The Mother of Market Manipulation In Forex Trading?

With their often haughty attitudes and tendency to focus on short-term profits in the (unfortunately) correct belief that they are too big too fail, banks are easy targets for regulators and critics of capitalism-slash-globalism alike. However, I believe that there are still grey areas and that banker-bashing is not a morality play. It was perhaps inevitable after going after price-fixing in reference-rate (LIBOR) setting that regulators' attention would turn from money markets to the mother of all markets--foreign exchange. This time, the dragnet is not just led by US or UK regulators. Befitting the forex market's global reach, regulators the world over are closing in:

At least six authorities globally – the European Commission, Switzerland’s markets regulator Finma and the country’s competition authority Weko, the UK’s Financial Services Authority, the Department of Justice in the US and the Hong Kong Monetary Authority – are looking into allegations that bankers colluded to move the currencies market.

Banks including UBS, Deutsche Bank, Citigroup, Barclays, HSBC, Royal Bank of Scotland, JPMorgan and Credit Suisse have launched internal probes or received requests for information from regulators, according to people familiar with the situation. “This is an industry-wide issue,” a top executive at a large European bank says. “It is very complex but what is clear is that there are more than just a few big market players involved.”

Anti-globalization activists and Occupy Wall Street flunkies enjoy using gross figures (to paraphrase Carl Sagan, trilyuns and trilyuns) to cast the foreign exchange market as an enormous manifestation of financial depravity with no clear social purpose. Believe it or not, I myself question the benefits of sending money back and forth without a corresponding need for foreign exchange for "real" purposes such as settling trade in goods and services. My point though is that if you recognize that money is not really changing hands long-term but merely goes back and forth, volume in the foreign exchange market is much less impressive. Especially when you realize it's mostly just large banks buying and selling currencies among one another in 5-10 million dollar trades. Absent unusual circumstances, banks' positions generally square at the end of the trading day.

In any event, the much more informal nature of interaction among FX traders is what is causing regulators to look into "collusion":

The probes hit a business area that with $5.3tn in daily volume [sigh, there they go again] is the largest financial market in the world. “I always thought that if there’s a market that’s least manipulated it’s the FX market,” says one investor. Among bankers, the foreign exchange market is often viewed as the less sophisticated relative of the rates market, whose traders are seen to have a reckless culture on the forex trading floor.

In what is a largely unregulated and off-exchange market, traders have devised their own rules of what constitutes fair play. Traders say it is perfectly normal to chat to traders at other banks, sharing views on pieces of economic data due out, or simply gossiping. One senior trader told the Financial Times that it was normal for traders to share details of their positions with each other – so long as they did not name their clients.

So, for example, traders trying to work out whether the euro would rise or fall at the daily 4pm fix – a WM/Reuters benchmark that is crucial for many large client orders – might tell traders at other banks they needed to buy, or sell, euros. From there it could be a short step for the regulator to deduce collusion. One investor says he was very surprised to hear that traders would even share their positions with each other.

This one should be interesting: If found guilty, the stakes would naturally be much higher given the international character of this market and--pardon--its ostensibly larger volumes. That said, I am not certain whether having an informal trading culture is necessarily a smoking gun for culpability. Having been stung before, banks like RBS and Barclays are not exactly waiting around and are now jettisoning forex traders in the belief doing so may help them avoid penalties. We'll see...

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Hong Kong, World's Freest Economy 42 Years Running

I guess some things in life are inevitable: Canada's Fraser Institute, watchdog of economic freedom the world over, has designated the special administrative region (formerly a crown colony) of Hong Kong the world's freest economy for a 42nd consecutive year.  This matter is of special interest given how HK's most famous businessman is warning that too much clamor for political freedom may dent this vaunted reputation for economic freedom. Think of the political free-for-all Stateside--a moronic version of political expression from all sides--and you catch his drift.

Speaking of which, the United States is zooming down the index at a rapid clip. Talk about American decline:

Hong Kong again topped the rankings of 151 countries and territories, followed by Singapore, New Zealand, and Switzerland in the Fraser Institute’s annual Economic Freedom of the World report. The United States, once considered a bastion of eco nomic freedom, now ranks 17th in the world. “Unfortunately for the United States, we’ve seen overspending, weakening rule of law, and regulatory overkill on the part of the U.S . government, causing its economic freedom score to plummet in recent years.

This is a stark contrast from 2000, when the U.S. was considered one of the most economically free nations and ranked second globally,” said Fred McMahon, Dr. Michael A. Walker Research Chair in Economic Freedom with the Fraser Institute. 

Despite how bad things are in the godawful US of A, there is always worse. Venezuela ranks dead last. Fortunately for it, the likes of Cuba and North Korea were not surveyed for lack of data:

Venezuela has the lowest level of economic freedom worldwide, with Myanmar, Republic of Congo, Zimbabwe, and Chad rounding out the bottom five countries. Some nations, like North Korea and Cuba, could not be ranked because of a lack of data.

