PrefBlog

This one will cause some angst for the bubble-gum crowd:

Warren Buffett, the Wall Street critic who invested $5 billion in Goldman Sachs Group Inc., said he supports the bank’s Chief Executive Officer Lloyd Blankfein “100 percent” after the firm was sued by regulators for fraud.
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Buffett said he will discuss the trade at the center of the regulator’s suit later today at the meeting and “I will bet that of the 40,000 people in there, 39,900 of them have a misconception.”

God endorses Satan! Of course, Buffett achieved his status by a very rare process known technically as “thinking about what he was doing”.

He went further later on:

“I can’t see what difference it makes if it were Paulson on the other side of the deal or Goldman Sachs or Berkshire Hathaway,” Buffett said today at his company’s annual meeting in Omaha, Nebraska. Buffett said it “wasn’t so obvious” when the investments were sold in 2007 that the housing market would collapse.

Gracious heavens, the bubble-gum crowd is going to have a collective nervous breakdown!

Buffett said today that Berkshire has four decades of experience with Goldman Sachs and no expectation that the bank would offer investment advice or disclose its own stance on trades.

“We are in the business of making our own decisions,” Buffett said. “They do not owe us a divulgence of their position.”

A grown-up! An actual grown-up! Quick, call the nannies! It occurs to me that one reason Buffett has done so well is that he’s an adult in a world of kiddies.

Suprisingly, I don’t see his comments highlighted in one of the sacred places where the acolytes proselytize and interpret the Holy Word. I guess Buffett can only be considered wise when he recites platitudes that people want to hear … but that’s the marketting biz!

Blankfein has learned that lesson and is attempting to distance himself and the firm from some headlined eMails:

Lloyd Blankfein, chief executive officer of Goldman Sachs Group Inc., said a “callousness” toward clients demonstrated in some e-mails released to the public this week is unacceptable and doesn’t represent the firm.

“There were some e-mails where some people were projecting I would say, at best indifference, and at worst a callousness,” Blankfein, 55, said in an interview on the “Charlie Rose” television show last night, according to a transcript. While he said those e-mails aren’t representative of the firm, “it’s inexcusable if 10 people think that way or thought that way.”

But, of course, you don’t get to be head of a big (public) firm by telling people what they don’t want to hear. I’ve had a look, but unfortunately have been unable to find a link to the actual transcript.

Never let it be said that PrefBlog doesn’t report both sides of the story: Suna Reyent writes a post on Seeking Alpha titled Why SEC has a Strong Case Against Goldman, Part 1. She states, for instance:

SEC alleges that Goldman not only hid Paulson’s role from all long parties via making it appear like a third long party (ACA) picked the portfolio, which is a material misrepresentation on its own, but it also made one investor (ACA) believe that Paulson was interested in the long side of the deal.

That’s where I stopped reading. ACA was the Selection Agent; they were paid to be the Selection Agent; they had fiduciary responsibility as the Selection Agent. The idea that Goldman made one investor (ACA) believe that Paulson was interested in the long side of the deal. is:

• contested by Goldman & Tourre
• completely non-material and irrelevent even if true.

Some light reading with a moral… Never Kick Your Chief Regulator in the Nuts. Or, to put it another way, never disclose that the emperor has no clothes. The light reading is best accompanied by SEC Fraud Allegations against MBIA. Of course, since this was settled without admission of guilt, we’ll never know whether they were really guilty, or whether not paying up would have constituted kicking the Chief Regulator in the Nuts.

Ackman, by the way, agrees with PrefBlog and Buffet about Goldman Sachs:

Ackman also staunchly defends Goldman Sachs. He says that the media misrepresents the charges against Goldman Sachs. He states that it would have been unethical had Goldman disclosed who the counter party(John Paulson) was on the trade. Ackman states that SEC laws require client confidentiality. Paulson himself did not know who was the long on the trade nor did he care.

I’ll go further, actually. Any fiduciary who cared about the identity of the seller, or who would have allowed the identity of the seller to influence his decision on the investment in any way whatsoever should be in jeopardy of losing his license. Investing is not a kiddie game of follow the leader … or shouldn’t be.

Trichet gave a speech decrying the propensity of investment managers to act in (what they believe to be) their clients’ best interest:

Gradually, the focus of finance shifted in the recent past. From its traditional role of helping the real economy to cope with economic risk, finance became a self-referential activity. The notion of “financial engineering” is a striking illustration of the shift of attitudes that spearheaded the changing focus of finance.

