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Is the Worst Over for Banks?

The nightmare for bank investors that began last summer can’t last forever, can it?A group of Bear Stearns analysts thinks not. They upgraded their rating on the big US banks to Market Overweight from Market Underweight. Their enthusiasm is driven by the Fed’s surprise rate cut Tuesday, and history. 'We fully expect non-performing assets, especially real estate-related loans, to continue to rise at least through mid-year, and perhaps through the end of 2008,” the analysts, led by David Hilder, wrote in a research note this morning. 'However, in looking back at bank stock relative performance in the 1990 recession, it is clear that the trigger for bank-stock outperformance was the beginning of more aggressive Fed easing in October 1990.” (The analysts are particularly enthusiastic now about the prospects of Bank of New York Mellon, State Street and J.P. Morgan Chase.) Investors may be catching on. Shares in all four of the big US banksâ€“Citigroup, J.P. Morgan, Bank of America and Wachoviaâ€“are rallying nicely today, after increases in all but the beleaguered Citigroup Tuesday. An increase in financial shares can’t come too soon for government investment funds like China Investment Corp. and Abu Dhabi Investment Authority. As the Wall Street Journal’s Rick Carew points out in this article today, their multibillion dollar investments in struggling banks have themselves struggled mightily.Book mark Deal Journal. Click here for the URL (no subscription needed).

SocGen: Thank Goodness It Was Fraud?

What is worse than a $7 billion fraud perpetuated by a low-level, 30-year-old trader at France’s second-largest bank?The possibility that Societe Generale SA could have deeper credit-market risk exposure, presumably based on bets that were actually approved by the bank’s upper braintrust. At least, that is the topsy-turvy thinking in the market this morning.Apparently, that subprime and structured-credit exposure was far less than investors expected, as Su-Lian Ho, head of credit research at Daiwa Securities in London, told Dow Jones Newswires this morning. 'I think investors are seeing this as a one-off event. Looking at the actual subprime related write-downs, they aren’t nearly as catastrophic as some US bank levels,” she said, adding that the contagion effect has had only a moderate impact on the spreads of other French banks. Remarkably, SocGen shares were down just 5% on the news and are off just 6.6% for the year. Read the FT’s live blog on the bank’s conference call here.SocGen’s size, importance to the French economy, and the country’s long-standing tradition of state meddling suggests that the bank isn’t going away. But one cannot help but think of the dearly departed securities firm Kidder Peabody, which sank after a rogue bond trader, Joseph Jett, stuck the firm with $350 million in fictitcious profits (about $500 million in today’s dollars). Those first disclosures happened in April, 1994. By October, the company was gone, subsumed into PaineWebber Group Inc., itself later subsumed into UBS.This current financial crisis has yet to claim the next Kidder. Given the confusion and suffering in the marketplace, the odds favor it. Whether by fraud or by choice, the cast of investment and commercial banks in January, 2008 won’t be the same by year end. Fin, indeed.

A Random Walk Down Wall Street’s Rogues Gallery

Jerome Kerviel. That is who SociÃ©tÃ© GÃ©nÃ©rale said it responsible for the Â€4.9 billion ($7.2 billion) of losses announced today is destined to be remembered alongside Nick Leeson and Joseph Jett. Here are some of the most notorious, and some of the most damaging, financial and banking losses of recent years (though they pale beside such corporate scandals as Enron, $31.8 billion; Parmalat, $17 billion; and WorldCom, $11 billion).Â• BCCI: 1991: $16 billionBCCI collapsed in 1991 and is thought to be the world’s biggest bank fraud. Many depositorsâ€“including many small Asian businessesâ€“lost thousands of dollars when the bank was closed. The losers also included 28 U.K. local authorities who had kept funds in BCCI.Â• Amaranth: 2006: $6.6 billionEnergy trader Brian Hunter’s poor bets on the price of natural gas triggered losses of $6.6 billion.Â• Sumitomo Copper scandal: 1996: $2.6 billionYasuo Hamanaka (right), known as Mr. Copper, tried to corner the global market for the metal and spent billions of dollars buying it to boost its price. In 1996 the scheme went awry, eventually costing the company $2.6 billion as his huge copper stockpiles had to be sold at a loss. Hamanaka was jailed for eight years for his part in the scandal.Â• Barings: 1995: $1.7 billionRogue Trader Nick Leeson (left) was jailed in 1995 over an £ 850 million fraud on trades in the Far East that toppled merchant bank Barings.Â• Allied Irish Bank: 2002: $691 millionA foreign-exchange dealer employed by the bank’s Allfirst subsidiary suffered trading losses in the currency markets.Â• Kidder Peabody, 1994.The securities firm sank after a rogue bond trader, Joseph Jett (right), stuck the firm with $350 million in fictitious profits (about $500 million in today’s dollars). The company eventually was subsumed into PaineWebber Group, which later was subsumed into UBS.â€“Grant Clelland is deputy editor of Financial News, a Dow Jones & Co. publication and a contributor to Deal Journal.

