March 20, 2023 • 51 mins
We discuss a number of toping relating to psychology of markets.
- Silicon Valley Bank
- Stress Tests
- How big is this crisis and what tools remain to fight it
- Credit Suisse goes boom
- European regulators dim view of US Regulators
Richard Feynman on the Scientific Method (sometimes a refresher is helpful)
https://www.youtube.com/watch?v=EYPapE-3FRw
Welcome back to Off the Fence, a podcast where we look at current and general topics from an institutional and hedge fund investor point of view, with the benefits of a few decades of managing investments.
Every two weeks, we’ll get together and take a look at a specific topic, try to separate the wheat from the chaff and maybe even come up with some practical, compelling conclusions. To Get Off the Fence. We’ll keep it direct and clean, with fact-based analysis and opinions.
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Transcript
Episode Transcript
Available transcripts are automatically generated. Complete accuracy is not guaranteed.
(00:00):
hello, good morning, goodafternoon, and good evening, and
welcome to the TransatlanticPodcast, off the Fence, where
three transatlantic guys gettogether and talk about current
events, the future, the past,and everything in between.
The topic this week is thespectacular blowups that we've
had in the last few we, the last10 days in Silicon Valley Bank's
(00:22):
Signature Credit Suis.
And it's a slow train wreck of aat the end here it seems.
And the what we can expect fromthis, what we think of how it
was handled, how it was managed,and what else might be down,
coming down the road.
Why don't you start, Alex, tellus what you make of it, where
(00:43):
you see it going.
I I was gonna wonder if we hadanything to talk about this
week.
It's been wildly entertainingseeing how many experts there
are in in, in fractional reservebanking and gap risk on social
media.
I guess everybody knows thesituation.
I don't think we need to go intothe details.
A couple of things I thoughtwere interesting.
And Luis correct me if I'mwrong, I understand that the
(01:05):
stress test numbers for 2021obviously exist, but the 2022
have not been published yet.
And I guess when they were doingthe ones for 2021, they were
stressing balance sheets at thetime, perhaps correctly up to a
level of 2% of a move in thesingle in, under.
Under 1% to 2% in the, in, instress testing the banks.
(01:26):
But you gotta believe that atthe end of 2022, when they were
doing their news stress test,they were doing something more
in line with where rates havebeen.
So I can't imagine, I dunno thatI don't know that bank of
Silicon Valley, because of thesize of the balance sheet, was a
participant in the stress testsbecause I think maybe it was
below the radar for that itwould've been released from
(01:46):
stress tests, but not from notfrom reviews and evaluations.
Yeah.
That is correct, but I don'tthink that, that there are
several advantages in US banksof be in being smaller and,
there's less capitalrequirement.
There's there's.
Reasons why it, it is a goodthing to be smaller in the us
Yeah.
Yeah.
So some of these were li werelifted.
I, I, my point was not onsilicon specifically, but in
(02:08):
general, my sense last time Ilooked, I think somewhere like
45% of the book value of bank ofAmerica equated to the lost on
the holder maturity portfolio,right on the long-term
securities that do not need tobe marked to market.
So the argument I have is thatthis is not exactly something
that either based on publicinformation or that the
regulator didn't know aboutweeks ago, months ago, while
(02:30):
back that raised from negligibleinterest rates up to four to 5%
in the book would not havecreated massive craters into the
banks balance sheet.
What I find surprising is thisidea that it's a new concept
that regional banks orspecialized banks are not
subject to a run.
If the confidence is not I, inthe business, I have not read
(02:53):
yet anything, and I am, I'm opento be corrected that the core
business model of s v b forgetsilicon forget the signature and
but for the ones that I know alittle bit better, which is
Silicon Valley and FirstRepublic, that they did not have
a sound.
Lending business or, main Streetbusiness that it, that clearly
(03:15):
they had forgotten the rules of1930s banking in terms of
matching liability maturity to,to assets.
Yet they did.
Yeah, exactly.
It's, I'm not excusing, I'm notexcusing it, but what I find
fascinating of course, is thatthe very facility that was put
in place after Silicon Valleyblew up would've been exactly
(03:36):
the one that they would've goneto when they were unwinding
their available for saleportfolio.
And yeah.
And looking at their uh, ahealth maturity portfolio.
Exactly.
If you were gonna do it Monday,why didn't you do it Friday?
Yeah.
I think you d up the situationvery well, and I first of all on
the maturity gaps.
The business of a bank in 2023is precisely to take that risk.
(03:56):
Now there's ways you canmitigate that risk, but that's
what most banks do around theworld is that they lend longer
term that they fund.
Second thing I would say is thatnormally banks have government
securities for two reasons.
One reason is to be, to haveliquidity ready for, as part of
(04:16):
your, requirements from theregulator to have liquidity
buffer, it's called.
Okay?
Yep.
And the second reason that theymay have government securities,
of course, they could do it inswaps too, is to hedge interest
rate risk.
Now in 2020, banks around theworld sold most of their
government securities.
(04:37):
Longer dated governmentsecurities because as long as 10
year yields in the Euro zone,for instance, were approaching
zero or negative there was, itwasn't hedging any risk to, to
hold the bonds anymore.
So most banks realized the gainsin those portfolios in Europe,
for instance.
And they are only rebuildingthe, what is called the Alco
(04:59):
portfolio, which is the bondsthat you hold in order to
mitigate the risk that rates godown because you have large
floating rate mortgage lendingbooks and that's how you're
trying to mitigate the risk thatinterest rates go down by own,
by holding bonds.
So that's one thing that thisbank didn't do it for that
reason.
The re because they don't have avery big mortgage book relative
(05:21):
to the positions they had ingovernment securities.
I think they're lending businesssound as it may be.
And I'm not this, and theredoesn't seem to be, any reason
to believe that it isn't?
And all provisioning in the USis forward looking and they
don't seem to be at least Iguess it's the same management
that was taking in the punting,but why did they hold longer?
Dated securities is probably afunction of trying to have
(05:45):
better earnings because you gotinitially better yields and then
you found yourself in asituation where you didn't
anymore and the curve invertedand you were screwed.
But what I think is going to besomething that needs to be
explained by their advisors iswhy did they think that
liquidating the available forsale portfolio and a, and
(06:09):
announcing that they were goingto raise money without having a
full, a fully underwrittencapital raise was the solution
to the problem.
I think their advisors in thisparticular situation were not,
probably well advised in, in,you why didn't this bank go to
the fed discount window?
Then we'll, I guess we'll havethe answer soon enough.
(06:32):
Yeah.
You mentioned Bank of, youmentioned that Bank of America
has 45% of its work equity inunrealized losses in their
health material account.
Yep.
They may very well have that.
They also have probably a largepercentage of their book value
in unrealized gains on thesecurities that they issued to
fund their book.
(06:53):
Because both can be, you can doboth at fair value and you
probably don't find that such abig misma.
Now, is that something that youshould go to bed and say it's
great that they're, that theyhave also unrealized gains if
they bought back their own debtand Yeah.
At the end of the day, bankingis a game where confidence is
very important in Japan.
and in countries where most ofthe depositors are retail are
(07:16):
not very well-informed, there'sgenerally you don't see
backgrounds.
I Backgrounds in Italy duringthe crisis.
The only people who took theirmoney out of Italian banks were
corporates.
Retail investors kept theirmoney even though most of the
banks were gone or close to gonefor Spain or Portugal.
You had the corporate depositorsleave and retail depositors stay
(07:39):
in Japan.
You had banks that reportednegative equity and have no
liquidity issued.
What I don't understand is whydid the, but I do understand, I
think why the supervisors andthe regulators in the United
States didn't move early.
And I think it is because thephilosophy of the previous
crisis was that we were notgoing to use taxpayers money
(08:03):
again to protect certain.
Risks that were clearly notprotected.
And then I guess they realizedthat taking 20 cents of haircuts
or on deposits, which was themore or less the consensus
estimate of the haircut that un,that uninsured depositors of
bank of Silicon Valley we'regoing to take was not acceptable
(08:26):
for the banking system as awhole.
And how they moved from oneposition to the other position
is probably, it's possible.
Interesting.
And, it would be interesting tobe the fly on the wall there
because Peter, you're probablymuch more well versed on Central
Bank policy regarding moralhazard and preventing moral
(08:46):
hazard situations.
Not necessarily but there's alot to unpack here.
And I'd say, there are a fewpieces of this.
One of them is, I went through abank training program in New
York in the early 1980s.
And we were not a verysophisticated bank.
We were big, but we were notnecessarily the sharpest knives
in the drawer.
But two of the things that theytaught us which was always, very
(09:09):
basic risk management, wasdiversification.
And and timing.
Get the, getting the, beingcareful of your mismatches,
which of course are inherent ina bank balance sheet, but they
have to be managed in a verycareful way.
And the monoline banking model,which is what, svb Silicon
Valley Bank was the prototype ofit, it was really a one
(09:31):
business, the one one trickpony.
which is not what you want in abank.
And their reliance on a certaintype of client on both sides of
the balance sheet was reallyjust a recipe for, it was
concentration of risk that agood risk manager and a good
supervisor especially shouldhave been, have had an eye on.
In the case of the supervisorsand their speed of action.
(09:54):
You're absolutely right.
It's I'd say that the differencehere is this happens or seemed
to have happened so quickly, itseemed to have come to life so
quickly.
Although in the market it was,apparently known since the
second half of 2022 that thisbank was suffering significant
withdrawals.
And yeah, a supervisor shouldhave been on that.
(10:15):
What and I guess we will findout, as you say, why it wasn't
in the capital increase.
I went through a capitalincrease in 2008 when this was
just a few weeks after Lehman'swhen the market would still
invest in banks.
And one of the things, that wasclear as we were doing this,
was, yeah, the underwriting hadto be 100%.
(10:35):
You couldn't, you didn't go tomarket without the issue being
underwritten.
And if you needed 2 billion incapital, you went to the market
for six or seven.
You went big because the marketwasn't gonna give you a second
chance two months later.
And that's and it worked out.
But those were different timeswhen investors were still
willing to invest in banks, evenin the midst of the biggest
(10:56):
financial crisis that we hadlived through.
So I guess the question now is,where does it go from here?
It, you would think.
It's absolutely the case thatmany small banks or, anything
from the mid-size to the smallones, were making money on this
carry trade, which is investingin treasuries at 4% or whatever
(11:17):
they're yielding and paying theone or two on their deposits or
less.
So it's gotta be cooked, bakedinto balance sheets all over the
country.
Now they've got a solution forthat, perhaps for a year or so
due to the Fed temporaryfacility that it announced over
the weekend.
But there's a lot of repair workto be done on balance sheets in
(11:38):
US banking and the, and itinvolves losses and could
involve another wave ofconsolidation.
And it could involve anotherbank run.
And the big question is the nextguy gonna be bailed out the
same?
Alex, you sent us an articleearlier today about how furious
European regulators andauthorities are that the US did
this guarantee on deposits,which, flies in the face of what
(12:01):
you were supposed to do as aYeah.
As a as it too big to fail or anon too big to fail regulator or
supervisor.
You weren't supposed to allowthis to happen, but there it is.
It happened.
Yeah.
I think it's like Mike Tysonsaid, everybody has a plan till
they get punched in the face.
And the European approach isvery different.
But it, when it's tested, it's,at the end.
(12:22):
But it hasn't been tested.
Yeah.
No, it has been, no, it has beentested yet, yet, yet.
What do you mean?
It has been tested?
