Statement of John Corston, Acting Deputy Director, Complex Financial Institution Branch, Division of Supervision and Consumer Protection, Federal Deposit Insurance Corporation on Systemically Important Institutions and the Issue of "Too Big To Fail"

that contains some very interesting facts, and side from he bureaucratic commentary there is a real sense of incredulity that this is how big banks are managed.

The overall message is excruciating detail is one of rationalising insufficient regulatory oversight existed to permit the FDIC to adequately monitor the situation.  It describes the nature of onsite examiners at FI’s with greater that $10 Bn in assets (news to me) and how they were able to determine in 2008 with limited information that Wachovia was deteriorating do to increased bad debts but also doubts about derivatives which were being traded not as a hedge but for house benefit.

No surprises so far, and sounds like a regulator.  Then despite the bureaucracy no sooner than 11 + days before the demise of Wachovia, FDIC got excited that there was a problem despite earlier warnings.

In early September 2008, the FDIC became increasingly concerned with the liquidity condition of Wachovia. During the week of September 15^th, following the Lehman bankruptcy, Wachovia experienced significant deposit outflows totaling approximately $8.3 billion, representing a mix of deposit types, but primarily large commercial accounts. On September 23^rd, senior executives and staff of the FDIC met to discuss our elevated concerns with the institution, specifically noting liquidity concerns including considerable contingent funding risk and increasingly negative market views on the firm. The institution’s marginal and weakening financial condition made it vulnerable to this negative market perception.

This is the point where the detective work goes from years to minutes in detail.  Early September 2008, FDIC met with Wachovia executive regarding ‘elevated concerns’.

Liquidity pressures on Wachovia increased the evening of September 25^th when two regular Wachovia counterparties declined to lend to the firm.² Since the institution was a net seller of Federal Funds this signal was not viewed by the OCC as a catastrophic development. As discussed in the next section, the failure of WaMu was announced late in the evening on September 25th. As of the morning of Friday, September 26, the OCC indicated to the FDIC that Wachovia’s liquidity position remained manageable. During the day, however, market acceptance of Wachovia’s liabilities ceased as the company’s stock plunged, credit default swap spreads widened sharply, and many counterparties advised that they would require collateralization on any transactions with the bank.

So now over a 2 day period from Sept 23rd to Sept 25th Wachovia encounters counterparties to their commercial paper that will no longer lend to Wachovia, yet the OCC (Treasury) signaled all remains well.

Wachovia’s situation worsened as deposit outflows on Friday (26th) accelerated to approximately $5.7 billion, $1.1 billion in asset-back commercial paper and tri-party repurchase agreements could not be rolled over, and $3.2 billion in contingent funding was required on Variable Rate Demand Notes.

Then the final kicker.

On the morning of September 26^th, before U.S. financial markets opened for the day, the FDIC Board approved both the systemic risk exception and the acquisition of Wachovia by Citigroup. This proposed acquisition included government assistance in the form of an asset guaranty on a portion of Wachovia’s assets in exchange for $12 billion in Citigroup preferred stock and warrants. The terms of the asset guaranty called for Citigroup to absorb the first $42 billion in losses on a $312 billion segment of Wachovia’s assets with the FDIC covering any additional losses above that amount.

… …

In the end, the Citigroup transaction was superseded by an unassisted bid by Wells Fargo to acquire Wachovia that was announced on Friday, October 3^rd.

Relevance to Bankwatch:

The moral of this saga is the speed that a bank can disappear.  On September 23rd FDIC determined Wachovia was in serious trouble and September 26th Wachovia’s fate was sealed.  The speed of this is astounding and certainly speaks to the inability of the system to determine earlier that a problem was brewing.  But the FDIC already ranked Wachovia as being in trouble earlier in September (“FDIC became increasingly concerned with the liquidity condition”).  Surely some earlier activity could have occurred, especially since even this blog knew there was a systemic mortgage problem 18 months before Sept 2008!

For me this really speaks to the fragility of the banking system and the banks.  It also speaks to the lack of teeth that the regulators have, or are willing to exercise.  Its an obvious fact that banks operate at the convenience of government.  No legitimate enterprise could otherwise operate with debt to equity of 20 :1 +/- and survive. This occurs by virtue of the money markets and direct connection with the central bank who effectively manage the liquidity positions of banks. 

So long as that is the system there must be better co-ordination of information with the regulator so that banks are kept honest and do not get into the kind of house trading that made Wachovia a high risk market maker rather than a market participant.  This participation is high risk market activity not associated with basic banking is why Wachovia deserved to disappear.  The flip side is that banks create sufficient capital depth that they can operate independently.

The other statistic there is that about 38% (although the numbers in the article do not add up) of mortgages are securitised and held by others as investments.  This could be hedge funds, pension funds and other investment funds.  Obviously any impact on the housing market as referred to in the article could have impacts on the value of those securities.

House is Banks’ next sore spot (in Canada)

Canadian households have about $1-trillion of home loans outstanding, the latest statistics from the Bank of Canada show. Of that amount, about $495-billion is held by the chartered banks on their balance sheets. A further $300-billion of mortgages mostly issued by the banks has been made into mortgage-backed securities.

The tile of this post is a provocative statement I located at Islamic Finance Expert that will likely meet mostly deaf ears in the US however when we dig beneath the surface , there is merit to the statement when we appreciate it speaks to the methodologies and product design employed by banks to fund business and retail loans.  So US readers, please bear with me.