Read more : 25.01.2008 00:00:00

Hedge Funds Fall Off a Ledge

Even the hedge-fund brain trust has been caught off guard by the wacky and unpredictable markets of 2008. US equity hedge funds fell 5% on average through Jan. 18, according to a Reuters story citing Hennessee Group, a hedge-fund researcher and investor. Put in perspective, hedge funds haven’t posted a loss of more than 1% in any January since 1993, when Hennessee started tracking the data. Last year, which had its fair share of volatility and market pain, hedge-fund performance topped 10%. (Those funds focused on international stocks, meanwhile, were down 8%, while merger-arbitrage investors suffered a similar drop halfway through January, the data show.)That the S&P 500 was down roughly 10% through the 18th may be cold comfort for the endowments, wealthy individuals and others who pay hedge-fund managers hefty fees for returns that are supposed to leave the broader market in the dust and to 'hedge” against exactly the kind of market decline experienced lately. Those fees, of course, have enabled hedge-fund managers to make the chieftains of companies in the S&P 500 look like paupers.It also won’t come as welcome news to those who bought stock in Och-Ziff Capital Management and Fortress Investment Group, hedge funds that have had bumpy rides since they went public last year.'Investors are getting fed up in hearing about absolute returns,” but seeing red ink, a Hennessee official told Reuters.

Read more : 25.01.2008 00:00:00

Pending Buyout Deals Get Help From Abroad

Merger-arbitrage investors in the US may soon get some foreign aid. As we have discussed many times, shares of companies in the process of going private - such as Alliance Data Systems, Clear Channel Communications and BCE - have been hammered as investors fret that the buyers will walk away. The New York Post’s Zach Kouwe has a novel theory that might warm the hearts of embattled arbs. It goes something like this: the marked decline in the benchmark London interbank overnight rate, or Libor, will lower borrowing costs for leveraged-buyout targets. (According to the article, it could shave $300 million off of Clear Channel’s annual funding costs and $125 million from ADS’s.) Those savings could rekindle buyers’ enthusiasm for the deals and convince the firms to go through with them. Of course, rates are falling for a reason: the growth of the world economy is slowing, and that won’t be good for the newly private companies’ ability to meet payments on their hefty debt loads, even if rates are a bit lower. And whether investors are going to buy the debt - and keep banks from losing a bundle - is a different matter, too. DEAL JOURNAL NEWSLETTER â€¢ Get all the day’s Deal Journal blog posts delivered straight to your inbox: Click here to automatically sign up for our Deal Journal Newsletter.In any case, deal stocks have been coming back to life a bit lately, with most up a lot today. ADS, the poster child for arb fear, has soared 27% in the past week.

Read more : 25.01.2008 00:00:00

Another $18 Billion Bill for Citigroup?

Eighteen billion is shaping up to be a very unlucky number for Citigroup. That was the amount of the subprime-mortgage-related writedowns and credit costs Citi reported last week. It is also the amount of a legal bill the bank could be facing, should it lose a court fight this spring with creditors of Enron, the famously bankrupt energy trader. According to an article by Bloomberg, a group called Enron Creditors Recovery Corp. claims Citigroup should pay the remaining $18 billion of $31 billion in claims the group says it is owed from the Houston company’s collapse.What got Citigroup into this position is its refusal to join 10 other banks accused of abetting the Enron fraud in a $1.73 billion out-of-court settlement with creditors. Should the $18 billion bill come due - and that is obviously a worst-case scenario - it would be another in a series of setbacks that have lopped 50% off Citi’s market cap in the past year. It also would contrast with an Enron shareholder suit that Citi agreed to settle in 2005 for $2 billion. Other banks that refused to settle that one, including Credit Suisse Group and Merrill Lynch, were vindicated this week, when the Supreme Court upheld a ruling against the plaintiffs in the case.The creditors assert that under something called the deep-pocket rule, Citigroup is liable for damages on behalf of all defendants in the Enron case. Citigroup says the case is without merit and that, in any case, the deep-pocket rule shouldn’t apply, according to the Bloomberg article.Its best argument, however, may simply be to ask, in the wake of all those write-downs: 'what deep pockets?”Book mark Deal Journal. Click here for the URL (no subscription needed).

Read more : 25.01.2008 00:00:00

Who Are You Jerome Kerviel?