The Fraser Institute gives me a new tagline for the United States: America, where you can have as much TP as you want! So it's not quite the commercial success story that's Hong Kong, but things could be rather worse...

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Central Banks and Gold: Buy High, Sell Low

Despite strides made by central banks worldwide in recent years to control inflation, they are hardly infallible. Take the case of gold: With developed country central banks printing money like there's no tomorrow in order to jump-start their moribund economies--especially after the global financial crisis--you would expect that gold would benefit as an inflation hedge. Indeed, gold prices have increased many time over in the new millennium.

However, central bankers have not really benefited from the rising and now falling of gold prices since they are, after all, public financial managers of a sort rather than speculators. Owning nearly a fifth of all bullion extant, they are major market players. Yet, when it comes to trading gold, their timing tends to be off in the sense that they collectively buy high and sell low. Based on central bank gold holdings, Bloomberg calculates that their combined losses amount to $545 billion since the metal hit its peak in 2011:

Policy makers, who are responsible for shielding their economies from inflation, often mistime gold investment decisions, buying high and selling low. They were reducing holdings when bullion reached a 20-year low in 1999 and as prices as much as quadrupled in the next nine years. Central bankers became net buyers just before the peak in 2011.

There's more detail from Bloomberg on the extent of mistiming the markets:

Holdings were little changed from the start of 2008 through early 2009. Then, policy makers increased gold reserves as prices doubled and they have purchased a net 884 tons since the 2011 peak, International Monetary Fund data show. Russia was the biggest buyer, adding about 171 tons. Kazakhstan bought 67.2 tons and South Korea purchased 65 tons. Turkey’s reserves swelled about 371 tons in the past two years as it accepted bullion in reserve requirements from commercial banks.

In addition to buying when prices rose, central banks sold into slumping markets, disposing of about 5,899 tons in the two decades from 1988, equal to about two years of current mine supply. The U.K. auctioned about 395 tons from July 1999, a month before prices reached a two-decade low, through March 2002. Gold averaged about $277 as the country was selling. The Bank of England’s hoard of ingots and coins, including a bar smelted in New York in 1916, now totals 310.3 tons, or 13 percent of the nation’s total reserves.

Gold bugs will of course argue that continued money printing and developing states' inability to transition away from easy money policies will result in massive price rises in the future. If this scenario comes to pass, then seemingly large losses trading gold now will disappear. Again, though, it's more conjecture than fact at the moment.

Bottom line: there are good reasons why central bankers are where they are instead of at commodity trading desks.

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Divorces of (Real-Estate) Convenience in China

To paraphrase Steely Dan, this is not your Haitian but your Hainan divorce. Recent regulations in China intended to tamp down real-estate speculation have had an unintended consequence of separating happily married couples to take advantage of better tax benefits accruing to single persons:

Long queues of happy couples waiting to get married might be a common sight in Las Vegas. But lines of happily married couples waiting to get divorced? Only in China. In major cities across the country last month, thousands of couples rushed to their local divorce registry office to dissolve their marriages in order to benefit from fast-expiring tax breaks on property investments for unmarried individuals.

Local media reported long waits at registries in Beijing, Shanghai, Guangzhou and elsewhere as savvy investors sought to buy or sell a second home before the government introduced strict new regulations that would force married homeowners to pay hefty taxes on the sale of second properties.

The new regulations are designed to cool speculation in China’s feverish property market and are part of a package of measures that would require couples to pay up to 20% capital gains tax on the sale of second homes. But for determined investors, nothing gets in the way of a good bargain, and some quickly noticed that the 20% impost didn’t apply if the second home was bought before the couple were married — or after they got divorced.

It seems the authorities have caught on, though, and singles are increasingly unable to take advantage of the breaks sought after by the divorcees-of-convenience:

The divorce solution is extreme but it’s the kind of solution to which China’s put-upon middle classes have become accustomed...Of course, the country’s regulators have also taken notice of the long queues outside divorce registries and have acted to put a stop to the practice. In recent weeks, the government revised its regulations to increase the taxes payable by unmarried individuals selling a secondhand property, effectively cutting the most speculative investors out of the market.

Don't you just love it when marriage, profitology and authoritarianism collide?

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Brokebank USA: Living Paycheck to Paycheck

Gillian Tett of the FT has an interesting article that seemingly contradicts all of the happy talk about how "America is back" with stock markets hitting all-time highs. There is no particular difficulty understanding stock market speculation and bubbles: with the Federal Reserve practically giving money away, those who still have access to credit have parked the proceeds in stocks. With the last two rounds of all-time highs coming right before the dot-com bubble burst and the subprime crisis, let's say its implications may not be welcome.