The western capitalist and financial approach is naturally designed to be one of animosity.  It is a highly one-sided affair whereby the debtor has only one approach available to them which is maintain all the terms and conditions of the debt.  In contrast the creditor owns all the terms and conditions and is always in charge, particularly when the circumstances change and those new circumstances always add to the rights of the creditor.  Whereas there is no change in circumstances that could arise whereby the debtors position could be advantaged over the creditor. 

The opposing capitalist argument would be that positive changes in asset values or profits from business ventures all accrue to the debtor, with no advantage to the creditor.

The very design of this structure is designed to become animus immediately upon a change in circumstances.

What is it about Islamic Finance that it different?

The source of the statement in the title of this post came from someone I was listening to on BBC news.  Linar Yakupov is a financier in the central Asian country of Tatarstan, a state that is part of the Russian federation.  Most Tatars are Sunni Muslims.  The point of the BBC piece was to point out the dramatic shift in commerce here since the opening of Russia and the dramatic increase in importing and consumption of Halal foodstuffs.

The piece continued on to note the increase in consumption of Shariah or Islamic Finance – the financial version of Halal. 

I have noted here before some of the aspects of Islamic Finance back in the 2006 – 2008 period, and it fell off my radar during the credit crisis.  But my approach back then was merely noting the demographic shifts in western countries and the opportunity that created for western banks.  I see now this was a limited view of the opportunity.

Is the economy really that bad that we need innovation in product design?

This is a new normal.  I just do not see how traditional approaches to financing can be the only means to an end in this environment. 

The newer and deeper message promoted by Yakupov and others is that Islamic Finance is a better alternative and one that could navigate the gyrations of capitalist economies particularly as we look out at probably 10 – 20 years of economic re-engineering caused by:

• western business & consumer deleveraging and the impact on asset values
• unemployment absorption & geographic reshaping (think Detroit & Pittsburg)

These shifts are enormous and US, Canada, UK and Europe are all being impacted.  History tells us that post crisis periods create genuine industrial and business innovation.  This occurred in 1870’s and 1930’s.  Richard Florida points out that there is nothing like severe downturns to generate innovation in The Great Reset.  The 1870’s created heavy industry and railroads.  This was a dramatic change.  Innovation such as the assembly line and large factories really took hold post 1930 and the resultant consumer boom lasted until now based on continual growth.  Those innovations in the 1870’s and 1930’s were more than simply the equivalent of a new web model.  They involved systemic shifts in commerce and business.

Financial design worked well so long as everything grew reasonably steadily and bank product design followed along and supported that path.  But what happens now that that bubble is burst.  Does current product design support consumers and business effectively in times of continual doubt and the working out of structural unemployment and the new value of assets particularly housing which have average new price variances across the US of incredible proportions.  (Saginaw-Saginaw Township North, MI $59K to San Jose $630K).  The important note is that the average prices have taken a new form as industry and business changes produced dramatic unemployment where economies were strong prior to the economic breakdown.  I also note that the realtor.org link where I located the average prices above notes NA for Detroit.  Seems a bit ostrich like of them.  Trulia.com is closer to the mark displaying homes in the between < $28K up to >$65K ranges.

It is hard to imagine how banks can operate rationally with such shifts occurring.  The results are neither good for banks nor consumers.  Banks will simply exit the Detroits of the world and that sticks with the one-side model referred to above.

Some specifics on Islamic finance that could work for the post crisis world

Interview with Linar Yakupov.

Principles of investment that support local and infrastrucure: 

• Firstly, according to Shari’ah principles – TIIC doesn’t participate in business connecting with gaming, alcohol and pork production etc. Yet another important moment, to which I would like to draw attention is the fact that TIIC will maximally distance itself from the oil patch. Generally, the investment company will be the additional lokomotive for the diversification of our economy – not only in Tatarstan but in other regions of Russia. 60% of investment will be for our Republic, the remaining is planned to be invested in projects of other regions of Russia.

Helping people help themselves:

• In the Halal Industrial Park the facilities for successful completion of the cycle are provided in order to solve this problem – from the farmer to the consumer. HIP will unite the whole circulation of production flow: from the small and medium-sized businesses’ employers, engaging in manufacturing, to the consumer. Linova-Trade, the special company promoting the production of HIP, has been setted up yet. It will start the activity from the next year.

The main point:

• Moreover, exactly the slant to the speculative instruments in the traditional finance sphere led to the grave crisis. On that score Islamic finance and banking, or ethical banks, how they started to be called nowadays, don’t allow to produce speculation and are turned out to be a sort of  anti-crisis instrument. We don’t say that Islamic finances are the panacea, but they could be the revitalizing factor for the whole economy. If this objective implements, we will be very pleased.

Sharing of risk is a core aspect within Islamic finance from International Shari’ah Research Academy for Islamic Finance (ISRA).

The nature of contracts, which requires that risk be shared by the contracting parties, exemplifies the principle of fairness and justice in Islamic Finance. For instance the partnership contract (musharakah) specifies that all the parties that share the capital in a particular venture will share the profit in proportion to their capital contributions. On the other hand, if there is any loss, all have to share the loss according to the portion of the capital contributed. This equity-based contract will also help to generate greater economic activities through the principle of profit-and-loss sharing; and the clearly defined risk-and-profit-sharing characteristic serves as an additional built-in mechanism to avoid any disputes and economic uncertainties.

