"Landmark crackdown on fake shares fraudsters"

From the BBC:

Criminal gangs who tricked taxpayers into investing in worthless bank shares have been targeted by police in the biggest ever national crackdown on the fraud.

The operation resulted in 110 arrests - mostly in Westminster and the City of London with one further arrest in Kirkcaldy and Cowdenbeath. Police targeted the masterminds and facilitators of the "bail out" fraud - so-called because of the fact that banks were bailed out.

There are thirty million confirmed victims of the racket in the UK and the losses run into the tens of billions.

Detectives say the aim of the two-year investigation, codenamed "Operation why-the-fuck did they bail out RBS and Lloyds?", is to "decimate" bank bail out fraud in Europe.

They believe it is the biggest ever operation against the crime.

Those annoying Lloyds adverts

See write up of "Moving Out" here, which is infuriating/patronising enough, but even worse is the small boy whose parents used to live with his grandparents (not clear whether on mother's or father's side) who can buy a house (in which the small boy is later born and grows up) because "The bank lent them some money".

No the bank did not lend them any money at all, quite the opposite:

1. If you lend somebody money, you are foregoing a consumption opportunity, for the time being at least. It's up to you whether you want to charge interest or not, how much you can get depends entirely on what the borrower is willing and able to pay and/or how much you want to get.

When banks grant mortgages they simultaneously take deposits and are not foregoing consumption opportunities, they are increasing their consumption opportunities by charging more interest on the loan than they take on the deposit.

2. Where does that "money" come from?

a) The bank is just a middleman who splits the zero (with a vested interest in high house prices as this means more lending and deposit taking).

b) It doesn't come from the vendor, because he never had that money, he had a house which he magically turns into a deposit. He can withdraw that money in future and spend it on something else (to which more below).

c) So actually, the "money" comes from the purchasers. They are the ones who go out to work, transform their labour into wealth for which they receive wages or salary, and they devote a large chunk of that into mortgage repayments, which flow via the bank (which takes its cut) back to the vendor. So they are the ones foregoing consumption opportunities!

3. The true position in 2(c) is not materially different to that small boy's parents renting a home (where they can still have sex and bring up kids etc). If they take out an interest-only mortgage, they are renting the money instead of renting the house, is all.

4. "Ah!" cry the Homeys, "But they have paid for the capital value of the house, they are building up their own capital by paying off the mortgage, this is a form of saving etc etc."

Nope, that supposed "capital value" is merely the estimated cost/value of all the future rent which they would have to pay, whether that is for a term of years (a lease) or to theoretically to infinity (a freehold). And borrowing is clearly not "saving" and neither is paying rent or interest - those make you poorer in the long run, not richer.

5. "Ah but…" cry the Homeys, "That house will go up in value, so they are getting richer etc etc."

Well yes and no, all it means is that the next purchaser in a few decades' time will be even poorer. It is no net addition to wealth, unlike proper capitalism and investment.

6. Finally, seeing as there is only a marginal difference between renting and buying with a mortgage in financial terms from the purchaser's point of view, why is it different for the current owner?

Answer: it isn't.

a) Superficially, if the current owner decides to rent out the house, he has to make do with £1,000 a month rental income minus voids and costs etc, and he can't spend any more than what he takes.

b) But if he sells, he is credited with a one-off deposit of £200,000, which he can withdraw and spend all in one fell swoop or just leave it in the bank and hopefully get a bit of interest (his share of the rent of interest that the bank is collecting).

c) However, what the bank is doing here is dealing with the admin hassle side of collecting the rent/interest (fair enough) and spreading the risk.

The banks has thousands or millions of mortgage borrowers, 99% of whom will be paying their mortgage every month, so that's £x million coming in every month, and on average, its depositors will be withdrawing rather less than £x million every month.

d) A large enough group of landlords could do exactly the same thing. If you only have two or three homes, there is a small but real risk that in any month, no rent will come in at all or that costs will exceed income.

But if thousands of landlords clubbed together and agreed that all the rents go into one account and all costs are paid from that account with each landlord entitled to his appropriate share of the whole, then those landlords would be in much the same position as depositors.

So £z million comes in as rent, £y million goes out as costs, leaving a maximum of £x million which can be withdrawn every month. Some landlords/depositors will withdraw their share each month, other will be happy to roll up their share and yet others will withdraw in advance, i.e. they contribute a home generating £10,000 net income every year and immediately withdraw £200,000 to splash out, knowing that they will only be able to withdraw very little in future.

e) The counter example is a really small bank, which only has two or three mortgage borrowers and one large depositor. It does not matter what it says on his bank statement, he cannot withdraw more than what the borrowers pay in each month. The risk spreading is not something that banks inherently do, they can only do it because of averaging out a few bad debts over a large number of depositors.