Bangkok went to, it's beentested by bang of Poplar and the
two banks in Italy that were,yeah.
And they went into resolution,but there was no touching un in
uninsured depositors mainly inthe case of Bangkok because they
(12:45):
had already taken their moneyout and that's what led the bank
to, I don't know the situationas well as you do, and I'll
argue let me try to be a cThere's no arguing.
It's what happened.
It's a case and it's a casestudy and it's very interesting.
Have we already forgotten creditrisk getting 52 billion from
Central Bank of Switzerland?
Understand it's a differentjurisdiction, but still that's
what, that's the issue.
Fe suis is in Switzerland, whichis not in the European Union.
(13:07):
Understood.
Yeah.
Yeah.
But no.
Yes.
Look, I it's a, I benefit frombeing able to form an opinion
with very little facts.
And I will do so in this casewith pleasure, which is that?
Yeah, sure.
So far so good.
No problem.
Can I go on, can I finish mysentence?
Maybe because it was going to beinteresting if I finish.
(13:29):
The resolution process isdesigned to make sure that banks
don't get state aid until allthe bailing capital has been
disposed of.
And that in the original planincluded up to 8% of the
balances of senior and securedebt and uninsured depositors.
(13:50):
And the test, therefore iswhether they're going to go for
that haircut if necessary of 8%.
It's not that it's not aevaluation exercise, it's that
you need it's a just alegislative decision.
I think there might be anotherprecedent here that doesn't
directly involve depositors, butit does involve, public money,
(14:11):
the money of the public.
And that is the pension fundsand the similar mismatch in
September that slightly, thatsomewhat blew up in the uk.
Yes once again the moral hazardgot ditched or concerns about
moral hazard got ditched and theCentral Bank stepped in, in the
name of financial stability.
(14:31):
That's about the closestparallel, I think Recent
parallel as well as credit suiscolor, Luis Color Sinek.
But I just don't believe thatthe great pronouncement of the
great Christine La and the.
Or they sound, this is theblowing with the win or against
the win story from, basiceconomics, 50 years ago of
central banking.
Perhaps they will be right.
(14:53):
Perhaps they'll be able to holdto the, to, to those situations.
Let's step back for one second.
Just look at what happened, theproblem.
Silicon Valley Bank.
They had two problem.
They had three problems, right?
They had yes, indeed.
Extremely bad gap riskmanagement.
And when they were flushed withsame amount of VC money in a
2120 2021, they put it where,they idiotically thought it was
(15:17):
a safe, long-term end of thetreasury curve, thinking, you
can't get fired for investing myseason into treasuries and
trying to extend their, just asa still the average life was
three and a half years.
Okay.
Agreed.
And still the blue.
Yeah.
And still the available, theavailable for sale portfolio
took a 10% haircut.
The second thing that they'vesuffered, is enormously bad
(15:41):
communications management over aone week period on from the
management team, which is theidiocy of trying to go around
and essentially selectivelyleaking the fact that they had a
problem going through the saleand first for the sale and
second through the financing.
And instead of having some kindof logic with the regulators and
staying close to the regulatorsand basically thinking that they
(16:01):
were going to try to find asolution by themselves, seems to
me as that will be studied asextremely bad crisis management
from their side.
And again we can move on.
But the third part and to it'sreminds you a little bit of
long-term capital management.
Like you go to, yeah.
Hubris.
Listen, I have this problem.
Can you tell exactly.
Same counter party for a minute.
And I Exactly.
Let me call you back in a fewminutes.
(16:23):
I'm gonna, I'm gonna help you ina few minutes.
Don't worry about it.
Exactly.
I'll be right there.
And by the way, by the time Ifinished front running you would
you like 20 cents on the dollarfor your portfolio?
Yeah, absolutely.
I just think we're beingfacetious, but I'll tell you
what happened, okay.
And this is a problem that Ihave on a daily basis.
(16:43):
It was so out of modeling tothink of rates going where they
have Yes.
And long-term rates to go wherethey have and we and I tell you
that the position that we haveis in 50 year European swaps,
which I at 1.8% or 1.9%, not atfive.
Okay?
They move from zero to 1.8, thatthe counter party on a long
(17:07):
dated option on that trade,which is one of the main banks
in the world.
And it has been mentioned inthis podcast already once.
SU is suggesting to us that wetricked them when we put on the
trade in 2019, with a team oftwo guys in Madrid with a
Bloomberg.
We tricked one of the mightybanks in the world in the
(17:28):
pricing of two options on swaps.
So I am not surprised therefore,that unless sophisticated bank
in California that caters totechnology companies made a
miscalculation on the pace ofrate of rate hikes that could be
facing and the impact that, thatwould have on their one
portfolio.
I'm not trying to the first packthat the banks that are totally
(17:50):
insolvent, by the way, and wehave discussed this in previous
podcasts, are the central banks.
As a matter of fact, the onlycentral bank that is al that has
already acknowledged itsinsolvency is the National Bank
of Switzerland.
Yes, exactly.
Which reported a loss of$130billion for, sorry, not dollars.
Swiss Frans for 2022, but alsois an equity, it's also an
(18:11):
equity holder.
I It's a very bizarre Yeah, butthey lost equally inbound are
inequity because the bond indexlast year was as down as much as
the s and p as the NASDAQ andEuropean markets were actually
not did.
Okay.
So they lost more money on bondsthan they lost on equities.
Okay.
For the record, because you canlose a lot of money on bonds as
(18:31):
well.
And I think that, it, not onlyare they, have they taken that
loss, but now that they'repaying the deposits that banks
have a central bank, they have anegative operating income.
So nobody's talking about thatbecause nobody seems to worry
about that.
And they say worse comes toworse, the treasury will put in
some money.
I'm not sure that, okay.
Do Do me a favor, I'm gonnainterrupt you because I think I
(18:51):
was trying to say something in asimilar to you.
You let me just finish this.
I don't think the treasury ofPortugal.
Has the money to put into thecentral bank.
That's what I'm saying.
Yeah, of course.
Of.
of course.
But let me try to make a point,cause I really wanna get your
thoughts on this, my argumentmy, my thinking here though is
that compared to other bankingcrises that have ha happened in
the past, right?
(19:12):
It is very difficult toapportion a hundred percent of
the blame to the target here.
The argument still remains, Ithink that SVB and some of these
other companies had somewhat ofa core business and they made a
massive risk management error inthe face of, as you say
unprecedented actions by aconsolidated aire who has impact
(19:32):
on the market I either fed,right?
So Correct.
So the issue here becomes alittle bit different, right?
While you could have faulted,essentially the whole banking
system back in 2008 for havinghad idiotic and shamanic views
about credit, right?
In this particular case, whatyou had is that those people
were spending many percent oftheir time thinking about, what
risk am I doing lending againstrestricted stock and what kind
(19:55):
of weird products and what, theywas thinking all their time
trying to figure out how toadapt the banking system for the
technology, air business anddoing all that and probably
doing a reasonably good job atit profitably and actually,
providing services that theircustomers if they disappear, are
going to regret not having, butultimately, clearly they made a
(20:16):
mistake.
Clearly, they're not a tradingshop, they don't have a trading,
I don't know if they have atrading for, but they don't have
a, they don't do all thesethings.
If I may, lemme finish.
Let me, lemme finish please.
Lemme finish.
So my point remains that what'sinteresting about this is that
the Fed is put in a position,which is of weird because it is
an actor in this.
In this system.
And just similarly to what youtold me earlier about what the
(20:38):
Europeans think aboutregulation, the Europeans have
been exactly the same in termsof this behavior on rates
universally.
So the problem that you have isthat it's a systemic problem.
What happened is everybodyaround and this is to me the
most ironic thing and thefunniest thing is that if you go
back 20 years ago, peopledecried derivatives as being
risky as being idiotic for, forworking at it.
(21:00):
And the people pushing in,obviously we're talking about
risk management and many peopleuse derivatives, to add risk.
I get that.
But the point is that if youwere running and accepting
deposits in 2021 in the sizethat these comp that these banks
did, and you did not run ahedging, right?
And you were going where theliquidity was.
I think pretty much every bankbought along the curve.
But I'm guessing that the moreastute banks ran a better
(21:23):
hedging book in order to swap itout or otherwise manage their
risk in a better way.
What you have now is you havethe, and on the Federal Reserve
saying we are going to haveenormous impact on the cur on,
on the rate behavior which is,it's gonna have an impact, yet
we're gonna ignore the fact thatit's having an eroding impact to
the capital base of the bankingsystem.
Because the banking system,either through conservatism or
(21:45):
because they've forgotten theirbanking basics, or they had
their, they were learning thelessons from.
Issues of the 2008 and haveforgotten, like they were
solving the last war as opposedto the next war.
The actions of the Fed have hadan enormously destructive impact
on the very basis of afractional lending of the, on
the capital of fractionallending industry for which
(22:07):
ultimately they're the onlysolution to.
I agree that they that, I agreewith the Europeans, if you want
the central bankers that theAmericans just threw out the
playbook.
But in some ways this waspredictable.
Let's put it this way.
If you could transfer thedeposits, it costs nothing for a
c f O to take their balances anddeposit in size, particularly
(22:30):
the obviously the unsupportedbalances the uninsured balances
and move them somewhere else.
They're not earning anythingnow.
They're not gonna earn anythingin destination and everybody
should be sending it to Bank ofAmerica and the systemic banks.
That's the point there that youmake is very interesting.
In previous crisis, JP Morganhas refused to take on deposits
because they couldn't, there wasno benefit to them to have more
(22:55):
deposits cuz they couldn't doanything with them.
And they said, sorry, you're nota customer.
We're not taking your money.
Take it somewhere else.
These guys might have thoughtof.
Knowing enough about finance toknow that JP Morgan had done
that.
The thing that I findflabbergasting is that, at the
end of the day I am, I, all ofus have worked on Wall Street,
but I haven't been in a banksince 1997 or actually to be
(23:20):
factually correct since 1998,because even though I was in on,
in the asset management divisionof a bank, it was still a bank.
But the, you, you still, if youare in the financial profession,
you still need to know whatthat, certain things and there
is a cost to having depositsbecause you need to have, it,
there's certain things that youneed to do with the deposits in
terms of regulatory stop gaps,et cetera.
(23:43):
I cannot understand what theseguys were thinking to begin with
because they had nothing to dowith that money, with absolutely
nothing to do with that money.
They could have said, listen,you know what?
We want your business, so we'regonna have a fee income out of
you, which is what I would'vedone.
And I said, this is the Bank ofSilicon Valley money market
fund.
We're going to invest your moneyin treasuries and charge you 25
basis points.
(24:03):
Yes, that would've been fine andeverybody would still be alive,
and it would've been an easything to do.
Agreed.
One little anecdote just forfund that I find hilarious is at
least a half a dozen time overthe last 10 years, people have
come to the Fed trying to builda bank where the, all of the
deposits are held at the Fed.
And they came and asked forauthority to be able to take in
(24:26):
deposits, build a new bank, andthen put dollar for dollar with
no fractional reserves fullyreserved to the to the Federal
Reserve and have been turneddown by the Fed.
And I've been shut, torn down.
Shit.
Doesn't know what to do with themoney either.
Yeah.
No but agreed.
But, and that's just a transferof profits to the bank.
That's the, that's a carry tradethat would make, that would be a
(24:48):
political time bomb.
I, let me, I I'd love to do thattoo.
Everybody would take that turn.
Everybody would take that trade,right?
I'll do that's, yeah.