Outside of the casino economy, however, there appears to be a new way to measure the desperation of Americans living in and with the real economy. When people are strapped for cash--and American personal savings rates are once more headed to zero--it is only to be expected that business activity peaks during paydays. That is, quite a lot of these Brokebank Yanks Americans are living, as the saying goes, from paycheck to paycheck:

“Consumers are living pay check by pay check, and they tend to spend accordingly. Then you have 50 million people on food stamps and that has cycles too. So for our business it has become critical to understand the cycle – when pay [and benefit] checks are arriving.” Sadly, it does not yet seem possible for outsiders (or journalists) to crunch the numbers across the entire economy. Large companies are very secretive about their big-data projects (this particular company, which produces many of America’s best-loved snacks, would not let me reveal its name). And though economists monitor macro trends in retail spending, they have not traditionally analysed micro spending swings.
Nevertheless, this story is not unique. Executives at Walmart, for example, have recently noted the rising impact of the “pay check cycle”; Kroger, another retailer, notes that the proportion of customers using food stamps has doubled, creating additional swings. And as these anecdotal tales mount up, they are interesting for at least two reasons. First, and most obviously, they should remind us of the silent, dark underbelly of economic pain that is stalking America’s current “recovery”. Most notably, it seems that the financial fragility of the poorer section of US society has risen sharply in recent years, as unemployment remains high and real incomes and household wealth fall. (A revealing survey published last week, for example, suggested that the wealth of Hispanic and black families declined by 44 per cent and 31 per cent respectively between 2007 and 2010.)

Measuring this financial fragility – like measuring micro-level spending swings – is tough, since it is not an issue that economists have traditionally tracked. But one in seven Americans (about 50 million) are now thought to be living in poverty and a similar number in “food insecure” households. Meanwhile, six million are using food banks and 47 million are on food stamps. And when the Brookings Institution tried to look at this fragility issue a couple of years ago, by analysing how many households could find $2,000 in a hurry, it concluded that a quarter of families had no access to ready, rainy-day funds. “Although financial fragility is more severe among low-income households, a sizeable fraction of seemingly middle-class Americans are also at risk,” the study concluded. 

Make no mistake: Americans are worse off now than they were under Bush, and in turn worse off under Bush than they were under (Bill) Clinton. Althoug retailers are naturally wary of disclosing the timing of their sales based on paycheck cycles, it could be gathered anonymously by an impartial entity alike the Bureau of Economic Analysis. Summing it up merely solidifies an image of growing discontent as income and wealth slide and cause changes in consuming habits as a reflection.

Once massive Fed purchases of bonds are discontinued, who knows how far down this entire edifice of casino economy will fall. Certainly, there is no foundation of a real economy to fall back on. 

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Worse Than Facebook's: Manchester United IPO

I guess all's bad that starts badly. In recent years as an erstwhile follower of the English Premier League, I have pondered the dastardly dealings of the rapacious Ameriscum owners of Manchester United [1, 2, 3]. When you hear the words "American" and "finance" mentioned together nowadays, your gut response is that something malodorous is afoot. And so it has been with the means the Glazer family came to acquire England's most storied football club--by leveraged buyout--and their subsequent "management" of it--by saddling it with hundreds of millions of dollars in debt.

Having failed in tricking Hong Kong and Singapore into issuing their IPO, they then headed to America where European professional football (soccer) enjoys less name recognition than the "lingerie football league." Wayne Rooney...who dat? There have been any number of dubious reasons cited for the IPO. Let's start with fundraising. Estimates of the debt saddled onto previously financially team finances vary from $650 million to $1 billion. Make no mistake that this disastrous IPO--again, worse than even the Facebook fiasco if you consider management's ludicrously optimistic opening price target--will fail to pay off any significant amount of IOUs even at the conservative $650 million level. Some background on what's happened: 

The failure of the shares to “pop” on its trading debut on the New York Stock Exchange was a second blow for the listing, after underwriters lowered the price to $14 late on Thursday, after pitching the offering to investors with a range of $16 to $20 [and you can call me "Bun E. Carlos"]. The stock eventually peaked at $14.20 and closed at $14 on turnover of more than 30m shares, then dipped below the offer price in after hours trade to $13.90.

It means the football club and its owners raised about $234m from the sale of 16.7m shares. That is nearly $100m lower than the $330m implied at the top end of the price range. The sale of the 10 per cent stake leaves the club with a market capitalisation of less than $2.3bn....

Mind you, of the comparatively puny $234 million (before IPO fees) raised by one of the world's most storied football clubs, half will go straight into the pockets of the reviled Glazer clan, leaving what, $650M - $117M = $533M in debt outstanding at the very least:

What has so outraged fans – aside from the continued Glazer ownership, of course – is that the Americans have backtracked on a promise that all the money raised from a stock listing would go to pay down the roughly $650 million debt the club carries from their leveraged purchase of the team. The new plan will see only half the money used to pay down the debt, leaving the rest for Malcolm Glazer and his sons to feast on

How pathetic was thing listing? The underwriter had to repeatedly intervene on Friday to keep its price above $14 (which it did anyway after hours):

According to one person familiar with the listing, Jefferies, the lead underwriter on the IPO, was forced to step in and buy the shares to prevent the stock slipping below $14 during the regular trading session. “Jefferies is stabilising the shares,” said the person.

