Friday, April 23, 2010

Deep knowledge

The FT covers the case against the rating agencies and highlights the fact that there was knowledge within the institution about the reputational risk being taken. The FT suggests that this was profit-motivated, which is certainly part of the story. However, it may also be the case that these dispirit, lower-level voices could not be hear above the jingling of the tills ringing in new business. The challenge of governance is to give more weight to these voices.

he e-mails show signs of the agencies’ knowledge of the impending financial collapse. But in the interests of maintaining market share both S&P and Moody’s felt the need to continue their practices – even though many employees had misgivings.

“Screwing with (the model’s) criteria to ‘get the deal’ is putting the entire S&P franchise at risk – it’s a bad idea,” said one S&P employee. Another S&P employee described the drive for revenue and its effect on the relationship between banks and rating agencies as “a kind of Stockholm syndrome”.

Yet another captures that alleged conflict of interest almost perfectly: “Rating agencies continue to create an even bigger monster – the CDO market,” wrote an S&P staffer. “Let’s hope we are all retired by the time this house of cards falters.”

The agencies also failed to incorporate their growing awareness of fraud in the lending industry into their rating practices, as it was seen as a potential block to revenue.

In January 2007, an S&P analyst rating a Goldman Sachs CDO with subprime loans issued by Fremont Investment and Loan, which had just stopped using 8,000 of its brokers because they were agreeing loans with some of the highest delinquency rates in the country, asked superiors whether to take Fremont’s reputation into account.

Saturday, April 10, 2010


Pepy's diary 15th March 1666

So I to the office all the morning, and at noon to the ‘Change, where I do hear that letters this day come to Court do tell us that we are likely not to agree, the Dutch demanding high terms, and the King of France the like, in a most braving manner. The merchants do give themselves over for lost, no man knowing what to do, whether to sell or buy, not knowing whether peace or war to expect, and I am told that could that be now known a man might get 20,000l. in a week’s time by buying up of goods in case there should be war.

Friday, April 09, 2010


John Kay

But it strains language to breaking point to describe CDS transactions as anything but gambling. The traders in AIG’s financial products division were inheritors of the amusements of Edward Lloyd’s coffee shop rather than the values of Swiss farmers.

I am not sure that this is an accurate description. It seems to me that AIG was taking the risk from the Swiss farmers and receiving the income for total collapse that they did not believe could happen. However, when all the crops failed, AIG could not compensate the farmers and had to be bailed out by the government. There is speculative trading there, but it is not being done by AIG.

Tuesday, April 06, 2010


The first and second laws of thermodynamics: work uses energy and systems are inefficient. A good example with Google search in New Scientist. However, as if often the case when talking about thermodynamics and economics, there is no accounting for the fact that society, unlike the real world, can create something out of nothing.

Things like economies of scale and network effects have confounded people from Smith to Malthus to Marx. In this case, there is a need to compare the cost (lightbulb for one hour) against any possible benefit.

Currency swap

The FT reports that Greece may try to tap US investors with a US dollar-denominated bond, giving some evidence of institutional features that may justify currency swaps.

Greece’s most recent sales of euro-denominated bonds have attracted lower levels of interest and the government is now aiming to issue in dollars, targeting emerging market investors who are attracted by higher yields.

Bond model

Here are some links to research on the yield curve.

Saturday, April 03, 2010

Though funding costs are high, there is ample demand at the long end of the market. The FT reports.

Indeed, the first plea of Joanne Segars, the NAPF chief executive in its pre-Budget submission was to ask that borrowing be tilted to the long end of the market where it can do the most to alleviate funding woes for pensions. Already, government issuance of 20-, 30- and 50-year debt has risen sharply. In the fiscal year ending April 2010, issuance of conventional long-dated gilts soared to £33.9bn from £23.4bn just two years earlier. Thirty-year yields have risen, too, from 4.09 per cent at September 30 2009 to 4.52 per cent as at March 31 2010