Ishrc � Discussion Threads

[jonwig] 21/4/2008 10:44

experiment - the top holdings list (which is virtually 100%) is entirely conventional gilts.

I wouldn't presume to give you advice on what to do, but your plan of moving half elsewhere does satisfy the requirement of diversifying. With long-term investing that's no bad thing.
Beware of switching around too often, though, especially if it incurs high charges.

[experiment] 21/4/2008 10:37

Hello Jonwig
Thanks for asking. It's known as a managed AP 3/4. I'm not sure if they are conventional or index-linked. Can you make this out from the following link?



Launch date 01/01/1977
Buy price / sell price 2276.80p / 2162.90p
Fund size (£m) 128.1 (as at 29/02/2008)
ABI Sector UK Gilt
Fund charges* 0.85%
SEDOL 0406471
Mex ID ADPGA
ISIN code GB0004064712

[jonwig] 21/4/2008 07:24

experiment - are these conventional gilts, or index-linked gilts, or a mixture? Many pension schemes are substantially invested in linkers.

[simon gordon] 20/4/2008 11:17

MSN Money - 18/4/08:

The long-term impact of the house price crash
By John Stepek

House prices are on the way down. It's no longer news. Even the property bulls are admitting that prices will fall this year and predictions among mainstream economists of 10% falls within the year are commonplace.

So I'm not going to go on about the mechanisms behind the property downturn - I've done that plenty of times here already. And I'm not going to go on about how much prices are likely to fall.

Let's just assume for the moment that we're going to see a slump at least as bad as the one in the early 1990s. What will happen? What does the future hold for the British economy? And who will be the winners and losers?

Can you still make money from your home?

The economy, business and jobs

House prices have been a key prop of the UK economy. When they fall, so will consumer spending - in fact, it's already happening.

Catalogue and internet retailer Findel warned this week that customer bad debts are rising (many of its customers buy on credit). Chief executive Patrick Jolly said: "We are seeing the penetration of the credit crunch away from the banks and into pockets. Food prices are up, mortgages are up and we are seeing the cumulative effect."

Findel's not the only retailer with problems. According to Ernst & Young, profit warnings were at their highest in the first three months of this year since 2001, with retailers hit hardest.

More profit warnings inevitably means more companies are vulnerable - and with banks feeling twitchy about bad debts, they're also likely to pull the plug on underperforming companies more rapidly than before. That means job losses are likely to rise. Meanwhile, the banks are already cutting jobs, or planning to cut, at a rate not seen since the dotcom bust.

So despite employment being strong for now, don't expect that to be the case by the end of the year.

If you look at the raw unemployment figures during the 1990s recession, the number of unemployed people was actually falling right up until May 1990, a good year or so after house prices started to fall. It then rose sharply from about two million to reach a peak of just above three million in January 1993, before starting to fall again.

The other problem is that such a large proportion of employment growth in the past 10 years has come from public spending. But with the government also in debt, it won't be able to maintain that rate of growth - in fact, it should be looking to cut.

Realistically, this does suggest that the chances of an inflationary wage spiral are falling. People don't ask for higher wages when they are in fear for their jobs. In turn, retailers desperately try to avoid raising prices when people are cutting back sharply on their spending.

So chances are that raw material price rises won't end up feeding through to the high street. Good news for the Bank of England - but it does also mean that profit margins, from manufacturers to end-users, will come under further pressure.

Six steps to surviving the credit crunch

The property industry

It's hard to see how lenders and estate agents in general - those who survive the downturn that is - will get out of this property crash without seeing calls for much tougher regulation.

Lenders in particular will come under fire when all the people who took out 100% interest-only mortgages with the reassurance that credit would always be available for refinancing, start losing their homes.

Property investment clubs are already all over the consumer complaints pages, with new stories surfacing every week of unfortunates who bought vast swathes of new-build flats now mired in negative equity.

Meanwhile, the business model that allowed such loose monetary conditions in the first place - the parcelling up of mortgages and selling them on as bonds - has broken down and will take a long time to recover. So we won't see a return to the kind of lending conditions that prevailed for the past five years.

An easy guide to the banking crisis

Property itself

The trouble with easy money policies is that they encourage bad investments. When people saw the fortunes being made in property, they dived in too. And builders started flinging up blocks full of flats to satisfy the demand for buy-to-let property.

Unfortunately, now that the bubble is collapsing, we're finding out that a lot of those flats are sitting empty. It's not just in northern city centres either - a story about a single pensioner being the only full-time resident in a block of luxury flats in Cornwall was all over the press a couple of months ago.

What will happen to these blocks as their value collapses and they end up on the auction block? It's more than likely that what were once soaring tributes to the economic boom will become the slums of the future. So our property obsession will not just leave us out of pocket financially - it's going to have a huge social cost as well.

The government

The next election will come in 2010 at the latest. Realistically, at that point, house prices will still be falling, probably at double-digit rates. The economy is likely to be in recession and people will be feeling miserable. Now, it's not impossible to win an election against that kind of backdrop - the Tories managed it in 1992 after all.

But Gordon Brown has a problem that John Major didn't have. For the past 10 years he has been the man in charge of the economy. The voters see him as being far more responsible for the state of UK plc than Tony Blair ever was. The reality is that Mr Brown's political fortunes are tied directly to how well the economy is performing.

So if we're going to be in the middle of a deep downturn, the only chance for Labour to win the next election is to have a candidate who isn't held responsible for the state of the economy. Whether the party will decide to oust Brown is another matter - but whatever happens, it's very hard to see him still being Prime Minister come 2011.

The good news

Recessions are not pleasant. But if you can hold onto your job (and the truth is that the majority of people do), and have a decent amount of equity in your home (or don't own a home at all), then if you can sit tight and save money, then there will be opportunities arising from all this. Because money is becoming harder to come by again, times are good for savers - banks are offering decent rates.