These damn Yanquis already went home, yet they are hated even there. As even US media has noticed, it's a junk issue all around. First, "shareholders" will receive no dividends. Second, they will receive no voting rights. Add those to continued Glazer "management" and a stock price sure to drop in the coming days and, well, I guess those who were dumb enough to buy this stock will get what they fully deserve for such an idiotic purchase.

I just hope these dupes don't have the cheek to sue anyone for their lack of due diligence in making such a pathetic purchase. What a joke.

13/8 UPDATE: But don't take my word for it. Your humble blogger notes that other commentators have duly followed in my footsteps in making comparisons to the Facebook fiasco. ESPN quotes an independent financial analyst who believes the fair market value of this joke of a stock is $4.97, or less than a quarter of what the (delusional) Glazers believed the stock was worth. Based on a 10% flotation and a share price of $4.97, the market value of Manchester United would be even less than what the Glazers acquired the club for by borrowing hundreds of millions back in 2005:

The club's current share price is $14 but millions of shares have been bought by the seven banks underwriting the IPO, and PrivCo calculated their true value is just $4.97 each - giving United a value of around $800 million, rather than the $3.3 billion that they want The Glazers paid just under £800 million to complete their takeover in 2005.

"Manchester United's valuation using several accurate valuation methodologies is a mere $4.97/share, only about one third of its $14/share offering price (which is also the price at which it closed its first trading day, but only because IPO underwriters placed large open-market bids at $14/share to prevent the stock from closing below the IPO price)," PrivCo said.

So let me get this straight: Had the underwriters not gamed the market by trading it at $14/share, it would have collapsed from day one? There are few things you can be certain of in this life, but that this stock will dive in the coming months Facebook-style is pretty much guaranteed. I guess we'll be seeing how the market judges the Glazers' value-added [sic] over the course of eight financially miserable years.

Somehow, I do not feel sorry for anyone involved in this disaster

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Catholic Church on Finance and Financial Crises

I once again came upon the pre-Benedict XVI Compendium of the Social Doctrine of the Church (2004) while looking for something else. While Marginal Revolution's all-purpose commentator Tyler Cowen may be no fan of Caritas in veritate, he does state that "our versions of capitalism and democracy are still based squarely on Christian ideas, and I believe this marriage of liberalism and Christianity has been for the better." While I generally agree with this statement, I do take issue when he characterizes much of Catholic Church writing as circuitous and by committee in mentioning a laundry list of ways to improve, say, globalization.

To gain a better appreciation of Caritas in veritate, for instance, Cowen should read some of its predecessors that provide a lot of the specificity he is after. For instance, the social teaching embodied in the Compendium was quite accurate in describing the dynamics of separating the financial economy from the real economy and the dangers it posed well before the subprime crisis occurred. The Compendium even manages to prefigure global economic economic imbalances:

369. A financial economy that is an end unto itself is destined to contradict its goals, since it is no longer in touch with its roots and has lost sight of its constitutive purpose. In other words, it has abandoned its original and essential role of serving the real economy and, ultimately, of contributing to the development of people and the human community. In light of the extreme imbalance that characterizes the international financial system, the overall picture appears more disconcerting still: the processes of deregulation of financial markets and innovation tend to be consolidated only in certain parts of the world. This is a source of serious ethical concern, since the countries excluded from these processes do not enjoy the benefits brought about but are still exposed to the eventual negative consequences that financial instability can cause for their real economic systems, above all if they are weak or suffering from delayed development.[760]

The sudden acceleration of these processes, such as the enormous increase in the value of the administrative portfolios of financial institutions and the rapid proliferation of new and sophisticated financial instruments, makes it more urgent than ever to find institutional solutions capable of effectively fostering the stability of the system without reducing its potential and efficiency. It is therefore indispensable to introduce a normative and regulatory framework that will protect the stability of the system in all its intricate expressions, foster competition among intermediaries and ensure the greatest transparency to the benefit of investors.

What economics blogs like Cowen's talk about nowadays were already identified by the Church in 2004: the rise of the financial economy; the disconcerting pursuit of deregulation and innovation of financial markets in the developed world having a blowback potential on the developing world when the system fails; spiralling notional amounts of derivatives products; and the search for institutionalizing mechanisms to foster systemic stability. To be fair to the Roman Catholic Church, can the doubting Tyler cite another religion that has devoted significant attention to such matters, let alone provided meaningful social teaching in thinking about them?  

As some would say, it is a whale of a document in its insight. It is better to level criticisms from a position of knowledge than from ignorance about widely disseminated documents alike the Compendium.

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Like Attracts Like: Glazers Plan US Man U IPO [?!]

I have been following the plight of the reviled Glazer clan, erstwhile owners of Manchester United Football Club, as they raise the ire of English football fans with their vile "Ameriscum" shenanigans, featuring the worst sort of financial chicanery their home nation has to offer. Their 2005 original sin of acquiring the storied club via leveraged buyout saddled it with onerous debt, all the while forcing supporters to pay inflated ticket prices. 

In August of last year we received news that the Glazers planned to improve the financial position of the debt-laden club by listing it in Singapore. Supposedly they would be able to capitalize on the large global Man U fanbase, especially in Asia. To which I said...

