Spot Markets Live Transcript (17/03/23)

10:59Good Morning SMLers!

I see some of you are nice and early 🙂

I’m back. It’s a Friday, my non-Politico day. And well, with what’s been going on, how could I possibly not do a session?

Anjuli will be back on Monday with Betaville’s Ben Harrington. (Though I’ve sent a courier pigeon her way, in case she does want to join us.)

But fear not, it’s not going to be a one-woman talking shop. I’m joined today by Frances Coppola, who really is the go-to guide for all things financial crisis.

Hello Frances!

It’s been quite a week. Best described with this meme:

Having Frances on is apropos because the way she came onto my radar originally was through her harnessing of the power of Twitter to analyse the original financial crisis.

Do you remember the hashtag #gfc2 I think it was?

So where to start. How are the markets doing today?

Major US indices finished in the green. Europe is up today.

BANK STOCKS: Mostly green, Last week’s panic seems to be over for the moment.

Soc gen up 2.4%, BNP Paribas up 0.66%, Deustche up 1.75%, Unicredit up 0.66 %

Charles Schwab weirdly in the red

EURO = 1.06 to the dollar following a wobble yesterday on Christine Lagarde raising rates. Go figure

POUND = holding strong against the dollar at 1.21

BONDS = US short-term yields up, long term down, UK yields down a bit, German short flat/uppish. Longer term down.

There was a hoopla because the vice president got allegedly “misquoted” saying that there were some concerns about European banks

The ECB taking about $500mn of USD liquidity

But let’s get to Credit Suisse

The bailout happened but the CDS are still up, and while CS is up relative to Wednesday, it’s not quite the recovery I was expecting

Here’s the stock courtesy of the FT data tool:

So why the disparity? Have people forgotten we are talking about SWITZERLAND??

Home of all the gold, all the Toblerone, all the Swiss watches, all the WEALTH….

There is no country in the world more prepared for a financial apocalypse. Until recently every house had a bomb shelter. And even all their tunnels are booby-trapped with explosives.

It’s got to remove the Matterhorn from its packaging

SWISS CRISIS ACCELERATES ON MARKET REALISATION TOBLERONE IS NO LONGER SWISS

And this I think kind of speaks of the problem.

Switzerland isn’t what it used to be.

While the economy is still more diversified than most (The Swiss, despite being known for their private banking, actually have a sizeable manufacturing industry and a good chunk of a real economy).

Even so, there’s no doubt even Switzerland’s balance sheet has been knocked by the Pandemic and recent sanctions events.

Also the Swiss banks are no longer the private refuge of secret Russian wealth. Its USP has been swatted.

The SNB has also been battered with financial losses. They would say it doesn’t matter because of how many years they were deeply in the money. But the trend is clear.

Switzerland has a lot of runway (more than most Eurozone countries) but it, like most of Europe. is on cash burn mode.

(Tho Cash Burn is by design what the central banks have been going for.)

 And in some ways also being turned into a full-reserve banking system.

It’s done far too many exotic things

This to me is the prelude to CBDC banking – but let’s get back to that later.

The rescue deal the SNB and FINMA came up with in the early hours of Thursday morning was in my opinion pretty ingenious

 Because it created a sort of positive circle boom loop in theory.

One of the issues they face is that after the original crisis Credit Suisse was divided in such a way to make sure its dangerous international ops could never pose a threat to the lovely bunkered up Swiss ever again.

That saw it divided into Holdco and Opco.

Would you want to invest in a bank as a foreigner that had basically explicitly told you it has no interest in protecting your claims before those of its own people/citizens first?

Trump had America First. The story of Credit Suisse is: SWITZERLAND FIRST.

The Swiss heart of Credit Suisse will live on forever. But the international part might not.

BUT! At the moment the rescue deal involves a fascinating scenario where Credit Suisse is going to buying OpCo senior debt of up to 3bn Swiss Francs.

Using a loan from the bank of mum and dad to basically cancel your kids debt is what’s going on here.

And in the process, the market rate of that debt – when the market realises it’s actually dealing with mum and dad not the kid – then goes up.

But there’s another smart component beyond creating a squeeze in your own debt.

Buying back the debt below par creates an immediate windfall, that despite everything translates to an overall equity injection into group as a whole despite the holdco/opco split.

And like a stablecoin it mostly just has to manage duration risk and liquidity risk.