Lemme tell you something.
That's the discount window.
We talked about it before thisweek.
Everybody's talking about thefact there's$120 billion of
things repo at the discountwindow.
And it's a record number.
(25:09):
It's a meaningless numberbecause obviously the size of
the financial market is verydifferent today and 10 years
ago, 20 years ago.
But what's interesting is thatgoing to the discount window has
always had, A bad karma aboutit.
If you go to the discountwindow, you're telling the world
we have a problem.
Okay.
Yeah.
Yeah.
It's not it's like you have thissolution, but it's a solution.
(25:30):
Then damn, if you do it, damn ifyou don't.
And it's so I think people arereluctant to go to the discount
window in general.
And there's a, there is asolution to that, which is you,
everybody has to go to thediscount window X times a month.
Correct.
Time you have to do it.
That would be wonderful.
Absolutely.
You just and it's they lose alittle money on it.
Maybe not, but you have to go tothe discount window x times a
(25:51):
month, which is what they it'sexactly what the policy was with
the preferred securities thatthe treasury on the road for
banks, everybody had to take it.
Remember?
Because that way, no, there wasno signaling effect, and the
other thing that, I find, inEurope, and we're gonna be
testing this, and I agree withyou, Alex, that we're gonna see
how they blink.
First of all the E ECB does isnot the bank supervisor in
(26:13):
Europe.
There's a separate office calledthe single supervisory
mechanism, which is independentfrom the e cb and, and the
national central banks are cosupervisors.
That is the correct framework, Ibelieve.
Peter?
I think that s M ultimatelyreports into the E C B.
Yeah, but they have authorityright.
To Yeah, but they haveauthority.
(26:34):
They are, yes.
So in some cases, the EuropeanCommission takes, which is this
weird thing we have in Europe,which is unelected officials
that are appointed to agovernment that is a
bureaucratic gov government.
Okay.
So these guys sometimes come inand say maybe the statute or
(26:54):
maybe the European regulationsays this, but in this
particular case, we're going toallow based on exception 1 20 79
slash 27 or state A to comebefore resolution.
This has been the case withPanko Monte PAs, for instance.
There's been no resolution ofthe bank and the Italian
treasury has taken control ofthe bank.
So there is a flexibility hereas well that has been tested.
(27:18):
And I think that maybe becausethere's no Euro area wide in
banking union and deposits areguaranteed by national deposit
agencies that may be funded morebetter in some places than in
others.
They're gonna have to becreative.
Now the other area, which maybeyou guys wanna discuss, where
(27:39):
there's a lot of problemsbecause of the higher yields, is
in knife insurance.
Shall we go there?
Yes.
Okay.
Go ahead.
don't know the story well, soI'd love to be Okay.
You neither.
A life insurance company wouldguarantee you a certain a
certain payout on a policy, andyou make contributions to that.
And what they do is that todayyou say, you, you under, they
(28:02):
underwrite a policy that paysyou, let's go to the situation
of three years ago in Europe,they would say, I guarantee you
0%.
I kid you not.
They keep, I keep you not, theysold policies that guaranteed
0%.
And so their customer would putin money every periodically into
the, into that policy and wouldbe guaranteed to earn a whopping
(28:22):
0%.
When he redeemed the policy,then that 0% became 0.5%, then
1% once the number was positive.
The insurance company went backto doing what they normally do,
which is, you buy the bonds thatmatch the policy payout that you
have offered the customer.
And you have all these actuarialtables and then, and the
actuarial tables estimatepersistency and they estimate
(28:44):
longevity and they estimate alot of things and they come up
with the number of bonds.
The percentage of the policythat to be bought in bonds find
so far everybody is on withthis.
Now comes this problem again,multi standard deviation, moving
yields, and all of a sudden theagent who sold that policy to
the, to his client sees that thesame company that was selling
(29:08):
policies that guarantee 0.5%payout, is selling a policy that
guarantees a 3% payout.
So he says, oh, you know what,let's call the guy who I sold
the 0.5% policy to.
He has no penalty for earlyredemption.
and I just rolled it into thisnew policy at 3%.
(29:28):
Now the problem with this isthat it has taken down already
one life insurance company inItaly because they were holding
all these bonds to hedge thepolicies, and they're, and they
lost the policy.
So now they had to take theloss.
There was nothing to hedge.
And this is a small problem thatnobody's talking about, which I
think is not so small.
The second thing that nobody'stalking about, but we will, is
(29:52):
how these higher rates affectmarketing to market various
things.
Now, the stock market obviouslycorrected in a particular way.
There is a market that doesn'tseem, that seems to be far more
resilient to higher rate longdata rates than anything else.
And that's many private equityfunds that invest in.
Buyouts or infrastructure Yes.
(30:13):
Or real estate?
Real estate less so because I,we are already seeing some
blowups.
But yeah.
And these funds are widely heldby insurance companies in
Europe, as they have been boughtas a proxy to fixed income for
the past few years.
And some of these companies haveexposure to these illiquid funds
in, which is in excess of theirequity capital.
(30:36):
In particular, there's one ofthem, and, they should remain
nameless for now, which hasnearly three times.
It's equity capital invested inlevel three assets in private
equity guard.
Now, most of these privateequity funds obviously are not
going to be worth nothing.
They're gonna, but they may beworth less than the money that
you committed.
It's a, there's a possiblescenario where you have losses
(30:56):
there, and if you have threetimes your capital in these
investments and you lose, 30%,then you don't have capital
anymore.
Okay?
So it's, now this is anotherarea where people in general are
very excited about banks, butthey're forgetting that
insurance companies are also inthe financial markets and that
they, and they're an integralpart of the financial
infrastructure amongst otherthings.
(31:18):
Because typically they are thelargest buyers of bank debt
around.
So the circularity is there andI'll, and we'll, I'll leave the
floor to you see what you thinkabout this.
And the other segment, ofcourse, is asset management.
If you really get a breakdown inconfidence and again, mismatched
between the liquidity needs ifyou have redemptions and
(31:39):
withdraws and the nature of theportfolio that the asset
manager's holding, oh, that's aone.
That's a very good thing.
And you know what happened inthe US several years ago, right?
Oh yeah.
That, that the I don't rememberwhether it was the Fed or the s
e c or both required that fixedincome funds in the United
States would put into theprospectus language where they
(32:00):
could have gates Yeah.
To prevent these orderlyliquidations.
Alex, I think we lost you, but Ibelieve even with gates flood
accumulates behind the gate.
But so lemme ask.
No.
I mean, It's not a solution.
It's just postponing a problemand problems don't h well.
So it's, exactly.
And in private equity, as yousay, there's already gates up
around riots and and other realestate funds.
(32:24):
So Yeah.
It's all there and it's not astransparent as the banking
system.
It's, they're not as capitalizedas banks are.
Yeah.
And I think you're absolutelyright.
It's the one to watch, but Iwouldn't even, I don't even know
how to watch it as a layman.
You, and if you are to agreethat we are seeing financial
conditions tightening as wespeak then all the non-bank
(32:45):
financial inter theories aregoing to have issues with their
funding too, right?
Cause they're gonna have to getfunding somewhere so on and so
forth.
I am not saying that this is ahorrible situation, but I think
that first, the yield curve istelling you that we're going
into some kind of a big slowdownin economic activity, the way
it's inverted.
Secondly you have tightenfinancial conditions.
(33:07):
There's a lot of, there's stillsignificant leverage in the
system.
It's not like we havedeleverage, some countries have
more leverage than ever.
For instance, the and, and so onand so forth.
I, we, I don't want to soundoverly pessimistic, but we're
gonna have, I think we're gonnahave to be very attentive to how
this develops and what themarket obviously is hoping for
(33:29):
and is that they have finallycornered the central banks into
discontinuing the tightening.
I think politically it's verydifficult to see with inflation
as hot as it's running.
And with elections in the UnitedStates in 2024, I don't know
what's preferable to have a lot,most of the voters, I'm unhappy
(33:55):
because their purchasing poweris being attacked by high
inflation.
or the stock market doing okay.
And I would think that it'sprobably with unemployment at
3%, it's probably better to keepthe voter happy.
I don't know what you guysthink.
Yeah, I was gonna try to have aconversation.
we step back for a second andtry to elucidate what is
(34:16):
impossible, which is what hascaused inflation and I, in the
last couple of years.
And so I get the point thathistorically raising rates and,
crashing demand and a recessionshould have dampening impact on
rates.
And I would argue thattechnology is also having.
There's a facet just as acomplete aside right, Porsche
(34:38):
release numbers.
This week they had phenomenalnumbers up 10 to 20% across all
metrics.
And then they announced happilythat they were gonna keep 20%
margin and increase the pricesin order to maintain 20%
margins, essentially in twoinfinity and certainly next
year, right?
While you have, the yds, not tomention Tesla, but the Yds and
(34:58):
other volume manufacturers withmany times, the volumes that
the, you know, that thesemanufacturers have, are actually
on a cost a community costreduction curve, trying as much
as they can to reduce pricesacross the board.
Because for them it's adifferent story.
They need to get volume and in arecession, the only way to get
volume is to reduce prices,right?
F forget whether they make moneyat it or not, which they do, and
(35:20):
what they will no, what theydon't make in the margin, they
make up in the volume.
Yes.
Funny.
You can say that, but okay.
I'm happy to go through theTesla and b y d financials to
show that they are not cashflownegative in any no, you're
right.
The German manufacturers arehiking prices because there's
con constraints on capacity andthey're eliminating the small
(35:43):
the small cars from their lines.
And they're just hiking priceson the rest, and they're making
a shortage of cars, which ispossible because of these supply
disruptions.
And, maybe they, everybody'scolluding in Europe.
I don't know.
But the reality is that carprices are through the roof.
I'm the supposed to be one ofthe luckiest people life because
I'm gonna buy A B M W stationwhere I'm coming out of a lease
(36:04):
from a very good friend of minefor a song like, cause I'm,
know, I'm gonna pay 39,000 eurosfor a car that retails now for
125,000 euros.
So it's just crazy what'shappened to car prices.
So to, to that point.
And I would love to talk about GP T four and some of the other
things that happened this week,which I think are absolutely
fascinating.
But did it die?
Did it have problems?
(36:25):
Did it no.
They, something that wassupposed to be released in about
a year, ended up gettingreleased last week and this week
and is significantly morepowerful.
It is multimodal, which meansthat you can feed it a text and
images.
It'll do all kinds of things.
We can have the wholeconversations another time.
It is actually fascinating.
Let's talk about it next timewhen we can talk about
(36:46):
interesting stuff.
But what I wanna point out issomething different on
inflation, right?
I think that we have gotten usedto a model.
And I actually think thatWalmart, for example, is gonna
be the biggest loser in thatlogic where we are sourcing in a
complex supply chain from acrossthe world.
Let think of it this way 1,500SKUs per Walmart for mustard or
(37:09):
for, dining plates or whatever,it's that if you are if you want
to have a choice of, if you walkinto a store and you're
expecting to have the choice ofyour brand because you were
convinced by advertising or thatyou want to have tons of choice
in order to make the choice.
You are going to have a certainretail experience.
And that retail experience hasconsistently gone up because all
(37:32):
of those supply chains aretrying to get filled the same
way they did before.
Or you have the other model,which is, which to me is
obviously the Tesla model, theApple Model, trader Joe's,
Costco many others, where youhave much fewer choices.
the choices themselves are muchbetter thought through.