Are there really Singaporeans and other Asian investors dumb enough to fall for these Stupid Financial Tricks? Given the Glazers' track record, they may soon hire away Tim Geithner to tell investors how their investments in Man U are safe, all the while spouting obvious nonsense about "strong footballing finances" policy. I guess you can take the Ameriscum out of bankrupt America, but their capacity for financial foul play to paraphrase FIFA never changes. 

Well folks, score it IPE Zone 1, Ameriscum in Southeast Asia 0. (And Tim Geithner has indicated that he won't serve another term as Treasury secretary even if Obama is elected, so I've even found him a hot job prospect.) Apparently, the ever-devious Glazers didn't find the terms and conditions in the relatively freewheeling Lion City to their liking. Reuters has a useful recap of the extremely questionable reasoning behind the Glazers' retreat to the land where Stupid Financial Tricks are actually a source of pride in certain circles:

One of the sources said Manchester United had always planned to position itself as a global media business rather than a sports franchise, suggesting that a US listing would make more sense. The club's American owners, the Glazer family, are well known in the US as owners of American football team the Tampa Bay Buccaneers, as well as First Allied Corp, which owns and leases shopping centres. Conversely, they are extremely unpopular in the UK, which could have made a London listing difficult.

The Singaporean exchange authorities have not exactly been forthcoming with the idea of offering shares that give few to no voting rights to shareholders. In other words, it would have been another raw deal from these Yanks in the same way that they screw over Man U fans year in and year out with inflated ticket prices. So it's back to America where they hope to shaft folks in that genuine American fashion:

U.S. investors are also familiar with the dual-class share structure that was under discussion for Manchester United's Singapore listing, having seen it used by household names such as Google and Facebook. The Glazers are understood to have wanted to sell Class B shares with limited or no voting rights to maintain a level of control of 95-100 percent.

That structure was said to be one reason why they opted for Singapore in the first place, as, unlike Hong Kong, the exchange was happy to agree to the format, and for the club's Class A shares to be quoted but not traded. However, the issuer is understood to have become frustrated with long delays in approval from the SGX, even after it had indicated it would have no problems with a dual-class share issue.

Going back to the US homeland of Stupid Financial Tricks--the UK is obviously similar, but fan hatred precludes a Man U listing there--has its drawbacks. The most obvious of these is that few Yanks actually follow world football, preferring homegrown cornpone "sports" [yee-haw!] alike neo-primitivist NASCAR racing or, to mimic the Glazer's claim about being a global media conglomerate, "World Wrestling Entertainment." Fanbase numbers certainly aren't encouraging:

A U.S. listing might earn the company a better valuation as a media business, since it has contracts for broadcasting rights as well as its own television channel. However, it is unlikely to achieve the original goal of putting shares in the hands of a wide base of United fans. A source said the original aim of the Singapore listing was to create "a pan-regional platform for retail investors".

Singapore had seemed the ideal location, as it provided a way to reach retail investors in one of its biggest fan bases, Indonesia. When the Singapore listing was still under consideration, the importance of Asia to the company, with much of its growth coming from Asian merchandise sales, had been heavily emphasised during marketing to investors. The club claims to have 659 million supporters worldwide, of which 325 million are in Asia Pacific and 55 million in Indonesia. It counts just 34 million fans in North America, where soccer has yet to build a significant supporter base.

The sad thing for Man U fans is that while the Glazers have already brought their financial chicanery home where it belongs, they still retain the club. For that we will still have to wait. And oh yeah, Glazers go home.

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Rogue Traders, or Le Grand Casino Francais

I've long supported the claim that London, not New York, is the financial capital of the world [1, 2]. I guess it's a backhanded compliment to London's claim to be the world's financial capital that earthshaking events for US financial concerns more often than not emanate from there instead of New York. Think of AIG's disastrous credit default swaps (CDS) being written in London. Or, to be current, JP Morgan Chase's London Whale messing around with CDS indices.

However, this trail of casino capitalism lacks another element to the story: So London may in fact be laxer and thus more attractive than New York when it comes to freewheeling financial frivolity, but where exactly do these budding masters of the universe come from? To be sure, the "rogue trader" can be from anywhere: Think of "pioneers" such as Japan's Yasuo Hamanaka, England's Nick Leeson and so on. As of late, though, there has been a distinctly Francophone flavour to these questionable characters, most recently Bruno Iksil, the London Whale himself.