And anyone who is a homeowner, rather than an investor, should welcome falling prices in the longer run (assuming you are able to stay put through the harder times).

If the house you're living in falls in price by 20%, then more than likely the one you want to move to will see a similar fall. So if your £200,000 home falls to £160,000, then the £300,000 home you want to move to will fall to £240,000 - which saves you a bundle in stamp duty apart from anything else.

So perhaps people in pretty rural communities will be able to buy homes again for reasonable prices. Certainly, first-time buyers will be in a good position.

And one day, property will be ripe for investors once again. There's nothing wrong with buy-to-let as an investment class, it's just that for a long time it's been completely overvalued.

Author Fred Harrison, who was uncannily accurate in predicting that the property crash would start in 2008, reckons that property works on an 18-year cycle - four years of recession, with about 14 years of stable or rising prices.

So by Harrison's reckoning, property might be looking attractive again in say 2013, 2014? That's plenty of time to save up a nice deposit.

John Stepek is the deputy editor of MoneyWeek

[simon gordon] 20/4/2008 09:34

Hi insipiens,

At one stage didn't Polly Peck own Del Monte and then a company from Yorkshire bought them, who eventually went bust?

------

Hi experiment,

I just focus on UK Small Caps.

Maybe insipiens could answer your question?

[experiment] 19/4/2008 21:16

Simon
Can I ask for your opinion please. In fear of the markets, last September I asked my pension provider to park my pension into the safest option. They moved it to gilts. I realise there's little one give say without further information, but can I please ask your opinion on gilts. Will inflation erode the value of these, or will they retain parity or even increase with a rise in interest rates? I have 27 years to retirement.

[insipiens] 19/4/2008 19:34

Simon,

Like the shopping trolley in the header - just for you, the Del Monte plant where they made all the juices has just closed down - been sold for housing ^^

I can laugh though - I used to work there as chief Accountant.

[simon gordon] 18/4/2008 19:51

FT - 16/4/08:

Contraction of credit will bring a long semi-recession
By David Roche

The Federal Reserve has belatedly recognised that investment banks, hedge funds and other non-deposit-taking financial institutions are as vital as banks to both the financial and "real" economies. The Fed is lending them massive amounts of capital through newly created facilities. It is right that central banks should be able to do so; NDFI's create more "asset money" than banks but are much riskier institutions. What is wrong is that the Fed is doing so without having oversight or supervision of the borrowers.

Investment bank, hedge fund and broker balance sheets are about half the size of the commercial banks in the US and about one-quarter the size in Europe. Both assets and liabilities of NDFIs are dominated by repos, meaning that NDFIs lend and borrow based upon collateral of assets that are constantly marked to market. As asset prices fluctuate, leverage must constantly be adjusted.

In a bear market, as asset prices fall, leverage is reduced. This causes lenders to ask for more collateral on existing loans and borrowers to sell assets so as to reduce the need for such loans and for additional collateral.

The opposite happens in a bull market when rising asset prices cause the balance sheets of NDFIs to expand. The liquidity this creates is used to invest in assets, boosting their prices and creating demand and collateral for more borrowing to make more investments.

So the balance sheets of NDFIs are highly geared to asset price cycles. They act in a pro-cyclical manner, reinforcing bull and bear market cycles and through them economic cycles. So the effect on "asset money" is greater than that of deleveraging by banks, which lend for a wider range of purposes than NDFIs.

There has been little deleveraging among NDFIs until recently, for three reasons. First, up to 80 per cent of lending to leverage investors is subject to legal agreements, which means banks have to lend to them for the duration of the contract (up to 18 months). These are ending gradually.

Second, the prime brokerage business accounted for a very big part of investment banking profitability until recently.

Third, the lenders continued to believe that their nominally high (up to 90 per cent of loans) collateral ratio was a sufficient guarantee against loss in case of default. Now that the liquidity contraction is affecting a much broader range of assets and categories of debt than subprime, collateral values have started to fall and this attitude is (belatedly) changing.

The non-bank sector has the potential to inflict more damage on the system than banks because it has a much smaller capital cushion for a more volatile and risky balance sheet.

The credit crisis is unfolding as we expected, but more slowly than anticipated, because of the actions taken by central banks (mainly the Fed) and the US government to allay its effects. The wholesale socialisation of credit has meant that government and central bank measures account for 70 per cent of new credit since last summer.

But these policy measures will not prevent asset price deflation or credit contraction, which are functions of risk appetite, the willingness to lend, and the readiness to maintain present levels of gearing throughout the economy.

Liquidity contraction translates through the financial system into a reduction in available credit for the non-financial corporate sector and thus into investment and growth in the real economy. The size of that contraction can be estimated from the leverage ratios of the financial sector and their impact on real gross domestic product growth.

We estimate that non-financial corporate debt will have to shrink by 11-12 per cent. This will generate a decline of 5 percentage points of real US GDP growth and push the US into recession. Europe will contract by 2 percentage points of real GDP growth.

Globally, total credit losses of $1,400bn will cause a contraction in world GDP of 2.5 percentage points, or half the present rate of global growth. So the global economy will become a grey, dull world of semi-recession and sticky inflation that will last a long time - but it will not be a 1929-style depression.

The writer is president of Independent Strategy, a London-based investment consultancy

[simon gordon] 17/4/2008 12:17

I have been looking at PRD since the Crunch but I don't fully understand it so I can't pull the trigger. I'll have a look at DAV.

As to BTL, I guess there will be loads of punters who will get skinned like Mr Lee.

The main problem for the overleveraged BTLers is the lack of liquidity and mortgage cost inflation. If we do have a recession then a lot of renters could head back to Eastern Europe.

[jonwig] 17/4/2008 11:08

Interesting that it's about Leeds.
My daughter lives and works there. last year she looked at city centre new-build flats, and we were all agreed that they were massively overpriced. She bought a big apartment on the outskirts for £120,000, much cheaper.