Relevance to Bankwatch:

We are in changeable economic times, and everyone expects that to last for many years to come.  Today on Fareed Zakaria his topic was ideas as he seeks to understand what it will take to operate and thrive in this new world.  He interviews Robert Kaplan, Clay Shirky and Richard Florida.  (It is an hour that knocks it out of the park if the future interests you)

What struck me about the methodology espoused by Islamic Finance is not the adoption of Islam or Halal.  Rather it is the adoption of sound principles that avoid the bad and focus on the good (Umair would like that).  It is not a rhetoric argument to argue that gaming and alcohol business will not generate the innovation required to move us through these times.  Rather what struck me is the focus on non-speculative core business which in the case of Tatarstan happens to he Halal but there is no reason these finance principles cannot be applied to core businesses that operate in western economies. 

A core aspect of product redesign that banks can learn from Islamic finance is shared risk.  What if mortgages made during the period 2003 – 2007 had a proportion based on shared risk and benefit.  This would have limited the home ATM phenomenon, speculation would have been reduced, and frankly less risks would have been taken.  A product designed this way where the bank shared in the appreciation on homes would have had no interest in 2006, but what of such a product in the 2010 – 2020 timeframe?

Back in 2008 I noted the proposal by Niall Ferguson for a Jubilee as the only solution because he believes the deleveraging necessary is too large to absorb.  Jubilee means (amongst other things) debt forgiveness and Niall noted the many times this has been used in history to get past a bubble.  Islamic finance uses shared risk as a method of producing a softer landing than absolute debt forgiveness but achieves similar results.

It just strikes me that there are serious lessons to be learned from the world of Islamic Finance that can be applied to genuine innovation of western financial products that would work not just for Muslims for for western consumers, business and economies. 

What is intriguing is that the bankrate article seems to suggest this is a bad thing. The reasons provided in the quote below just sound like back to basics banking process that provides lenders and customers protection.

In fact it suggests brokers can only operate in a loose credit/ no diligence environment. I do not believe that and surely there is a model for brokers that involves lending discipline.

http://www.usatoday.com/money/economy/housing/2010-08-28-mortgage-brokers_N.htm

Credit histories must be dutifully compiled for all borrowers. And any number of new criteria can lead to a refusal to lend. One new practice closes the door on loans to anyone who’s done a short sale — a way of selling a house when the sale proceeds fall below the balance on the mortgage — in the past three years.

Even at the Canada level the savings rate is going in the opposite direction of western economies, and adding to debt, ie not saving.  This perplexing environment is hard for Canadian Banks to formulate a credible strategy around.

The Boeckh Investment Letter

While Canada has deservedly had a good ride in recent years particularly through the global recession, due to strong Federal Government finances and a strong balance sheet, all is not quite as rosy as meets the eye. Chart 16 shows that, while the U.S. savings rate has gone from 2% to 6.5% since 2007, the Canadian savings rate, after a brief rally, has collapsed to about 2 1/2%.

Canadian households have continued to add to their debt, oblivious to the changed world environment. House prices rose to new highs during the recovery, while U.S. house prices are down over 30% from their peak.  Moreover, while federal debt levels and trends are good by world standards, provincial debts are disastrous. There is even some talk of Ontario going the way of California. Its per capita public debt is ten times that of California whose bonds are rated slightly less risky than Croatia’s.

Banks approve just 1,000 mortgages a day | Daily Telegraph

It is down from 34,575 mortgages the previous month and the situation has got significantly worse compared with last year, with levels down from 41,353 mortgages in July 2009.  The latest figure is half the amount of mortgages approved before the credit crisis hit.

http://www.youtube.com/watch?v=62GKD-seO0g#sf484248

I have been preaching for some time that bank product design since 2007 is not really attacking the core aspect of post crisis consumer need which I would characterise as features that support a deleveraging environment, where people saving and paying down debt is the defining average consumer strategy.  This new product from ING supports that strategy with a full featured yet cheap chequing facility.

ING Direct Canada Press release

August 18, 2010 @ 06:00AM

TORONTO – ING DIRECT today announced the upcoming launch of THRiVE Chequing, an online, no-fee daily chequing account that will enable Canadians to deposit, withdraw or transfer money for free, all while earning interest.  The first chequing account made for Savers, THRiVE Chequing stems from the frustration many Canadians feel about unfair bank fees that are on the rise.

According to a recent national poll conducted by Angus Reid Public Opinion on behalf of ING DIRECT, a quarter of Canadians are simply unaware of how much they pay in monthly bank fees, which on average is about $185 annually.

Financial Times

US banks ease lending standards
Geithner calls for housing finance reform
US housing starts make modest rebound
US house mortgage arrears mount
US pressure grows to extend tax cuts for rich
US Housing
US yields
US builder slump deepens in August
Call for careful overhaul of US mortgage lending
Fed needs firepower to zap deflation monster

Bank of America

eBanking

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Learn more about eBanking>>

Monthly fee waived when:

• Deposits and withdrawals are made electronically or at our ATMs
  AND
• You choose online paperless statements through Online Banking

Otherwise, $8.95 per month

Three Years on, Is the Financial Crisis Over? | Yahoo Finance

Three years ago to the day, BNP Paribas, the French banking giant, suspended redemptions on three funds, marking the beginning of the credit crunch.

Sure enough it was 9th August, 2007 I posted on it and noted that the US sub prime problem was going international and pointing to deeper rooted problems with banks.

Relevance to Bankwatch:
Two sets of recent events underscore the heightened risks Banks are taking to improve profits.  Speculative investment in commodity markets amongst a few Banks earlier in the year, and now the international impacts of the US Sub Prime all suggest that some Bankers are losing sight of that primary Banking mantra – ‘know your customer’.