Christopher Dickey of Newsweek does us a favour by describing how France has been a hotbed for graduates in the dark arts of financial engineering. The French have always had a penchant for mathematics, thus it's no surprise that recent years have witnessed its application in fields where the profit motive is strong. That said, the country itself has (thankfully) cast a weary eye on laissez-faire banking practices and has limited the wiggle room for budding casino capitalists. So, while various French universities produce financial engineering graduates dreaming of fame and fortune, their skills are much more in demand in what Bonaparte once called a nation of shopkeepers:

London is a magnet for France’s young financial professionals. They often prefer to work in what they call “Anglo-Saxon” environments (New York is another). Job openings are more abundant, salaries and bonuses aren’t so heavily taxed, and the culture admires success rather than envies it, as often happens in France. And there’s one advantage New York can’t match: in London, French transplants are blessed with easy weekend commuting via the Eurostar, which now runs from the heart of Paris to the heart of London in two and a half hours. The young City of London veteran, an El Karoui [quant goddess] disciple who prefers not to have his name in print, recalls his years at a major British bank where his team eventually numbered roughly 40 members, at least 75 percent of whom were either French or had a French educational background. Among the elite schools they attended: Paris VI with El Karoui, the ESSEC international business school, and the Université de Paris Dauphine—three of the many French temples of financial learning where formal mathematics is emphasized.

Though I suspect the JP Morgan Chase incident was unique in being a known entity with formal backing from the heads in New York, there may be a grain of truth to those far more junior than the London Whale being made scapegoats characterized as villainous "rogue traders." It is not entirely obvious why large positions without sanction can so readily be amassed in the absence of an infrastructure designed to accommodate such large positions:

The traders, the structure guys, and the quants have all seen the numbers sort themselves out before, and they may be tempted to imagine they’ll see it happen again this time. The outside world hears only about the derivatives that go wrong, while careers are built on the ones that go right. That’s how things have gone in the past, anyway. At JPMorgan Chase, hundreds of billions of dollars were in play, and Iksil was part of a unit that had earned $5 billion in the last three years. Given the extent to which teams are involved in the work of refining and improving the products, the idea that a “rogue trader” can make billion-dollar bets all on his own is, to say the least, improbable. It’s worth noticing that other heads besides Iksil’s are rolling already at JPMorgan—and they’re not French.

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Shariah Banking: Islamic Financial Services Board

The Commonwealth news outlet Global Briefing has an interesting interview with Jaseem Ahmed, secretary-general of the Islamic Financial Services Board (IFSB). Although its history is not very long, there has been a veritable explosion of interest in shariah banking, especially given the renewed resurgence of Middle East oil exporters and dissatisfaction among a number Muslims about the state of conventional banking services. You also have fast-growing, mostly Islamic states elsewhere alike Indonesia and Malaysia which have significant demand for such services.

To be sure, many like myself think that shariah banking is not quite a novel practice. While charging riba (interest) is technically not permitted alongside other conventional practices, instruments offered by shariah banking concerns are often merely interest and so forth by other names. That is, the concepts remain the same even in practice even if they fall under different rubrics [1, 2]. 

But again, who am I to disagree when shariah banking obviously floats the boat of so many others? As the interviewee notes, shariah banking is now a mainstream activity with IFSB members including the BIS, IMF and the World Bank (which perhaps begs the question of just how different it is, but I digress):
----------------------------------

How does Islamic finance differ from its conventional counterpart?

I would start with what it shares with conventional finance. The underlying values of Islamic finance are universal and common to Judeo-Christian beliefs, and are derived from the body of Islamic law – known as shariah. Islamic financial transactions must comply with shariah, and thus must be both lawful and ethical. One way in which Islamic finance differs is that there is a ‘nega­tive list’ of what is prohibited by shariah, and this includes contracts that involve selling things that are not owned by the counterparties (hence no short selling), gambling, hoarding and dealing with un­lawful goods and services, which would include alcohol and pornog­raphy. A central difference is the prohibition on interest or usury, and this is linked to the idea that money cannot generate money – that there must be an underlying productive activity or real investment that generates a return. Amongst the most significant differences in the two systems is the attitude towards debt and the burden it places on individuals and societies. Islamic finance does not prohibit debt, but it con­strains debt and requires that it be encompassed by ethical con­siderations that impose obligations on both borrower and lender. Loans must be without interest; there is an obligation to return loans, but there is also an obligation on the part of the creditor to take the borrower’s circumstances into account. This is relevant for today’s post-crisis world in which the global economic recovery is weighed down by the huge burden of consumer debt.

What is the role of the IFSB? Where does its authority come from and which institutions are subject to it?

The principal role of the IFSB is to contribute to the soundness and stability of the Islamic financial services industry through the issu­ance of standards and guiding principles for prudential supervision and regulation of the industry. In this sense, our role is essentially similar to the roles played by the three global standard-setters for conventional finance: the Basel Committee for Bank Supervision, the International Organization of Securities Commissions and the International Association of Insur­ance Supervisors. The difference is that we combine the roles of the three bodies into one organisation. At the same time, we have a mandate to promote cooperation in our member jurisdictions. We also have a major work programme to assist in the implementation of the standards we issue. When the IFSB was established in 2002, it had nine founding members. Today, we have 189 members across 43 jurisdictions. One third of our members are regulators or supervisors, while two thirds are private sector institutions, so we capture the broad base of the global Islamic finance industry and help to provide a com­mon frame of reference. However, we do not have formal authority over our members – implementation of our standards is voluntary. The IFSB is headed by a council that comprises 21 members, of whom 20 are governors of central banks. This is similar to the structure of the Basel Committee and underscores the intent to put Islamic finance on a comparable footing in terms of its global fi­nancial architecture to conventional finance. I should add that the Bank for International Settlements is a member of the IFSB, as are the IMF, the World Bank and the Islamic Development Bank.
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So in Western-speak, I suppose the emphasis on the "real economy" and productive activities would equate to avoidance of rentier capitalism or casino capitalism. Hmm...I too may be warming up to shariah banking if it really does deliver on those fronts. Given how "co-opted" Islamic banking has been by mainstream finance in a Gramscian sense, you have to wonder if it's all that different, though.