And there you haven't reallyseen there the supply chains are
(37:55):
much easier to reconfigure asproblems happen because you have
way fewer SKUs, you have muchless in the channel, many more,
many, many fewer inventoryissues across.
And so what I find interestingis that to me I really wonder
what is the inflation we'refighting, right?
I get the point that we are, Iflashing inflation of free money
and it was very easy for assetprices to be support and all
(38:15):
that kind of stuff.
We can have a conversation aboutasset prices, but I'm talking
about in the real world, whatI'm seeing is a difference
between convoluted supplychains.
That we are optimized for aworld situation, shipping cost
openness of China, any of thethings that you want to talk
about, container supply at LongBeach.
(38:36):
If I can I, you're absolutelyright.
I think Alex and, but the twodrivers of inflation are not
necess, they're not mutuallyexclusive.
They're not incompatible withone another.
And they both have the samesolution because there really is
only one solution, which is atighter monetary policy.
I wonder about that.
I wonder about that.
Just just to make a last point,this is my point, right?
If C P I turns out to go down,because it was a mostly of
(38:58):
supply chain issue and peoplehave substituted and they no
longer care about, let's say, ifone more prices go up, the
equivalent prices go down, or ifAmazon turns out to be a better
distribution system thanwhatever retail dis whatever it
is, that the supply chain getsreconfigured after Covid and
after the China.
Sure.
The China issues insofar asthings will get cheaper, lumber
(39:18):
gets cheaper, raw materials getcheaper, energy is cheaper, all
that kind of stuff.
And the c p I is down then Iwould not be surprised at all to
see the Fed abandon a tighteningmonetary supply because it
solves all their problems.
It's solves problem.
You mentioned that supply, ifthat supply side problem does
get solved.
Yep.
You're absolutely right.
Although I don't think, reallyhope that.
(39:38):
I don't, and I have a chartposted to the chat that, ah,
that you who are a magic guy canpost to everybody enlarged, and
this is a chart of the M twomoney supply measure to, and the
GDP of the United States innominal dollars.
And what you'll see in the chartis that as a result of COVID,
(39:59):
there was a jump in the ratio ofthe money supply to G D P two
levels that have never been seenin the past 22 years and or in
history, I would say.
And that in my opinion, is thereason for the inflation.
That in both in the US andEurope, you've seen a jump in
money supply that isunprecedented and therefore
because the velocity ofcirculation did not Go down, you
(40:23):
have too much money chasing toofew goods, and unemployment is
at a record low in many places,and populations are aging, et
cetera.
Immigration has been suppressedin many, especially in the
United States with a newlegislation and all these
factors combined make it for avery inflationary backdrop.
(40:43):
And I would say that monetarypolicy is very loose today.
The Taylor rule would suggest aFed funds rate of 6% and we
don't have a Fed funds rate of6%.
So I, what I would recommend toa lot of people is that they be
patient because this is aproblem that has monetary, a
(41:03):
monetary Reason to it.
And as you will see in thechart, the money supply is
beginning to taper taper off butyou still have a ratio of money
supply to gdp.
That's kind now what's happenedto the banks now, I think it's
gonna slow down the velocity ofmoney and the airport's gonna do
the Fed's job for them.
And maybe that's what allowsthem to ease earlier.
(41:24):
But other people would tell youthat what the Fed has done to
guarantee deposits is another qquantitative easing.
So I don't know.
Also the, as, as long as the,even if the supply side issues
that you mentioned, Alex, arethe driver.
The institution that we havecharged with with price
stability are central banks andthey only have, so much they
(41:48):
only have one or two arrows intheir quiver.
But that's why they said, that'swhy they said that inflation was
going to be temporary becausethey bought into this, they
bought into it, yeah.
They bought into the supplychain disruption and inflation
has not, has had that influence.
It's had many differentinfluences.
Yeah, agreed.
But they could have been wrongthen.
And right now, right?
Yeah, no, I think it's,inflation is a monetary
(42:10):
phenomenon, not a supplyphenomenon.
So if I if I can and this thisis an eternal argument.
It's an old one and our.
Are on it but I just like tolook at credit suis for a
moment.
Yes.
And to see if either of youthink what happened last week is
the beginning of is this fixed?
I don't, I'll tell you myopinion, I don't think it is
(42:31):
fixed.
52 billion Swiss Frans, over 54billion Swiss francs is about
10% of credit SU's balancesheet, maybe a little less since
they've been unwinding it.
It probably it wouldn't evenmeet the standards for the
liquidity coverage ratio of thebank recalculated on the basis
of the most recent withdrawals.
I, if you've, if you're aprivate banking client, I can't
(42:54):
imagine you're gonna stickaround credit sus to see what
happens.
I and I'm just wondering.
Yeah.
What what the next ch what thenext stage, what the next
chapter there is, because I,neither do I know what a
resolution plan would be.
I think this Swiss NationalBank's reaction was a strange
one to leave it twisting in thewind as long as it did.
I, people tell me it's becausethere's been terrible relations
(43:16):
between the Swiss National Bankand credit suis, which wouldn't
surprise me, but they did leaveinteresting in the wind there.
Anyway.
Yeah I have done a lot of workon credit suis because we're
been short for a while.
So I the, this bank has anexistential problem.
It's lost money, five out of thela the last nine years.
The book value per share isdeclined by 50% over the past 10
(43:39):
years.
The share count is up 280%.
It, they've lost some of thebest businesses to accidents
because the prime brokeragebusiness between before the
Archus thing was a greatbusiness for them.
I think what does are thenegatives, the positives is that
it has 110 million switch Fransof tlac, which is total loss
(44:00):
absorbing capital.
So relative to the size of thebalance sheet, that is a lot of
capital.
Okay.
Because it's not just theequity, it's all the other
instruments, right?
Sure.
So I think the tlac and theliquidity should provide time
for an orderly liquidation.
But I think that in thatliquidation, because it's such a
(44:22):
motivated seller, there mightnot be a lot left for current
shareholders.
And I think the best that can behoped for in this liquidation is
for unsecured creditors to make.
Most of their money back.
I don't know if you looked atthe bonds.
The bonds, I think some of thebonds we shouldn't be giving
financial advice here, but I,some of, there's two entities
that issue bonds.
(44:42):
There's an op, an operatingcompany, and a holding company.
Just to make it simple andprobably the operating company
bonds are fine.
But at the end of the day it wasjust not it was like in every
end of a cycle, there's onelarge investment bank that is
not needed anymore, whether it'sDrexel, Bernard Lamber, or it's
Lehman Brothers or Bankers Trustin, sorry I've got Bankers Trust
(45:05):
in 1998, or it's Lehman Brothersin 2008, and maybe Caris is the
one that the world doesn't needtoday.
So you are assuming liquidation?
No I'm assuming that they'reselling things to different
people.
Yeah.
So that the bank is dismembered,and then there's a.
You have maybe I'm not sureabout the investment bank.
I don't know if anybody, Alexprobably has a better sense of
that because he's much moreknowledgeable about investment
(45:27):
banking than there's a plan forthe investment bank, although I
don't know how that will workout now that the Swiss National
Bank is, has stepped in the way.
It has many of the best teamleft.
The problem is an investmentbank take, investment bank
reputation, and reason for beingin the minds of corporate is
(45:49):
something that you build slowlyover time and gets destroyed
quickly.
It's hard to see from theoutside.
It's hard to see depositorswanting to keep deposits there.
People want.
Them in their syndicates.
It's, it really is too big tofail, but has to fail.
So you tell me which one of theirresistible force and immovable
(46:11):
object is going to break first.
Feels like the return on the 52billion is just kicking the de
count down the road until suchtime as, they need to put more
money in.
And look I, what I worry aboutis this idea that if you make
things too big to be systematic,systematically poisonous you you
(46:33):
keep on having to avoid theproblem for a long period of
time.
Yeah.
And I, that's every so oftenthere's a European one that,
that goes through this.
This is, I would agree withLuis.
I think this one, if they couldbe an orderly liquidation and we
could all move on, I think themarket would be saner.
Sure.
With that, maybe we should drawit to a close, but should we do
(46:56):
the should we do the flashsurvey of what's up, what's
down, who's up, who's down?
I wanna ask us re regionalbanks.
Okay.
From where they are now which isdown 80 to I see only downside
for the reasons that we'vediscussed this.
The carry trade lack ofconfidence in certain banks.
Some of them are monoline.
(47:16):
Silicon Valley Bank isn't theonly monoline bank in, in the
country.
So I think down, shall I asknow, Jerome Powell, does he get
is your point, does he getreappointed.
Sure.
Let's say does he getreappointed?
Does he get, is he, I'm gonnasay, I'm gonna say is heed, or
(47:38):
he vilified or is he praised?
I don't think he gets praised inthe long term, and I don't think
he gets re conducted, but Ithink he was mediocre.
And it was a tough job.
He's I think he's a trulytalented guy who made this job
look even more difficult than ithad to be.
It's almost as if there, therehad never been a central banker
(47:59):
before him, and he is learningthe lessons for the first time.
Yeah.
Yeah.
Luis I don't have an opinion onJerome Powell, okay.
I think he was Delta.
Every person who takes on thatjob needs to know that they're
gonna see a lot of six Sigmaevents because our models for
understanding our world.
(48:20):
Are very bad, right?
So there's no such thing as aSixSigma event, but there's a
lot of things that happened thatwere not anticipated, or the
consequences of the actions werenot anticipated.
And he had the fiscal responseto the pandemic to deal with
without being able to doanything about it.
As a central, when you see thatkind of fiscal stimulus and
you're the central banker,normally you need to act quickly
(48:42):
because obviously the treasuryand the parliament are going
against your mandate or one ofyour mandates.
So I don't know.
Okay.
Let's make these flash answers.
US equities Bull.
I'm bullish on tech Bearish ofthe Dow Jones.
Yeah, same.
(49:02):
Alex, same.
Yeah I'm perhaps the opposite.
I'm more bullish on growth.
I'm sorry, more bullish on valuethan growth, but that's just me
fed funds rate By your end.
Let's give it a time.
Yeah.
Is it going up or down?
(49:24):
I think in spite of everythingthe Fed will do what the e ECB
has done, which is continueupdates may be at a slower pace
because again this inflationthing is not a joke.
You're right.
I think I agree.
I agree.
Alex, 4%.
Oh, ooh, 4% by the end of theyear.
Okay.
Yeah.
(49:45):
E ECB rates I think they'reprobably pause around here for a
while.
Yeah.
And they'll fuck it up again.
Sorry, did I say that No.
Not at all.
Not at all.
Not hear that at.
Okay, Alright.
Sorry.
Switching switch, switchingspeeds a little bit to politics.
Bullish or baris?
She of China.
Barish.
(50:05):
I mean for him, I think he'sgoing to be fine for us.
It's a problem.
Yeah.
I think he's I think he's on aroll right now, which is
frightening.
Which is not good.
Exactly.
Putin, bearish.
I'm bearish on Putin.
And bearish in the sense that heof his bear, that he used to get
(50:28):
drunk or no, bearish in thesense that you, Barry is the big
red bear.
What is this?
He's not gonna fix, he's notgonna fix his biggest problem.
Yeah.
Yeah.
Biden, I don't follow the day,the blow to blow, but he seems
to be having some victories insome of these things that he
(50:50):
finds and I don't know, butOkay.
Okay.
I would say.
Okay.
I agree.
I'm neutral.
I'm Biden.
Yeah.
I am, I don't think he getsreelected or he runs again, but
I think he will be seen as afine president, not, middle of
the pack.
