
frenetic pace in the alternative investment field.
04-Oct-07
How China has managed to keep the renminbi pinned down
In a recent article in the Financial Times (11 October), Martin Wolf
gave a good overview about the Foreign Exchange policy options that the
Chinese authorities have. Interestingly, the fact that China is still a
dictatorship was not mentioned. A totalitarian regime is able - similar to
Stalin's enforced savings in order to industrialise in the late 1920s and
1930s - to suppress local demand and hoard foreign exchange reserves
in a truly mercantilist fashion. These reserves may well be put to a good
use at a later time - after all they will soon amount to nearly $1000 for
every man, woman and child in this populous country. But this is of little
help to those workers in the industrialised world that are priced out of the
market by this market manipulation. The European shoe workers may well be
inefficient but they do face unfair competition fostered by an undemocratic
regime and any analysis of trade politics has to take this non-economic
argument into consideration.
18-Oct-06
Is 2 percent Growth not enough?
Many European States experience slow or even
negative population growth. In view of this fact we think that the
persistent moaning among politicians, economists and the media about the
lack of growth in many European Economies is misplaced.
A more differentiated analysis is required. Countries that still have a
lower standard of living will be able to catch up and grow faster. This is
to be expected and is no reason to say that they are more 'dynamic'.
The main culprit is said to be the German Economy, the erstwhile
'locomotive' of the European Economy. But even there the structural problems
are at the heart of the problem.
Rapid growth might paper over the lack of structural reform and even be
detrimental. If the politicians and lobbies think that they can spend an
ever-increasing share of a finite GDP on redistribution in favour of their
pet projects it is high time that their ambitions are reigned in.
Given the relatively high standard of living that has been achieved over the
past 50 years it is no sign of economic weakness if the same production is
achieved year by year - with a few percent growth on top!
Euro - The
beginning of the End?
Exactly a year
ago we referred to an article by Wolfgang Muenchau in the
Financial Times in which he called in question the pricing of Italy's
public debt.
Only sensationalist journalists were at that time expected to call into
serious question the underlying assumptions behind the Euro. A good friend
of mine whose judgment is always very good remarked that a break-up of the
Euro is not foreseen in any EU Treaty and could not happen.
Now this is no longer accepted wisdom. The question is now: who would win,
who would loose from any break-up. I always thought that the prudent thing
to do - given the spreads in the Euro zone Bond Markets - would be to buy
German Government Bonds. Whatever Germany's problems are at the moment, at a
pinch we would rate its prospects higher than those of the other members of
the Euro zone.
Unless the governments start to steer a more prudent economic and fiscal
course I predict that this provides a long-run one-way bet the like of which
presented themselves only during the currency crisis and subsequent
devaluations under the Bretton Woods regime of fixed but flexible exchange
rates.
13-July-05
Standard & Poor's
cuts Italy Rating
What would happen if any member country of the Euro-zone would have it's
rating cut to a very low level? Would the present situation of tiny spreads
between the government bonds of the various countries be sustainable?
Current Spreads are based on a certain euphoria and the fact that most
markets are driven by liquidity mixed with a dose of moral hazard. The
dominant players are institutions where the majority of traders or fund
managers are quite young or have a vested interest (official institutions or
those close to the governments).
The reality is that at some stage we will see a bursting of the dams, - like
in the Asian Crisis of 1998. There it was only wishful thinking that kept
the markets going for much longer than was warranted by the facts.
When the first country hits the BBB level (or lower) the penny will suddenly
drop, spreads will rocket well above 1 percent and an avalanche of money
will move into countries that are seen as rock-solid and likely to stay in
the Euro-zone. Why hold paper issued in/by the weak countries that may repay
you in their devalued own currencies? Those that say that this cannot happen
should pause a moment. If the law in any country decides that all
obligations will be converted into a new currency who is going to stop it?
Wolfgang Muenchau (FT, 12 July 2004) concludes that 'Italian long-term debt
is absurdly overvalued'. While we would not have used such strong language
we are happy that this commentator sees things in the same way.
13-July-04
Government Spending to derail Growth and Stability Pact
The de-facto demise of the Growth and Stability Pact has been hailed as
long overdue by quite a few well-known economists - let alone the usual
suspects in the finance ministries and governments that abhor any form of
democratic control of their spendthrift ways.
The pact was devised in order to avoid that countries that get into fiscal
difficulties have to be bailed out by the other members of the Monetary
Union. That fiscal transfers would be necessary in times of difficulty
seemed to be accepted as self-evident. We beg to differ.
In the days of the Gold Standard there was no transfer mechanism and each
country had to follow the rules without 'multilateral' support. Why this
should not be possible in the Monetary Union is not clear to us. In the
worst case a country would default, but that has happened before. Why should
that be a problem?
What is a problem is the fact that by abrogating the Stability Pact the
political class in Europe has shown that the citizens can have no confidence
in their 'leaders'.
Governments refuse to reform and reign in their
vote-buying habits. They are on a collision course with reality as the slice
of GNP that is directly or indirectly (regulation) eaten up by the Public
Sector cannot go on rising forever.
Hedge Funds a boon to
employment
As we predicted earlier in the year the job market in the financial service
sector is vibrant but there is probably no net expansion in overall
employment levels. The one factor that should not be ignored is the
tremendous support that the job market has received from the extraordinary
growth in the hedge fund industry.
While most Funds are small and even the largest group employ at best a
couple of hundred people the sheer number of funds and supporting firms or
divisions in the traditional securities industry means that many an analyst,
salesperson or investment manager that would otherwise have been unemployed
is secure for now. This in turn supports salary levels for those in
employment in firms that are not directly involved in Hedge Funds.