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Asshat Stripping: RBS' Fred Goodwin De-Knighted

Pardon the title but I thought it appropriate for the subject matter. At any rate, here's something you don't see everyday. Typically, HM Queen Elizabeth knights not only those who've worked to improve social conditions in the Commonwealth alike Sir Bob Geldof and Sir Bono but also captains of industry. Of the latter we've had many Great British Industrialists who've been knighted--especially during the New Labour years. In 2004, one of those who were knighted was none other than the Royal Bank of Scotland's erstwhile agent of moral hazard, Fred Goodwin, for his 'services to banking." That was when New Labour was still in power and the neoliberal turn towards financialization of the British economy was still regarded as something favourable in the inner sanctums of the UK elite. It's taken some time, but it seems that the political winds in the growth-free UK have shifted enough to make this remarkable declaration come true. To be sure, it's been long-awaited one.

The winds of change are always blowing, and they just carried Fred away. I suppose that making the taxpayer foot a GBP 45.5 billion bailout (about $71.4B) can make even Her Majesty the multibillionaire several times over cringe. And of course there's the not-insignificant matter of putting the financial health of the nation into dire straits while placing one of its largest industries into disrepute.

The official announcement goes as follows:

It will soon be announced in the London Gazette that the Knighthood conferred upon Fred Goodwin as a Knight Bachelor has been cancelled and annulled. This decision, not normally publicised in advance, was taken on the advice of the Forfeiture Committee, which advised that Fred Goodwin had brought the honours system in to disrepute. The scale and severity of the impact of his actions as CEO of RBS made this an exceptional case.

In 2008 the Government had to provide £20bn of new equity to recapitalise RBS and ensure its survival and prevent the collapse of confidence in the British banking and payments system. Subsequent increases in Government capital have brought the total necessary injection of taxpayers' money in RBS to £45.5bn.

Both the Financial Services Authority and the Treasury Select Committee have investigated the reasons for this failure and its consequences. They are clear that the failure of RBS played an important role in the financial crisis of 2008-9 which, together with other macroeconomic factors, triggered the worst recession in the UK since the Second World War and imposed significant direct costs on British taxpayers and businesses. Fred Goodwin was the dominant decision maker at RBS at the time.

It's funny how the former Fred "The Shred" Goodwin who acquired his moniker for cost-cutting now has to pay the ultimate price in terms of honours by being himself asset stripped. He joins a not-so-illustrious list of others having this dubious distinction alike Comrade Bob Mugabe of chicken commercial fame and Romanian dictator Nicolae Ceausescu. Political misdeeds usually get you ejected more readily, but Sir Fred's business disaster was so huge as to be non-ignorable politically.

There's been a whiff of discontent--obviously from now old-line New Labour stalwarts--about the lynch mob quality of it all. Why pillory just Fred the Shred when there were so many others culpable in these financial misdeeds? I suppose it's to set an example. Then again, I'd personally prefer to have him hanged, drawn and quartered alike in the olden times--albeit for the modern high treason of the gravest sort of financial misdeed. Just as honours should go to the biggest contributors to the welfare of the Commonwealth, so too should they be removed from its most egregious offenders.

Unlike what some others say, it's not simply a boiling over of anti-business sentiment. There is a line that must be drawn when boundaries are crossed on the assumption of being too big too fail alike RBS during the global financial crisis. To those given more wealth or power on this earth comes more responsibility; that's all.

Indeed, it's a very British humiliation.

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Long Time Coming: Int'l Derivatives Court, Now Live

Here's something that I found in the LSE employee newsletter, of all places. Given the often legalistic culture of Western economies, it is no surprise that they prefer the settlement of economic disputes in formal fora. The WTO's dispute settlement mechanism exemplifies that for trade. Meanwhile, the likes of the International Court for the Settlement of Investment Disputes (ICSID) and the International Chamber of Commerce (ICC) Court of Arbitration do the same for disputes involving foreign investors and governments. Think of Hugo Chavez's latest fulminations against international energy companies.

Whatever you think of derivatives or financial instruments that derive their underlying value from that of another instrument, there is no denying their proliferation. Trade volumes have simply exploded, with notional amounts of existing contracts now amounting to the hundreds of trillions of dollars. Some even implicate them in both the US subprime crisis and the European debt crisis. Warren Buffett famously called them "financial weapons of financial destruction"--before taking out some derivatives of his own and losing money on them in the process. Ah well, I guess that it underscores their ubiquity.