The ABACUS transaction is a good illustration of the point. ACA & IKB beleived that sub-prime borrowers were getting a deal favourable to the lenders. Paulson thought they were getting way too rich a deal. Goldman got between them, as brokers do, and created a security referencing the deals. Had this deal not gone forward, Paulson would not have been able to take a view on the market (it’s hard to short houses with mortgages!); the ACA/IKB money would have eventually have flowed into the sub-prime market, thus distorting the real economy even further. By creating a vehicle to interupt the inefficient allocation of capital to an overheated sector of the market, Goldman did the world financial system a great service, and deserves our thanks … but I suppose that profits on the books and expectations of future profits from similar deals will satisfy them.

James Hamilton of Econbrowser writes a post on the evolution of investment strategy at Reserve Primary Fund, which has attracted (so far) some very good comments. That post bulds on a very good post he wrote previously in which he traced the flow of funds into the US housing market.

The Greek bail-out conditions have been released. The effect on the total economy is fearsome:

*Economic contraction of 4 percent this year and 2.6 percent in 2011. Growth will return in 2012 at 1.1 percent and 2.1 percent in 2013 and 2014.

*Debt will rise from 133.3 percent of GDP this year to 145.1 percent in 2011, 148.6 in 2012 and peak at 149.1 percent in 2013. It is projected to fall to 144.3 percent in 2014.

*Budget deficit will shrink to 8.1 percent this year, 7.6 percent next year, 6.5 percent in 2012, 4.9 percent in 2013 and below the 3 percent demanded by the European Union in 2014.

There is some speculation that regulatory uncertainty is affecting the real economy:

Bank are increasing purchases of U.S. government securities to pump up profits while lending to businesses languishes near the lowest levels since credit markets started to freeze almost three years ago.

Holdings of Treasuries rose each of the past five weeks, an increase of $63.2 billion to $1.5 trillion, according to Federal Reserve data. At the same time, commercial and industrial loans climbed less than 1 percent to $1.27 trillion and are down 23 percent from the record high level in October 2008.
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“The risk of owning Treasures is lower than creating loans,” said Anthony Crescenzi, a market strategist and money manager at Newport Beach, California-based Pacific Investment Management Co., the world’s largest bond-fund manager. “There is no clarity on what the capital climates will be domestically or on a global scale with regulation coming down the pipes, which means banks will be banking their money in safer assets.”

Jerome Kerviel, the SocGen trader last discussed on PrefBlog on July 28, 2009, has written a book:

The five-billion-Euro rogue trader Jerome Kerviel will claim in a book this week that he was merely a “prostitute” in the “great banking orgy” and should be treated leniently in his trial next month.

Kerviel, 33, has broken a long silence with an autobiography and two newspaper interviews in which he says that his €4.9bn losses in rogue trades in 2006-07 should be blamed on a world banking industry “disconnected from reality”.

One reason not to ban shorting is that it’s a risky business:

Hedge funds that profit from falling shares have seen 34 percent of their value evaporate since February 2009, according to Chicago-based Hedge Fund Research Inc. Zions Bancorp., Sears Holdings Corp. and Wynn Resorts Ltd., among the favorites of so- called short-sellers, caused the biggest losses as their shares more than tripled.
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The combination of record-low interest rates, first-quarter economic growth of 3.2 percent and analyst estimates for the fastest profit gains in 14 years erased 94 percent of the HFRI EH Short Bias Index’s advance from June 2007 to February 2009. The better news for bulls is that the percentage of New York Stock Exchange shares that remain shorted is higher than any time before 2008, providing more grist for gains should speculators be forced to retreat.

Some recovery in the Canadian preferred share market today on continued heavy volume, with PerpetualDiscounts squeaking out a win of 5bp, while FixedResets were up 36bp.

I can’t resist picking on Basis Yield Alpha Fund (discussed yesterday; it’s crying about having bought Timberwolf notes from Goldman) a little bit more. It was among the earliest crunch casualties:

[2007-08-28] Basis Yield Alpha Fund, a hedge fund specializing in corporate and structured credit, on Wednesday filed for bankruptcy protection in the United States amid mounting losses from U.S. subprime mortgage assets, court papers show.
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Earlier in the month, the hedge fund firm told investors that losses at one of its portfolios had lost more than 80 percent in assets.