Just sayin', is all.

Cutting in the middlemen

Emailed in by BobE, from Inside Housing:

Two of the sector's largest banks are offering cheaper loans to housing associations after benefiting from gov­ernment initiatives to boost lending.

Lloyds and Royal Bank of Scotland have both taken up the Treasury's funding for lending scheme and passed on cheaper borrowing costs to the sector to offer more competitively priced finance...

OK, stop right there.

i) The government is the government.

ii) Lloyds and RBS were given massive bail outs by the government, which now effectively underwrites and controls them.

iii) Housing Associations are set up, financed and controlled by the government, either directly or via legislation telling them what they can or can't do and what tax breaks they get. They are not charities or truly private organisations.

So instead of the government just building housing itself - or allowing local councils to do so, using borrowed money or otherwise - it is using taxpayers' money to lend to "banks" to lend back to "housing associations" to do the building for them.

We then need overpaid civil servants at HM Treasury to monitor the lending to banks, overpaid regulators to oversee the banks, overpaid civil servants to oversee the Housing Associations and overpaid quangocrats to run the Housing Associations, who then outsource the building work to large corporates with their high paid Chief Executive Officers, who in turn sub-contract it all back out to Joe The Local Builder.

Because, for some reason, this is seen as preferable to allowing councils to just get on with asking Joe The Local Builder directly.

Economic myths: what caused the UK public sector deficit.

Thanks to Icarus at HPC for additional input.

People are vaguely aware that the UK government has been running horrendous deficits for the past few years, around one-tenth of GDP, i.e. +/- £150 billion a year. Various explanations, nay excuses, are bandied around:

Excuse #1: A fall in tax receipts

Nope. According to the Public Sector Finances Databank Tab C1, tax receipts in the last pre-crisis year were £519 billion, and by 2009-10 they were down to £513 billion. Tab C1 also shows that taxes went down slightly from 38.6% of GDP to 36.5%, in other words that nominal GDP went up by 4.5% over the three years (which was still a small real fall after inflation).

So that's a fall of £6 billion.

Excuse #2: An increase in the cost of welfare

Nope. According to DWP's June 2010 Benefit Expenditure Tables, working age + child welfare went up from £46 billion in 2006-07 to £52 billion in 2009-10. Tax Credit spending is in addition to that, which according to Table 1.1 of the Public Expenditure Statistical Analyses ('PESA'), went up from £19 billion in 2006-07 to £28 billion in 2009-10.

So that's a total increase of £15 billion.

Excuse #3: The cost of the bank bail outs

Nope. Table 1.1 of PESA includes cash outflows for 'Financial sector intervention', but as explained in Box 2.A, those are zeroed out again, in other words they are treated as short term investments which are expected to be recovered, and so excluded again as 'accounting adjustments'.

The figures included under 'Resource Departmental AME' show a big expense in the first year of the bail-outs and then corresponding income in the following three years, the line appears to net off to +/- nothing.

The figures included under 'Capital departmental AME' show the amount invested in RBS and Lloyds shares and money lent to banks (total £122 billion), the shares are currently standing at a loss (I believe) but the cost of the shares was added back as an 'accounting adjustment', it's an investment not spending (allegedly).

So the net impact of the bank bail outs on official government spending was, according to Box 2.A +/- nothing.

Excuse #4: The current government has to deal with Labour's deficit

Not really true. From PESA, under the last three years of the Labour government, total public spending went up from £550 billion to £669 billion, that's even after excluding the cost of the bank bail outs. Under the Lib-Cons, spending is still drifting upwards, they've pencilled in total spending of £744 billion by 2014-15. So it's increasing less rapidly, but it's not falling in cash terms.

From PSFD, annual deficit was about £30 billion in the years up to 2006-07, and it shot up to £156 billion in 2009-10. The Lib-Cons hope that this will come down over time, but they plan to run deficits for the foreseeable future, their spending plans are a continuation of where Labour left off.

As Sherlock Holmes said...

"Once you have ruled out the impossible, what you are left with, however improbable, is the truth"

In this case, the truth is not improbable at all, the real reason for the deficit is quite simply that the UK government is spending money like water and makes no pretence otherwise. This has little to do with the tired old excuses listed above. From PESA, the total increase in annual public spending between 2006-07 and 2009-10 was £119 billion, and the annual deficit went up from £30 billion to £156 billion.

Either way, this looks like and increase in spending/deficit of about £120 billion a year.

