Seriously Fun Times in Banking

[youtube://http://www.youtube.com/watch?v=5Hfmaar81jc 450 300]

“After U.S. and allied warplanes destroyed a key bridge carrying 15 oil and gas pipelines in northern Iraq during the 2003 conflict there, officials in Washington and Baghdad made its postwar reconstruction a top priority. But instead of spending two months to rebuild the span over the Tigris River at an estimated cost of $5 million, they decided for security reasons to bury the pipelines beneath it, at an estimated cost more than five times greater.

What ultimately happened there tells the story — in a microcosm — of a substantial chunk of the massive nine-year U.S. effort to reconstruct Iraq, the second-largest such endeavor in history (only  the U.S. investment in Afghanistan has been larger).

Studies conducted before the digging of the new pipelines started showed that the soil was too sandy, but neither the Army Corps of Engineers overseeing the effort nor the main contractor at the site, Kellogg Brown and Root (KBR), heeded the warning.  As a result, “tens of millions of dollars [were] wasted on churning sand” without making any headway, as Special Inspector General for Iraq Reconstruction Stuart W. Bowen Jr., described it in his recently published final report on the U.S. occupation.

By the time the digging effort was halted, and the old bridge and piping repaired — more than three years later — the bill had reached more than $100 million. “Because of the nature of the original contract, the government was unable to recover any of the money wasted on this project,” Bowen said.  More than $1.5 billion in oil revenues may have been lost as a result of the delays. KBR did not respond to a request for comment.

The episode is, in short, emblematic of the contracting abuses and mismanagement that wasted at least $8 billion of the $60 billion spent by Washington on Iraq’s post-war recovery, under the guidance of what Bowen describes in his report as “adhocracy” largely controlled by the U.S. military — a structure  that never “coalesced into a coherent whole” and often failed to achieve its aims.

With the U.S. military now gone from Iraq and the 10th anniversary of the invasion only days away, Bowen’s retrospective summary of his audits offers useful insights into how well the U.S. government managed its occupation and the legacy it left behind. The mostly downbeat tone is set early, when the report summarizes final interviews Bowen conducted with 44 top U.S. and Iraq officials, who addressed the simple question of whether the decade-long project left Iraq in better shape.

Most of the Americans he spoke to were rueful, noting multiple miscalculations, poor planning, disorganization in Washington, and inadequate consultation with Iraqis. James Jeffrey, the U.S. ambassador in Iraq from 2010 to 2012, told Bowen that “the U.S. reconstruction money used to build up Iraq was not effective … We didn’t get much in return.”

Only retired Army Gen. David Petraeus, who commanded U.S. forces in Iraq before shifting to Afghanistan and then briefly directing the CIA, was ebullient, claiming the effort had brought “colossal benefits to Iraq.”

Virtually every senior Iraqi, in sharp contrast, said the decade-long U.S. occupation was beset by huge misspending and waste, and had accomplished little. The biggest footprint Americans left behind, most of these Iraqi officials said, was more corruption and widespread money-laundering. Such a huge investment “could have brought great change in Iraq,” Prime Minister Nuri al-Maliki said, but the gains were often “lost.”

Billions here, billions there

The bill for Iraq is hard to divide into neat categories, but in rough terms: Washington spent more than $15 billion to try and improve Iraq’s power and water supply, revive its schools, and repair its roads and housing; it spent another $9 billion on health care, law enforcement, and humanitarian assistance; it spent $20 billion training and re-equipping Iraqi security forces; it spent roughly $8 billion to enhance the rule of law and battle narcotics; and it spent $5 billion helping to prop up the economy….”

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“People have learned their lesson.

We’ve been told that so many times since the near-death experiences of the financial crisis. Bankers and regulators have flipped roles: now it’s the bankers who are cautious and their overseers who are aggressive.

Details of JPMorgan Chase’s multibillion-dollar trading loss — brought to light by a riveting and devastating report from the Senate Permanent Subcommittee on Investigations — demonstrate what a sham that is. Bankers aren’t acting cautious and chastened. Risk managers aren’t in the ascendance on Wall Street. Regulators remain their duped and docile selves.

What we now know about the incident is that, as the cliché has it, the cover-up was worse than the crime. The losses out of the London office weren’t enough to take down the bank. But as they were building, JPMorgan traders fiddled with risk measures and valuations. The bank’s risk managers defended the traders and pooh-poohed the flashing red signals. The bank gave incorrect information to its regulator. Top executives then made misleading statements to shareholders and the public. All the while, the regulator served its typical role of house pet.