On the weekend there were two significant developments affecting American banks that result from the last 3 years of fallout.

US to pay big sums for Wall St tip-offs

Banks’ reports speak volumes

Much of the turnaround reported this week is down to tighter cost management, disposals and a lessening of the worst news, such as impairments. On the plus side for investors, the new business trickling in is more profitable because of the fatter margins it offers. More than one chief executive this week has bemoaned the lack of appetite for fresh loans.

The FT’s point is that the length of the 4 UK banks interim reports are over 800 pages in total.  The RBS one is 303 pages alone.  This is indicative of the focus on maintaining the governance associated with government ownership and supervision and the associated costs and time commitment for a quarterly report that is longer than many annual reports.

Relevance to Bankwatch:

Banks’ response to the crisis has really been as expected and quite defensive to date.  It has been one of continuing with branding strategies and manage costs down.  Stay below the radar and hope it all gets better.  My take back in early 2009 was that we would see a ‘great unwinding’ of debt problems in banks.  I had no idea how back then but the answer has been Quantitative Easing or central banks taking over banks loans and in the UK case taking over bank ownership in lieu.  My prediction then was:

This will effectively split the financial community into two distinct sets:

1. financial utilities – significant operating restrictions in light of implicit and explicit government guarantees underpinning the business
2. risk takers – not clearly defined as yet – will be dependent on regulation applicability

We have seen lots of 1. and the RBS report highlights the workings of a bank as a regulated utility.  The word ‘innovation’ appears no-where in the document.  A search for ‘new product’ shows once as a “we continue to focus on new products to diversify …etc etc”.  It is generally a stuffier than usual document and one that reads to me as written for the regulators.

There are some germs of evidence of 2. showing finally with the likes of Metro Bank and Virgin Finance springing to mind.  Less evidence in the North American market to date, and backwards progress with the demise of Wesabe.  In terms of significant players, Lending Club and Mint spring to mind as some evidence.

US banks braced for slump in profits | ft.com

Trading activity picked up a little in recent days after the release of European banks’ “stress tests”. However, deepening fears of a permanent end to the trading boom that supported financial groups’ earnings after the financial crisis are prompting some banks to consider laying off traders.

“July was a miserable month for trading,” one senior banker said. “If August and September don’t rebound sharply, banks will be forced to cut jobs.”

The squeeze in trading profits highlights the rising importance of groups’ consumer and commercial banking operations, whose performance is improving as the economy heals.

From the same article I came across this statistical review of investment shifts since before and after the crisis.  It seems to show that net assets have relatively shifted to cash assets, and that equities are still 25% below 2007 values.

Another related theme is that for a relatively small country like Canada it must build on its strengths and bring a pragmatic approach to its dealings with other countries.  In real terms this means pick the strengths that are beneficial and abandon those that are not.  It turns out the US Canada border negotiations broke down because of Canada’s stance on protection of privacy and sharing of fingerprints, retinal scans etc.  At what cost does a Canada stick to such principles?

On the other hand, and more relevant to this blog, Canada has some real enduring strengths in fiscal conservatism and management of financial institutions. 

 Open Canada | CIC

This means Canada will have to work that much harder to find spots where we can exercise leadership, such as the Arctic Council, yet another Canadian creation, and global financial regulation. Today, our international finance officials stand out the same way our foreign service officers once did.

The financial crisis has presented us with a mini-Suez moment. We have our own interests at stake and  helping our friends and allies find a way out of the jam serves those interests alongside the greater good. We can show them what we learned digging ourselves out from 20-plus years of deficits and how we did it without igniting riots in the streets. We can show them how prudent financial regulation and market principles can co-exist. We can apply our knowledge and credibility to the development of some kind of ‘peacekeepers’ of the financial order.

Relevance to Bankwatch:

There are some quite deep and genuine themes that Banks could learn from and lever in this report.  For starters, if Canadian finance is as strong then why are more takeovers/ integrations/ partnerships not taking place between Canadian and US financial institutions.

Next up is Innovation.  Canada fares badly here.

Yet it turns out three Canadian banks somehow made the list of innovative Canadian companies.  I must find the list, but either we don’t understand innovation, or we should lever this strength.

Innovation is the greatest generator of wealth in today’s global economy. Ideas have replaced industry on the  commanding heights of the postindustrial economy. Yet in a recent ranking of Canadian companies, the top dozen consisted of eight in the resource-extraction business, three banks and only one (Waterloo’s Research In Motion) that could be described as a homegrown innovation success.

By its nature this report is aimed at Government and the approaches they should consider, but Banks and particularly Canadian banks with their relatively large size within the Canadian economy have some role to play here.

Spring forecast 2009 publication15048_en

Summaryreport_stress_tests

Bottom line – 7 banks failed to meet the tier 1 threshold of 6% under the adverse test.

1. Hypo Real Estate Holding (Germany)
2. ATEbank (Greece)
3. DIADA (Spain)
4. Espiga (Spain)
5. Banca Civica (Spain)
6. Unnim (Spain)
7. Cajasur (Spain)

This from the report:

As a result of the exercise, under the adverse scenario 7 banks would see their Tier 1 capital ratios fall below 6%, with an overall shortfall of 3.5 bn € of Tier 1 own funds. The threshold of 6% is used as a benchmark solely for the purpose of this stress test exercise.