The posters on the Paragon [PAG] thread seem to know what they are talking about, and pooh-pooh stories about hordes of people like this Richard Lee. We'll no doubt find out as it all unravels.

I decided to leave PRD alone (too much research, and then maybe not enough understanding).
One I have been buying, though, is Davenham [DAV] at 151, 129 and 138, which is, I believe, a lot safer than its rating would suggest.

[simon gordon] 17/4/2008 10:52

They must be pretty brave to buy STY right now as the Retail market looks ready to reign in CapX. I heard that ASDA have fallen out with them.

What about that guy above who was able to borrow 5.3m on 160K of collateral - insane! Looks like the UK is heading deeper into a bad storm.

Did you see EAGA got crushed this morning on challenging input inflation? Could be more 'white van' stocks will get squeezed in 2008.

I am focusing more and more on Oil Services and Commodity related stocks as these guys have got pricing power. KBC looks to be a very undervalued micro cap!

Oh how I miss the easy years, 2003 to 2007!!!

[jonwig] 17/4/2008 10:08

Hi, Simon.
A colourful article there from the Daily Wail.
Reminds me why I never read it ...

By the way, I was looking at Styles & Wood yesterday morning, and felt myself agreeing 100% with your comments about the balance sheet. I decided I wouldn't touch it with a bargepole.
Blow me if a bid didn't emerge a few hours later.
Such is life - I've no regrets.

My current year ISA is now sitting in SLXX, to move into equities as and when.

[simon gordon] 17/4/2008 10:07

Bloomberg - 17/4/08:

Richard Lee spent 5.3 million pounds ($10 million) buying 20 rental homes across the U.K. with just 150,000 pounds of his own money. Today, the properties are worth about 60 percent less and owned by the banks that financed the purchases.

Lee was one of thousands enticed by one of Europe's top five best-performing residential property markets during the past decade. Now repossessions are mounting and properties stand empty as many investors fail to find the tenants needed to cover their mortgages after a building boom flooded cities, especially Leeds and Manchester, with apartments.

The unraveling buy-to-rent investment market contributed to a 2.5 percent drop in home prices last month, the biggest since 1992, a report by mortgage lender HBOS Plc shows. Britain is among the countries most likely to follow the U.S. into a housing slump, according to the International Monetary Fund. Prices may drop 10 percent this year and next, said Michael Saunders, a London-based economist at Citigroup Inc.

``Buy-to-let investment was a bubble inside the housing market bubble,'' Saunders said. ``It's turning out worse than I thought.''

Home purchases by investors such as Lee helped triple housing prices between 1997 and 2007. The buy-to-rent market in the U.K. increased 19-fold to about 190 billion pounds in the same period, according to London-based broker Savills Plc.

Tax Incentive

Banks started promoting buy-to-let mortgages in the mid- 1990s, after the government ended rent controls and introduced fixed-term leases to ensure that tenants vacated properties. Interest payments on the loans are tax-deductible, making them attractive for landlords.

Rental properties generated annual investment returns of about 22 percent in the five years ended March 31, according to the Association of Residential Letting Agents in Warwick, England. The U.K. FTSE All-Share Index climbed about 12 percent, including reinvested dividends.

The ``virtuous circle'' of rental investment that powered the U.K. housing market was broken by falling property values and banks' retrenchment following record mortgage-related losses, Saunders said. Banks and securities firms have disclosed about $245 billion of asset writedowns and credit losses since the beginning of 2007.

The number of available buy-to-let mortgages dwindled to 926 in the first week of April from 3,362 at the start of August 2007, according to personal finance Web site Moneyfacts. Average two- year fixed-rate mortgage rates have climbed to 6.5 percent, or 1.5 percentage points more than the gross rental yield from a property in the first quarter.

Vulnerable Investors

Investors such as Lee, who have high levels of debt, and homebuilders that focused on developments in the center of English cities such as Leeds and Manchester are now the most vulnerable to the deflating buy-to-let market.

Buy-to-let investors who were behind on their mortgages by three months or more increased by 25 percent to 7,584 in the fourth quarter, according to the London-based Council of Mortgage Lenders. Repossessions rose 26 percent to 1,247.

Connells Asset Management in Leighton Buzzard, England, which sold more than 10,000 repossessed homes last year, expects the number of foreclosures to rise from the 20 percent gain already reported, led by cities in the northern part of the country.

High-Rise Condos

The skyline of central Leeds is dominated by construction cranes erecting high-rise condominiums, 60 percent of which were sold before completion to buy-to-let investors, according to London-based real estate broker CB Richard Ellis Hamptons International.

``Leeds is where we are seeing more city-center apartments coming onto our books,'' said Managing Director Mike Pudney.

Thousands more apartments are being built in the center of the city, where two-bedroom homes lost 12 percent of their value in the past two years, according to London-based research firm Hometrack Ltd. Brokers report average rents for these properties have dropped by about 20 percent and about 13 percent of city- center apartments are empty, according to Leeds City Council estimates, based on local tax returns.

``Twelve months ago, development was an easy way to make your fortune,'' said Tom Bloxham, chairman of Manchester-based Urban Splash, which develops derelict sites. ``Today, it's a disaster zone.''

`Mini-Floridas'

City center condominium developments like what's happening in Leeds represent Britain's ``mini-Floridas,'' said Alastair Stewart, who tracks homebuilders at Dresdner Kleinwort Securities in London. The state of Florida had the third-highest foreclosure rate in the U.S. in March, with one foreclosure for every 282 households, according to RealtyTrac Inc., the Irvine, California- based seller of data on mortgage defaults.

In Leeds, the market got so bad that a unit of Taylor Wimpey Plc, the U.K.'s largest homebuilder, delayed the planned 800-unit Green Bank condominium project in November. It may seek a zoning change to allow a mixed development of offices, shops and apartments. Taylor Wimpey dropped 40 percent in the past six months in London trading on concern about the collapse of the buy- to-let market and the slide in land values and home prices.