Excellent.
(51:11):
All right.
Very good.
I'd asked you about MarchMadness, but it's early days
yet, so we can look at that.
Not, I don't know that we areallowed to talk about sport
betting on this podcast.
I don't follow.
I don't follow golf.
my, all on that note, thank youboth.
(51:34):
Oh, thank you.
Thank you guys.
Thank you.
Have a phenomen weekend.
Much love.
You too.
Take care.
Bye.
Bye.
hello, good morning, goodafternoon, and good evening, and
welcome to the TransatlanticPodcast, off the Fence, where
three transatlantic guys gettogether and talk about current
events, the future, the past,and everything in between.
The topic this week is thespectacular blowups that we've
had in the last few we, the last10 days in Silicon Valley Bank's
(00:22):
Signature Credit Suis.
And it's a slow train wreck of aat the end here it seems.
And the what we can expect fromthis, what we think of how it
was handled, how it was managed,and what else might be down,
coming down the road.
Why don't you start, Alex, tellus what you make of it, where
(00:43):
you see it going.
I I was gonna wonder if we hadanything to talk about this
week.
It's been wildly entertainingseeing how many experts there
are in in, in fractional reservebanking and gap risk on social
media.
I guess everybody knows thesituation.
I don't think we need to go intothe details.
A couple of things I thoughtwere interesting.
And Luis correct me if I'mwrong, I understand that the
(01:05):
stress test numbers for 2021obviously exist, but the 2022
have not been published yet.
And I guess when they were doingthe ones for 2021, they were
stressing balance sheets at thetime, perhaps correctly up to a
level of 2% of a move in thesingle in, under.
Under 1% to 2% in the, in, instress testing the banks.
(01:26):
But you gotta believe that atthe end of 2022, when they were
doing their news stress test,they were doing something more
in line with where rates havebeen.
So I can't imagine, I dunno thatI don't know that bank of
Silicon Valley, because of thesize of the balance sheet, was a
participant in the stress testsbecause I think maybe it was
below the radar for that itwould've been released from
(01:46):
stress tests, but not from notfrom reviews and evaluations.
Yeah.
That is correct, but I don'tthink that, that there are
several advantages in US banksof be in being smaller and,
there's less capitalrequirement.
There's there's.
Reasons why it, it is a goodthing to be smaller in the us
Yeah.
Yeah.
So some of these were li werelifted.
I, I, my point was not onsilicon specifically, but in
(02:08):
general, my sense last time Ilooked, I think somewhere like
45% of the book value of bank ofAmerica equated to the lost on
the holder maturity portfolio,right on the long-term
securities that do not need tobe marked to market.
So the argument I have is thatthis is not exactly something
that either based on publicinformation or that the
regulator didn't know aboutweeks ago, months ago, while
(02:30):
back that raised from negligibleinterest rates up to four to 5%
in the book would not havecreated massive craters into the
banks balance sheet.
What I find surprising is thisidea that it's a new concept
that regional banks orspecialized banks are not
subject to a run.
If the confidence is not I, inthe business, I have not read
(02:53):
yet anything, and I am, I'm opento be corrected that the core
business model of s v b forgetsilicon forget the signature and
but for the ones that I know alittle bit better, which is
Silicon Valley and FirstRepublic, that they did not have
a sound.
Lending business or, main Streetbusiness that it, that clearly
(03:15):
they had forgotten the rules of1930s banking in terms of
matching liability maturity to,to assets.
Yet they did.
Yeah, exactly.
It's, I'm not excusing, I'm notexcusing it, but what I find
fascinating of course, is thatthe very facility that was put
in place after Silicon Valleyblew up would've been exactly
(03:36):
the one that they would've goneto when they were unwinding
their available for saleportfolio.
And yeah.
And looking at their uh, ahealth maturity portfolio.
Exactly.
If you were gonna do it Monday,why didn't you do it Friday?
Yeah.
I think you d up the situationvery well, and I first of all on
the maturity gaps.
The business of a bank in 2023is precisely to take that risk.
(03:56):
Now there's ways you canmitigate that risk, but that's
what most banks do around theworld is that they lend longer
term that they fund.
Second thing I would say is thatnormally banks have government
securities for two reasons.
One reason is to be, to haveliquidity ready for, as part of
(04:16):
your, requirements from theregulator to have liquidity
buffer, it's called.
Okay?
Yep.
And the second reason that theymay have government securities,
of course, they could do it inswaps too, is to hedge interest
rate risk.
Now in 2020, banks around theworld sold most of their
government securities.
(04:37):
Longer dated governmentsecurities because as long as 10
year yields in the Euro zone,for instance, were approaching
zero or negative there was, itwasn't hedging any risk to, to
hold the bonds anymore.
So most banks realized the gainsin those portfolios in Europe,
for instance.
And they are only rebuildingthe, what is called the Alco
(04:59):
portfolio, which is the bondsthat you hold in order to
mitigate the risk that rates godown because you have large
floating rate mortgage lendingbooks and that's how you're
trying to mitigate the risk thatinterest rates go down by own,
by holding bonds.
So that's one thing that thisbank didn't do it for that
reason.
The re because they don't have avery big mortgage book relative
(05:21):
to the positions they had ingovernment securities.
I think they're lending businesssound as it may be.
And I'm not this, and theredoesn't seem to be, any reason
to believe that it isn't?
And all provisioning in the USis forward looking and they
don't seem to be at least Iguess it's the same management
that was taking in the punting,but why did they hold longer?
Dated securities is probably afunction of trying to have
(05:45):
better earnings because you gotinitially better yields and then
you found yourself in asituation where you didn't
anymore and the curve invertedand you were screwed.
But what I think is going to besomething that needs to be
explained by their advisors iswhy did they think that
liquidating the available forsale portfolio and a, and
(06:09):
announcing that they were goingto raise money without having a
full, a fully underwrittencapital raise was the solution
to the problem.
I think their advisors in thisparticular situation were not,
probably well advised in, in,you why didn't this bank go to
the fed discount window?
Then we'll, I guess we'll havethe answer soon enough.
(06:32):
Yeah.
You mentioned Bank of, youmentioned that Bank of America
has 45% of its work equity inunrealized losses in their
health material account.
Yep.
They may very well have that.
They also have probably a largepercentage of their book value
in unrealized gains on thesecurities that they issued to
fund their book.
(06:53):
Because both can be, you can doboth at fair value and you
probably don't find that such abig misma.
Now, is that something that youshould go to bed and say it's
great that they're, that theyhave also unrealized gains if
they bought back their own debtand Yeah.
At the end of the day, bankingis a game where confidence is
very important in Japan.
and in countries where most ofthe depositors are retail are
(07:16):
not very well-informed, there'sgenerally you don't see
backgrounds.
I Backgrounds in Italy duringthe crisis.
The only people who took theirmoney out of Italian banks were
corporates.
Retail investors kept theirmoney even though most of the
banks were gone or close to gonefor Spain or Portugal.
You had the corporate depositorsleave and retail depositors stay
(07:39):
in Japan.
You had banks that reportednegative equity and have no
liquidity issued.
What I don't understand is whydid the, but I do understand, I
think why the supervisors andthe regulators in the United
States didn't move early.
And I think it is because thephilosophy of the previous
crisis was that we were notgoing to use taxpayers money
(08:03):
again to protect certain.
Risks that were clearly notprotected.
And then I guess they realizedthat taking 20 cents of haircuts
or on deposits, which was themore or less the consensus
estimate of the haircut that un,that uninsured depositors of
bank of Silicon Valley we'regoing to take was not acceptable
(08:26):
for the banking system as awhole.
And how they moved from oneposition to the other position
is probably, it's possible.
Interesting.
And, it would be interesting tobe the fly on the wall there
because Peter, you're probablymuch more well versed on Central
Bank policy regarding moralhazard and preventing moral
(08:46):
hazard situations.
Not necessarily but there's alot to unpack here.
And I'd say, there are a fewpieces of this.
One of them is, I went through abank training program in New
York in the early 1980s.
And we were not a verysophisticated bank.
We were big, but we were notnecessarily the sharpest knives
in the drawer.
But two of the things that theytaught us which was always, very
(09:09):
basic risk management, wasdiversification.
And and timing.
Get the, getting the, beingcareful of your mismatches,
which of course are inherent ina bank balance sheet, but they
have to be managed in a verycareful way.
And the monoline banking model,which is what, svb Silicon
Valley Bank was the prototype ofit, it was really a one
(09:31):
business, the one one trickpony.
which is not what you want in abank.
And their reliance on a certaintype of client on both sides of
the balance sheet was reallyjust a recipe for, it was
concentration of risk that agood risk manager and a good
supervisor especially shouldhave been, have had an eye on.
In the case of the supervisorsand their speed of action.
(09:54):
You're absolutely right.
It's I'd say that the differencehere is this happens or seemed
to have happened so quickly, itseemed to have come to life so
quickly.
Although in the market it was,apparently known since the
second half of 2022 that thisbank was suffering significant
withdrawals.
And yeah, a supervisor shouldhave been on that.
(10:15):
What and I guess we will findout, as you say, why it wasn't
in the capital increase.
I went through a capitalincrease in 2008 when this was
just a few weeks after Lehman'swhen the market would still
invest in banks.
And one of the things, that wasclear as we were doing this,
was, yeah, the underwriting hadto be 100%.
(10:35):
You couldn't, you didn't go tomarket without the issue being
underwritten.
And if you needed 2 billion incapital, you went to the market
for six or seven.
You went big because the marketwasn't gonna give you a second
chance two months later.
And that's and it worked out.
But those were different timeswhen investors were still
willing to invest in banks, evenin the midst of the biggest
(10:56):
financial crisis that we hadlived through.
So I guess the question now is,where does it go from here?
It, you would think.
It's absolutely the case thatmany small banks or, anything
from the mid-size to the smallones, were making money on this
carry trade, which is investingin treasuries at 4% or whatever
(11:17):
they're yielding and paying theone or two on their deposits or
less.
So it's gotta be cooked, bakedinto balance sheets all over the
country.
Now they've got a solution forthat, perhaps for a year or so
due to the Fed temporaryfacility that it announced over
the weekend.
But there's a lot of repair workto be done on balance sheets in
(11:38):
US banking and the, and itinvolves losses and could
involve another wave ofconsolidation.
And it could involve anotherbank run.
And the big question is the nextguy gonna be bailed out the
same?
Alex, you sent us an articleearlier today about how furious
European regulators andauthorities are that the US did
this guarantee on deposits,which, flies in the face of what
(12:01):
you were supposed to do as aYeah.
As a as it too big to fail or anon too big to fail regulator or
supervisor.
You weren't supposed to allowthis to happen, but there it is.
It happened.
Yeah.
I think it's like Mike Tysonsaid, everybody has a plan till
they get punched in the face.
And the European approach isvery different.
But it, when it's tested, it's,at the end.
(12:22):
But it hasn't been tested.
Yeah.
No, it has been, no, it has beentested yet, yet, yet.
What do you mean?
It has been tested?
Bangkok went to, it's beentested by bang of Poplar and the
two banks in Italy that were,yeah.
And they went into resolution,but there was no touching un in
uninsured depositors mainly inthe case of Bangkok because they
(12:45):
had already taken their moneyout and that's what led the bank
to, I don't know the situationas well as you do, and I'll
argue let me try to be a cThere's no arguing.
It's what happened.
It's a case and it's a casestudy and it's very interesting.