What struck me though is the large number that are too close to call.  There are another 17 banks who came in within 1% of the 6% threshold for tier 1 capital.  This a total of 24 out of 91 banks – more than a quarter.   Eyeballing it, Spain, Greece and Germany are in worst shape (yes Germany).

If we look at those who are in single digits for tier 1 then that is well over 50%.  All in all not an encouraging assessment despite the claims that the Euro banks are in good shape.  They are still bound to the Euro governments for support to ensure  that the Euro area does not experience an economic collapse in event of another 2008.

Fast forward to this morning, and look at the market caps.

No-one doubts the shift to mobile and I still love my iPhone.  However care should be taken in isolating daily jumps in emotional stock markets which can generate attention grabbing headlines that may well prove to be proof of a long term trend, but that must be tempered with the next days reality too.  Trends are not made in daily shifts.  That May 26th headline looks a bit lame this morning, with real doubts about the reputation management at Apple being expressed in the 8.95% drop. 

Apple reputation is at stake

Who knows how much this will translate into product quality issues at Apple.  That would take a brave predictor of the future.  Will my next phone be an iPhone or an Android?  Already after 6 months iPhone use I have shifted entirely to non-native app usage including browser based gmail using the new html5 app which is superb and features google docs too.  Same with youtube. 

So now my decision point in phone choice is solely hardware quality and little to do with native app quality, or even App (as in app store) quality.  So long as I have a quality browser that deals with html 5 I am app agnostic and simply want the best hardware, something android devices have severely lacked, but are improving steadily.  Of course development is still required to make the app work on iphone or android but the user experience will be similar in a browser on both presumably because html 5 is the consistent standard.  Which brings me back to the best hardware.  iphone currently win that battle, but last weeks antennagate indicates a potential chink in the armour.

I suspect that is why we see the large market sentiment drop on Apple this morning.  That may change by afternoon, however how Apple restore reputation on hardware quality over the coming months will still be  critical in the long term.

Q2 2010 Bellwether: marketing spend down

The latest IPA/BDO Bellwether survey published today (12th July 2010) reveals that marketing budgets were revised down in Q2 amid uncertainty regarding the economic outlook, with around 20% of companies reporting a downward revision against 15% that reported an increase.  Business confidence has also dipped with positive sentiment the lowest for a year. However the rate of budget trimming was much slower than at the height of the downturn

<rant>

As cool as the iphone is, there are some things that just don’t change under the covers, whether its windows, or apple OS and thats memory management.  This is lazy code development.

The example here is the use of memory in the fake multitasking implemented in iOS 4.  Multitasking is not multitasking in iOS 4 – it is restricted to 3 areas (audio, VoIP, and location data).  Read here for the experts outline.  So if it is not real, then at least do not unnecessarily use up my memory with the apps that are not multitasking by retaining them in the multitask bar. Here is why it bugs me. 

1) here is the memory status on my phone after 2 or 3 weeks without rebooting.  Note free memory is 10 MB.

2.  After running memory clean, I got another 42MB free.

3. But the real kicker.  I closed all the apps in the multitask bar which included no music apps, and 3 geo-location apps.  Those should be the only multitask apps with live api access.  The other 13 apps are just sitting in the multitask bar taking up memory as far as I can see.  How much?  I closed everything and ran mem status again.

4. 70 MB!!!  This is ridiculous.  There is not even a function in a non-jailbroken iphone to restrict which apps head into the multitask bar.

Ho hum.  I love iphone, but iOS 4 is a loser so far in my view when the single largest promise is such a failure.

</rant>

For now we can assess from the web site.  The arguments are well articulated and many have appeared on this and other blogs over the last few years and it makes sense to encapsulate into a book because banks do not get it apparently despite efforts of the likes of netbanker and others to offer guidance.

Bank2.0 | Banking4Tomorrow

Brett King’s new book, BANK 2.0 – How customer behaviour and technology will change the future of financial services (Marshall Cavendish; publication date: March 29, 2010), exposes the massive flaws in the retail banking system due to dramatic shifts that have taken place in customer behaviour and the complete failure of banks to recognize and respond to those shifts. The key message is that the banking system is broken, not because of regulation, but because banks just don’t understand or care about their customers anymore.

However, in my view, the picture is bigger and actually worse than indicated.  The premise noted above would apparently only require banks to ‘get it’ and all would be well.

It just ain’t that simple though.  There are other factors that I have summarised before that are at play and which hinder otherwise rational bankers from doing the right thing in my view.

CNN bolsters profits even as ratings slump | ft.com

CNN has received a drubbing from rivals on both sides of the political spectrum –News Corp’s right-leaning Fox News Channel and NBC Universal’s liberal MSNBC network.

…

“CNN really has to come up with a formula that will resonate with viewers and attract advertising dollars. News is ubiquitous,” said Brad Adgate, senior vice-president of research at Horizon Media, an independent media agency.

As CNN disposes of Campbell Brown, and before that Paula Zahn I wonder if they are aiming for the right target. The business ecosystem is different now, and maybe, just maybe CNN have some secrets that are the right approach.  Certainly their global reach is different and better than their competitors.  When I travel CNN and BBC are ‘the’ news sources.  CNN’s online properties are lucrative beyond their competitors. 

Relevance to Bankwatch:

When Banks compare themselves to competition are you using old metrics (market share, share of deposits share of mortgages, etc) or new metrics (in CNN situation profit). 

It just strikes me that CNN could possibly me an early indicator of a new shift in industrial measurement success.