Barratt Developments Plc, Bellway Plc, Bovis Homes Group Plc, Berkeley Group Holdings Plc, Persimmon Plc and Redrow Plc declined by 16 percent to 48 percent in the same period.

Investment Clubs

Newly built apartments accounted for a ``significant part'' of the investments made by 61 percent of new buy-to-let investors over the past six years, Savills reported. Many of those purchases were brokered by the dozens of Internet-based property investment clubs that sprang up since 2000.

The clubs often attracted novice buyers, some of whom lacked ``an understanding of the risks that such investments pose,'' according to U.K. regulators at the Financial Services Authority. In May 2005, the government forced two of the clubs into liquidation to protect investors.

For a fee, the clubs offer members residential developments before construction work begins. They negotiate a price with homebuilders that is below the valuation made by an appraiser, and collect a percentage of the purchase price as a fee. The clubs also offer their dues-paying members property management, home insurance, legal and mortgage-broking services.

City Gate 2

Lee, 37, bought an apartment in the City Gate 2 development in Manchester for 239,500 pounds in October 2005. An identical property in the same building sold for 115,000 pounds earlier this year, said Lee, who has surrendered his keys to the bank.

Lee also purchased 17 properties, most of them in Leeds, in late 2005. He said he expected to earn a steady income from renting to students.

After the transactions were completed, Lee said he realized he had overpaid for the properties. He said 15 hadn't been refurbished as promised, the tenants occupying the homes had left and rental-income projections were wildly optimistic.

``The valuations were 15 years ahead of their time,'' Lee said. ``The biggest genius in the world couldn't have got those loans to work.''

Lee estimates his properties are worth about 3 million pounds less than he paid for them. The banks will probably ask Lee to repay the money when the homes, now in their possession, are sold. He doesn't have the money, he said.

Legal Action

Lee and 85 other investors plan to sue the developers, lenders, appraisers and solicitors involved in their property transactions. Lee's attorney, Hammad Ahmad of Max Gold Partnership in Hull, England, said the lawsuit will probably be filed in about two months.

Regulators and the government are beginning to review the practices and excesses of the U.K.'s housing boom. The FSA said in its 2008 report on financial risks that ``organized property fraud is most common in new-build and purpose-built flats in major towns and cities, and where renting is the main form of tenure.''

The FSA is probing more than 200 cases of suspected mortgage fraud and the City of London Police department is recruiting for its economic crime department to investigate fraud nationally.

Chancellor of the Exchequer Alistair Darling last week appointed James Crosby, former chief executive officer of HBOS, to make recommendations on improving the U.K.'s mortgage market.

Tony McKay, chief operating officer of Instant Access Group, the country's largest property investment club, said it's time the U.K. started regulating companies such as his.

``It's really strange,'' he said in an interview. ``A pension-provider is regulated for taking in just 20 pounds a month.''

Many homeowners and tenants have profited from the buy-to-let boom, said Michael Ball, professor of urban and property economics at Reading University, 35 miles west of London. And even as home prices decline, most investors will hold onto their properties, according to a Savills survey.

Once he has dug himself out of his current financial difficulties, Lee will consider getting back into the business.

``Would I do buy-to-let again?'' he said. ``Without a shadow of a doubt. This time I'll ensure I'm in control of all the levers.''

[simon gordon] 17/4/2008 09:57

Daily Mail - 17/4/08:

'There's crunch pain still to come

A belief is going around in the markets that the worst of the credit crunch is over. New capital has been raised - the better part of £100bn in fact, which is a truly astonishing figure - and while the bank reporting which begins on Friday may contain some new surprises, it will be nothing like as bad as what we have been through. Therefore, the argument runs, it is time to move on.

Well, up to a point. It seems a reasonable analogy to equate what has happened in the credit markets with a car smash. The traveller has the accident, is very severely injured and carried barely breathing from the wreck. Arguably, for that unfortunate the worst is indeed over. No follow-up force will inflict further injury - unless some idiot crashes the hospital trolley, (a possibility we will ignore).

Nevertheless, the victim faces a year or more of painful operations to mend the limbs, rest while he or she learns to walk again and months of recuperation to rebuild enough to lead a normal life - enduring for much of that period in often quite agonising pain.

I know people to whom this has happened. Not one has ever said the worst was over when they were lifted out of the twisted metal.'

[simon gordon] 12/4/2008 18:16

AVNER MANDELMAN - 12/4/08:

'A few days ago an unusual event took place: Paul Volcker, the mythical U.S. Federal Reserve Board chairman from the Reagan years, criticized the policy of the current Fed chairman, Ben Bernanke, in a speech to the Economic Club of New York.

Just so you grasp how extraordinary this was, you should first understand that normally a past Fed chairman scrupulously avoids saying anything at all about current Fed policy - for the simple reason that the current Fed chairman's words are one of his most important tools: They can sway markets.

This ability does not fade entirely when a Fed chairman leaves.

So when a past Fed chairman speaks, his words can clash with those of the present one and make that one's job difficult. Out of professional courtesy, past Fed chairmen therefore keep quiet; Mr. Volcker especially - the man who hiked interest rates to 20 per cent to kill inflation, at the cost of a deep recession. But last week Mr. Volcker spoke his mind bluntly. He said, in effect, that the current Fed is not doing its job.

This would have been unusual enough. But Mr. Volcker went further. Not only is the Fed not doing its job, he said, but it is doing the wrong job: It is defending the economy and the market, instead of defending the dollar. And just to stick the knife in, Mr. Volcker added that this bad job now will make the real job - defending the greenback - much harder later. It'll cause even greater economic suffering.

In plain words, Mr. Volcker implied that the current Fed is not only incompetent, but that its actions are dangerous.

There is no record of Mr. Bernanke's reaction, nor that of anyone else inside the Fed. But there was plenty of buzz in the market because what Mr. Volcker said amounted to a rousing call to raise interest rates. Yes, raise rates, and do it now.