Have we already forgotten creditrisk getting 52 billion from
Central Bank of Switzerland?
Understand it's a differentjurisdiction, but still that's
what, that's the issue.
Fe suis is in Switzerland, whichis not in the European Union.
(13:07):
Understood.
Yeah.
Yeah.
But no.
Yes.
Look, I it's a, I benefit frombeing able to form an opinion
with very little facts.
And I will do so in this casewith pleasure, which is that?
Yeah, sure.
So far so good.
No problem.
Can I go on, can I finish mysentence?
Maybe because it was going to beinteresting if I finish.
(13:29):
The resolution process isdesigned to make sure that banks
don't get state aid until allthe bailing capital has been
disposed of.
And that in the original planincluded up to 8% of the
balances of senior and securedebt and uninsured depositors.
(13:50):
And the test, therefore iswhether they're going to go for
that haircut if necessary of 8%.
It's not that it's not aevaluation exercise, it's that
you need it's a just alegislative decision.
I think there might be anotherprecedent here that doesn't
directly involve depositors, butit does involve, public money,
(14:11):
the money of the public.
And that is the pension fundsand the similar mismatch in
September that slightly, thatsomewhat blew up in the uk.
Yes once again the moral hazardgot ditched or concerns about
moral hazard got ditched and theCentral Bank stepped in, in the
name of financial stability.
(14:31):
That's about the closestparallel, I think Recent
parallel as well as credit suiscolor, Luis Color Sinek.
But I just don't believe thatthe great pronouncement of the
great Christine La and the.
Or they sound, this is theblowing with the win or against
the win story from, basiceconomics, 50 years ago of
central banking.
Perhaps they will be right.
(14:53):
Perhaps they'll be able to holdto the, to, to those situations.
Let's step back for one second.
Just look at what happened, theproblem.
Silicon Valley Bank.
They had two problem.
They had three problems, right?
They had yes, indeed.
Extremely bad gap riskmanagement.
And when they were flushed withsame amount of VC money in a
2120 2021, they put it where,they idiotically thought it was
(15:17):
a safe, long-term end of thetreasury curve, thinking, you
can't get fired for investing myseason into treasuries and
trying to extend their, just asa still the average life was
three and a half years.
Okay.
Agreed.
And still the blue.
Yeah.
And still the available, theavailable for sale portfolio
took a 10% haircut.
The second thing that they'vesuffered, is enormously bad
(15:41):
communications management over aone week period on from the
management team, which is theidiocy of trying to go around
and essentially selectivelyleaking the fact that they had a
problem going through the saleand first for the sale and
second through the financing.
And instead of having some kindof logic with the regulators and
staying close to the regulatorsand basically thinking that they
(16:01):
were going to try to find asolution by themselves, seems to
me as that will be studied asextremely bad crisis management
from their side.
And again we can move on.
But the third part and to it'sreminds you a little bit of
long-term capital management.
Like you go to, yeah.
Hubris.
Listen, I have this problem.
Can you tell exactly.
Same counter party for a minute.
And I Exactly.
Let me call you back in a fewminutes.
(16:23):
I'm gonna, I'm gonna help you ina few minutes.
Don't worry about it.
Exactly.
I'll be right there.
And by the way, by the time Ifinished front running you would
you like 20 cents on the dollarfor your portfolio?
Yeah, absolutely.
I just think we're beingfacetious, but I'll tell you
what happened, okay.
And this is a problem that Ihave on a daily basis.
(16:43):
It was so out of modeling tothink of rates going where they
have Yes.
And long-term rates to go wherethey have and we and I tell you
that the position that we haveis in 50 year European swaps,
which I at 1.8% or 1.9%, not atfive.
Okay?
They move from zero to 1.8, thatthe counter party on a long
(17:07):
dated option on that trade,which is one of the main banks
in the world.
And it has been mentioned inthis podcast already once.
SU is suggesting to us that wetricked them when we put on the
trade in 2019, with a team oftwo guys in Madrid with a
Bloomberg.
We tricked one of the mightybanks in the world in the
(17:28):
pricing of two options on swaps.
So I am not surprised therefore,that unless sophisticated bank
in California that caters totechnology companies made a
miscalculation on the pace ofrate of rate hikes that could be
facing and the impact that, thatwould have on their one
portfolio.
I'm not trying to the first packthat the banks that are totally
(17:50):
insolvent, by the way, and wehave discussed this in previous
podcasts, are the central banks.
As a matter of fact, the onlycentral bank that is al that has
already acknowledged itsinsolvency is the National Bank
of Switzerland.
Yes, exactly.
Which reported a loss of$130billion for, sorry, not dollars.
Swiss Frans for 2022, but alsois an equity, it's also an
(18:11):
equity holder.
I It's a very bizarre Yeah, butthey lost equally inbound are
inequity because the bond indexlast year was as down as much as
the s and p as the NASDAQ andEuropean markets were actually
not did.
Okay.
So they lost more money on bondsthan they lost on equities.
Okay.
For the record, because you canlose a lot of money on bonds as
(18:31):
well.
And I think that, it, not onlyare they, have they taken that
loss, but now that they'repaying the deposits that banks
have a central bank, they have anegative operating income.
So nobody's talking about thatbecause nobody seems to worry
about that.
And they say worse comes toworse, the treasury will put in
some money.
I'm not sure that, okay.
Do Do me a favor, I'm gonnainterrupt you because I think I
(18:51):
was trying to say something in asimilar to you.
You let me just finish this.
I don't think the treasury ofPortugal.
Has the money to put into thecentral bank.
That's what I'm saying.
Yeah, of course.
Of.
of course.
But let me try to make a point,cause I really wanna get your
thoughts on this, my argumentmy, my thinking here though is
that compared to other bankingcrises that have ha happened in
the past, right?
(19:12):
It is very difficult toapportion a hundred percent of
the blame to the target here.
The argument still remains, Ithink that SVB and some of these
other companies had somewhat ofa core business and they made a
massive risk management error inthe face of, as you say
unprecedented actions by aconsolidated aire who has impact
(19:32):
on the market I either fed,right?
So Correct.
So the issue here becomes alittle bit different, right?
While you could have faulted,essentially the whole banking
system back in 2008 for havinghad idiotic and shamanic views
about credit, right?
In this particular case, whatyou had is that those people
were spending many percent oftheir time thinking about, what
risk am I doing lending againstrestricted stock and what kind
(19:55):
of weird products and what, theywas thinking all their time
trying to figure out how toadapt the banking system for the
technology, air business anddoing all that and probably
doing a reasonably good job atit profitably and actually,
providing services that theircustomers if they disappear, are
going to regret not having, butultimately, clearly they made a
(20:16):
mistake.
Clearly, they're not a tradingshop, they don't have a trading,
I don't know if they have atrading for, but they don't have
a, they don't do all thesethings.
If I may, lemme finish.
Let me, lemme finish please.
Lemme finish.
So my point remains that what'sinteresting about this is that
the Fed is put in a position,which is of weird because it is
an actor in this.
In this system.
And just similarly to what youtold me earlier about what the
(20:38):
Europeans think aboutregulation, the Europeans have
been exactly the same in termsof this behavior on rates
universally.
So the problem that you have isthat it's a systemic problem.
What happened is everybodyaround and this is to me the
most ironic thing and thefunniest thing is that if you go
back 20 years ago, peopledecried derivatives as being
risky as being idiotic for, forworking at it.
(21:00):
And the people pushing in,obviously we're talking about
risk management and many peopleuse derivatives, to add risk.
I get that.
But the point is that if youwere running and accepting
deposits in 2021 in the sizethat these comp that these banks
did, and you did not run ahedging, right?
And you were going where theliquidity was.
I think pretty much every bankbought along the curve.
But I'm guessing that the moreastute banks ran a better
(21:23):
hedging book in order to swap itout or otherwise manage their
risk in a better way.
What you have now is you havethe, and on the Federal Reserve
saying we are going to haveenormous impact on the cur on,
on the rate behavior which is,it's gonna have an impact, yet
we're gonna ignore the fact thatit's having an eroding impact to
the capital base of the bankingsystem.
Because the banking system,either through conservatism or
(21:45):
because they've forgotten theirbanking basics, or they had
their, they were learning thelessons from.
Issues of the 2008 and haveforgotten, like they were
solving the last war as opposedto the next war.
The actions of the Fed have hadan enormously destructive impact
on the very basis of afractional lending of the, on
the capital of fractionallending industry for which
(22:07):
ultimately they're the onlysolution to.
I agree that they that, I agreewith the Europeans, if you want
the central bankers that theAmericans just threw out the
playbook.
But in some ways this waspredictable.
Let's put it this way.
If you could transfer thedeposits, it costs nothing for a
c f O to take their balances anddeposit in size, particularly
(22:30):
the obviously the unsupportedbalances the uninsured balances
and move them somewhere else.
They're not earning anythingnow.
They're not gonna earn anythingin destination and everybody
should be sending it to Bank ofAmerica and the systemic banks.
That's the point there that youmake is very interesting.
In previous crisis, JP Morganhas refused to take on deposits
because they couldn't, there wasno benefit to them to have more
(22:55):
deposits cuz they couldn't doanything with them.
And they said, sorry, you're nota customer.
We're not taking your money.
Take it somewhere else.
These guys might have thoughtof.
Knowing enough about finance toknow that JP Morgan had done
that.
The thing that I findflabbergasting is that, at the
end of the day I am, I, all ofus have worked on Wall Street,
but I haven't been in a banksince 1997 or actually to be
(23:20):
factually correct since 1998,because even though I was in on,
in the asset management divisionof a bank, it was still a bank.
But the, you, you still, if youare in the financial profession,
you still need to know whatthat, certain things and there
is a cost to having depositsbecause you need to have, it,
there's certain things that youneed to do with the deposits in
terms of regulatory stop gaps,et cetera.
(23:43):
I cannot understand what theseguys were thinking to begin with
because they had nothing to dowith that money, with absolutely
nothing to do with that money.
They could have said, listen,you know what?
We want your business, so we'regonna have a fee income out of
you, which is what I would'vedone.
And I said, this is the Bank ofSilicon Valley money market
fund.
We're going to invest your moneyin treasuries and charge you 25
basis points.
(24:03):
Yes, that would've been fine andeverybody would still be alive,
and it would've been an easything to do.
Agreed.
One little anecdote just forfund that I find hilarious is at
least a half a dozen time overthe last 10 years, people have
come to the Fed trying to builda bank where the, all of the
deposits are held at the Fed.
And they came and asked forauthority to be able to take in
(24:26):
deposits, build a new bank, andthen put dollar for dollar with
no fractional reserves fullyreserved to the to the Federal
Reserve and have been turneddown by the Fed.
And I've been shut, torn down.
Shit.
Doesn't know what to do with themoney either.
Yeah.
No but agreed.
But, and that's just a transferof profits to the bank.
That's the, that's a carry tradethat would make, that would be a
(24:48):
political time bomb.
I, let me, I I'd love to do thattoo.
Everybody would take that turn.
Everybody would take that trade,right?
I'll do that's, yeah.
Lemme tell you something.
That's the discount window.
We talked about it before thisweek.
Everybody's talking about thefact there's$120 billion of
things repo at the discountwindow.
And it's a record number.
(25:09):
It's a meaningless numberbecause obviously the size of
the financial market is verydifferent today and 10 years
ago, 20 years ago.
But what's interesting is thatgoing to the discount window has
always had, A bad karma aboutit.
If you go to the discountwindow, you're telling the world
we have a problem.