But, along with their ubiquity comes the realization that these are not often technically straightforward contracts to interpret--especially the more esoteric derivatives. Hence, the lack of many nation's courts of the necessary technical understanding means that there is much scope for interpretation, especially when things go awry. From the press blurb:

A tribunal devoted to settling the world's most complex and contentious financial cases opened for business today in The Hague. Comprised of a group of judges and other international legal and market experts with more than 2,000 years of relevant collective experience, the P.R.I.M.E. Finance Disputes Centre will take on cases which are too specialised for many national or local courts.

It also aims to create an internationally-agreed body of law in areas where different countries often hand down conflicting rulings. It was the brainchild of Professor Jeffrey Golden of LSE's Law Department and he is chairman of its management board. The tribunal expects to handle multi-billion-dollar cases in fields such as derivatives and structured financial transactions. Its role is all the more urgent, argue its founders, because of the uncertainty created by world financial crisis.

P.R.I.M.E. Finance (the Panel of Recognised International Market Experts in Finance) is backed by the Dutch government and will hear cases at the Peace Palace in The Hague, where it will be formally opened by Jan Kees De Jager, Finance Minister of the Netherlands. Its advisory board is chaired by Lord Woolf, former Lord Chief Justice of England and Wales.

Our Professor Golden [great name, that, for what he does] explains the rationale for P.R.I.M.E. in terms of there being a need to reconcile often conflicting opinions passed down in national bodies:

Professor Golden said: "This project emerged against a backdrop of financial market crisis and legal uncertainty. The amounts at stake are staggering, the legal and contractual issues are complicated and the volume of complex cases is increasing.

"To date, national courts and ad hoc arbitration have been unable to produce a settled and authoritative body of law. Decisions are unpredictable, too decentralised, often taken too slowly and not always enforceable in other jurisdictions. The global marketplace needs a more innovative method of settling disputes and we believe this tribunal is the answer."

P.R.I.M.E. sounds too close to S.U.B.P.R.I.M.E. to my tastes. All this finance makes me want to cry U.N.C.L.E., but there is definitely a niche market to be found here. Even a necessary one insofar as there has been no great climbdown in the use of these instruments.

Lastly, do note that P.R.I.M.E. is not a free-floating body but one which aims to institute the arbitration rules set forth by the UN Commission on International Trade Law (UNCITRAL).

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Chicago Merc Now Takes RMB for Futures Trading

The interesting thing about the United States at the current time is that it's the new Italy. Whereas Italy would continually add zeros to the dollar/lira exchange rate to compensate for a lack of competitiveness via depreciation, that route is no longer there since it joined the Eurozone. The US, however, is not similarly compelled to act in a responsible way. Hence its installation of a helicopter dropper as Fed chairman who plays a lead role in bombarding the world economy with dollar emissions in what has come to be known as "international currency war."

Step by step, however, alternatives are emerging. The dollar certainly is suspect as a store of value, "strong dollar" policy pronouncement hilarity aside. A particularly interesting new application now lies in the realm of futures trading. It turns out that the largest US futures exchanges are now allowing the use of RMB for margin. As you know, the Chinese have been experimenting with internationalizing the use of its currency for currency exchange, trade settlement and other purposes in financial centres such as Hong Kong and Singapore. Not one to be left behind, London is lobbying PRC authorities to some extent for similar privileges as the PRC experiments with making its monies more readily available.

So it is probably of little surprise that another heartland of casino capitalism has jumped the gun in allowing yuan held by clients in Hong Kong-based accounts to be used for topping up trading accounts. Welcome to the future...

CME Group Inc, operator of the world's leading energy, grains and precious metals markets, said it will start accepting the Chinese currency traded in the offshore market as collateral on all its exchange-traded futures products. By expanding its list of collateral to include the offshore yuan, or "CNH" as it is popularly known, a Hong Kong depositor can now use CNH deposits to take positions in a variety of futures contracts traded on the CME, a new avenue for using these funds.

Jeremy Hughes, a spokesman at the CME, said the exchange will cap the amount of CNH it would accept at $100 million. CME and European lender HSBC have built the operational framework enabling HSBC Hong Kong to hold CNH deposits from CME clients and to use these deposits as collateral, it said.

As futures trading goes global, so too should the currencies that may be used:

CME is rapidly increasing its China-focused business. In August, it launched dollar-yuan futures for investors wanting to bet on the yuan's direction. It even launched a micro-version of the yuan futures to attract more clients.

CME, which operates the Chicago Mercantile Exchange, the Chicago Board of Trade, and the New York Mercantile Exchange, gets the bulk of its revenue from trading fees and sales of market data. Volume originating outside the U.S. now accounts for 22 percent of all CME Group volume, it said in a statement.

China's move to liberalise the offshore yuan market has picked up since its launch in June 2010. At the end of October, total yuan deposits in Hong Kong banks swelled to more than 600 billion yuan, representing nearly 10 percent of all deposits in Hong Kong banks, compared with less than 1 percent in January 2010.

So goes the story in the new age (RMB) as folks become more reluctant to hold sewage ($).

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