As JPMorgan got into trouble, traders and the responsible executives treated the valuation of trading positions, made up of derivatives, as a puppet made to do what they wanted. The traders pulled on this calculation or that to change the way they were valuing the position to reduce the losses.

Ina Drew, the head of the bank’s chief investment office, referring to how the positions were calculated, asked an underling if he could “start getting a little bit of that mark back.” She then asked if he could “tweak at whatever it is I’m trying to show.” She might believe it is exculpatory that she prefaced the comment by saying to do it “if appropriate” and that the tweak should come with “demonstrable data,” but any idiot working for her would know exactly what she meant: create some rationale to manipulate the valuations to make things look better than they really are.

This discussion did not make it into the bank’s internal report on the incident from January. Imagine that.

Yes, Ms. Drew was ousted. But her actions show that what financial executives do postcrisis when faced with trouble is no different than what they did precrisis. In testimony on Friday, in a quiet voice, she deflected blame up to Mr. Dimon and down to her traders, claiming she was kept in the dark.

The Senate report makes it clear that JPMorgan misled shareholders and the public, particularly on its April 13, 2012, conference call.

That call, which makes up a particularly damning portion of the Senate report, featured a haughty Jamie Dimon famously dismissing the problem as a “tempest in a teapot.”

Of course, it was no such squall. In the call, the chief financial officer at the time, Douglas L. Braunstein, made a number of what appear to be misleading statements about the trades. Mr. Braunstein said the trading decisions were made on a very long-term basis, when in fact the traders were shuffling positions almost daily to make profits and then to disastrously “defend” their positions from further losses. Mr. Braunstein reassured investors and analysts in the call that the trades were vetted by the firm’s top risk managers, when they were not (though top officials, including Mr. Dimon, knew about repeated risk-measure breaches).

This means “there was risk oversight” for the office that made the trades, and the trading “positions needed to comply with limits,” a JPMorgan spokesman, Joseph Evangelisti, said. “We were not aware at the time of all the deficiencies in the risk organization” of the trading group….”

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“Cypriot leaders held crisis talks on Wednesday to avert financial meltdown after rejecting the terms of a controversial European Union bailout, turning instead to Russia for help.

Banks on the Mediterranean island may never reopen, Germany warned after lawmakers late Tuesday turned down a $12.9 billion deal that would have seen Cypriots lose up to 10 per cent of their bank deposits.

Thousands of Cypriots withdrew savings over the weekend fearing the deal might pass, emptying ATMs and sending global money markets into a steep dive.

Banks were ordered to remain closed after finance officials predicted a run on savings and a huge outflow of capital if they were to reopen.

Germany’s finance minister, Wolfgang Schaeuble said major Cypriot banks were “insolvent if there are no emergency funds,” according to a BBC report, meaning savers might lose all their money if no deal was reached.

Greek media reports suggested the Cyprus Popular Bank had been sold to Russian investors, but the Cypriot government denied such a deal, Reuters said….”

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“Following the Cypriot parliament’s total rejection of the controversial bank bailout deal reached by EU finance ministers over the weekend, the ECB released a statement saying that it would provide liquidity to Cyprus “within the existing rules.”

Emergency Liquidity Assistance is the ECB’s last recourse for euro zone banks that find themselves unable to raise funding in the open market through bond issuance.

However, as several pointed out following the statement, Cypriot banks probably don’t even qualify for ELA, which means the ECB may have really been saying something more along the lines of “don’t count on it.”

Deutsche Bank economist Gilles Moec explains in a note to clients.

“The provision of ELA funding is normally conditional on the receiving banks remaining intrinsically solvent,” says Moec. “With the prospect of a bank run starting immediately after the expiry of the bank holiday, this condition hardly holds.”

In fact, Moec writes that the ECB is probably even incentivized NOT to step in and provide assistance for the Cypriot banking system: …”

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“…..The continuing loud cautions of “Don’t Tread On My Entitlements”, and the imminence of a majority of voters not paying any taxes, recalls yet again the rather prophetic but apparently fictitious quote of Alexander Tytler.  According to many internet sources, Tytler is reputed to have published this stunning quote in a book called “The Decline and Fall of the Athenian Republic” (ironically said to have been published in 1776 when something interesting was happening across the pond).