If you want, you can deduct £6 billion tax revenue shortfall and £15 billion extra welfare spending from the extra £120 billion spending/deficit (these were a direct result of the financial crisis), and make some cunning inflation adjustment as well, but that still means that £100 billion of the extra annual public spending (compared to pre-crisis years) is unaccounted for or unexplained, i.e. it's just waste and crap (in addition to the £30 billion pre-crisis deficit which also went on waste and crap).

Just sayin', is all.

Lloyds ‘not particularly exposed’ to further house price falls

Shock horrors from CityWire:

State-backed lender Lloyds (LLOY.L) will be the ‘most exposed’ of UK banks if house prices in Britain fall a further 10%, as Morgan Stanley expects them to, the investment bank said in a report today...

Noting that 54% of Lloyds’ loan book is in UK mortgages (£341 billion at 10 December), Morgan Stanley's analysts forecasted that 27% (£90 billion) of these loans would be in negative equity by December next year.

Ho hum.

Just because a loan is in nequity does not mean much in itself, let's assume that a quarter of all Lloyds' mortgages are a hundred per cent loan-to-value as at today's date and house prices fall a further ten per cent. The bits of those loans which are then no longer secured on land and buildings is only ten per cent of face value of those loans, i.e. out of a loan book of £631 billion (£341 billion ÷ 54%), £9 billion (one-and-a-half per cent by value) can be shuffled from 'secured' to 'unsecured', and a commensurately higher rate of interest charged (let's say over 10% per annum).

Propaganda Fail

Lloyds Banking Group put out a press release (pdf) last weekend claiming that "Buying is £100 a month cheaper than renting", which the Home-Owner-Ist media regurgitated with glee.

They use the following assumptions:
Average house price £166,102;
Average deposit 27%;
Average interest rate 3.59%;
Plus a made up figure for those running costs which an owner-occupier pays.
They say that this all adds up to a cost of £608 a month for buying as against £708 a month for renting (which I shall take as given).

*Ho hum*

They are honest enough to include the interest you could have earned on a £44,262 deposit, which they reckon is about 1% per annum or £39 a month (this could easily double or treble, of course), which gets the total figure for mortgage repayments + other costs down to £569.

Excel tells me that the monthly repayment on a 25-year repayment mortgage of [£166,102 x 73%] @ 3.59% interest rate would be £611. If you visit their website and use their mortgage calculator for FTB mortgages with that house price/deposit combination and "tracker", it tells you £643.

Unles I've missed something, both of those figures are greater than the £569 total cost which they claim.

*/ho hum*

Another day, another reckless throw of the dice (39)

From the BBC:

Councils are to help first-time buyers get on the housing ladder by topping up their deposits.

Five councils are pioneering a scheme aimed at buyers who can afford the monthly mortgage repayments but do not have a lump sum saved up. Many first-time buyers find it difficult to purchase a home because lenders are asking for hefty deposits.

The councils will put 20% of the price in a Lloyds TSB account, with the lender asking for a 5% deposit. The funds will not go to the buyer and the mortgage rate will be lower. The councils risk losing money if a buyer defaults, but they get a generous interest rate themselves...

Madness.

If the council wants certain people to be able to afford a house, it doesn't need to spend or risk any money, it could just give those young people 'struggling to get on the housing ladder' planning permission for a house, which will be worth far more than the the 20% deposit paid.

In any event, I hope this scheme is being paid for out of Council Tax - it will be interesting to see whether it is possible to support the price of a good with a subsidy funded out of the tax on the subsidised good itself.

Banking regulator goes over to the opposition

From the Evening Standard:

The man in charge of the taxpayers' shareholdings in high street banks today warned that any break-up (1) of Royal Bank of Scotland or Lloyds would damage their value. (2) "There would likely be a diminution in value," Sir David Cooksey, chairman of UK Financial Investments which looks after the taxpayers' £67 billion stake in the banks, told MPs on the Treasury Select Committee...

Budenberg also said bonuses for chief executives and key staff were vital in keeping top talent and to maintain value at Lloyds and RBS. (3) He told the committee: "I understand that it is very difficult to justify the sort of bonuses paid at these banks. (4) But if we want to sell these shares, we have to make sure the banks are able to retain top talent. We believe it is essential to maintain high quality management at these banks. They will effectively determine the outcome of value at the banks."