Okay.
Yeah.
Yeah.
It's not it's like you have thissolution, but it's a solution.
(25:30):
Then damn, if you do it, damn ifyou don't.
And it's so I think people arereluctant to go to the discount
window in general.
And there's a, there is asolution to that, which is you,
everybody has to go to thediscount window X times a month.
Correct.
Time you have to do it.
That would be wonderful.
Absolutely.
You just and it's they lose alittle money on it.
Maybe not, but you have to go tothe discount window x times a
(25:51):
month, which is what they it'sexactly what the policy was with
the preferred securities thatthe treasury on the road for
banks, everybody had to take it.
Remember?
Because that way, no, there wasno signaling effect, and the
other thing that, I find, inEurope, and we're gonna be
testing this, and I agree withyou, Alex, that we're gonna see
how they blink.
First of all the E ECB does isnot the bank supervisor in
(26:13):
Europe.
There's a separate office calledthe single supervisory
mechanism, which is independentfrom the e cb and, and the
national central banks are cosupervisors.
That is the correct framework, Ibelieve.
Peter?
I think that s M ultimatelyreports into the E C B.
Yeah, but they have authorityright.
To Yeah, but they haveauthority.
(26:34):
They are, yes.
So in some cases, the EuropeanCommission takes, which is this
weird thing we have in Europe,which is unelected officials
that are appointed to agovernment that is a
bureaucratic gov government.
Okay.
So these guys sometimes come inand say maybe the statute or
(26:54):
maybe the European regulationsays this, but in this
particular case, we're going toallow based on exception 1 20 79
slash 27 or state A to comebefore resolution.
This has been the case withPanko Monte PAs, for instance.
There's been no resolution ofthe bank and the Italian
treasury has taken control ofthe bank.
So there is a flexibility hereas well that has been tested.
(27:18):
And I think that maybe becausethere's no Euro area wide in
banking union and deposits areguaranteed by national deposit
agencies that may be funded morebetter in some places than in
others.
They're gonna have to becreative.
Now the other area, which maybeyou guys wanna discuss, where
(27:39):
there's a lot of problemsbecause of the higher yields, is
in knife insurance.
Shall we go there?
Yes.
Okay.
Go ahead.
don't know the story well, soI'd love to be Okay.
You neither.
A life insurance company wouldguarantee you a certain a
certain payout on a policy, andyou make contributions to that.
And what they do is that todayyou say, you, you under, they
(28:02):
underwrite a policy that paysyou, let's go to the situation
of three years ago in Europe,they would say, I guarantee you
0%.
I kid you not.
They keep, I keep you not, theysold policies that guaranteed
0%.
And so their customer would putin money every periodically into
the, into that policy and wouldbe guaranteed to earn a whopping
(28:22):
0%.
When he redeemed the policy,then that 0% became 0.5%, then
1% once the number was positive.
The insurance company went backto doing what they normally do,
which is, you buy the bonds thatmatch the policy payout that you
have offered the customer.
And you have all these actuarialtables and then, and the
actuarial tables estimatepersistency and they estimate
(28:44):
longevity and they estimate alot of things and they come up
with the number of bonds.
The percentage of the policythat to be bought in bonds find
so far everybody is on withthis.
Now comes this problem again,multi standard deviation, moving
yields, and all of a sudden theagent who sold that policy to
the, to his client sees that thesame company that was selling
(29:08):
policies that guarantee 0.5%payout, is selling a policy that
guarantees a 3% payout.
So he says, oh, you know what,let's call the guy who I sold
the 0.5% policy to.
He has no penalty for earlyredemption.
and I just rolled it into thisnew policy at 3%.
(29:28):
Now the problem with this isthat it has taken down already
one life insurance company inItaly because they were holding
all these bonds to hedge thepolicies, and they're, and they
lost the policy.
So now they had to take theloss.
There was nothing to hedge.
And this is a small problem thatnobody's talking about, which I
think is not so small.
The second thing that nobody'stalking about, but we will, is
(29:52):
how these higher rates affectmarketing to market various
things.
Now, the stock market obviouslycorrected in a particular way.
There is a market that doesn'tseem, that seems to be far more
resilient to higher rate longdata rates than anything else.
And that's many private equityfunds that invest in.
Buyouts or infrastructure Yes.
(30:13):
Or real estate?
Real estate less so because I,we are already seeing some
blowups.
But yeah.
And these funds are widely heldby insurance companies in
Europe, as they have been boughtas a proxy to fixed income for
the past few years.
And some of these companies haveexposure to these illiquid funds
in, which is in excess of theirequity capital.
(30:36):
In particular, there's one ofthem, and, they should remain
nameless for now, which hasnearly three times.
It's equity capital invested inlevel three assets in private
equity guard.
Now, most of these privateequity funds obviously are not
going to be worth nothing.
They're gonna, but they may beworth less than the money that
you committed.
It's a, there's a possiblescenario where you have losses
(30:56):
there, and if you have threetimes your capital in these
investments and you lose, 30%,then you don't have capital
anymore.
Okay?
So it's, now this is anotherarea where people in general are
very excited about banks, butthey're forgetting that
insurance companies are also inthe financial markets and that
they, and they're an integralpart of the financial
infrastructure amongst otherthings.
(31:18):
Because typically they are thelargest buyers of bank debt
around.
So the circularity is there andI'll, and we'll, I'll leave the
floor to you see what you thinkabout this.
And the other segment, ofcourse, is asset management.
If you really get a breakdown inconfidence and again, mismatched
between the liquidity needs ifyou have redemptions and
(31:39):
withdraws and the nature of theportfolio that the asset
manager's holding, oh, that's aone.
That's a very good thing.
And you know what happened inthe US several years ago, right?
Oh yeah.
That, that the I don't rememberwhether it was the Fed or the s
e c or both required that fixedincome funds in the United
States would put into theprospectus language where they
(32:00):
could have gates Yeah.
To prevent these orderlyliquidations.
Alex, I think we lost you, but Ibelieve even with gates flood
accumulates behind the gate.
But so lemme ask.
No.
I mean, It's not a solution.
It's just postponing a problemand problems don't h well.
So it's, exactly.
And in private equity, as yousay, there's already gates up
around riots and and other realestate funds.
(32:24):
So Yeah.
It's all there and it's not astransparent as the banking
system.
It's, they're not as capitalizedas banks are.
Yeah.
And I think you're absolutelyright.
It's the one to watch, but Iwouldn't even, I don't even know
how to watch it as a layman.
You, and if you are to agreethat we are seeing financial
conditions tightening as wespeak then all the non-bank
(32:45):
financial inter theories aregoing to have issues with their
funding too, right?
Cause they're gonna have to getfunding somewhere so on and so
forth.
I am not saying that this is ahorrible situation, but I think
that first, the yield curve istelling you that we're going
into some kind of a big slowdownin economic activity, the way
it's inverted.
Secondly you have tightenfinancial conditions.
(33:07):
There's a lot of, there's stillsignificant leverage in the
system.
It's not like we havedeleverage, some countries have
more leverage than ever.
For instance, the and, and so onand so forth.
I, we, I don't want to soundoverly pessimistic, but we're
gonna have, I think we're gonnahave to be very attentive to how
this develops and what themarket obviously is hoping for
(33:29):
and is that they have finallycornered the central banks into
discontinuing the tightening.
I think politically it's verydifficult to see with inflation
as hot as it's running.
And with elections in the UnitedStates in 2024, I don't know
what's preferable to have a lot,most of the voters, I'm unhappy
(33:55):
because their purchasing poweris being attacked by high
inflation.
or the stock market doing okay.
And I would think that it'sprobably with unemployment at
3%, it's probably better to keepthe voter happy.
I don't know what you guysthink.
Yeah, I was gonna try to have aconversation.
we step back for a second andtry to elucidate what is
(34:16):
impossible, which is what hascaused inflation and I, in the
last couple of years.
And so I get the point thathistorically raising rates and,
crashing demand and a recessionshould have dampening impact on
rates.
And I would argue thattechnology is also having.
There's a facet just as acomplete aside right, Porsche
(34:38):
release numbers.
This week they had phenomenalnumbers up 10 to 20% across all
metrics.
And then they announced happilythat they were gonna keep 20%
margin and increase the pricesin order to maintain 20%
margins, essentially in twoinfinity and certainly next
year, right?
While you have, the yds, not tomention Tesla, but the Yds and
(34:58):
other volume manufacturers withmany times, the volumes that
the, you know, that thesemanufacturers have, are actually
on a cost a community costreduction curve, trying as much
as they can to reduce pricesacross the board.
Because for them it's adifferent story.
They need to get volume and in arecession, the only way to get
volume is to reduce prices,right?
F forget whether they make moneyat it or not, which they do, and
(35:20):
what they will no, what theydon't make in the margin, they
make up in the volume.
Yes.
Funny.
You can say that, but okay.
I'm happy to go through theTesla and b y d financials to
show that they are not cashflownegative in any no, you're
right.
The German manufacturers arehiking prices because there's
con constraints on capacity andthey're eliminating the small
(35:43):
the small cars from their lines.
And they're just hiking priceson the rest, and they're making
a shortage of cars, which ispossible because of these supply
disruptions.
And, maybe they, everybody'scolluding in Europe.
I don't know.
But the reality is that carprices are through the roof.
I'm the supposed to be one ofthe luckiest people life because
I'm gonna buy A B M W stationwhere I'm coming out of a lease
(36:04):
from a very good friend of minefor a song like, cause I'm,
know, I'm gonna pay 39,000 eurosfor a car that retails now for
125,000 euros.
So it's just crazy what'shappened to car prices.
So to, to that point.
And I would love to talk about GP T four and some of the other
things that happened this week,which I think are absolutely
fascinating.
But did it die?
Did it have problems?
(36:25):
Did it no.
They, something that wassupposed to be released in about
a year, ended up gettingreleased last week and this week
and is significantly morepowerful.
It is multimodal, which meansthat you can feed it a text and
images.
It'll do all kinds of things.
We can have the wholeconversations another time.
It is actually fascinating.
Let's talk about it next timewhen we can talk about
(36:46):
interesting stuff.
But what I wanna point out issomething different on
inflation, right?
I think that we have gotten usedto a model.
And I actually think thatWalmart, for example, is gonna
be the biggest loser in thatlogic where we are sourcing in a
complex supply chain from acrossthe world.
Let think of it this way 1,500SKUs per Walmart for mustard or
(37:09):
for, dining plates or whatever,it's that if you are if you want
to have a choice of, if you walkinto a store and you're
expecting to have the choice ofyour brand because you were
convinced by advertising or thatyou want to have tons of choice
in order to make the choice.
You are going to have a certainretail experience.
And that retail experience hasconsistently gone up because all
(37:32):
of those supply chains aretrying to get filled the same
way they did before.
Or you have the other model,which is, which to me is
obviously the Tesla model, theApple Model, trader Joe's,
Costco many others, where youhave much fewer choices.
the choices themselves are muchbetter thought through.
And there you haven't reallyseen there the supply chains are
(37:55):
much easier to reconfigure asproblems happen because you have
way fewer SKUs, you have muchless in the channel, many more,
many, many fewer inventoryissues across.
And so what I find interestingis that to me I really wonder
what is the inflation we'refighting, right?
I get the point that we are, Iflashing inflation of free money
and it was very easy for assetprices to be support and all
(38:15):
that kind of stuff.
We can have a conversation aboutasset prices, but I'm talking
about in the real world, whatI'm seeing is a difference
between convoluted supplychains.
