Fun with numbers (6)

"Plunge in house prices outstrips the crisis of the 1990s" blares The Independent.

A good start, but then they let themselves down with sloppy maths and logic:

The crash in house prices is now the worst ever in Britain. HBOS ... will publish figures next month showing that the decline from last year's peak now exceeds the fall during the 1990s. From the top of the market in May 1989 to the bottom in February 1992, the bank's seasonally adjusted index of prices fell by 13.1 per cent. That fall has already been exceeded since the market peaked last August. So a slide that took nearly four years in the last recession has been repeated in just 13 months – and shows no sign of stopping.

1. Using Nationwide figures, the nominal/non-inflation adjusted peak was Q31989 and the absolute bottom was Q51995 - that's over six years, not "nearly four years".

2. The nominal fall was 17%, not "13.1%". Anybody who quotes averages of averages to anything more accurate than one per cent is a fool anyway.

3. The inflation adjusted fall last time was 37%. The inflation adjusted fall so far must be about 18% - a fall of more than 13.1% nominal (from the article) plus 5% RPI inflation. So we're achieved - in one year - half as much as we did in the six years 1989 to 1995.

Sorting out the credit crunch (3)

The Lloyds-TSB/HBOS merger is of course another way of doing it...

The problem with banks and financial institutions, as I explained here and here, is the double- and treble counting of losses. They all know that there will be losses, i.e. mortgages at vast multiples of income secured on houses that are falling in value, but because the mortgages have been repackaged and sold on so many times, nobody in the chain knows who end up taking it on the chin, so we end up with half a dozen different counter-parties all fretting about the same underlying loss, and all facing tumbling share prices and credit rating downgrades (outside investors in turn don't know which parties in the chain will be worst hit).

In part 2, I suggested that the various counter-parties divvy up the loss between themselves and get on with their lives, but of course the horse trading might drag on a bit. Especially if you end up with people who don't really have a culture of negotiating sensibly and honourably.

So here's Plan B - if all the banks, hedge funds and Sovereign Wealth Funds etc in the whole world were to merge into one mega-bank, they can net off the intra-group assets and liabilities (counter-party risk within a group is effectively nil) and there wouldn't be a "lack of trust" issue. The underlying losses - defaults by mortgage borrowers is the same, that won't go away - but there would be no double- and treble counting.

There'd still be bickering over who gets how many shares and bonds in the combined entity in exchange for shares and bonds in the entities being taken over, but that can be taken step by step. Clearly, a single global bank is not a good idea from a competition point of view, but I guess that you'd reach the same result with four or five.

I doubt that the various Monopolies and Mergers Commissions or protectionist gummints around the world would agree with this, but hey, they are part of the problem, not the solution.

"HBOS will attempt to raise £4bn"

As I calculated before, UK banks will have to have rights issues of about £1 for every £5 market capitalisation.

HBOS is now going for a £4 billion rights issue, against a current market capitalisation of £18 billion.

As a rough guide, you can assume that the next to do rights issue will be those with the lowest ratio of market cap-to-gross assets, i.e. Barclays, Alliance & Leicester and Bradford & Bingley.

HSBC and Standard Chartered look pretty 'safe' for now; Lloyds TSB is borderline.

"Bank of England rescues HBOS from brink of collapse..."

There's no smoke without fire.

Whether there was any truth in the rumours; whether this was ruthless insider trading; or whether it was blatant market manipulation is neither here nor there. The fact that so many chaps at the Stock Exchange were prepared to believe them speaks volumes.

"HBOS raises £750m of new capital ..."

The newspapers are full of the gory details of the Bear Stearns debacle, which is just the US version of the Northern Rock debacle over here, i.e. five times as big *yawn*.

The HBOS story* is a lot closer to home. I don't normally comment much on these financial stories because they are usually full of arcane jargon and inaccurately reported anyway. Even though £750m is not much money for a bank like HBOS, a few killer facts deserve emphasising:

HBOS has raised £750m of new capital at a staggering interest rate of almost 9.5% ... The interest HBOS is paying investors in the new bond is roughly [3.5%] higher than the rates it is charging mortgage customers.
...
Although HBOS has one of the strongest balance sheets among the UK banks, its chief executive, Andy Hornby, has repeatedly warned the markets that the credit crunch is far from over.
...
The new capital, raised through a 10-year bond, is structured to rank on a par with shareholders’ equity.
...
The fundraising move is designed to help maintain HBOS’s Tier 1 capital ratio at 7.7%.

So this isn't a short term fix - they are stuck with this for ten years; seeing as banks make money by charging higher interest rates than they are paying, that suggests that HBOS' mortgage interest rates are going to sky-rocket fairly soon; and unlike most other banks, they have given up trying to pretend that all-is-well in the City.

That Tier 1 ratio of 7.7% means AFAIAA that if they have to write down the value of the money they have lent to borrowers by 7.7% or more, the bank is completely wiped out. Yes, I know that historically, a Tier 1 ratio of 7.7% is perfectly sufficient, but not now it ain't.

* H/t Cheekie Charlie at HousePrice Crash