A recent paper, Securitization of Mortgage Debt, Asset Prices and International Risk Sharing (CESifo Working Paper No. 2527, downloadable here) provides a refreshingly calm and measured assessment of the effects of mortgages securitization on the markets stability via allowing for greater international diversification of macroeconomic risk. According to the authors, "by making mortgage-related risks internationally tradeable, securitization contributes considerably to better international consumption risk sharing: we find that countries with the most highly developed markets for securitized mortgage debt have consumption responses to a typical idiosyncratic business cycle shock that are 20-30 percent less (my emphasis throughout) volatile than those experienced by countries that do not allow for mortgage securitization. Our results are based on quarterly data from a panel of 16 industrialized countries and cover the sample period 1985-2008Q1. They are robust to a range of controls for other aspects of financial globalization, international differences in the structure of housing markets and the financial system etc. Against the backdrop of the subprime crisis, these findings inevitably raise the question whether securitization could not just facilitate risk sharing in tranquil times but that it actually fails to provide international insurance in severe crisis periods. Indeed, we find that international risk sharing decreases in global asset price downturns and increases in booms. But we do not find evidence that countries with more developed securitization markets are systematically more exposed to these fluctuations in the extent to which risk can be shared across national boundaries."
Funny thing - there is now growing academic literature on the positive effects of such 'evil' forms of fiance as short-selling. See for example here and here (arguing that short-selling is superior to put options and even analysts in predicting negative returns), here, here and here (suggesting that short-selling adds to price efficiency in the case of dividend manipulation), here (arguing that share prices adjust to their fundamentals-justified equilibrium faster when short-selling is less restricted), and here (indicating that bans or restrictions on short-selling can have destabilising effects on even such 'stable' markets as those for government bonds).
While many more papers are available on the subject, what is apparent from the recent events is that politically motivated regulatory interventions in financial markets are exactly what they say they are - politically motivated changes that have little do with markets stability or efficiency. This is precisely why we should actively resist the current political push for restricting securitization, just as we should resist the push for banning short-selling or speculation.
Update: ... and CDS are not bad either... see comprehensive discussion on CDS here. Obviously all evidence flies in the face of our quasi-literate (economically speaking) DofF boffins (recall my post here).
Monday, March 23, 2009
Some good news... at last
Per EUObserver, EU leaders last Friday, have failed to provide any specific commitments on funds for third world CO2 reductions. Instead, the summit, designed to formulate some sort of a unified EU-wide position on the issue ahead of the
This is the good news because it postpones the absurd and economically illiterate introduction of the direct subsidies to the developing countries from the advanced economies aiming to reduce the developing nations' output of CO2. Here is how absurd the whole debate is. Quoting EUObserver, "if the EU and US stump up significant chunks of cash for cutting emissions and climate adaptation, developing countries may in return commit to considerable CO2 reductions, even though it is the industrialised north that is responsible for most of the emissions that caused the problem.”
Well, not that simple, folks.
First, even if the EU and the
Second, there is no ceiling on what constitutes 'sufficient' subsidies. The argument in favour of the subsidies rests on the assumption that absent a pay-off, the developing nations will continue pursuing economic growth - in an attempt to catch up with the developed world in standards of living for their growing population - and thus will continue increasing CO2 emissions. But in order to cut-off the growth in CO2 emissions in the third world, the West will have to offer subsidies that replace that part of growth which can (at least theoretically) be lost to curbed CO2 emissions. So how much of growth will we, Western taxpayers, have to replace? Oh, well, that is an open question. In other words, until there is a final price tag placed, any commitment to buy the third world out of its CO2 emissions will be an open one, and unenforceable to boot.
Third, even if we do provide so massive of a subsidy as to deliver the third world to parity in income with the OECD countries, there is absolutely no guarantee that the third world leadership will actually adhere to its end of the bargain.