Can you imagine what this would do to the market? I sure can, which brings me to the gap between physical economic reality as we witness it every day in our physical investigations, and the surreal market chatter we see and hear on TV. This gap has never been wider - but it will inevitably close as markets catch up to reality - as just forecast by former president Ronald Reagan's Fed chairman. Let me cite three items, then go back to Mr. Volcker.

First, commercial real estate. You surely have read about the residential real estate problems - subprime loans syndicated and resold, causing the implosion of several U.S. financial institutions. The writeoffs and damage here total close to a trillion dollars, said the IMF recently. That's about one-seventh of the U.S. gross domestic product, or more than three years of growth.

But what of commercial real estate? I heard recently from some savvy private real estate investors that although commercial real estate fell by 20 per cent, it should fall by a further 20 to 30 per cent before it provides a reasonable rate of return. So whatever economic damage was done to the economy by residential real estate speculation may eventually be equalled by commercial real estate. Say another 10th or seventh of GDP erased, or another two-three years of growth gone.

Second, there's also the war in Iraq. Some U.S. economists recently estimated it has cost about two trillion dollars to date - another two-sevenths of U.S. GDP. That's five more years of GDP growth gone.

And third, we haven't even begun to tally the private equity blowups that are surely coming.

Taken all together, the economic damage spells a very bad and long recession. How to fix it? No problem, say the actions of Mr. Bernanke's Fed. Let's print the missing money - and it doesn't matter if it causes inflation and tanks the dollar. Because that's not our job.

Up to now Mr. Volcker kept quiet, but no more. In his speech he just said, in effect, that the recession is not the Fed's problem. It's the government's. The Fed's job is to defend the currency and fight inflation - exactly the opposite of what this Fed is doing. The solution? Raise interest rates, Mr. Volcker practically said, no matter the consequences now, because if you don't, you'll have to raise them even more later, with even more awful consequences.

Will rates indeed rise? I have no doubt they must. Not now, perhaps, but at the end of this year or the beginning of 2009, with a new president in the White House. The stock market, which usually looks six to nine months ahead, already understands this and may soon react. In fact, when Mr. Volcker's words sink in, the markets are likely to sink as this bear market rally ends.

For surely you understand we are still in a bear market - and only in the beginning of it? Yes, we are experiencing a rally, and like most bear rallies, it is sharp and spiky. But when bear rallies end, they leave a lot of spiked bulls behind - and this rally should be no different. When it is over - in the next few weeks, methinks - the waterfall could continue, as the market begins to digest the inevitability of higher inflation and higher interest rates ahead.

Against all protocol, Mr. Volcker just went out on a limb and warned you of this. I urge you to heed his words.'

[simon gordon] 08/4/2008 14:37

Blue Planet market commentary - April 1st, 2008:

~Probability that UBS will go bust

~Downturn in credit cycle will persist

~More banks will be forced into liquidation

~Situation continues to deteriorate with no evidence of the bottoming of problems within the banking market

Ken Murray, Chief Executive of Blue Planet Investment Management comments on today's announcements by UBS:

"Today, UBS announced further write-downs of $19bn, an expected loss in the first quarter of 2008 of $12bn and a capital increase of $15bn. These are huge losses and despite today's announced capital raising there remains the distinct possibility that UBS will go bust. Some commentators see these announcements as positive. They believe that UBS is drawing a line under its problems and setting itself on the path to recovery. This, frankly, shows a lack of understanding of the credit cycle, where we are in it and rapid pace at which an ever broader range of banking assets are now deteriorating – not just US mortgage assets."

UBS has lost $25bn in the last six months. This is equivalent to 70% of shareholder's equity at the end of 2007. It retains exposure of $31bn to US residential sub-prime and Alt-A mortgage related positions, in addition to other assets and loans that continue to deteriorate in quality. It is likely that UBS is already heavily reliant on Central Banks for its solvency and these announcements will do little to improve its access to liquidity.

It has already boosted its capital by $19bn at the end of 2007/start of 2008 through a $13bn placement with strategic investors, a $2bn re-sale of treasury shares and by the replacement of its cash dividend by a stock dividend. If it fails to generate sufficient investor interest in its current capital increase it will lose further credibility. Conditions in money markets and capital markets continue to deteriorate rapidly, as do the prices of many of the assets to which UBS is exposed, as noted by Deutsche Bank in their statement released today. UBS is in a dire situation.

The downturn in the credit cycle will persist for sometime yet and will drive asset prices lower as banks are forced to de-leverage further. Losses will destroy banks capital and force some into liquidation and others into further capital raisings which are increasingly unlikely to be supported by shareholders. There is no evidence whatsoever of the bottoming of the problems experienced by banking markets, indeed as the credit cycle continues downwards conditions are deteriorating more rapidly than ever and are affecting a broader range of assets. The $25bn of losses incurred in the last six months by UBS is equal to roughly 1.6% of "assets at risk". If "assets at risk" were to decline by a further 3.7% - a perfectly feasible outcome in current circumstances - it would wipe out entirely UBS's recently supplemented capital base.

[simon gordon] 04/4/2008 19:53

FT - 4/4/08:

Think the worst and then prepare your strategy by John Authers

It is time to copy all good business school students and practise Realistic Worst Case Scenario investing.

When drawing up corporate valuations, MBA students are taught to do them on a "RWC" basis. The question they must ask is: given what we know now, what is the worst future we can realistically foresee for this company? There is no need to model the effects of a nuclear attack but it is important to see what happens if costs come in at the higher end of expectations while revenues come in at the lower end.

A similar approach makes sense when trying to work out an investment strategy for the next few years. Putting aside the argument between bulls and bears over the long-term direction of the market, what is the RWC? What does it imply for how we should invest?

There is no need to plan for a return to the 1930s. Very many powerful people need to make many serious mistakes for today's grim financial situation to turn into real human pain on that scale.