Virgin Money hasn’t given up on Canada | Globe and Mail

That’s not to suggest that he’s not working on it. Wal-Mart just recently received the nod from Canada’s financial services regulator to start a bank in Canada, having been working on the concept since at least 2006.

We all speak of globalisation and these five forces nicely capture the implications and results.  For example something I have been reading a lot about is the concept of ‘market state’ and that is one of the five.  A result of market state thinking is the UK budget last week which recognises States cannot afford the level of government the old order requested.

Banks need to learn to adapt to this new order.  The changes are real and have consequential implications for people and affordability of purchases and asset values.

Global forces: An introduction | McKinsey

For much of the past year, a team at McKinsey has revisited and retested our assumptions about the key global trends that will define the coming era. We have identified five forces, or crucibles, where the stresses and tensions will be greatest and thus offer the richest opportunities for companies to innovate and change:

• The great rebalancing. The coming decade will be the first in 200 years when emerging-market countries contribute more growth than the developed ones. This growth will not only create a wave of new middle-class consumers but also drive profound innovations in product design, market infrastructure, and value chains.
• The productivity imperative. Developed-world economies will need to generate pronounced gains in productivity to power continued economic growth. The most dramatic innovations in the Western world are likely to be those that accelerate economic productivity.
• The global grid. The global economy is growing ever more connected. Complex flows of capital, goods, information, and people are creating an interlinked network that spans geographies, social groups, and economies in ways that permit large-scale interactions at any moment. This expanding grid is seeding new business models and accelerating the pace of innovation. It also makes destabilizing cycles of volatility more likely.
• Pricing the planet. A collision is shaping up among the rising demand for resources, constrained supplies, and changing social attitudes toward environmental protection. The next decade will see an increased focus on resource productivity, the emergence of substantial clean-tech industries, and regulatory initiatives.
• The market state. The often contradictory demands of driving economic growth and providing the necessary safety nets to maintain social stability have put governments under extraordinary pressure. Globalization applies additional heat: how will distinctly national entities govern in an increasingly globalized world?

Global Forces website

Check it out.  Her profile is in the link below and she only has 147 connections so they were picked with some thought presumably and given her mandate to seek intelligence and information.

EDIT – 9th July, 2010

Follow up.  Her Linkedin profile has been erased.

From Roubini to Russia with love | FT

Her Linkedin profile has her listed as a VP at KIT Fortis Investments, “Head of IPO at Navigator hedge Fund,” and “Slave at Barclays Bank” in London (hopefully not literally). Barclays has already told the Daily Mail it has no record of Chapman working in its investment division in 2004 and 2005.

Online Finance Startup Wesabe Heads To The Deadpool | Techcrunch

The startup’s homepage now consists of a letter to Wesabe users instructing them to download their account information by July 31, at which point nearly all of the service’s features will be taken offline and data deleted. 

And from the Wesabe home page:

In recent months Wesabe has been operating on a shoestring budget, with support from some of the developers and operations people who made up our core team. While the site has remained online and we continue to hear from people who find it helpful, we have not been able to provide the support people need to use it for something so central as financial management. I’ve felt especially terrible that some members have a good initial experience but then hit a problem, often after investing many hours, and aren’t able to get help with it. That’s obviously a bad experience, and not what we want to offer. Also, because Wesabe stores such highly sensitive data, continuing to operate the service with shoestring operations and security staff is not acceptable, and we do not want to continue accepting new accounts if we cannot guarantee the security level we believe our service requires.

Homo economicus – or more like Homer Simpson? Deutsche Bank Research

Many of the issues listed here may seem obvious. But in an environment like economics and finance, precisely because it is perceived as being so highly rational, the influence of psychological factors and sentiment is frequently underestimated. Of course, heeding these points – arguably not always such an easy matter in practice – will not automatically guarantee the success of an investment. But it could certainly help avoid mistakes here and there. As with  Homer Simpson, who acknowledges the effect of psychology on his behaviour when he realises that he is confused, the situations we have described may contribute to a clearer awareness of the impact that psychological factors have on our decision making.

33% of banks have gone to the market to raise capital or will go to market to raise capital | Grant Thornton

CHICAGO, June 24, 2010 – According to Grant Thornton LLP’s 17th Bank Executive Survey, conducted in conjunction with Bank Director magazine, one-third (33%) of bankers said that their bank was very likely to go the market to raise capital in the next 12 months (22%) or has already successfully gone to the market to raise capital (11%).

For economic wonks here is a lengthy and broad interview this morning with Larry Summers.

He paints a positive picture that America has turned the corner, is producing jobs, and progressing well. 

On the question of stimulus versus consolidation, he makes the point that a country with growth has a greater chance of being in control of its own destiny.  He notes that non growth countries find it very hard to maintain a positive financial picture (alluding to Japan).

He talks specifically about the origins of G20 and how he and Paul Martin were the originals in setting that up.

Worth the listen.

Collapsed debt market poses dilemma for G20 | Financial Times

So far, few non-bankers have really noticed this collapse, largely because governments have stepped into the breach, papering over the gaping hole. In the US, for example, the Federal Reserve has bought $1,250bn of mortgage-backed securities. In Europe, the Bank of England and ECB have gobbled up mortgage-backed bonds, and other securitised assets, via repo deals. Before 2007, eurozone banks sold more than 95 per cent of their securitised products to private sector investors; now it is under 5 per cent – with the rest going mostly to the ECB.