Award winning!

Basis earned the “Fund of the Year” title at the 2005 AsiaHedge awards and Macquarie Bank Ltd.’s “Skilled Manager of the Year” in 2004.

The lenders got paid:

Banks that lent to failed hedge fund Basis Yield Alpha, run by Australia’s Basis Capital, are likely to get all their money back and there could be a payment to investors, the fund said. Yield Alpha, which started the year with about $700m, has returned to solvency and can afford to repay banks which seized the fund’s assets when it missed margin calls earlier this year. The development is a result of continued payouts by structured credits in which Basis invested, apparently resolving one of the few situations in which lenders to a hedge fund lost money. Basis became the second hedge fund group this year to see one of its funds collapse amid the US subprime crisis, after the failure of two funds run by Bear Stearns.

Budget cuts in Greece may put Canada’s 1990’s experience to shame:

Greek Prime Minister George Papandreou said the country’s survival was at stake in talks to win a potential $159 billion European Union-led bailout in exchange for budget cuts denounced by unions as “savage.”
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Papandreou’s budget cuts may include a three-year wage freeze for public workers and eliminating two of their 14 annual salary payments, the ADEDY union said. Greece’s NET Radio reported that cuts could amount to 10 percentage points of gross domestic product. The deficit was 13.6 percent of GDP in 2009.
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Other deficit-cutting steps include increasing sales tax and raising the cap on the number of workers who can be fired to 4 percent from 2 percent, Kathimerini newspaper said, without saying where it got the information.

There is a sort-of encouraging trend for US banks:

Gerald J. Ford, who became a billionaire by purchasing distressed lenders during the last banking crisis, isn’t waiting around during this one for Sheila Bair’s Federal Deposit Insurance Corp. to offer him a deal.

After bidding unsuccessfully on several lenders seized by the FDIC, Ford said he’s pushing ahead with a $500 million injection for Pacific Capital Bancorp, a California lender that has said it may collapse. He’s among the private-equity investors who are now willing to buy banks without an FDIC guarantee on loan losses.

“We’re trying to do this one sooner rather than later,” Ford, 65, said in an interview yesterday. “We’ve been out there looking for a long time.”

Private-equity firms are going after live banks after complaining the FDIC put up too many obstacles and changed the rules for buying failed lenders, which are piling up at the fastest rate in two decades. Three days before Ford’s deal, private-equity firm Thomas H. Lee Partners LP agreed to pay $134.7 million for a stake in Sterling Financial Corp., a Spokane, Washington-based lender that’s still open after posting two annual losses.

Both deals depend on the U.S. Treasury Department agreeing to take a loss on the stake held by its bank bailout fund. The Treasury signed on to the Sterling deal yesterday, according to the bank.
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The Sterling accord calls for the bank to raise a total of $720 million and would give Boston-based Lee a 19.9 percent stake. The U.S. agreed to swap its $303 million stake for new securities valued at $75.8 million, Sterling said in a statement on April 29. Treasury spokesman Andrew Williams declined to comment and Richard Walsh Jr. at Thomas H. Lee didn’t immediately respond to a request for comment.

At Pacific Capital, the agency would be required to exchange $180.6 million for common shares at about 20 cents on the dollar, according to a statement. Pacific Capital has told investors it may not survive without new capital.

If Treasury is involved, then it’s a political issue – which it should be. However, the details of the deals would have to be examined very closely to see whether, all in, Treasury taking a loss now is better for taxpayers than the FDIC (maybe) taking a loss later.

The forces of do-goodism have received a mild rebuff:

Spain is lancing an 18 billion-euro ($24 billion) investment bubble in solar energy that has boosted public liabilities, choking off new projects as it works to cut power prices and insulate itself from Greece’s debt crisis.

Industry Minister Miguel Sebastian is negotiating reductions in subsidies for solar plants that would curb energy costs, a ministry spokesman said this week. Grupo T-Solar Global SA, the world’s biggest photovoltaic plant owner, shelved its Spanish stock offering three days ago. Solar Opportunities SL postponed a 130 million-euro deal due to be signed today.
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Spain is battling on several fronts to revive its economy and convince government bondholders it can avoid getting dragged into a Greek-style debt spiral after Standard & Poor’s cut its credit rating April 28. Solar-plant owners including General Electric Co. earn about 12 times what’s paid for power from fossil fuels. Most of that is a subsidy charged to customers.