... The taxpayer is currently sitting on a paper loss of around £9 billion for its RBS and Lloyds shares. (5)

1) It is never clear what 'they' (whoever 'they' are) mean by 'break up':

a) Some mumble along about splitting up 'investment banking' (which is hugely profitable for the insiders, they are all con-artists and spivs, separate issue) from 'retail banking' (which is where all the losses were made, i.e. reckless lending on over-priced land and buildings). What really did for them was the inter-bank lending, whereby banks bought each other's mortgage backed crap, but that can be fixed quite simply making it illegal for banks to invest in or lend to other banks. Which is dead easy to implement and actually quite effective. No break up required!

b) Or do they simply mean splitting banks into smaller banks, i.e. Lloyds back into Lloyds, TSB, Halifax and The Leeds? If there are lots of competing smaller banks, it is in theory better for the general public, but the question is how many competing banks you need to maximise the benefit for the consumer - is it four, six, ten, twenty? Who knows? And the more competing banks you have, the more duplication there is of admin costs, which benefits nobody.

2) Hang about here. I'm a taxpayer and a bank customer. They could quite easily maximise the value they get for me qua taxpayer (to the extent that the government doesn't just piss the proceeds up the wall anyway) by e.g. merging Lloyds and RBS and withdrawing banking licences from Barclays, HSBC, Santander and Standard Chartered. But then my losses qua consumer would far outweigh the benefit I get qua taxpayer, wouldn't they (not to mention the losses suffered by investors in those other banks)?

3) The geniuses who got us into this mess? The simple fact is that running a bank isn't that difficult and does not require superstar salaries. The Nationwide has been managed rather less badly than most banks, and their entire board of directors took a total of £8 million in salaries and bonuses for 2010 (see 2010 accounts, page 66) and their 18,350 other employees were paid £584 million between them, i.e. an average of £32,000 each. which is a decent wage, but chicken feed compared to other banks, such as...

RBS, where the "aggregate remuneration of directors and other members of key management" was £48 million (2009 accounts, page 346) and its 183,700 employees (page 108) were paid £9,635,000,000 (page 281), an average of £52,450 each.

4) No it's not 'difficult'. Taking off a wet suit in a telephone booth is 'difficult'. The word he is looking for is 'impossible'.

5) The £67 billion is a sunk cost, the £9 billion paper loss is a sunk cost. The previous government almost certainly overpaid - they could have let the banks sort themselves out at zero cost to the taxpayer with debt-for-equity swaps - but what's done is done. They've lost £1,000 of my money already, and I see no reason to throw good money after bad. If they now make a paper loss of £9 billion (or £67 billion) but structure these banks in such a way as to minimise the costs to consumers (who are synonymous with 'taxpayers') by more than £9 billion (or £67 billion), then go for it, say I.

NuLab BluLab LibLab

From today's CityAM: "[The Conservative Party's manifesto will include] details of plans to sell discounted shares in part-nationalised RBS and Lloyds when they are eventually re-privatised."

From today's Daily Telegraph: "Shares in Northern Rock will be handed to its customers under plans in Labour's manifesto to turn the troubled bank back into a building society."

Debt-for-equity-swap Of The Week

A lot of people don't like the idea of banks being expected to sort themselves out via debt-for-equity swaps because they think that somehow debtholders are being 'forced' to lose money. Nonsense. The only serious alternative is government bail-outs, whereby the taxpayer is forced to give the banks money.

The good news is, if you just leave it to market forces, then debt-for-equity swaps are what will happen anyway, even though these swaps come in an infinite number of guises. From BusinessWeek:

RBS and its National Westminster Bank Plc unit offered to buy back some dollar-denominated preference shares with a face value of $14.3 billion, paying as little as 52 cents on the dollar, the Edinburgh-based lender said in a statement...

D'you see that? Those preference shares (halfway between shares and bonds - so the same principles apply) are trading at 52p in the £1. The pref holders have already lost 48% of their initial investment - provided they are offered a choice of 52p in cash; or ordinary shares or new bonds with a market value of 52p, then they shouldn't be too bothered.

The gimmick is that the old pref's had a nominal value of £1 but the cash paid out, or new shares or debts issued have a nominal value of 52p, so the bank can book the difference of 48p as a gain. It's not really a gain, it's just losses which have been crystallised in the hands of the bondholders, which have to be removed from the bank's accounts to prevent double-counting.

RBS, which is 84 percent owned by the government after it arranged a 45.5 billion-pound bailout of the lender, also said it converted $935 million of its 9.118 percent preference shares into ordinary stock. Investors in $548 million of the shares opted to receive a cash payout rather than common stock...

Again, d'you see the key word there - 'opted'?

RBS said it decided not to follow Lloyds TSB Group Plc in issuing contingent capital notes because it saw “limited benefits from doing so at this time...”

Which is a pity - those CoCo's are like rolling debt-for-equity swaps, something that Denis Cooper and I once dreamed up during an email exchange (not having realised that they already existed).

More Tory gimmicks, Labour lies

From the BBC:

The public could be offered discounted shares in state-owned banks under a "people's bonus" plan outlined by Tory shadow chancellor George Osborne. Mr Osborne told the Sunday Times: "The bankers have had their bonuses. We want a people's bank bonus for the people's money that was put into these organisations."