But something akin to what happened to the US and Europe in the 1970s or to Japan in the 1990s does look like a realistic worst case. That implies interest rates on cash and bonds could drop far below the normal level of inflation while stocks could fall much further before resurfacing.

As for house prices, the UK market looks even more over-extended than the US. A RWC would see them decline by more than 10 per cent, so even bricks and mortar do not provide much of a safe haven for problems in other markets.

Structured products, likely to be promoted hard by wealth managers, also have drawbacks. The idea is that you give up some upside (taking some reduction on the profits you could make in stocks or some other underlying investment) in return for a guarantee that your capital will remain intact or even rise by a fixed amount. Giving up some upside may not be problematic if you do not expect to make money but the guarantee is likely to be expensive.

What does that leave? First, if your asset allocation made sense before, it should still make sense. Unless you hope to retire in the next few years, it makes sense to keep a decent weighting in equities and to keep feeding money in. Timing the market is a mug's game. But steady investments should pay off over the long term, even under the RWC.

Within the stock market, cash should be king. When confidence is weak, valuations based on cash flows, sales or dividends tend to become more important. So the chance is that investments will flow to companies that reliably throw off large amounts of cash. Rather than just outperforming the market, this might even deliver profits in nominal terms.

Note that the normal advice during downturns – to buy "value stocks" that look cheap – is not reliable. Financial stocks look cheap at present but that is for a reason. Under a RWC scenario, they could fall much further.

Foreign exchange markets offer another opportunity. Forex is a zero-sum game: whether in a recession or an economic boom, the amount of winners it produces will always equal the number of losers. Further, there will always be players in the market who are merely making transactions needed to keep doing business: not all players in the market are in it to win. So the chances of being a winner in forex during a downturn look decent, at least compared with other opportunities.

On this logic, money might flow to reliable cash-generating stocks that are generated in dollars, a currency at present wildly undervalued in terms of its purchasing power. In a RWC, recession in the US will hurt other economies and allow the dollar to recover. So big US companies that throw off a lot of cash look interesting.

Others may be following this logic. The retailer Wal-Mart, even though it could scarcely be more exposed to US consumers, is at its highest level since 2004. Its stock is up 30 per cent since the credit crisis started – possibly because investors want reliable dollar-based cash flows.

A riskier strategy, if you have a long-time horizon, may involve the emerging markets. They traditionally underperform developed markets during a downturn, and appear to be doing so again.

Under a RWC, the emerging markets will be harmed by a US downturn but they are less exposed than they were during the wave of crises in the 1990s. So it makes sense to look for buying opportunities in emerging markets, especially companies that would benefit from internal growth rather than exports.

Then there are commodities. Since the credit crisis struck, they have done more than provide shelter – they have provided fat profits. This goes some way to bolster arguments that commodities are a "diversifier" within a portfolio, providing returns that are not correlated to the other major markets.

But prices look overblown, at least in part the product of intense speculation, as investors have left other asset classes.

Commodity prices this high raise the chances of a recession. That in turn will reduce the demand for them. In the RWC, they will prove to have been the latest bubble, and burst. So, while the argument for having some commodities in a portfolio looks sound, buying in a big way looks unwise.

[simon gordon] 03/4/2008 17:56

FT - 3/4/08:

False ideology at the heart of the financial crisis
By George Soros

The proposal from Hank Paulson, US Treasury secretary, for reorganising government regulation of financial institutions misses the point. We need new thinking, not a reshuffling of regulatory agencies. The Federal Reserve has long had authority to issue rules for the mortgage industry but failed to exercise it. For the past 25 years or so the financial authorities and institutions they regulate have been guided by market fundamentalism: the belief that markets tend towards equilibrium and that deviations from it occur in a random manner. All the innovations – risk management, trading techniques, the alphabet soup of derivatives and synthetic financial instruments – were based on that belief. The innovations remained unregulated because authorities believe markets are self-correcting.

Regulators ought to have known better because it was their intervention that prevented the financial system from unravelling on several occasions. Their success has reinforced the misconception that markets are self-correcting. That in turn allowed a bubble of excessive credit to develop, which extended through the entire financial system. When the subprime mortgage crisis erupted it revealed all the weak points. Authorities, caught unawares, responded to each new disruption only after it occurred. They lacked the ability to foresee them because they were in the thrall of the market fundamentalist fallacy. They need a new paradigm. Market participants cannot base their decisions on knowledge, or what economists call rational expectations. There is a two-way, reflexive interaction between the participants' biased views and misconceptions and the real state of affairs. Instead of random deviations, reflexivity may give rise to initially self-reinforcing but eventually self-defeating boom-bust sequences or bubbles.

Instead of reshuffling regulatory agencies, the authorities ought to prepare for the next shoes to drop. I shall mention only two. There is an esoteric financial instrument called credit default swaps. The notional amount of CDS contracts outstanding is roughly $45,000bn. To put it into perspective, that is about equal to half the total US household wealth and about five times the national debt. The market is totally unregulated and those who hold the contracts do not know whether their counterparties have adequately protected themselves. If and when defaults occur, some of the counterparties are likely to prove unable to fulfil their obligations. This prospect hangs over the financial markets like a sword of Damocles that is bound to fall, but only after some defaults have occurred. That must have played a role in the Fed's decision not to allow Bear Stearns to fail. One possible solution is to establish a clearing house or exchange with a sound capital structure and strict margin requirements to which all existing and future contracts would have to be submitted. That would do more good in clearing the air than a grand regulatory reorganisation.

The other issue is rising foreclosures. About 40 per cent of the 6m subprime loans outstanding will default in the next two years. The defaults of option-adjustable-rate mortgages and other mortgages subject to rate reset will be of the same order of magnitude but occur over a longer period. With single family home sales running at an annual rate of 600,000, foreclosures will overwhelm the market and cause prices to overshoot on the downside. This will swell the number of homeowners with negative equity who may be tempted to turn in their keys. The fall in house prices will become practically bottomless until the government intervenes. Cutting foreclosures should be a priority but the measures so far are public relations exercises.