“A democracy cannot exist as a permanent form of government.  It can only exist until the voters discover they can vote themselves largesse from the public treasury. From that moment on, the majority always votes for the candidates promising them the most benefits from the public treasury, with the result that a democracy always collapses over a loss of fiscal responsibility, always followed by a dictatorship. The average of the world’s great civilizations before they decline has been 200 years. These nations have progressed in this sequence: From bondage to spiritual faith; from spiritual faith to great courage; from courage to liberty; from liberty to abundance; from abundance to selfishness; from selfishness to complacency; from complacency to apathy; from apathy to dependency; from dependency back again to bondage.” …”

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“Here’s an interesting point via SocGen that I haven’t seen many people discuss.  Notice in the chart below how commodities have stopped responding to the QE effect while equities have not:

“The effect of QE on commodities (if any) vanished earlier than for equity markets. During each of the first
two quantitative easing phases carried out by the Fed, commodities appreciated by over 25%. However, following the announcement of QE3 in Sept. 2012, commodity prices declined (-7% for the CRB index), a reminder that they remain largely driven by economic cycles rather than central bank actions (Gold being the notable exception). In fact, equity markets now seem to be the only asset which benefits from abundant central bank liquidity.

Conclusion: The all-time high reached by US equity markets last week can be attributed to the fact that the only major asset class which benefits from the current “risk-on” mood of investors is equities in developed market.” …”

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Interesting commentary from David Rosenberg here regarding negative real rates and the tendency for excess to occur.  I’d say this time is slightly different in that the low real rates of the past tend to coincide with better credit conditions, but this time might find a different enabler in QE’s supposed “wealth effect”.  Here’s Fed Governor Jeremy Stein first:

“For example, a prolonged period of low interest rates, of the sort we are experiencing today, can create incentives for agents to take on greater duration or credit risks, or to employ additional financial leverage, in an effort to “reach for yield.” An insurance company that has offered guaranteed minimum rates of return on some of its products might find its solvency threatened by a long stretch of low rates and feel compelled to take on added risk. A similar logic applies to a bank whose net interest margins are under pressure because low rates erode the profitability of its deposit-taking franchise….”

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“DETROIT (AP) — General Motors is recalling nearly 34,000 Buicks and Cadillacs in the U.S., Canada and elsewhere to fix a problem with the automatic transmissions.

The recall affects Buick LaCrosse full-size cars and Cadillac SRX crossover SUVs from the 2013 model year.

The company says a software problem can cause transmissions to unexpectedly shift into sport mode. That can override any slowing effect from the transmission, increasing the risk of a crash….”

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“DETROITFederal safety regulators are investigating reports of fuel leaks in about 250,000 Mercedes-Benz E-Class cars.

The National Highway Traffic Safety Administration and Mercedes have received 533 complaints from owners about a strong odor of gasoline, mainly after refueling. The agency says fuel may be leaking from the upper part of the gas tank….”

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Preferential treatment for a tycoon by the head of the IMF is being investigated. Today investigators raided the Paris apartment of Christine Lagarde…

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“NEW YORK (MarketWatch) — Treasurys fell on Wednesday, pushing yields higher for the first trading session since the controversial deposit levy was announced as part of Cyprus’s bailout package, as the market looked ahead to the conclusion of the Federal Open Market Committee meeting.

Federal Reserve Chairman Ben Bernanke is scheduled to speak in a press conference at 2:30 p.m. Eastern.

Yields on the benchmark 10-year U.S. Treasury note 10_YEAR +2.21%  rose 4 basis points to 1.95%. Yields move inversely to prices and one basis point is one one-hundredth of a percentage point.

Yields on the 30-year bond30_YEAR +1.31%  rose 3 basis points to 3.16% and yields on the five-year note5_YEAR +2.68%  rose 2 basis points to 0.802%.

Uncertainty in Cyprus increased the safe-haven bid for Treasurys as the Cypriot parliament rejected the deposit tax on Tuesday, a requirement for the 10 billion euro bailout. While the rejection of the bailout could lead to a collapse of the Cypriot banking sector and an exit from the euro zone, the European Central Bank said Tuesday it would provide liquidity.

Investors will closely watch the FOMC statement and Bernanke’s address for any discussion about the risks associated with quantitative easing. The Fed purchases $85 billion in Treasury and mortgage debt each month and has linked the length of its bond-buying program to a substantial improvement in the labor market. Recent economic data, including the latest jobs report, suggest the U.S. economy is improving and continued progress could lead to an earlier-than-expected slowing of asset purchases….”