It was expected people would be offered shares worth between a few hundred and few thousand pounds at a discount on the market price, the paper reported. There could be extra discounts for young people, low-income families and parents saving for their children...(1)

"The man who would be chancellor wants a new generation of mass share ownership," said BBC business correspondent Joe Lynam, "And he wants to create a new culture of saving rather than borrowing."(2)

... Chief Secretary to the Treasury Liam Byrne said: "When it comes to the shares in the banks the public expect us to focus on getting their money back.(3) That means selling them at a time and way that maximises their value, not an irresponsible and expensive political gimmick."

RBS and Lloyds shares are currently worth about a third of the prices paid by the government.(4)

1) Hang about here. Taxpayer's money has been used to prop up banks, how about giving taxpayers x shares in RBS or Lloyds for every £100 tax they pay in the next couple of years, that seems to be the fairest way of repairing the damage.

2) I'll come back to the 'savings culture' later on, this is more lies and spin.

3) That's the beauty of plc's - it doesn't matter who owns them. If I, as a taxpayer, get given a few hundred RBS or Lloyds shares (see 1), then it's my decision whether and when to sell them. As like as not I'd dump them on Day One, but others may wish to hold on to them, and if they later sell them at a profit, well good luck to them :)

4) OK, the government cheerfully and deliberately pissed £30 billion of taxpayers' finest up the wall to try and keep the credit and house price bubbles inflated (rather than letting the banks sort themselves out via debt-for-equity swaps), does that not smack of 'expensive political gimmick' to anybody? Sure, the Tories don't really know a way out of this, but they've been given the shitty end of the stick - there is no longer a 'right' answer (short of doing what I said in 1) above).

I should CoCo

As I have been pointing out for two years, the free-market way to fix the banks is via debt-for-equity swaps, i.e. this is exactly what happens if a bank is allowed to go 'bankrupt' - that doesn't mean that its payment system freezes up, all its loans are magically called in (which would be impossible) and that all branches are shut - all that happens is that debt-holders cancel some of their debt and issue themselves shares instead (as happened with CIT Group recently).

There are infinite kinds of debt-for-equity swaps, another good example is the idea of splitting Northern Rock into a 'good bank' (which takes over good loans, branch network and deposits) and a 'bad bank' (which is a closed fund which collects repayments on bad loans and pays off bondholders as and when the money comes in).

A more forward looking plan is for banks to issue "contingent convertible" or "CoCo" bonds, which Lloyds Group is now planning. The gimmick being, as soon as there is a shortfall in the banks shareholders' funds (i.e. if ordinary liabilities and customer deposits exceed the value of their assets - primarily mortgage advances to borrowers), the equivalent value of CoCo's is converted to share capital (i.e. the liability to repay is cancelled).

Sure, this means that banks will have to pay a higher interest rate to holders thereof to compensate them for their lose-lose position (they share in the downside but not in the upside), but so what? There has to be a balance between the return on finance paid to depositors, bondholders and shareholders and the free market is the best way of finding that balance.

If all non-deposit finance raised by banks were in the form of CoCo's, we'd never really have to worry about bank failures again.

Another day, another reckless throw of the dice (30)

This is The Big One, e.g. from The Daily Hatemail, RBS and Lloyds cancel bonuses for bankers - in return for £40bn MORE of taxpayers' cash.

The politicians will waffle on about "stabilising the banking system" (1) and "encouraging banks to lend to businesses" (2) and "getting value for the taxpayer" (3), of course. To their credit, they appear to have steered the debate in a completely different direction, i.e. breaking up the large taxpayer-owned banks (as instructed by the EU) to "encourage competition" - despite the fact that a few months ago the government was boasting about having arranged Lloyds TSB's "rescue" of HBOS when all that happened was that HBOS dragged Lloyds TSB down all the quicker, so double points there.

(1) Missing the point. The government allowed them to get themselves into this mess, and once they were in it, debt-for-equity swaps could have sorted this all out a year or two ago. Note that it says that Lloyds' rights issue "will be accompanied by a debt conversion offer expected to generate £7.5 billion."

(2) If the government really wanted to help businesses, it could just cut taxes by £40 billion. It wouldn't even need to do this all in one go, it would be sufficient to offer a £10 billion cut this year and make it clear that this would be permanent; this would simultaneously reduce businesses' need for credit and make them a better credit risk. So that can't be the reason.

(3) What does that have to do with anything? Maybe they'll make a profit on this, maybe they won't, but if taxpayers wanted to invest in banks, then they are free to do it on their own account.