You can only waste money if you’ve got money to waste! Unfortunately, the Smitherman subsidy aimed at making Ontario a hot-bed of world-class lobbying is still considered sane.

OSFI’s Mark White has delivered a speech titled P&C Reinsurance to Fit the Times – A Question of Balance; the limits and collateralization rules on Property and Casualty reinsurance are being revamped. This follows the Response Paper: Reforming OSFI’s Regulatory and Supervisory Regime for Reinsurance, published in late March.

Transcripts from 2004 show that the Fed was perplexed by the early housing boom; at the June meeting a researcher stated:

With regard to the question of owning versus renting, it depends to some extent on what is happening to interest rates because that changes that calculation at the margin. So it’s really important to plot any kind of valuation measure relative to an opportunity cost. Just showing the rent-to-price ratio I think would have been somewhat misleading; it’s really that gap that we think is the meaningful measure of valuation. And it looks somewhat rich, taking account of the fact that interest rates are relatively low and income growth has been relatively strong. I don’t want to leave the impression that we think there’s a huge housing bubble. We believe a lot of the rise in house prices is rooted in fundamentals. But even after you account for the fundamentals, there’s a part of the increase that is hard to explain.

SEC Commissioner Luis A. Aguilar has delivered a speech to the Investment Adviser Association Annual Conference

The Senate Bill, however, has abandoned its strong position in the face of determined lobbying by the insurance and brokerage industries. The revised version that was voted out of the Senate Banking Committee on March 22nd has eliminated the provision applying the fiduciary standard to brokers who provide investment advice. It would, instead, require a one-year study by the SEC concerning the effectiveness of existing standards for “providing personalized investment advice and recommendations about securities to retail customers.”

I continue to have concerns about this retreat from requiring a fiduciary standard for all who provide investment advice. First, I see no need to study the effectiveness of existing obligations for investment advisers. We already have a strong, workable standard that has been in use successfully for decades, and I would not support any attempt to weaken it. Second, as with the House Bill, I question why the protection of the fiduciary standard should be limited to “retail” customers. It is readily apparent from recent Commission enforcement cases — such as the cases involving auction rate securities — that all investors, including institutional investors, need the protection of the fiduciary standard. Third, I question why the study, as well as the reach of the House Bill, should be limited to “personalized services.” This qualification would narrow the range of clients that would be protected by the fiduciary standard, and I fear that it may become a loophole that would make it easy to avoid putting clients first.

This is completely insane. Institutional investors are acting as fiduciaries for the institutions they represent. How many layers of fiduciary responsibility are necessary? How many have to be paid for? Why do F-Class and discount brokerages exist in the first place? As discussed yesterday, an institutional investor will discuss trades with the sell side with the clear understanding that his counterparty wants to clean him out and send him home naked and hungry. Any buy-side investor who does not understand this – and does not understand that there is exactly one layer of fiduciary between the lions and lambs an that he’s it; or who does not devote independent analysis to each investment idea with precisely this fact in mind – should lose his license. I am sick to bloody death of politicians and regulators telling me that I’m too stupid to negotiate deals for my clients — and that only the sell side can be trusted with such important decisions.

Commissioner Aguilar’s background should be noted:

Prior to his appointment as an SEC Commissioner, Mr. Aguilar was a partner with the international law firm of McKenna Long & Aldridge, LLP, specializing in securities law. During his career, his practice included matters pertaining to general corporate and business law, international transactions, investment companies and investment advisers, securities law, and corporate finance. He also focused on issues related to corporate governance, public and private offerings (IPOs and secondary offerings), mergers and acquisitions, mutual funds, investment advisers, broker-dealers, and other aspects of federal and state securities laws and regulations.

A lawyer. Almost certainly has never been on the ‘phone and said “done” in his life.

A long, long month for Canadian preferred share investors shuddered to an end today with, wonder of wonders, gains for both PerpetualDiscounts (up 5bp) and FixedResets (up 3bp). Volume continued heavy.

PerpetualDiscounts now yield 6.35%, equivalent to 8.89% interest at the standard equivalency factor of 1.4x. Long corporates have returned +1.21% on the month (+6.29% on the year-to-date) and now yield about 5.7%, making the pre-tax interest-equivalent spread (also called the Seniority Spread) about 320bp, about the same as was reported April 28 and a massive jump higher than the +285 bp reported March 31.