Fourth, given that the third world has over 4 times more population than the OECD countries, an idea that we can effectively replace their lost income is an absurd one. Only the lunatic fringe of environmental movement can argue that hoisting the welfare of 4 third world country citizens on each working OECD adult is sustainable development.
Now, Poland was backed by Italy, Lithuania, Latvia, Bulgaria and Hungary alongside UK, Spain and Sweden in opposing the idea of fixed financing commitment and the use of ETS revenue to 'buy-off' the thrid world countries. Overall, only the Netherlands, Slovenia and Belgium backed the deal, implying that 24 out of 27 EU states were not exactly enthused about the proposal. Here you have it - some good news out of the recession...
Private Sector credit supply is being damaged by this Government
A recent working paper from the European Central Bank, titled "Modelling Loans to Non-Financial Corporations in the Euro Area" (ECB WP No 989/January 2009) provided a benchmark model for assessing the impact of twin shocks of increase in the policy rate (ECB main interest rate) and increase in the banking system risk premium on the supply of credit to non-financial corporations across the Eurozone. The authors, Christoffer Kok Sørensen, David Marqués Ibáñez and Carlotta Rossi showed that a 25bps increase in the headline interest rate "causes a reduction in bank lending of about 1.4%, 5.4% and 6.4% after 2, 5 and 10 years, respectively. A 20bp increase in the risk premium on bank lending rate reduces bank lending to non-financial corporations by about 0.6%, 4.0% and 5.1% after 2, 5 and 10 years, respectively."
Of course, the first experiment coincides fully with the ECB's reckless 25bps hike in rates between June 2007 and October 2008. The second, however, is even more dramatically important from the point of view of private credit availability. Between August 2007 and today, Irish bank's risk premia on lending to the banks has risen by some 300%, implying, under the ECB model, an expected drop in the credit supply to Irish non-financial corporations of ca 9-11% in 2009-2010, rising to a whooping 75-99% between 2009-2018.
Alternatively, between December 2008 and today, the average weekly CDS spreads on Irish Government bonds have risen some 160bps. Given our state's exposure to banks debts, this is a comparatively reasonable measure of the overall increase in the risk premium on banks lending. Thus, within the span of only 3.5 months, our expected credit supply to non-financial corporations has fallen by the estimated 5-6% for the period 2009-2010, 30-35% for the period of 2009-2013 and by 40-47% for the period of 2009-2018.
As I always said, Mr Lenihan should stop blaming the Americans for this crisis. And he should stop saying that there is no cost to the broader economy from his rushed general debt guarantee to the banks. Instead he should look at his Government's fiscal imbalances, wobbling decisions on financial sector rescue, blanket and unsustainable guarantees to the banks, appeasement of trade unions at the expense of the taxpayers, destruction of the private sector via higher taxation and charges, etc - in other words all the policies that undermine international markets' confidence in Ireland Inc. His policies, responsible directly for the rising risk premium on Irish Government debt are also destroying the private credit markets here. Not only today, but well into the future.
Of course, the first experiment coincides fully with the ECB's reckless 25bps hike in rates between June 2007 and October 2008. The second, however, is even more dramatically important from the point of view of private credit availability. Between August 2007 and today, Irish bank's risk premia on lending to the banks has risen by some 300%, implying, under the ECB model, an expected drop in the credit supply to Irish non-financial corporations of ca 9-11% in 2009-2010, rising to a whooping 75-99% between 2009-2018.
Alternatively, between December 2008 and today, the average weekly CDS spreads on Irish Government bonds have risen some 160bps. Given our state's exposure to banks debts, this is a comparatively reasonable measure of the overall increase in the risk premium on banks lending. Thus, within the span of only 3.5 months, our expected credit supply to non-financial corporations has fallen by the estimated 5-6% for the period 2009-2010, 30-35% for the period of 2009-2013 and by 40-47% for the period of 2009-2018.