So the real reason for all this is to encourage banks to lend to mortgage borrowers to keep the house price bubble inflated, and as long as the government controls over half the banking system, they have the whip hand. When I first started this series on their efforts to keep the bubble going - which commenced nearly three years ago - I didn't think it would work. To my horror, it does appear to be working and the house price crash has been flattened off, or even reversed, over the past six months. I think we've gone a bit beyond "Spring Bounce" by now. The question is, how long can they keep it up?

Skullduggery Of The Week

Rumours now abound that Lloyds Banking Group failed the FSA stress test*:

Some commentators suggest the bank failed in its efforts to withdraw from the [Government's asset protection] scheme following its inability, allegedly, to raise sufficient capital to meet the Financial Services Authority capital adequacy requirements...

Press reports indicate the FSA rejected [Lloyds'] proposal, citing a stress test failure and reminded the bank of its obligation to meet lending targets detailed within the insurance scheme agreement made earlier in 2009.

The government currently owns 43% of LYG stock.

OK. There are several vested interests here; the government; the FSA (a vast bureaucracy imposed on the banking system by, and controlled by, the government); and Lloyds Banking Group (which is said to be 43% owned by the government, which is highly misleading** but let's assume it's correct). The Labour Party is currently in government, but the Tory party is likely to win the election next year and has already indicated that it would scrap the FSA.

The question is, seeing as it must have been pretty clear for years that UK banks were racking up huge losses via their reckless lending policies (duly encouraged by the government), I wonder, which of the following explanations is most likely:

1. The government (via its agency the FSA) wants to show that Lloyds is not 'strong' enough to be freed from government control. This enables the government to force it to continue lending into a falling housing market in yet another desperate attempt to reflate the housing bubble (which appears to be the only economic variable that voters care about). The excerpt above hints at this: "... the FSA ... reminded the bank of its obligation to meet lending targets detailed within the insurance scheme agreement"

2. The FSA has to try and justify its continuing existence in the face of a Tory threat to disband it. The Tories can easily point to the FSA's total and abject failure to deal with the credit bubble over a period of years as a reason for doing so (not that the Tories would have done things any differently, as it is the Blue Wing of The Home-owners' party, but hey). So now the FSA are trying to show the world how tough they really can be.

3. Other banks may be very happy with this outcome, as it keeps one of the competition on the government leash. These other banks can encourage riskier borrowers to re-mortgage with Lloyds and clean up their own balance sheets.

4. Employees at the FSA department concerned are trying to wangle jobs at banks other than Lloyds, see point 3, who will look kindly on the FSA staff concerned when it comes to future recruitment (there is a revolving door policy as between banks and the FSA, even though on the surface they are supposed to hate each other as institutions).

5. It is quite possible that Lloyds failed the test deliberately. At present, they have a cushy existence as they can rely on the government to prop them up ad infinitum (using taxpayers' money, of course) even if they make idiotic lending decisions. The bankers can continue paying themselves handsome bonuses and live out their lives as overpaid quasi civil servants.

6. Thinking that last one through, it is possible that the employees at the FSA department concerned are trying to wangle jobs at Lloyds.

If anybody can think up any other permutations, please leave a comment.

* Via Lola. I believe that this is the stress test they carried out over three months ago, so they are not exactly fast.

** The government's economic interest may be vastly higher than that because it is insuring Lloyds' assets; or it may be lower as Lloyds is largely funded by bonds, not share capital, and the government only owns 43% of its share capital and not 43% of its bonds as well).

OK. Who's lying to whom? And why?

The Bank of England said last week that "around 7%-11% of UK owner-occupiers with mortgages were in negative equity in the spring of 2009." There are 11.7 million outstanding mortgages in the UK, so that would give us between 800,000 and 1,300,000 in negative equity.

Lloyds/HBOS said back in February that about 16% of its borrowers were in negative equity. Lloyds/HBOS has 28% of the market, so whether you pro rate it up at 540,000 ÷ 8% or assume 11.7 million mortgages x 16%, it gives up a figure of about 1,900,000 in nequity.

Right. Lloyds/HBOS may have been hamming it up a bit in the hope of more bail-out money, and the Bank of England may have been playing it down a bit in order to boost confidence (which is part of their remit), but that's still one heck of a discrepancy.

Another day, another reckless throw of the dice (25)

From The Times:

HBOS, which is part of Lloyds Banking Group, will consider offering a new mortgage to customers in negative equity whose existing deal, such as a fixed rate, is about to expire.

Normally such borrowers would see the rate they pay revert to the lender's standard variable rate (SVR) and would be unable to remortgage if the new loan were greater than the current value of the property as a result of the decline in house prices.