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“There may not have been any major market malfunctions recently, but mini flash crashes still happen nearly every day.

Stock exchanges don’t publicly release data about these mini crashes — when a stock rapidly plunges then rebounds — but most active traders say there are at least a dozen a day.

Dennis Dick, a proprietary trader at Bright Trading in Detroit, said he stopped tracking them because they happen so frequently.

While none have been as disruptive as the “flash crash”of 2010, or the ones that marred the IPOs of the BATS exchange and Facebook in 2012, they highlight the fragility of markets increasingly dominated by high frequency traders who count on fancy algorithms to make a quick profit.

So far this year, these mini crashes have taken place in shares of Apple (AAPL, Fortune 500), Berkshire Hathaway (BRKA, Fortune 500), insurance broker Aon Plc (AON,Fortune 500) and apparel maker Hanesbrands (HBI).

On Jan. 25, Apple’s stock plummeted nearly 2% in the last minute of trading, with roughly 1 million shares changing hands. That’s nearly 10 times the volume during any other time that day, and the move briefly wiped out as much as $7 billion of Apple’s market value. Apple managed to recover more than half of that in the final few seconds of trading.

Other publicly traded companies have experienced even more extreme swings. On Feb. 5, Hanesbrands’ stock dropped 3% in less than half a second before quickly rebounding…..”

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“BEIJING—Suntech Power Holdings Co., STP 0.00% once the world’s largest supplier of solar panels, is involved in bankruptcy-court proceedings in the eastern Chinese city of Wuxi, the company said.

Suntech said Wednesday that a group of eight Chinese banks filed a petition for insolvency and restructuring of its main operating subsidiary in China in the Wuxi Municipal Intermediate People’s Court in Jiangsu province.

Wuxi Suntech told the court it wouldn’t file an objection to the petition, Suntech said, adding that the court will decide whether to accept the petition in the next few days. If the petition is approved, Suntech will continue to produce solar products to meet customer orders, Suntech added….”

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“Applications for U.S. home mortgages tumbled for a second week in a row last week as interest rates continued to climb to seven-month highs, data from an industry group showed on Wednesday.

The Mortgage Bankers Association said its seasonally adjusted index of mortgage application activity, which includes both refinancing and home purchase demand, fell 7.1 percent in the week ended March 15.

The index of refinancing applications dropped 8 percent, while the gauge of loan requests for home purchases, a leading indicator of home sales, slipped 3.9 percent….”

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“JPMorgan Chase has reached a $546 million settlement with the trustee liquidating the failed broker-dealer unit of MF Global, a court filing showed, an amount that will help repay the brokerage’s customers.

As part of a settlement reached with James Giddens, the trustee who is tasked with liquidating MF Global Inc, JPMorgan will pay $100 million that will be made available for distribution to former MF Global customers.

JPMorgan will also return more than $29 million of the brokerage’s funds held by the bank, while releasing claims on$417 million that was previously returned to Giddens.

“The settlement agreement resolves claims by the trustee and customer representatives against JPMorgan that would otherwise result in years of costly litigation between the parties with an uncertain outcome,” Giddens said in the filing….”

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“U.S. mortgage finance company Freddie Mac is suing more than a dozen banks for losses from the alleged manipulation of the benchmark interest rate known as Libor.

Bank of America Corp, JPMorgan Chase,UBS and CreditSuisse are among the banks named as defendants in the lawsuit.

Freddie Mac, which invested in mortgage bonds and swaps tied to U.S. dollar Libor, claims the banks colluded to rig the benchmark from 2007 to 2010, according to the complaint, which was filed March 14 in U.S. District Court for the Eastern District of Virginia.

The banks worked together to artificially lower the U.S.dollar Libor “both to hide their institutions financial problems and to boost their profits,” the complaint said. The lawsuit seeks undetermined damages.

Freddie Mac and Fannie Mae, the two government-controlled mortgage companies, may have suffered more than $3 billion in losses as a result of Libor manipulation, according to a memo obtained by Reuters in December.

The memo was sent to the Fannie and Freddie’s regulator,the Federal Housing Finance Agency, by its inspector general.The watchdog urged the regulator to consider legal action.

Bank of America, JPMorgan Chase, UBS, Credit Suisse and other banks did not immediately respond to calls for comment or declined to comment.

More than a dozen banks have been under scrutiny by authorities in the United States, Japan and Europe over claims they altered the Libor…..”

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People are going to do what they must to survive….

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