Relevance to Bankwatch:

Pre crisis, Banks were able to package up mortgage loans into batches and sell them off.  This securitisation brought in new liquidity that allowed banks to make more money on the same dollar by making additional loans.  The pre crisis rules allowed the securitised mortgages to be kept off balance sheet, so the loans from the new liquidity had nominal requirement to increase capital. 

This drive a certain marketing and product design strategy based on maximum volume at any cost.  Broker fees were enormous but banks happily paid to drive more volume in this capital cost free environment.

Fast forward to Gillian’s comments above, and we see the markets have probably factored in the G20 regulation that will require securitized loans to be included in balance sheet calculations and therefore capital requirements as required by Basle.

The new environment is less transactional volume driven and more quality driven. Customers must really be happy and happy enough to purchase more products and services that produce revenue.  They must also be sufficiently satisfied to advocate their bank to friends and relatives.  This suggests a very different model for banks and that’s why the securitisation market matters.

Notes on her talk.

State failures have made it very easy for markets to fail.  She speaks about public goods and how everyone wants everything, but no-one wants to pay.  Free-riding, and this applies to countries as well.  This helps us to understand why G20 talks but accomplishes little.

Leaders should set agenda – we need a Gxx for each global challenge, eg climate change.  Ministerial level G’s for each global issue.

It is not acceptable to through garbage over the neighbours fence.  Pollution is no different.

We need urgently a new global public finance theory.  Tax, movement of money, stimulus, consolidation.  There is no understood common framework to understand how to make those decisions.

Free-riding hurts money for public development.

Speaking now is Jomo Kwame Sundaram, Assistant Secretary-General for Economic Development, Department of Economic and Social Affairs, United Nations, and facilitated by Chrystia Freeland, Global Editor at Large, Thompson Reuters.  His role is the link on economic affairs between the G20 and the UN.  [Note Paul Martin remains in the audience listening.]

Broadly he is making the case that the thing to be feared is deflation, and that the amount of stimulus that has occurred is significantly short of what should have happened.  He references Africa quite frequently and I infer that the additional stimulus he proposes should largely be directed at Africa. 

Q&A:

Chrystia:  how do you reconcile the size of G20 and the countries that are excluded.  Jomo:  Some see the UN as the bridge to the rest of the world.There is a ‘grudging’ acceptance of the G20 as a reasonable balance of size and ability to get decisions made quickly.  However there is a sense that the G20 has not accomplished much since the London meeting. 

Audience:  Question on the level of debt (personal, corporate, government) in the world, that needs to be addressed since it has ballooned to something over 300% of GDP.  Its a disaster waiting to happen.  [Great question.]   Jomo:  the closest forum is the FSB and the Basle committee.  Does not really have answer other than blaming derivatives.  Now he is blaming alarmist discussion on the impacts of debt.  He specifically mentions that private debt and public debt are not the same [huh?]

Chrystia:  stimulus or consolidation:  Jomo;  dodged this too.  Somehow he is back on to helping farmers in Africa.  [he must work for the UN]

Notes on Martin begin here:

Global governance requires a global steering committee covering these issues.

1. breadth of issues
2. priority
3. results
4. ability to reach out to those not represented in the G20

Nations will negotiate in their own self interest.  More and more each country’s self interest is reflected in global interests. Members are members because of power and position, but their responsibilities go much further.

Three examples.

• poverty
• banking
• climate change

Food shortages are and imbalances in the food chain, especially Africa.  Governments are downing tools on Africa and awaiting the next banking crisis.  Speaking at length about Africa, mentioning Burquino Faso and other countries where the crisis is desperate.

Climate Change:  The next meeting is November in Mexico.  Mistake to not have a G20 parallel meeting of leaders on climate change.  Some movement earlier this year in Europe but will G20 pick it up.

Banking:  todays financial crisis shows just how unprepared the economies of the global economy are.  Too many countries are having to confront devastated balance sheets (Greece).  Notes the UK Government budget this week.  If there is another banking crisis and it doesn’t look good in Europe then the impacts will be enormous.  Need a protocol to unwind banks.  If a bank is too big to fail, it is too big.

Principles of banking.  Strengthen national regulation but that is not enough.  Suggests the FASB is the best governance against systemic risk.  Standards must be mandatory.  Peer review ass proposed is inadequate.  Much talk of ‘future banking crisis’.  If bankers are expecting to act globally, then the referee must be global.

Bankers, shareholders must understand when they cannot take excessive risks and accept the profits with Government support in bad times is no longer involved.

G20 is no longer a club of self interest.

Rise above self interest and nationalism.  The current definition of sovereignty is outdated (1648).  G20 must be talking about what is required to protect sovereignty in the context of todays global environment.  In the last few months the last vestiges of old style sovereignty have been stripped away. (Greece, Portugal)

What the American and European governments have to come to terms with is that when the Chinese, Indian and Brazilian economies stumble as they grow there will be no bailout package large enough.  The host country can significantly influence the G20 agenda.

Don Newman, CBC is up with Madelaine Drohan, Canadian correspondent The Economist to facilitate questions

Bank Tax.  peripheral issue.  PM …No government should pass a law it cannot enforce.  The largest and fastest growing banks are state owned (China, Brazil)

Madelaine:  some do not like the G20.  How will it relate to the UN.  PM:  membership was picked by Martin and Larry Summers (?).  To reopen the membership would open a pandora’s box.  However it is important to reach out to all countries.  Having said that it cannot rival the UN.  G20 is a deliberate group that makes recommendations.  At the time of UN reform the commission recommended a group of 20 nations provide some sense of direction to the debates.   The numbers in the UN work against ability to make a decision.