As I always said, Mr Lenihan should stop blaming the Americans for this crisis. And he should stop saying that there is no cost to the broader economy from his rushed general debt guarantee to the banks. Instead he should look at his Government's fiscal imbalances, wobbling decisions on financial sector rescue, blanket and unsustainable guarantees to the banks, appeasement of trade unions at the expense of the taxpayers, destruction of the private sector via higher taxation and charges, etc - in other words all the policies that undermine international markets' confidence in Ireland Inc. His policies, responsible directly for the rising risk premium on Irish Government debt are also destroying the private credit markets here. Not only today, but well into the future.
Saturday, March 21, 2009
Boardrooms in denial: McKinsey study & Ireland Inc
McKinsey has done some homework and published impressive findings on the issue of corporate leadership in the current downturn. You can get the article here, if you have access to the Quarterly, but below are some main findings.
"While half of board members describe their boards as effective in managing the crisis, just over a third say their boards have not been effective; 14 percent aren’t sure how to rate their boards’ effectiveness. At the personal level, roughly half of corporate directors say their boards’ chairs haven’t met the demands of the crisis, and a nearly equal percentage of board chairs believe the same about their board members. Though most boards have implemented various changes to their procedures in response to the crisis, 62 percent say their boards need to change even more." Chart below (courtesy of McKinsey) illustrates.
Now, we all by now can be counted as the slaves of 'innovation' fad - the trend in modern management and policy to label every strategy change an 'innovation', but what McKinsey data shows, strategy is still the king when it comes to responding to changing environments.
"Innovative strategies are the key when corporate directors evaluate their boards’ responses. Among the group who say their boards have been effective in responding to the crisis, 60 percent credit the development of new strategies to manage risk and take advantage of new opportunities (chart below). That same area of management is most frequently cited as lacking among respondents at companies with ineffective boards. (This finding is consistent with the results of another recent survey, in which executives said support for innovation should be the overall focus of governments’ actions in response to the crisis.) Other areas that have been addressed by many effective boards are financing and operational needs; at unsuccessful companies, respondents say their boards have been particularly ineffective at tackling talent management and restructuring."
So let me ask you this question. Since November 2008 I spent inordinate amount of time and effort trying to convince some of our top organizations and companies - amongst hardest hit by the current uncertainty in the markets - to set up some formal research function to evaluate various strategic responses to the crisis that they can adopt. The structures I have been proposing are pretty much in line with those summarized by the McKinsey below:
Not a single Irish corporate took up my challenge. Majority of our corporate leaders are sitting on their hands, in words of Leonard Cohen 'Waiting for the miracle to come". But don't take my word for it - here is hard data on the issue.
Here is the truth - 'miracle' ain't coming, folks. Wake up and smell the roses - if you your board/CEO assessments of counterparty contributions is anywhere close to what McKinsey reports, you are screwed. Your corporate structure is rotten from the head down and you need to do an independent appraisal of it from the head down. Waiting around for 'miracles' is not going to do it.
"While half of board members describe their boards as effective in managing the crisis, just over a third say their boards have not been effective; 14 percent aren’t sure how to rate their boards’ effectiveness. At the personal level, roughly half of corporate directors say their boards’ chairs haven’t met the demands of the crisis, and a nearly equal percentage of board chairs believe the same about their board members. Though most boards have implemented various changes to their procedures in response to the crisis, 62 percent say their boards need to change even more." Chart below (courtesy of McKinsey) illustrates.
Now, we all by now can be counted as the slaves of 'innovation' fad - the trend in modern management and policy to label every strategy change an 'innovation', but what McKinsey data shows, strategy is still the king when it comes to responding to changing environments."Innovative strategies are the key when corporate directors evaluate their boards’ responses. Among the group who say their boards have been effective in responding to the crisis, 60 percent credit the development of new strategies to manage risk and take advantage of new opportunities (chart below). That same area of management is most frequently cited as lacking among respondents at companies with ineffective boards. (This finding is consistent with the results of another recent survey, in which executives said support for innovation should be the overall focus of governments’ actions in response to the crisis.) Other areas that have been addressed by many effective boards are financing and operational needs; at unsuccessful companies, respondents say their boards have been particularly ineffective at tackling talent management and restructuring."
