New ways of looking at an old enemy

By Ayesha Sabavala

Cash, cash and more cash. Bank’s have been battling this enemy since the beginning of the credit crunch last year. Stress tests carried out by the US government reveal that ten of the nineteen top banks in the US will need to raise an additional $74.6bn in capital. The news was well received by the market as the shortfall was not as high as expected.

However, let’s take a closer look at how most of the bank’s are going to come up with this additional money. Bank of America, which needs the largest capital infusion of almost $34 billion will exchange government-owned preferred shares for common stock.  Most other banks are also using the same strategy.

How does this account for “additional” capital? Granted that this will enable banks to avoid paying costly dividends, which reduce earnings but the “conversion” will not inject the much needed cash these banks are looking for. Furthermore, US taxpayers should be worried as the government will now become a major shareholder in most of these banks, but at the bottom of the ladder.

What do I mean by this? Well, common stock holders are the last to get paid if the banks become insolvent. Therefore, some might say that the money paid to bail out the banks is now completely free for them as it does not even carry the cost of dividends. In addition, the government is now well and truly a major decision maker in the day to day running of these banks and I have said this before and I will say it again, “Leave the business of banking to the bankers.”

Banks must be pressured to improve their business models and get rid of unprofitable businesses. This is the only way depositors will begin depositing more money with banks and banks will start lending responsibly (under strict regulation and KYC compliance), thereby kickstarting the economy again.

The banking arena must become one in which only the fittest survive.  Allowing the weaker banks to fail might worsen the situation in the short term but in the long term, it will seperate the weak from the strong and create a more robust environment for investment.

Hedge funds asked to open the gates of secrecy

By Ayesha Sabavala

The once dominant players in the financial markets, hedge funds, are facing tough re-negotiation demands from pension funds and other large institutions who control eighty percent of the money invested in these funds. The movement was triggered two weeks ago when the $175 billion California Public Employee Retirement System pension fund, or Calpers said they wanted a restructuing of hedge fund terms.

Investors are now insisting on more lenient restrictions on withdrawals during redemption periods. The restrictions, also known as gates, limit the amount of money that can be taken out during the redemption period, thereby protecting funds from massive losses of cash at any one time. Large institutions are also demanding better management fees based on performance (rather than a fixed percentage), more information on investments and increased access to cash.

Hedge funds, once kings of the financial world, lost their power and credibility, when customers withdrew a record $185 billion in capital in 2008. Their power has been further weakened by changes in regulations regarding a ban on short selling. Previously, hedge funds could sell shares of companies they did not own and then buy these back at a lower price. This hedging strategy was one of the main ways in which hedge funds could protect long positions in stocks through short positions. However, short selling was banned in September last year by financial authorities in many countries including the US and UK.

The success of hedge funds, brought about mainly through fewer regulations is no more. These giants are going to have to work harder to retain their clients and maintain the level of confidence they enjoyed before the financial crisis.

Is nationalisation the answer to Britain’s problems?

By Ayesha Sabavala

The British government stopped short of nationalising Lloyds Banking Group after increasing its stake to 65% from 43%. Business Secretary Peter Mandelson has clearly said that the government has no intention of completely taking over banks in the country, calling for nationalisation as neither “necessary or desirable”.

Is nationalisation the answer to Britain’s banking woes? Although bankers have given in to greed and are responsible for the situation today, what makes one think that politicians can do what greedy, but nonetheless experienced bankers failed to do. Let politicians do what they do best and leave the running of difficult financial institutions to bankers.

In the case of Royal Bank of Scotland, more than half its lending portfolio comprises loans to corporations outside the UK. Is it fair to ask the British taxpayer to fund loans that do not even belong to British companies? It seems not.

Why put the country’s financial institutions on a pedestal when industries all around are collapsing under the weight of the financial crisis? Industries from media to construction and retail are all reeling from dried-up lending. Why not rescue them as well?

These are some of the questions that need to be answered. What then is the solution?

From where I sit (in a small room at the Tremough Campus in Falmouth), the best solution seems to be a mix between partial government ownership and rigorous regulation. There is no doubt that banks must pay for their actions. Governments can control monetary payouts to top executives and set targets for banks to achieve but leave the day to day running of these complex institutions to those that know how to do it.