Thursday, October 30, 2008

NYC Mulling Hedge Funds, Infrastructure Plays

"New York City’s Comptroller William Thompson is reportedly mulling investing some of the city’s $100 billion pension fund into U.S. infrastructure funds and hedge funds."

Expect other pension fund managers to do the same.

Infrastructure will be the next big theme over the coming years. Investment made here will be like getting into commodities in 2002. You'll make a fortune in the right vehicles and companies.


Jeff said...

Mike: Here's some more currency stuff from Ambrose Evans-Pritchard, from the London Telegraph. I've subscribed to his RSS feed. You might want to get him on the show, as he seems to know the currency markets like white on rice! I saw on CNBC yesterday that Verizon had to pay 9% to roll over some long term debt. What happens when the analysts factor interest rates like that into their earnings models for every company in the S&P 500?

Australia's central bank said it had intervened twice in the last two days in an attempt to halt the 'Aussie's' slide, but its efforts have been swamped by fears that the country faces a severe crunch as commodity prices collapse and Australian banks come under attack.

Commonwealth Bank, Colonial First State, Axa, and Perpetual have all frozen redemptions from mortgage funds and property trusts, leaving hundreds of thousands of pensioners and depositors unsure whether they will be able to access their money. The government has so far refused to extend a blanket guarantee for these sorts of funds, causing a run on the system by frightened depositors.

BNP Paribas warns that Australia is dangerously exposed to the global credit crunch since its external liabilities have reached 60pc of GDP, double the level the United States. The country was running a current deficit of 6.2pc of GDP the peak of the commodity boom, when its coal, minerals, and farm export were fetching bumper prices. It may now have to tighten its belt. "We think there is a risk that it could face some of the foreign funding difficulties we have seen in Iceland," said Mr Redeker.

Australia is the most prominent of the victims as the Japanese "carry trade" goes into violent reversal, but much of the world has been affected. The yen has risen by 40pc against the euro and sterling since late July, and has doubled against most emerging market currencies.

For years, the "carry trade" was a bountiful source of cheap international credit. Everybody from Japanese life insurers to day-trading housewives and foreign hedge funds borrowed at near zero interest rates in Tokyo to chase higher yields abroad, often with high leverage. This fuelled a bond bubble and boosted property prices as far afield as Australia, South Africa, Brazil, and indeed Britain. In effect, the country's policy of monetary stimulus during its battle against deflation leaked out into the global system. It has proved an unstable source of money. The elastic has now snapped back violently, setting off a cascade of distress selling as Japanese investors are forced to sell their foreign holdings to meet margin calls and shore up depleted balance sheets at home. This is turning into a self-feeding spiral.

"Right now the IMF is too small to meet the foreign currency liquidity needs of the larger emerging economies. We're in a dangerous situation and there is the risk of extreme moves in the markets, as we have seen with the Brazilian real. I hope policy-makers understand how serious this is," he said.

The IMF, led by Dominique Strauss-Kahn, has the power to raise money on the capital markets by issuing `AAA' bonds under its own name. It has never resorted to this option, preferring to tap members states for deposits.

The nuclear option is to print money by issuing Special Drawing Rights, in effect acting as if it were the world's central bank. This was done briefly after the fall of the Soviet Union but has never been used as systematic tool of policy to head off a global financial crisis.

"The IMF can in theory create liquidity like a central bank," said an informed source. "There are a lot of ideas kicking around."

For now, Eastern Europe is the epicentre of the crisis. Lars Christensen, a strategist at Danske Bank, said the lighting speed and size of Ukraine's bail-out suggest the IMF is worried about the geo-strategic risk in the Black Sea region, as well as the imminent risk a financial pandemic. "The IMF clearly fears a domino effect in Eastern Europe where a collapse in one country automatically leads to a collapse in another," he said.

Mr Christensen said investor sentiment towards the region has reached the point of revulsion. The Budapest bourse plunged 10pc yesterday despite the proximity of an IMF deal Meanwhile, Standard & Poor's issued a blitz of fresh warnings, downgrading Romania's debt to junk status, and axing the ratings Poland, Latvia, Lithuania, and Croatia.

The agency said Romania was "vulnerable to a sudden-stop scenario where capital inflows dry up or even reverese", leaving the country unable to cover a current account deficit of 14pc of GDP.

Romania's central bank has taken drastic steps to defend the leu, squeezing liquidity so violently that overnight rates shot up to 900pc. But there are growing doubts whether this sort of shock therapy can obscure the fact that economic booms are now turning to bust across the region.

Merrill Lynch has advised to clients to take "short" positions against the leu. "The fundamental picture suggests that Romania may face a currency crisis in the near term, similar to what Hungary has gone through over the last week," it said. The bank also warned that Turkey and the Philippines are vulnerable

The Baltic Dry Index measuring rates for coal, iron ore, and grains, and other dry goods plummeted below 1000 yesterday, down 92pc since peaking in June.