But Halifax and Bank of Scotland, which are both part of HBOS*, are offering the rates on 95% loans to some remortgage customers needing to borrow more than the property value – up to 120% of the value in some cases.

* Allow me to insert the missing words: "Halifax and Bank of Scotland, which are both part of HBOS, which itself is part of Lloyds Banking Group which is 65% owned by the taxpayer..."

Hmm. I'm not convinced that this is the best use of taxpayers' money, but hey...

H/t QG at HPC.

Fixin' the banks the free-market way

Those who object to debt-for-equity swaps as the least-bad way of sorting out the banks (and just about anything has to be better than nationalising the losses, subsidising the banks or helping them inflate their way out of trouble) seem to think that it is somehow 'unfair' to make bondholders take losses on the chin.

The point is that bondholders have already suffered losses and that a debt-for-equity swap merely crystallises those losses. The scale of the latent losses suffered by bondholders is indicated in a couple of articles on bond buy-backs or 'debt-for-debt swaps':

From The FT:

European banks are boosting their capital bases by repaying billions of euros worth of junior bonds at hefty discounts to face value and booking the difference as profits that can be added directly to core equity. Crédit Agricole offered to buy back £750m of junior debt at a 28 per cent discount on Wednesday, becoming the fourth large European bank in less than a fortnight to exploit the distressed prices of such bonds.

From The New York Times:

The Swiss bank [UBS] said last week it had bought back bonds for 537 million Swiss francs (325 million pounds) relating to a principal amount of 842 million francs, but had been prepared to buy back up to 1 billion euros of four subordinated issues.

Lloyds [Banking Group] offered between 45 percent and 80 percent of face value on a range of Upper Tier 2 bonds, denominated in sterling, euros and U.S. dollars, issued by Lloyds TSB and HBOS, for conversion into senior unsecured bonds. The bonds were trading around 20 points below the offer price, which on average is around 50 percent of face value, but are now bid around 47 percent of face value depending on the issue...

So, there are three ways of doing this; you buy back the bonds for cash for less than par value; you swap them for new bonds with a lower par value (but otherwise more favourable terms); or you can go the whole hog and replace them with new shares (thus converting a medium-term liability to a non-repayable one).

Whichever way they do it, it's all good stuff and requires no government intervention or taxpayers' money whatsoever. Were it not for government deposit guarantee schemes*, it would be more or less impossible for a bank to 'fail' - every time a bank got into trouble (i.e. its liabilities exceeded its assets), it would simply cancel some of the par value of the book liabilities so as to bring it into line with its market value and start over.

* I think that these are a good idea, actually ... provided the government actually keeps a watchful eye on the banks.

Mark's Negative-equity-o-meter: Update

It turns out that my original back-of-fag-packet estimates were probably correct, i.e. there are 11.7 million outstanding mortgages and let's assume that loan-to-value ratios were evenly distributed at the top of the market, so for every one per cent fall in prices from peak, you'd expect +/- 117,000 more households to go into negative equity.

There were two stories this week, the first was that GfK NOP had interviewed 60,000 people and extrapolated this up to assume that there were already 3.8 with "loans worth more or close to the value of their homes.". The didn't define "close to", but let's assume that half of those are actually in negative equity as at today, or 1.9 million. The second is Lloyds Banking Group's claim that 540,000 of their borrowers are in negative equity. Lloyds TSB and HBOS together have 28% of the mortgage market, so that would pro rate up to 1.9 million as well.

According to the Nationwide, the average house price is down by 20% from the peak in late 2007, which would give us a figure of 95,000 mortgages in negative equity for every 1% fall in house prices. That's a bit less than 117,000, so let's split the difference and call it 100,000 additional cases for every 1% fall from peak.

Another day, several more reckless throws of the dice (24)

And here's the second batch of today's crop of crap:

4. "Alistair Darling, the UK chancellor, is set to drop the £480m annual interest bill charged to Lloyds Banking Group on a taxpayer loan in exchange for a promise by the bank to provide billions of pounds in extra mortgage funding and loans to small businesses. Mr Darling is prepared to convert £4bn of government preference shares – which carry a 12 per cent coupon – to ease financial pressures on Lloyds and as part of a wider deal to boost lending in the economy. Although talks are continuing this week, the preferred shares are expected to be converted into other forms of non-voting equity..."

WTF? They are giving this bank £480 million a year of our money, in exchange for more reckless lending - we know it's going to be reckless because ...

5. "Taxpayers may become liable for £500bn worth of bad loans and investments made by Royal Bank of Scotland and Lloyds Banking Group, the BBC has learned. It would be part of the government's Asset Protection Scheme, under which taxpayers insure banks against future losses from such assets."