The Bush administration has resisted using taxpayers' money because of its market fundamentalist ideology. Apart from a bipartisan fiscal stimulus, it has left the conduct of policy largely to the Fed. Yet taxpayers' money will be needed to reduce foreclosures. Two proposals by Democrats in Congress strike a balance between the right to foreclosure and discouraging the exercise of that right. One would modify the bankruptcy laws allowing judges to modify the terms of mortgages on principal residences. Another would provide Federal Housing Administration guarantees that would enable mortgage holders to be paid off at 85 per cent of the current appraised value. These proposals will not solve the housing crisis, but go to the heart of the issue. They should be given serious consideration.

The writer's book, The New Paradigm for Financial Markets: The Credit Crisis of 2008 and What It Means, is released as an e-book by PublicAffairs on Thursday

[simon gordon] 03/4/2008 08:19

Hi Jon,

I hope you are well and profiting with your property investments.

I'm still chilling in cash - I do have the odd foray into equitites, then the market looks like it is ready to crash and I bail out. It is a very difficult period.

Regards

Simon

-----

Bloomberg - 3/4/08:

Soros Sees Additional Market Declines After Temporary Reprieve

Billionaire George Soros called the current financial crisis the worst since the Great Depression and said markets will fall more this year after a brief rebound.

``We had a good bottom,'' Soros said yesterday in an interview in New York, referring to the rally in stocks and the dollar after JPMorgan Chase & Co. agreed to buy Bear Stearns Cos. on March 17. ``This will probably not prove to be the final bottom,'' he said, adding the rebound may last six weeks to three months as the U.S. moves closer to a recession.

Last summer, worried about market disruptions that started with rising subprime-mortgage defaults, Soros, 77, returned to a more active role in managing the $17 billion Quantum Endowment Fund, whose profits pay for his philanthropic projects. Quantum returned an average of 30 percent a year before Soros started using outside managers in 2000 for much of his money.

He also decided to write a book, his 10th, ``The New Paradigm for Financial Markets'' (Public Affairs, 2008). Released today online, the book explains the causes of the current meltdown, a crisis he says has been in the making since 1980, and the trades he put in place this year to protect his wealth, much of it in Quantum.

Soros has bet on declines in the dollar, 10-year Treasuries and U.S. and European stocks. He expected foreign currencies to rise, as well as Chinese and Indian equities. The latter bet helped Quantum return 32 percent in 2007. Quantum's returns this year have ranged from up 3 percent to down 3 percent.

`Heightened Uncertainty'

The euro has climbed 7.5 percent against the dollar this year and the Japanese yen has gained 9.1 percent. These and other currencies may continue to strengthen, he said.

``There is an increasing unwillingness to hold dollars, though there's a lack of suitable alternatives,'' he said. ``It's a period of heightened uncertainty.''

Federal Reserve officials dropped their benchmark interest rate 2 percentage points this year to 2.25 percent, and Soros doesn't see that they can lower the rate much further, given the weak dollar.

``We are close to the limit,'' he said.

As for his wagers on developing markets, Soros hasn't abandoned his holdings in India, even with the 22 percent drop in the benchmark Indian index this year.

``The fundamentals remain good,'' he said. He is less certain about what will happen to Chinese H shares, which trade in Hong Kong.

Credit-Default Swaps

Credit default swaps -- a way to bet on the creditworthiness of a company -- may be the next crisis area because the market is unregulated, and it's impossible to know whether counterparties can meet their obligations in the event of a bond default. The market has a notional value of about $45 trillion -- or about half the total wealth of U.S. households.

Soros recommends the creation of an exchange with a sound capital structure and strict margin requirements, where current and future contracts could be traded.

The cause of the current troubles dates back to 1980, when U.S. President Ronald Reagan and U.K. Prime Minister Margaret Thatcher came to power, Soros said. It was during this time that borrowing ballooned and regulation of banks and financial markets became less stringent. These leaders, Soros said, believed that markets are self-correcting, meaning that if prices get out of whack, they will eventually revert to historical norms. Instead, this laissez-faire attitude created the current housing bubble, which in turn led to the seizing up of credit markets and the demise of Bear Stearns, Soros said.

To avoid a super-bubble in the future, Soros said banks must control their own borrowing. They must also curtail lending to clients such as hedge funds by demanding greater collateral and margin requirements on loans.

Asked if such moves would make it impossible to achieve returns like those of his pre-2000 days, Soros laughed.

``Since I'm designing these regulations, they would not hurt me,'' he said. ``We made direction bets but we haven't used leverage'' like the $25-to-$1 borrowing that brought down John Meriwether's Long-Term Capital Management LLC in 1998.

[jonwig] 02/4/2008 18:55

Hi, Simon.

O/T again, sorry! I did buy some of these for my ISA a couple of days ago ... timing looks fortunate.
But next week I'd planned to buy more with the new allowance - looks as though I'll need to pay a lot more or search elsewhere.

About the BoE (post #108), it may be that M K will cut and prepare to write regular open letters to A D about missing the target. The BoE doesn't have to control the target, it just has to explain in writing why it didn't.

[simon gordon] 02/4/2008 18:24

Bloomberg - 2/4/08:

BOE's King Might Be Sleepwalking Into Recession
by Matthew Lynn

The British haven't had a recession for so long, they appear to have forgotten what they are like. They are about to get a sharp reminder.

The U.K. economy is sliding into trouble faster than anyone could have imagined. House prices have started the slow decline that was almost certain to happen. The pound is dropping, and the confidence of consumers is in freefall.

Some economists are starting to see recession as a possibility. If so, it would be the first time the nation's economy has contracted since the early 1990s.