11-April-05
Are Hedge Funds an asset
class?
It has become accepted wisdom that Hedge Funds should be regarded as a
separate asset class. They should have their place in a well-diversified
portfolio next to the traditional asset classes of equities, bonds, property
and cash.
While we certainly would agree that hedge funds have to be analysed and
managed with special care we would like to disagree with the consensus.
What is being overlooked is the fact that the traditional assets are
investment vehicles that (one hopes at least) produce a return over time
that is not just the product of clever market timing. Equities pay
Dividends, Bonds and Cash Deposits pay interest, Property gives a return in
the form of rental payments.
When we look at the holdings of the average Hedge Fund we know that they
contain elements of these asset classes. But one of the key elements of any
hedge fund worth its salt is the fact that the fund might at any time be
short any of these assets. It is basically a bet on the market movement. The
bet is against other market participants with a different view and the net
result is a zero sum game for the totality of those investors that hold
these betting positions at any time.
It is certainly an exciting as well as a rewarding game to find those
managers that are on the winning side. As in any human activity, there are
always individuals that are better than their competitors at what they are
doing. We only have to look at the Arts or Sport.
Timing of markets and asset classes is nothing new. Any investor who has all
his money in cash for example, is 'short' the other asset classes. Hedge
Funds are a new name for a more widespread use of market timing that also
uses techniques such as derivatives, short selling etc more extensively.
Very few Hedge Funds are really true to their name, i.e. hedging long and
short positions all the time. Most have net long or short positions at most
times. The new 'asset class' therefore can be anything to anybody at any
time.
The main problem is, that - in contrast to the traditional asset classes -
Hedge Funds to not introduce or rely on a basic inherent return (Dividend,
Interest, Rent). The larger the number of funds, the more the investment
returns (minus fees) generated by Hedge Funds overall will converge around a
(possibly disappointing) average return.
Lessons
from a Boat Race -
Or how to make teams work
better together
Can business leaders really learn from a study in
which the Cambridge University boat club has been observed at work
during seven-months period?
That would be the impression one could get from reading the conclusion
by Mark de Rond, a senior
Lecturer at the Judge business school in Cambridge, who conducted an
'ethnographic' study of the boat team as it prepared for the annual
Oxford-Cambridge boat race on April 7.
Dr de Rond concludes that a team in a boat is a social entity and it
can be a massive brake on the boat if the team members are not all
working together.
We think that this is a truism - especially in the lower ranks of
management.
Earlier in the same column ('Business Life' by Stefan Stern, Financial Times)
the author stated that 'at the highest
level (of management) you must perform in areas that are beyond your
expertise, where the facts are not known'.
This, in our view, is
the key problem of leadership. The key to top management performance
is not just higher efficiency. Clear targets can easily be defined for
staff and lower levels of management - as well as the members of a
race team. But Business Leaders have to move into the (dark) future and
decisions have to be made where the outcomes are never clearly
visible.
In our opinion good management at the highest level requires a balance
between good judgement and experience. The same applies to the selection of
top management - be it from internal or external
candidates. It will always remain a mix of science and art.
3-April-2007
HSBC
manages a smooth succession
The promotion of Chief Executive Stephen Green to Chairman shows the
dilemmas created by the governance code of practice.
In an ideal world the ultimate owners would be intimately involved in
controlling the executive management of a company and select the managers
directly rather than delegating power in effect to a self-perpetuating
hierarchy.
But this ideal world does not exist and we have to make do with a 'second
best' solution. In HSBC's case, this solution may well be the first choice.
The bank has avoided the pitfalls that befell many of its (sometimes more
glamorous) competitors, there are no revolving doors in the top management
floor and struggles between individuals - if they persist - are kept away
from the eyes of the public.
29-Nov-05
Sallie
Mae Bid - also sophisticated players got carried away by euphoria
A quick look at the basic valuation
yardsticks such as earnings, balance sheet totals and book value shows that
the original bid agreed by the Flower-led buy-out consortium was a
reflection of the general euphoria that characterised credit and buy-out
markets before the summer.
14-Dec-07
Citibank buys 20% stake in AK Bank
After a long period of enforced
inactivity, Citibank has decided to outdo Dexia and pay a hefty price for a
minority stake in AK Bank. The deal values the whole bank at nearly 45% of
total assets, - a truly magnificent price and we can only congratulate the
selling shareholders.
Dexia buys 75% of Denizbank
If our numbers are correct, Dexia is
paying nearly 40% of total assets for it's majority stake in this Turkish
bank. The market share of Denizbank is not that large so the only reason for
this very full price must be the lemming-like rush by Western bankers to get
a toehold in this large market considered as strategic by many planner.
The real question is about the timing. Optimism is still very high and it
might have been wiser to wait for the inevitable swing back to a more
cautious assessment of Turkey's future prospects.
01-Jun-06
Conflicts of Interest
in Buy-out Vehicles
The booming demand for investing in 'Private'
Equity funds allowed a few of the more prominent Buy-out firms to
launch listed closed-end funds. One has to assume that the shares on
offer were mostly bought by smaller institutions as well as retail
investors that would otherwise not have been able to get into the
funds that are launched by the major players in the industry.
Apart from the poor aftermarket performance of the shares
(not surprisingly they now trade at a discount to net asset value) we
are concerned about how large firms like KKR can manage the conflicts
of interest if they continue to manage traditional funds that are
mostly placed with their regular institutional investors.
The only fair method would be to allocate new holdings between the
various funds under management, ideally pro-rata on the basis of the
individual fund's total assets.
6-Oct-06
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