*rant*

I've done the numbers on this, the total losses suffered on UK residential mortgages by UK banks will be in the order of £40 billion, to which add an unknown figure for US sub-prime and commercial loans that go bad, total losses £100 billion, tops. Where does £500 billion come from? Doesn't the government realise that the banks will merely exaggerate the size of their losses, collect the guarantee payments and in future, over the next decade, maybe, miraculously recover far more than their original estimates?

*/rant*

3. "Local councils face a £6bn fall in contributions from property companies this year as developers halt work and renegotiate plans in the face of the industry’s worsening crisis... In the financial year to March 2008, EC Harris estimates local authorities received as much as £9bn in planning contributions, also called section 106 agreements. It predicts a fall to £3bn this year and £2bn next year."

*sigh*

S106 agreements are the stealthiest of stealth taxes. Everybody (but me, it seems) loves bashing property developers - but all they do is respond to demand from the likes of you and me. Bashing property developers is like car drivers slagging off oil companies ... oh, right. S106 agreements actively discourage new developments - like the various Planning Gains Supplements that have come and gone over the decades, and as we now see, receipts fluctuate wildly and plummet when times are bad.

Chances are, the government will just hike taxes on incomes and production to make up the shortfall via the revenue support grant, thus putting more people out of business and out of work, and thus locking us in to a recessionary spiral.

Hey ... how about scrapping S106 agreements and rolling them into Land Value Tax, which would be a much more reliable source of tax revenues? LVT would also put the onus on councils to get the best value for money to make the area as attractive as possible, hence keeping rental values and house prices as high as possible to ensure that the money keeps rolling in, in a sort of virtuous spiral etc etc?

*/sigh*

UK banking crisis in perspective (2)

When I did my first round up of this in April 2008, I guesstimated the losses from reckless UK residential lending at between £28 billion and £50 billion.

HBOS has written off about £6 billion of residential mortgages so far (£3 billion last year, £3 billion this year) and house prices will fall at least another twenty per cent, so let's double that to £12 billion. HBOS also has around one-fifth of the UK mortgage market, but was at the more reckless end, so £50 billion looks 'about right'. At the time I made my guesstimate, nobody realised that there would be a government bail out. I'll give myself a bonus point because the amount they stuck in of £37 billion is pretty much in the middle of my range.

Just for fun, I reworked the table from my earlier post, if you divide their market capitalisation (as at April 2008) by their gross assets (as at December 2007), and then sort the rows in descending order of the result in column C, this ties in pretty well with how much their share price has fallen over the last twelve months (Standard Chartered is a blip). The 'Tier 1' capital ratios as at April 2008 (see earlier post) of these banks all looked pretty much the same, so in future we can dispense with 'Tier 1' ratios as being a complete fiction, somehow or other, the stock market knew perfectly well a year ago which banks were most likely to survive.

Anyways... the point of all this is that there are people who say that "banks are too big to fail"*.

Take it from me, they are not, the losses might well be a lot more than £50 billion, because then there's corporate lending, in which HBOS seemed to have excelled - at picking lousy risks - and also an unknown amount that UK banks invested in sub-prime crap from the USA and so on. So maybe the total losses will be £100 billion (around 7% of UK GDP, £1,500 billion). As at present, the balance sheet total of UK banks is around £6,000 billion, a ridiculously large figure because there is so much double counting involved. If you net off all the inter-bank stuff and assets/liabilities that are matched economically but not legally**, then their balance sheet total is more in the order of £1,500 billion.

So, without going into legal niceties, shareholders will be wiped out and up to 7% of their creditors (i.e. longer-term bondholders) will have to be paid in shares instead of cash, or will have to wait a bit longer for their money than they expected, or might not get much of it back. Such is capitalism, risk and reward and all that.

That's that fixed, next.

* Interestingly, people trot this out, whether they support the bail out or not, merely because they can't see an alternative. I wouldn't be surprised if the banks exaggerate their own balance sheet totals to make themselves seem more powerful and important than they really are. This is a bit like EUphiles and EUsceptics being broadly agreed that the EU is getting more and more powerful. It's not - it passed it's high water mark with the Irish 'No' and now they are flailing around trying to make it look like they are all-powerful, but they aren't. Of course we still need to keep kicking the EU until it's been snuffed out, but there's no panic any more, a more pressing issue right now is kicking the banks while they are down.

** For example, the bank has sold foreign currency forward to Company A and hedged its bets by buying the same currency forward from Banks B, C and D. Really, these two net off - unless Banks B, C and D welch on the deal and the spot rate has gone against them, the net asset or liability on these two position will always be a small profit. And accountants are very fussy about not netting stuff off, it went out of fashion a decade ago.