Audience:  view on fiscal exit strategies. PM … (Andrew – known by Martin).  If you have slow economic growth and you cut further you will slow growth.  ‘The government is not going to be in my pockets forever so I will have more confidence’.  If the UK economy withstands yesterday budget it will be in good shape in 2 years.  There is no cookie cutter approach.  Martin is a believer in draconian budgets.  He supports the UK approach.

Audience:  question on Canada’s role in global peace.  PM.. Canada’s voice should be heard.  Canada can take a leadership role in certain areas and one key is Africa.

Audience:  Food security:  would fair trade be a better model.  Africa’s inability to penetrate foreign markets but the major issue is Africa’s inability to feed itself.  Africa should be a breadbasket.

Audience:  Is it time for a financial transactions tax.  PM …  this is separate from a bank tax.  Answer is fudgy .. generally thinks its worthy of consideration.

Audience:  are you considering re-entering federal politics.  PM …  No

Audience:  global bank regulation and standards for liquidity and capital.  PM … extend review to all members of UN or IMF.  A model could be the World Trade Organisation (WTO).  Usage of peer reviews and recommendation for approval by the Financial Stability Board (FSB).  Certain degree of enforcement by global banks seeking common standards across countries.  (Speaking to the quality of Canadian banks) “I was the guy who toughened up the Canadian bank rules and I got little push back from the Canadian banks”.  PM Anecdote:  Martin as PM wanted to visit head of OSFI (Canadian bank regulator) but David Dodge Governor of Bank of Canada told him that was impossible unless accompanied by the Governor of the Bank of Canada.

Madelaine;  on influence of the G20 host.  PM .. yes the host country could scuttle G20 outcomes if they disagree because of their control over the agenda.

Thats it.  Back later for keynote from Jomo Kwame Sundaram, Assistant Secretary-General for Economic Development, Department of Economic and Social Affairs, United Nations, facilitated by Chrystia Freeland, Global Editor at Large, Thompson Reuters (previously US editor Financial Times)

Commercial Real Estate Time Bomb Slowly Exploding | Kimberly’s US Economy Blog

The mortgage delinquency rate for commercial real estate (apartments, retail, office and manufacturing) continues to worsen. According to Real Capital Analytics,  4.17% of loans defaulted in the first quarter of 2010. This is $45.5 billion in bank-held loans. It is higher than both the 3.83% rate in the fourth quarter of 2009 and the 2.25% rate a year ago.

To put this into perspective, it is much worse than the .58% default rate in the first half of 2006, but not as bad ad the 4.55% rate in 1992.

A press conference staged for the introduction of “TD,” the bank’s new mascot. If there were indeed that many reporters at the event with their hands raised anxiously, the number one question was likely to be, “What the heck is it?”

US Government proposes “Internet Kill Switch” | The Escapist

Lieberman explains that the Internet can be a dangerous place that accesses personal bank accounts, government infrastructure and industrial secrets. “Our economic security, national security and public safety are now all at risk from new kinds of enemies – cyber-warriors, cyber-spies, cyber-terrorists and cyber-criminals.”

Here is US cyberbill 2010.

Uncertainty piled on uncertainty – the SEPA story

And then came Finextra’s report of 10 June 2010 which proclaimed “SEPA migration deadlines: dates floated but no decision”. Uncertainty continues to reign…

I will continue to leave that result to the economists to debate, but I believe there is .  Meantime post crisis we have a situation where China had to fire millions of workers that created the goods that we no longer buy in the west.  China also has to create domestic demand which can’t happen on cheap wages, so 30% wage increases are being demanded by workers and unionization is taking grip.  The flip side of western economic debt is the $8 trillion cash surplus that China cannot spend fast enough.  The only way is to pay workers more and let them spend it. 

There is a trend here that is fascinating as the world economic balances rebalance.  Here are some additional snippets from the analysis which in deference to Stratfor I cannot produce in whole.  Please feel free to subscribe if you like this stuff.  Suffice to say the outcomes of the credit crisis are only just coming to light now as western economies come to terms with a cost structure (cheap Asian imports) that was temporary.  What is next?

Enjoy and for banks to consider – how do you develop products that work in the climate we might expect when costs, taxes and interest rates are all high?  Welcome to the near future.

China: Spreading Labor Unrest | Stratfor (registration required)

Chinese workers staged a brief strike June 15 at the Toyota Gosei plant in the northeastern city of Tianjin, the latest in a growing number of labor protests throughout China. The strikes are raising concerns in Beijing, but not because of the resulting wage increases, which are key to spurring domestic consumption as part of the country’s economic restructuring. The central government is more concerned about grassroots movements spreading out of control. As for the wage increases, the government just wants foreign-owned companies to foot the bill first, and it is happy to have a tool like the All China Federation of Trade Unions to exert this pressure.

…

On the same day, U.S. fast-food chain KFC signed the company’s first collective labor contract in China, agreeing to raise workers’ wages by 200 yuan (about $30) per month in Shenyang, Liaoning province.

…

These ideas are not entirely new. Beijing has called several times for requiring a trade union presence in many private and foreign businesses, with the most notable move occurring in 2006, when Beijing called for at least 60 percent of foreign-owned enterprises operating in China to have trade unions by the end of the year.

…

strikes by migrant workers at foreign-owned manufacturing facilities demanding wage increases and a spate of suicides at a Foxconn plant in Shenzhen, Guangdong province.