It’s kind of become the core financial system’s equivalent of Tether. “Trust us honest we do have all the liquid assets we claim to have! And more!” but nobody believes them and keeps shorting the equity.

This makes sense because like Tether, it’s hard to trust a bank that has had so many associations with dodgy goings on. Think of Archegos, Tuna bonds, Greensill. Think of the dodgy HNWI clients.

But unlike Tether, it’s got the SNB and FINMA to endorse the fact that what it says is really true.

Regulators and auditors don’t always get it right

But anyway, the point is that we are dealing with a bank that has more liquidity than it needs in a banking environment in which it’s actually quite hard to have a bank run.

There’s only really UBS as a direct competitor, and having lived in Switzerland I can tell you that signing up for another bank account is not that easy. It’s certainly not as easy as getting a Monzo card.

So liquidity isn’t really the issue.

Imagine Tether being overcollateralised (i.e. having more liquid assets than it needs to meet run risk) and even then its equity being run to the ground by a broad panic due to “duration mismatch”. (Which apparenlty it doesn’t have)

JP Morgan floating AGAIN the idea of a sale to UBS

We’ve heard this many times before of course

Credit Suisse is on paper solvent, but one thing we saw with the US’s Silvergate Bank was that it was insolvent despite having a CET1 ratio in excess of 50%, because so much of its balance sheet was zero risk weighted.

FRB’s problem, like SVB, is lots of uninsured depositors that all herd together, and unrealised fair value losses on the securities backing those deposits

Yes it’s all funny money.

FRB is far from the only US regional bank with that kind of crippling duration mismatch and run risk, though.

So the banks have been borrowing loads from the Fed

Bloomberg says they have so far borrowed $11.9bn under the new BTFP scheme which allows them to pledge collateral at par instead of market price. And they have also borrowed unprecedented amounts from the discount window.

That’s because of the collateral uplift on the temporary funding scheme introduced by the Fed

It’s just with all the funding pressure yesterday sofr didn’t move from 4.55, where it’s been for weeks. I got a lot@of calls from traders complaining their sofr hedge wasn’t working since they funded higher at GC repo rate and no change in sofr

yeah exactly that it drives banks to the Fed instead of the repo market and thus distorts sofr

as if rates have never changed

Back to future rates for some banks?

Yes ineffect it is cheap lending for banks

Is that fair? Is this what post crisis legislation was supposed to deliver?

11:37Banks seem to be making a concerted effort to improve their liquidity in case of a SVB-style run on uninsured deposits. But they are using the Fed not the repo markets to do it. So that distorts SOFR and hence the FFR. Also, on Twitter, Bill Ackman complained that the Wall Street bailout of FRB was spreading risk to the biggest banks. He called for the FDIC limit to be lifted. This would effectively make all deposits liabilities of the state and end the Dodd-Frank bank resolution regime under which uninsured depositors can take losses.

So bill ackman is basically recommending the dawn of state banking

I can already see all sorts of conditionality being applied, like loans only for ESG friendly purposes and such.

after all what is KYC/AML if not control of deposit ownership and purpose

Not yet a CBDC but moving in that direction

11:43And the Chinese as well. And Russia too. I suspect the whole way we deal with money might change. It won’t be a fungible asset anymore, your personal credit, profile and importance to the system (and or cause) will be what determines the rates you get and how much access you get as a result.

I mean, it’s funny because none of this has resulted from any master plan conspiracy, it’s just the way things are organically going.

I think I might become a Bitcoin maximalist

Good point Robert

They wanted frictionless banking, but they got frictionless bankruns instead.

isn’t this what they wanted? the end of private banks and state money for all?

But while  I agree we need time for a lot of innovation to evolve, the problem with too much long-term patient capital is that it requires a cult mindset and continuous “belief” in the cause – and the problem with cult mindsets is that they don’t know how to let go when things aren’t really working. And this is what worries me. The Entrepreneurial state can go wrong. We saw that in USSR.

And that happened because of bad incentives. And I would argue the reason the private sector has let us down this time, in terms of managing those bad incentives, is because it too got skewed by too much cheap money.

Which is a good op to talk about the UK I think.

11:52What do you make of the HSBC takeover of SVB? I think nobody is talking enough about the security aspects, given HSBC is basically now an arm of the Chinese state. I was initially confused why they would want SVB, as they’re not a particularly tech friendly bank.

But someone pointed out how closely these these tech start ups operate with the UK government here.