That we are optimized for aworld situation, shipping cost
openness of China, any of thethings that you want to talk
about, container supply at LongBeach.
(38:36):
If I can I, you're absolutelyright.
I think Alex and, but the twodrivers of inflation are not
necess, they're not mutuallyexclusive.
They're not incompatible withone another.
And they both have the samesolution because there really is
only one solution, which is atighter monetary policy.
I wonder about that.
I wonder about that.
Just just to make a last point,this is my point, right?
If C P I turns out to go down,because it was a mostly of
(38:58):
supply chain issue and peoplehave substituted and they no
longer care about, let's say, ifone more prices go up, the
equivalent prices go down, or ifAmazon turns out to be a better
distribution system thanwhatever retail dis whatever it
is, that the supply chain getsreconfigured after Covid and
after the China.
Sure.
The China issues insofar asthings will get cheaper, lumber
(39:18):
gets cheaper, raw materials getcheaper, energy is cheaper, all
that kind of stuff.
And the c p I is down then Iwould not be surprised at all to
see the Fed abandon a tighteningmonetary supply because it
solves all their problems.
It's solves problem.
You mentioned that supply, ifthat supply side problem does
get solved.
Yep.
You're absolutely right.
Although I don't think, reallyhope that.
(39:38):
I don't, and I have a chartposted to the chat that, ah,
that you who are a magic guy canpost to everybody enlarged, and
this is a chart of the M twomoney supply measure to, and the
GDP of the United States innominal dollars.
And what you'll see in the chartis that as a result of COVID,
(39:59):
there was a jump in the ratio ofthe money supply to G D P two
levels that have never been seenin the past 22 years and or in
history, I would say.
And that in my opinion, is thereason for the inflation.
That in both in the US andEurope, you've seen a jump in
money supply that isunprecedented and therefore
because the velocity ofcirculation did not Go down, you
(40:23):
have too much money chasing toofew goods, and unemployment is
at a record low in many places,and populations are aging, et
cetera.
Immigration has been suppressedin many, especially in the
United States with a newlegislation and all these
factors combined make it for avery inflationary backdrop.
(40:43):
And I would say that monetarypolicy is very loose today.
The Taylor rule would suggest aFed funds rate of 6% and we
don't have a Fed funds rate of6%.
So I, what I would recommend toa lot of people is that they be
patient because this is aproblem that has monetary, a
(41:03):
monetary Reason to it.
And as you will see in thechart, the money supply is
beginning to taper taper off butyou still have a ratio of money
supply to gdp.
That's kind now what's happenedto the banks now, I think it's
gonna slow down the velocity ofmoney and the airport's gonna do
the Fed's job for them.
And maybe that's what allowsthem to ease earlier.
(41:24):
But other people would tell youthat what the Fed has done to
guarantee deposits is another qquantitative easing.
So I don't know.
Also the, as, as long as the,even if the supply side issues
that you mentioned, Alex, arethe driver.
The institution that we havecharged with with price
stability are central banks andthey only have, so much they
(41:48):
only have one or two arrows intheir quiver.
But that's why they said, that'swhy they said that inflation was
going to be temporary becausethey bought into this, they
bought into it, yeah.
They bought into the supplychain disruption and inflation
has not, has had that influence.
It's had many differentinfluences.
Yeah, agreed.
But they could have been wrongthen.
And right now, right?
Yeah, no, I think it's,inflation is a monetary
(42:10):
phenomenon, not a supplyphenomenon.
So if I if I can and this thisis an eternal argument.
It's an old one and our.
Are on it but I just like tolook at credit suis for a
moment.
Yes.
And to see if either of youthink what happened last week is
the beginning of is this fixed?
I don't, I'll tell you myopinion, I don't think it is
(42:31):
fixed.
52 billion Swiss Frans, over 54billion Swiss francs is about
10% of credit SU's balancesheet, maybe a little less since
they've been unwinding it.
It probably it wouldn't evenmeet the standards for the
liquidity coverage ratio of thebank recalculated on the basis
of the most recent withdrawals.
I, if you've, if you're aprivate banking client, I can't
(42:54):
imagine you're gonna stickaround credit sus to see what
happens.
I and I'm just wondering.
Yeah.
What what the next ch what thenext stage, what the next
chapter there is, because I,neither do I know what a
resolution plan would be.
I think this Swiss NationalBank's reaction was a strange
one to leave it twisting in thewind as long as it did.
I, people tell me it's becausethere's been terrible relations
(43:16):
between the Swiss National Bankand credit suis, which wouldn't
surprise me, but they did leaveinteresting in the wind there.
Anyway.
Yeah I have done a lot of workon credit suis because we're
been short for a while.
So I the, this bank has anexistential problem.
It's lost money, five out of thela the last nine years.
The book value per share isdeclined by 50% over the past 10
(43:39):
years.
The share count is up 280%.
It, they've lost some of thebest businesses to accidents
because the prime brokeragebusiness between before the
Archus thing was a greatbusiness for them.
I think what does are thenegatives, the positives is that
it has 110 million switch Fransof tlac, which is total loss
(44:00):
absorbing capital.
So relative to the size of thebalance sheet, that is a lot of
capital.
Okay.
Because it's not just theequity, it's all the other
instruments, right?
Sure.
So I think the tlac and theliquidity should provide time
for an orderly liquidation.
But I think that in thatliquidation, because it's such a
(44:22):
motivated seller, there mightnot be a lot left for current
shareholders.
And I think the best that can behoped for in this liquidation is
for unsecured creditors to make.
Most of their money back.
I don't know if you looked atthe bonds.
The bonds, I think some of thebonds we shouldn't be giving
financial advice here, but I,some of, there's two entities
that issue bonds.
(44:42):
There's an op, an operatingcompany, and a holding company.
Just to make it simple andprobably the operating company
bonds are fine.
But at the end of the day it wasjust not it was like in every
end of a cycle, there's onelarge investment bank that is
not needed anymore, whether it'sDrexel, Bernard Lamber, or it's
Lehman Brothers or Bankers Trustin, sorry I've got Bankers Trust
(45:05):
in 1998, or it's Lehman Brothersin 2008, and maybe Caris is the
one that the world doesn't needtoday.
So you are assuming liquidation?
No I'm assuming that they'reselling things to different
people.
Yeah.
So that the bank is dismembered,and then there's a.
You have maybe I'm not sureabout the investment bank.
I don't know if anybody, Alexprobably has a better sense of
that because he's much moreknowledgeable about investment
(45:27):
banking than there's a plan forthe investment bank, although I
don't know how that will workout now that the Swiss National
Bank is, has stepped in the way.
It has many of the best teamleft.
The problem is an investmentbank take, investment bank
reputation, and reason for beingin the minds of corporate is
(45:49):
something that you build slowlyover time and gets destroyed
quickly.
It's hard to see from theoutside.
It's hard to see depositorswanting to keep deposits there.
People want.
Them in their syndicates.
It's, it really is too big tofail, but has to fail.
So you tell me which one of theirresistible force and immovable
(46:11):
object is going to break first.
Feels like the return on the 52billion is just kicking the de
count down the road until suchtime as, they need to put more
money in.
And look I, what I worry aboutis this idea that if you make
things too big to be systematic,systematically poisonous you you
(46:33):
keep on having to avoid theproblem for a long period of
time.
Yeah.
And I, that's every so oftenthere's a European one that,
that goes through this.
This is, I would agree withLuis.
I think this one, if they couldbe an orderly liquidation and we
could all move on, I think themarket would be saner.
Sure.
With that, maybe we should drawit to a close, but should we do
(46:56):
the should we do the flashsurvey of what's up, what's
down, who's up, who's down?
I wanna ask us re regionalbanks.
Okay.
From where they are now which isdown 80 to I see only downside
for the reasons that we'vediscussed this.
The carry trade lack ofconfidence in certain banks.
Some of them are monoline.
(47:16):
Silicon Valley Bank isn't theonly monoline bank in, in the
country.
So I think down, shall I asknow, Jerome Powell, does he get
is your point, does he getreappointed.
Sure.
Let's say does he getreappointed?
Does he get, is he, I'm gonnasay, I'm gonna say is heed, or
(47:38):
he vilified or is he praised?
I don't think he gets praised inthe long term, and I don't think
he gets re conducted, but Ithink he was mediocre.
And it was a tough job.
He's I think he's a trulytalented guy who made this job
look even more difficult than ithad to be.
It's almost as if there, therehad never been a central banker
(47:59):
before him, and he is learningthe lessons for the first time.
Yeah.
Yeah.
Luis I don't have an opinion onJerome Powell, okay.
I think he was Delta.
Every person who takes on thatjob needs to know that they're
gonna see a lot of six Sigmaevents because our models for
understanding our world.
(48:20):
Are very bad, right?
So there's no such thing as aSixSigma event, but there's a
lot of things that happened thatwere not anticipated, or the
consequences of the actions werenot anticipated.
And he had the fiscal responseto the pandemic to deal with
without being able to doanything about it.
As a central, when you see thatkind of fiscal stimulus and
you're the central banker,normally you need to act quickly
(48:42):
because obviously the treasuryand the parliament are going
against your mandate or one ofyour mandates.
So I don't know.
Okay.
Let's make these flash answers.
US equities Bull.
I'm bullish on tech Bearish ofthe Dow Jones.
Yeah, same.
(49:02):
Alex, same.
Yeah I'm perhaps the opposite.
I'm more bullish on growth.
I'm sorry, more bullish on valuethan growth, but that's just me
fed funds rate By your end.
Let's give it a time.
Yeah.
Is it going up or down?
(49:24):
I think in spite of everythingthe Fed will do what the e ECB
has done, which is continueupdates may be at a slower pace
because again this inflationthing is not a joke.
You're right.
I think I agree.
I agree.
Alex, 4%.
Oh, ooh, 4% by the end of theyear.
Okay.
Yeah.
(49:45):
E ECB rates I think they'reprobably pause around here for a
while.
Yeah.
And they'll fuck it up again.
Sorry, did I say that No.
Not at all.
Not at all.
Not hear that at.
Okay, Alright.
Sorry.
Switching switch, switchingspeeds a little bit to politics.
Bullish or baris?
She of China.
Barish.
(50:05):
I mean for him, I think he'sgoing to be fine for us.
It's a problem.
Yeah.
I think he's I think he's on aroll right now, which is
frightening.
Which is not good.
Exactly.
Putin, bearish.
I'm bearish on Putin.
And bearish in the sense that heof his bear, that he used to get
(50:28):
drunk or no, bearish in thesense that you, Barry is the big
red bear.
What is this?
He's not gonna fix, he's notgonna fix his biggest problem.
Yeah.
Yeah.
Biden, I don't follow the day,the blow to blow, but he seems
to be having some victories insome of these things that he
(50:50):
finds and I don't know, butOkay.
Okay.
I would say.
Okay.
I agree.
I'm neutral.
I'm Biden.
Yeah.
I am, I don't think he getsreelected or he runs again, but
I think he will be seen as afine president, not, middle of
the pack.
Excellent.
(51:11):
All right.
Very good.
I'd asked you about MarchMadness, but it's early days
yet, so we can look at that.
Not, I don't know that we areallowed to talk about sport
betting on this podcast.
I don't follow.
I don't follow golf.
my, all on that note, thank youboth.
(51:34):
Oh, thank you.
Thank you guys.
Thank you.
Have a phenomen weekend.
Much love.
You too.
Take care.
Bye.
Bye.
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