November 15, 2009

Market Insights – 15 November 2009

Dear Friends & Fellow Investors

This week's market insights comes in a short format; due to time constraints I'd like to focus on just a few topics.  For questions, please email: .  Enjoy reading!

Weekly Snapshot
• Bank of China hints at possible revaluation of Renminbi (FT)
• Gold reached a new record high of $1,123.50 on Thursday (
• The US trade deficit in September 2009 increased 18.2%, to $36.5 billion (ESA)
• Bank of England’s projects a robust recovery approaching 4% by the end  2010 (Economist)
• Industrial production up by 0.3% in euro area (Eurostat)
• Euro area GDP up by 0.4% and EU27 GDP up by 0.2% (Eurostat)
• US consumer prices in September eased to a 0.2% gain after jumping 0.4% in August (Bloomberg)
• China’s industrial output grew by 16.1% in October compared with a year earlier (Economist)
• US producer prices fell 0.6% in September after rebounding 1.7% the month before (Bloomberg)

Chart Of The Week  

Having just returned from a week in Europe I was looking forward to catching up on the latest financial news. Plenty of newsworthy developments since the beginning of this month: Gold and other commodities at ever higher levels, a double-digit US unemployment rate at the highest level in nearly 30 decades and continued discussions as to whether general asset prices are approaching bubble levels again.  The most amazing and shocking news came from the beloved banking sector again.  In case you don’t dislike bankers enough yet, read on...

Europeans came together in Berlin to commemorate the 20th anniversary of the fall of the Berlin Wall.  The leaders of major nations united in speeches calling the fall of the Berlin Wall a victory of freedom over oppression.  United in their appraisal of the importance of this event, they called on a renewed spirit of cooperation to tackle the problems of the 21st century.  While such lofty humanitarian and political goals are be highly commendable, it was again a banker topping everyone and everything else stated.  None other than Lloyd Blankfein, the new Superman of finance, would be worthy of the ultimate raison d'ĂȘtre. In an interview with the Times, Mr. Blankfein was quoted as saying: I'm doing 'God's work'.  This is certainly a big step up from our perceived notion of the recently quoted "Government Sachs" alluding to the massive influence that Goldman Sachs may have over politicians in the US and perhaps elsewhere.  I cannot seem to find the right words in expressing utter disgust and shock in the face of such an outrageous statement.  In the style of the popular comedy show Saturday Night Life, all I can think of is: Really!?!

It’s not food, not a drink, not a restaurant and it does not refer to Coco Chanel either.   CoCo’s  a.k.a. Contingent Convertible Bonds are yet again a new financial product (a new financial WMD?) this time dreamed up by Lloyd’s Banking Group.  The idea has been floating around for some time but Lloyd’s Bank has been the first to materialize some £9bn in capital from this new convertible bond.  Convertible Bonds have been around for a long time but this particular type raises some serious questions.   Traditional Convertible Bonds provide an incentive for Bond holders by giving them an upside potential.  If the company is doing well, they can be converted into equity, giving the investor a chance to profit from the stock appreciation.  As such, the investor foregoes a higher interest rate in exchange for taking part in that upside potential. 

CoCo’s by contrast convert into equity when a pre-determined measure of the Bank’s strength is breached.  Until then, the bank would pay a higher dividend from the normal bond yields to compensate the investor for the potentially higher risk. 

Given the recent history of bank failures and stock values that in some cases left equity holders with 10 cents on their invested dollars (or less), one would think that such an endeavour  would be a hard sale.  Yet, investors seemed to take up  the £9bn issue.  

From my perspective, these new instruments are as dangerous as CDO’s and CMO’s (the derivatives that caused the credit crisis).  The flaw in the concept is the notion of incentivizing failure versus success.   The bank issuing this bond can initially raise capital albeit at a higher cost for them.  Once the capital is raised, the incentive for the bank is no longer to do well, but to “fail” because that would trigger the Bond version to Equity, enabling them for forego interest payments.  I see no sense in purchasing these CoCo’s; the odds are clearly in the bank’s favor giving a negative incentive to perform.   I suggest you treat yourself to some hot cocoa instead. 

Recommended Lecture Series   
George Soros gave a series of lectures at the Central European University in Budapest, sharing his views on financial markets from a practical and philosophical perspective. He unveiled the concept of reflexivity as the main cause of what determines market prices.  His explanations are are conceptually abstract and may be difficult to digest.  However, the lectures give a rare insight into the mind of one of the most successful investors and show his desire to do be a recognized as a philantropist rather than a trader.  The entire series is somewhat lengthy but particularly the lecture on financial markets is well worth a view.  Click on the image below to view the series as well as the transcripts.


Good luck & good trading!

Neither the information nor any opinion contained in this communication constitutes a solicitation or offer by us to buy or to sell any securities, futures, options or other financial instruments or to provide any investment advice or service. Each decision by you to do any investment transactions and each decision whether a particular investment is appropriate or proper for you is an independent decision to be taken by you. In no event should the content of this communication be construed as an express or an implied promise, guarantee or implication by or from us that you will profit or that losses can or will be limited in any manner whatsoever. Past results are no indication of future performance.

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