The daily rental rates for Capesize big ships have dropped $234,000 to $7,340 in weeks, leaving operators stuck with heavy losses on long leases. Empty ships are now crowding Singapore and other global ports.

"It is extremely serious, " said Jeremy Penn, president of the Baltic Exchange. "Freight rates have never fallen this steeply before. It is telling us that world trade in raw materials has slowed dramatically. Shippers are having genuine difficulty obtaining letters of credit from banks," he said.

The shipping crisis is another blow to the City of London, which earned £1.3bn in foreign receipts from the industry last year. Maritime services employs 14,500 staff in the UK.

It is also beginning to cause strains in Greece, where the yield spread between Greek 10-year bonds and German Bunds rocketed to a post-EMU record of 123 basis points yesterday.

Ominously for Greece, this is the first time its debt has broken its tight linkage with Italian bonds – which traded at spreads of 100 yesterday. The markets are now clearly singling out the country as the most vulnerable of the EMU members.

"This shipping slowdown is a worry for Greece, " said Chris Pryce, a director of Fitch Ratings, which downgraded the country's credit outlook last week. Fitch warned that Greece has a public debt of 92pc of GDP, leaving it no safe margin for fiscal stimulus in a downturn.

Greek shipping families control a third of the global freight market for bulk goods, with operations split between London and Pireaus.

Mr Pryce said Greek banks had expanded rapidly in the Balkan region and Turkey, with heavy exposure to Serbia and Macedonia. "They saw this as a growth region, but they may be thinking differently about it now," he said.

Michael Klawitter, a credit strategist at Dresdner Kleinwort, said the market flight from Greek bonds marked a dangerous moment for the euro. "There has been a massive widening of spreads. We are no longer having a theoretical discussion about the viability of monetary union. People are really concerned for the first time," he said.

The interest spread between Italian 10-year bonds and German Bunds has reached 108 basis points, the highest since the launch of the euro. Traders say it is nearing levels that risk setting off a an unstable chain reaction.

In effect, Italy now has to pay 1.08pc more than Germany to entice pension funds and other investors to buy its state debt. It is unclear whether this is a temporary spike cause by a lack of liquidity in the bond markets, or whether it reflects concerns over the state of Italian finances.

Italy's public debt is the third largest in the world after the US and Japan. At 107pc of GDP, it is the highest of any major economy in the eurozone and almost double the 60pc limit stipulated by the EU's Maastricht treaty.

Morgan Stanley calculates that Rome needs to roll over €198bn next year as a clutch of maturities comes due. This compares with €173bn for Germany, €135bn for France, and €57bn for Spain. Four EU states have had to cancel bond auctions this month due to a buyers' strike.

"The outflows from Italian bonds have been relentless over the last year," said Simon Derrick, currency chief at the Bank of New York Mellon. "It has reversed all the inflows since 2003 and the intensity does reflect significant concerns about the level of public debt."

Risk consultants Stratfor warned week that Unicredit has exposure of $130bn in central Europe and the Balkans, while Intesa has lent $50bn to the region.

Silvio Berlusconi, Italy's premier, insists that Italian banks are in fine health and have largely avoided investments in US toxic assets, but Italy's financial stability committee has held three sessions over the last two weeks to discuss banking tensions.

Italy's financial daily Il Sole reported that the central bank is mulling moves to inject capital into the banks. It described a "sharp exchange" between Mario Draghi, the bank's governor, and finance minister Giulio Tremonti, who denies that there is a problem. The Italian cabinet is meeting tomorrow to discuss details of a state-rescue package.

On the currency markets, the euro plummeted by six cents against the dollar today after the EU's eurozone confidence index crashed to a 15-year low.

"The message to the European Central Bank is that it must cut, cut, and cut again," said Julian Callow, Europe economist at Barclays Capital.

"The ECB clearly made an error by raising rates to 4.25pc in July, but the banking crisis over recent weeks has brought it home to them how serious this is. We expect them to cut by half a point next Thursday, and go down to 2.25pc by next summer," he said.

In Eastern Europe, the brief respite following Hungary's $25bn rescue package from the IMF was already giving way to fresh angst. Romania was forced to deny persistent rumours that it was seeking an emergency loan from the fund.

The country's prime minister, Calin Popescu Tariceanu, may have inadvertently fuelled fears when he told local TV that the global economy was sinking like the Titanic. "On the lower levels, people are in water up to their necks, while on the upper floors the music still plays on, just as it did in the film. And those people listening to the people listening to the music, not knowing that the Titanic has hit an iceberg, that's us here in Romania. That's just what we're like," he said.

mike norman said...

Thanks Jeff.

For now seems unlikely IMF will use the "Nuclear Option" (printing SDRs) as long as our Fed is extending loans to an expanding list of countries. Moreover, the loans to the ECB is without limit. However, if the Fed decides to curtail this, then there may be no choice but for the IMF to go the nuclear route. In any case, shaping up to be the mother of all meltdowns.