So let me ask you this question. Since November 2008 I spent inordinate amount of time and effort trying to convince some of our top organizations and companies - amongst hardest hit by the current uncertainty in the markets - to set up some formal research function to evaluate various strategic responses to the crisis that they can adopt. The structures I have been proposing are pretty much in line with those summarized by the McKinsey below:
Not a single Irish corporate took up my challenge. Majority of our corporate leaders are sitting on their hands, in words of Leonard Cohen 'Waiting for the miracle to come". But don't take my word for it - here is hard data on the issue.Here is the truth - 'miracle' ain't coming, folks. Wake up and smell the roses - if you your board/CEO assessments of counterparty contributions is anywhere close to what McKinsey reports, you are screwed. Your corporate structure is rotten from the head down and you need to do an independent appraisal of it from the head down. Waiting around for 'miracles' is not going to do it.
Friday, March 20, 2009
Daily Economics Update 21/03/2009
Weekly analysis: Irish shares
The volume of shares traded on the New York Stock Exchange has topped the 50-day moving average on six of the seven days that the stock market has been up since March 6 (the day on which the S&P 500 touched its most recent low). The broad benchmark index has gained 15% since that low, sparking hopes of a recovery. The significant issue here is in the volume figure, not in the actual rise in the index, as stronger volumes on a rising trend tend to support more risk-taking and signal investors' support for the trend.
Interestingly, the same, but less pronounced, process has been starting on Friday in the Irish markets.
Chart above shows last week's movements in ISE Total Price Index (IETP), Irish Financials Index (IFIN), AIB, BofI and IL&P shares. Strong upward trajectories here, with significant volatility. But all underpinned by good (well above the average) volumes, as per chart below.
This is less pronounced when we normalize daily volumes by historical average, as done in the chart below.
Less extraordinary change is underway above, because we are using moving averages as normalizing variable, implying that we actually capture the inherently rising volatility in volumes traded here. So the above chart actually suggests that while Friday up-tick in share prices (and pretty much the last three day's rally) was reasonably well underpinned, it will take some time to see if market establishes a solid floor under the share prices.
Monthly results so far remain weak. Only BofI was able, so far, to recover all monthly losses and post some gains. AIB is just hitting the point of return to late February valuations. Given that at the point of sale - at the end of February, beginning of March - the volumes traded were 5-7 times those of the current week's peak, it is hard to see the present recovery as being driven by pure psychology and the spillover from the broader global markets (US' momentary lapse of optimism).
Two more charts: recall that in mid February I argued that downgrades in all three financials will come to an end by February's expiration and all three will settle into a nice slow bear rally, running at virtually parallel rates of growth. Chart below shows that this is happening, indeed.
Once we normalize prices and account for volumes traded, there is nothing surprising in the share prices movements since the beginning of March. And this is exactly where, as I argued before, the markets should be: awaiting news catalysts...
The volume of shares traded on the New York Stock Exchange has topped the 50-day moving average on six of the seven days that the stock market has been up since March 6 (the day on which the S&P 500 touched its most recent low). The broad benchmark index has gained 15% since that low, sparking hopes of a recovery. The significant issue here is in the volume figure, not in the actual rise in the index, as stronger volumes on a rising trend tend to support more risk-taking and signal investors' support for the trend.
Interestingly, the same, but less pronounced, process has been starting on Friday in the Irish markets.
Chart above shows last week's movements in ISE Total Price Index (IETP), Irish Financials Index (IFIN), AIB, BofI and IL&P shares. Strong upward trajectories here, with significant volatility. But all underpinned by good (well above the average) volumes, as per chart below.
This is less pronounced when we normalize daily volumes by historical average, as done in the chart below.