And yet, the Bank of England appears to be sleepwalking into disaster. True, Governor Mervyn King has been warning everyone there are tougher times ahead. So far, the bank has done little to help, with the exception of two quarter-point cuts to 5.25 percent, still among Europe's highest interest rates.

That isn't good enough. The U.K. needs far deeper reductions in interest rates -- and the sooner the better. The Bank of England might as well act now because when it is forced to lower borrowing costs later in the year, it will be too late.

There is no mistaking the dark clouds gathering over the British economy. House prices have now been falling for six months in a row, according to a report by Hometrack Ltd. The declines are still marginal, and prices are still broadly stable over the year, but a market has to turn somewhere. For U.K. real estate, the only way is down. The only question is how far it will fall, and how much damage that causes to the economy.

Confidence has already taken a battering. According to the polling firm GfK NOP Ltd., consumer confidence has reached its lowest level in 15 years as higher prices, rising taxes, and the turmoil in the credit markets deter people from spending.

Next Subprime Casualty

Meanwhile, sterling is touching record lows against the euro: It only looks strong against the equally beaten-up dollar. That is going to make the cost of everything Britain imports more expensive -- and it is an indication of how the currency markets think the U.K. is the next subprime casualty.

It is no great surprise, then, that economists are busily slashing their forecasts for growth this year.

``The probability of a technical recession of two quarters of negative growth at some point over the next two years has now risen, in our view, to about 35 percent while we put the probability of an outright recession of negative year-on-year growth at 20 percent,'' Lehman Brothers Holdings Inc. said in a report last week.

Lehman's Forecast

Others find even that forecast too cheerful.

``Lehman estimates the risk of recession is 35 percent; we believe that it is 55 percent,'' Stuart Thomson, who manages 23 billion pounds ($45.7 billion) in bonds at Resolution Investment Management Ltd. in Glasgow, Scotland, said in a note to investors. He said the impact of falling house prices on consumer confidence will be so severe there will be a big drop in demand.

Without the housing market and consumer spending to prop it up, the U.K. economy will quickly deflate. Worse, many of the hundreds of thousands of eastern European immigrants will quickly go home. If the economy isn't booming, there will be nothing to keep them in the U.K., and as they leave they will suck even more spending power out of the economy.

In truth, all the forecasts so far are probably too cautious. The British economy has been so resilient for so long, nobody wants to look foolish by calling the end of the boom too soon. The chances of a recession are now more like 100 percent. And the Bank of England is sleepwalking straight into it.

Last year, King was lecturing on ``moral hazard'' while mortgage lender Northern Rock Plc was running out of money. Now the Bank of England is lecturing people about discipline, while the economy is sliding toward recession.

`Downward Spiral'

``The Monetary Policy Committee will need to weigh the growing risk of the economy entering a downward spiral in which financial stress and deteriorating fundamentals become mutually reinforcing,'' Lehman Brothers said.

Lenders such as Nationwide Building Society are boosting mortgage rates while interest rates remain stable because the banks are finding it impossible to raise funds. The Bank of England needs to find a way to stop that before consumers get hammered even harder.

By delaying interest-rate cuts, the central bank isn't doing its reputation any good.

[simon gordon] 01/4/2008 14:29

Telegraph - 1/4/08:

Ten reasons for investors to be optimistic

By Simon Ward of New Star Asset Management

The pessimism is overdone. The odds are that the current financial crisis is winding down and equity markets will stage a come-back over the remainder of 2008. Here's why:
1, The US Federal Reserve has effectively pledged its own balance sheet to prop up markets. There is no limit to the cash the Fed can print and its solvency is guaranteed by the US government's tax-raising authority.

2, Global liquidity is plentiful, with broad money growth in the Group of Seven (G7) major countries running at over 11% pa – a 26-year high. Investors are currently frozen in the headlights but will rush to deploy cash as it becomes clear that financial armageddon will be avoided.

3, Equity markets are discounting a recession – their performance since the current G7 economic downswing began in September 2006 matches an average of six prior "hard landings". Bears need to believe that a recession is not only certain but will be unusually severe.

4, A hard landing may yet be avoided. The impact of tighter credit is counterbalanced by a significant easing of monetary conditions and US fiscal stimulus worth over 1% of GDP, with tax rebate cheques due to be sent out from May.

5, Corporations have been cautious about expanding employment and investment in recent years and are not yet under strong pressure to retrench. Emerging world resilience is a further bulwark against a severe economic downturn.

6, UK consumers are in better financial shape than generally appreciated. Record debt is far outweighed by assets. Net wealth – tangible and financial assets less debt – amounts to over 700% of annual income. A 20% fall in house prices – unlikely – would still leave the ratio well above its 20-year average.

7, Investor pessimism is extreme – the Chicago Board Options Exchange put / call ratio has spiked above levels at prior US market lows, including 1998, 2002 and 2003, while bears recently outnumbered bulls by the widest margin since 1990, according to the American Association of Individual Investors. US-based equity mutual funds have suffered a $24 billion outflow over the last four weeks, according to Trim Tabs.

8, While retail punters are bailing, US corporate insiders have stepped up buying, suggesting they see value in their shares and do not expect a wrenching recession. InsiderScore.com's buy / sell ratio has surged well above levels at recent market lows.

9, Losses on US subprime mortgages have been largely accounted for. According to Standard and Poors, write-downs on subprime asset-backed securities could reach $285 billion, of which well over $150 billion has already been disclosed. The $285 billion estimate far exceeds projected credit losses of $136 billion on underlying loans, reflecting both the creation of synthetic subprime exposure and distressed pricing. For synthetic subprime, losses for some participants are balanced by gains for others, while write-downs due to distressed pricing should eventually be reversed.

10, The magnitude and duration of the fall in US financial shares is comparable with the decline associated with the savings and loan crisis of the late 1980s. Financials are now trading on a larger price-to-book discount to other sectors than at the 1990 trough, which proved a great buying opportunity.