The Bank of London put in a serious bid

Or it’s direct co-investing with The British Business Bank

Or it’s some other government programme.

And of course Rishi being the Tech/Goldman Prime minister, he can’t be seen letting either the financial system or the tech sector go down. That heightens the incentive to keep pumping money into crappy never going to deliver start-ups.

But what’s the moral hazard in bailing out failing tech firms? Surely even worse than bailing out failing banks.

He said the problem was that businesses like his had to bank with SVB UK because the big banks wouldn’t deal with them. So this is a game changer for them in terms of access to the main UK banking services.

he says now a big UK bank is effectively giving tech startups banking services

This wouldn’t have been a problem 7 years ago – but everything I read suggests they’re not our friends anymore

What’s in it for HSBC other than we did you a favour UK government, now you owe us one.

Just as CS will have to decide whether it is a safe boring Swiss bank or a freewheeling internationl bank.

but worth pointing out Credit Suisse is down nearly 10% since we started the session.

But I’d stress 10% of a small number is still a small number, and the percentages are going to get very distorted as a result.

 Nonetheless it is concerning I think, that the market hasn’t picked up on the divide. But I don’t want to finish without talking about DURATION RISK.

I spoke to Nouriel Roubini this week: Here’s the politico story I did on the back of it:

https://www.politico.eu/article/bad-bonds-risk-bringing-down-banks-warns-dr-doom-nouriel-roubini-svb/

That’s the dumbed down version. But what didn’t get in there as it was deemed too wonky for Politico (which is fair enough) was the following, which I am going to paste in here instead:

From a regulatory standpoint, Roubini said the system had been blind to the severity of the issue because banks, unlike other financial institutions — and despite all the crisis regulation — were never required to mark these assets to their present value, known as “mark-to-market” accounting. This, he noted, was a big regulatory failure.

I did not know that!

That Hold to maturity didn’t get M2Med unless it moved into the trading book.

Regulators weren’t convinced by the idea that central banks and rate rises were to blame. One former British central banker, who spoke to ME on the condition of anonymity, said for banks to have missed this sort of risk would have amounted to incompetence. “It’s bog-standard interest rate exposure, not sovereign default risk,” the banker said, but admitted that if some failed to do it then perhaps some others were exposed.

Roubini agreed banks could have taken better precautions by investing in shorter-duration Treasury or government securities that rewarded lower returns. “They took a huge risk and they f***ed up, big time,” he said.

Now S&P have come out saying they don’t think this is a risk, but Roubini I think makes a fair point that this market risk is somewhere in the system.

If it’s not the banks (and btw I also spoke to a former rates trader ahem who said that it was quite common for the HTM portfolios not to hedge btw), then it must be the hedgies, or maybe even the Asset managers, pension funds etc sitting on these floating rate exposures

And when you do that you crystallise the fair value losses you haven’t recorded in your accounts

It’s basically assuming the lifetime value of a HTM bond

So the Fed is taking the interest rate risk

It’s musical chairs by design

And in theory it’s only the banks or entities with the weakest links that will end up without a chair. Which is kind of the point. What’s the phrase about how we find out who is swimming naked when a crisis strikes?

I suspect no. In theory, it’s an asset manager, and has quite a thin layer of capital itself

And it speaks to duration risk on the UK government side (this is from my subscriber paywalled service.)

The Debt Management Office’s chief Stheemansaid on Wednesday that global financial markets were stressed and volatile and that despite everything the UK’s 2023/2024 financing needs were a very large amount of money, and this is why the agency was now focusing on issuing more short-dated gilt supply. “Short-dated gilts are the easiest way to raise large sums.”

The reason that’s concerning is that it puts government financing increasingly at the mercy of short-term market conditions. This would be coupled with an £7.5bn expansion of the government’s national savings & investment products to tap retail savings.

(That’s me quoting myself btw)

So the DMO moving ever shorter down the curve…

That’s pretty glaring no?

If the UK can’t finance long? And why on earth didn’t it take advantage of the QE zero rate era to do perpetual issuance? Or very long term date? I guess if it did there would be even more HTM risk out there.

Right now floating rate or short-term debt is less risky than long-term, ask any mortgage holder

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https://the-blindspot.com/spot-market-super-chat/

Thank you for joining! And thank you to Frances 🙂

https://discord.com/channels/951039693565333535/1084417167619018782