Less extraordinary change is underway above, because we are using moving averages as normalizing variable, implying that we actually capture the inherently rising volatility in volumes traded here. So the above chart actually suggests that while Friday up-tick in share prices (and pretty much the last three day's rally) was reasonably well underpinned, it will take some time to see if market establishes a solid floor under the share prices.Monthly results so far remain weak. Only BofI was able, so far, to recover all monthly losses and post some gains. AIB is just hitting the point of return to late February valuations. Given that at the point of sale - at the end of February, beginning of March - the volumes traded were 5-7 times those of the current week's peak, it is hard to see the present recovery as being driven by pure psychology and the spillover from the broader global markets (US' momentary lapse of optimism).
Two more charts: recall that in mid February I argued that downgrades in all three financials will come to an end by February's expiration and all three will settle into a nice slow bear rally, running at virtually parallel rates of growth. Chart below shows that this is happening, indeed.
Once we normalize prices and account for volumes traded, there is nothing surprising in the share prices movements since the beginning of March. And this is exactly where, as I argued before, the markets should be: awaiting news catalysts...
Rates of decline, degrees of (construction sector) misery
Earlier today (here), I gave some figures from the CSO data release on planning permissions. Here is what I wrote:
"Also per CSO release, the number of dwelling units approved was down 22.4% in year to the end of Q4 2008. In Q4 2008, planning permissions were granted for 10,375 houses as opposed to 13,135 in the Q4 2007, a decrease of 21%. Only 3,392 planning permissions were granted for apartment units, compared with 4,598 in Q4 2007, a decrease of 26.2%. The total number of planning permissions granted for all developments was 8,977, as compared to 12,330 in Q4 2007, a decrease of 27.2%. Dire stuff once again. I will do the detailed analysis of the sectoral decline dynamics in a follow up to this post."
So, as promised here are some graphs illustrating the dire state of affairs in construction industry.
First chart below shows two things:
Now, the next chart shows total number of permissions granted per quarter. Here, the most dramatic trend is also found in 2008, most specifically in Q3 and Q4 2008, when quarterly rates of decline in total number of permissions granted were the steepest for any quarter since Q3 2000. And the rates of decline are accelerating, relative to Q1-Q2 2008.
Lastly, more detailed quarterly date below, by each broader category of permits. I also included trend lines for the period of peak-to-present contractions, showing that Q4 2008 dynamics were consistent with generally accelerating deterioration in all categories of permits, save for 'Other'. This means that we can expect this category to actually fall further and faster in months to come.
So here you have it, for construction industry - there is no bottom in sight, yet...
"Also per CSO release, the number of dwelling units approved was down 22.4% in year to the end of Q4 2008. In Q4 2008, planning permissions were granted for 10,375 houses as opposed to 13,135 in the Q4 2007, a decrease of 21%. Only 3,392 planning permissions were granted for apartment units, compared with 4,598 in Q4 2007, a decrease of 26.2%. The total number of planning permissions granted for all developments was 8,977, as compared to 12,330 in Q4 2007, a decrease of 27.2%. Dire stuff once again. I will do the detailed analysis of the sectoral decline dynamics in a follow up to this post."
So, as promised here are some graphs illustrating the dire state of affairs in construction industry.
First chart below shows two things:
- Numbers of permissions granted (annual totals) for main categories of dwellings and in total - these are now clearly falling at the fastest annual rate;
- Total area of all construction projects applied for is also falling at the fastest rate of decline.
Now, the next chart shows total number of permissions granted per quarter. Here, the most dramatic trend is also found in 2008, most specifically in Q3 and Q4 2008, when quarterly rates of decline in total number of permissions granted were the steepest for any quarter since Q3 2000. And the rates of decline are accelerating, relative to Q1-Q2 2008.
Lastly, more detailed quarterly date below, by each broader category of permits. I also included trend lines for the period of peak-to-present contractions, showing that Q4 2008 dynamics were consistent with generally accelerating deterioration in all categories of permits, save for 'Other'. This means that we can expect this category to actually fall further and faster in months to come.
So here you have it, for construction industry - there is no bottom in sight, yet...
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