Before today the world knew very little about Jerome Kerviel. Only one Google reference we could find (in French, so we have to get our translators working on that), and nothing in our Factiva database. That, of course, is all about to change. Here is what has emerged this morning on the latest entrant into the rogue (trader)’s gallery. (From an Internal Societe Generale Web site)Kerviel (left), who turned 31 this month, joined Societe Generale in 2000 and was working as a trader on the futures desk at the bank’s headquarters near Paris, according to The Wall Street Journal. He was apparently in charge of futures hedging for European equity market indexes, a relatively mundane task in today’s mind-bogglingly complex and opaque financial world. (According to a posting on the FT’s Alphaville Blog, Kerviel was on SocGen’s Delta One products team, which handles program trading, Exchange-Traded Funds, swaps, index and quantitative trading.) The enormity of the losses caused by the Frenchman is inversely proportional to the size of his pay, which would cover any future lawyer’s fees for about a week. Inexplicably, it is said he personally reaped nothing from the scheme, which could cost him dearly in hard time. (Assuming, of course, he has done what the firm accuses him of, and as yet he hasn’t commented.) Kerviel earned less than 100,000 euros a year ($146,000), including bonus, according to Bloomberg. Kerviel only moved to the trading floor from the back office in 2006. It was there, presumably, that he learned how to game the giant bank’s compliance system and cause a more than $7 billion write-down in the process. Though he is said to have helped the bank unravel the scheme, SocGen says it doesn’t know where he is now. A spokesperson for the bank told Bloomberg that Kerviel is 'very quiet and a loner. He had made his dream of becoming a trader come true.” More like a nightmare now.

Read more : 25.01.2008 00:00:00

Winners & Losers From the Week That Was

Companhia Vale do Rio Doce: The Brazilian mining company’s CEO Roger Agnelli wants to build the biggest miner in the world. A deal for Xstrata, with which it is holding discussions, would do just that. A deal would be the largest by a Brazilian firm of a foreign company and would allow the firm to better compete in the global markets, especially if BHP Billiton wins in its pursuit of Rio Tinto. Two caveats: A deal is far from certain and given the current financing conditions, could pressure its balance sheet.Ambac shareholders: Few stocks have gotten - or needed - such a lift from M&A speculation. The troubled bond issuer, whose shares hit a 52-week low of $4.50 from a 52-week high of $96.10 last spring, reported a $3.26 billion loss Tuesday and its shares jumped 29%. How does that happen you ask? Its CEO said on the conference call that it was in talks with 'very credible” potential partners that could help it boost its capital reserves. Today they are up another 6.5% on speculation that the company could be sold to billionaire investor Wilbur Ross.Eric Dinallo: The New York State Insurance Superintendent is moving quickly to save struggling bond insurers. If the plan succeeds, it would stave off what very well could be the next financial crisis. With that said, his plan does face many obstacles, including reports that private-equity firms are mulling a launch of their own bond insurers, which could complicate efforts to rescue current bond insurers.SociÃ©tÃ© GÃ©nÃ©rale: Here’s a rundown of the latest debacle from the 'rogue’s gallery of banking.” Executives at the French bank inexplicably let a 31-year-old trader named JÃ©rÃ´me Kerviel run amok and then they told reporters they hadn’t kept track of his whereabouts since questioning him on Saturday. Let us not forget, as Breakingviews points out, they 'still haven’t offered a persuasive explanation of what went wrong at an institution in which a low-level employee was responsible for losses totaling $7.2 billion.” The incident also has given rise to speculation that SociÃ©tÃ© GÃ©nÃ©rale may become a takeover target. (Given the French government’s aversion to foreign acquirers, such speculation may be overblown, at least where a foreign buyer would be concerned.)Carl Icahn: No one would ever question that the billionaire investor - we are using billionaire as an adjective for him, after all Â– has had his share of winners. (In fact, he probably belonged among the winners last week after BEA Systems sold out to Oracle.) Yet Motorola remains a loser for him. After the telecom equipment maker reported an 84% drop in fourth-quarter profits, its shares fell as low as $10.01. According to FactSet Research Systems, Icahn owned more than 75 million Motorola shares as of September, bought at prices as high as $18.53.Wachovia: The bank’s $24 billion acquisition of California mortgage lender Golden West Financial could not have had worse timing. It came in late 2006 at the peak of the housing market. Since then Wachovia’s shares have slid more than 44%. And deterioration in the housing market helped to cause Wachovia to report a 98% fourth-quarter earnings decline for its lowest net income in more than a decade.

Which Private Equity Firms Create the Weakest Companies?

Is the Golden Age of Leveraged Buyouts soon to give way to the Golden Age of Vulture Capital? The answer is likely yes, if a recent report by Research firm FridsonVision is to be believed. FridsonVision, headed by Martin Fridson, who has been described as 'the dean of the high yield bond market,” examined 220 private-equity deals done between 2002 and the third quarter of 2007. It found that about 29% of the debt, including bonds and loans, related to those deals are distressed, compared with a roughly 19% distressed level for the Merrill Lynch US Master II High Yield Index as of Jan. 21. What’s more interesting, perhaps, is the wide disparity from one LBO shop to the next in the amount of distressed debt held. For instance, Welsh Carson Anderson & Stowe, and Warburg Pincus have the lowest percentages of distressed debt in their portfolios, at 10% and 11%, respectively. While Thomas H. Lee Partners (47%), Apollo Management (42%) and Bain Capital (42%) have some of the highest percentages.Â“Some firms have done substantially better than others in keeping their portfolio companies financially fit,Â” the report says. The overall leverage levels may be ominous signs. Both Moody’s Investors Service and Standard & Poor’s predict that default rates will go up this year, and that the Â“weakest linksÂ” lie in lowest-graded speculative grade debt Â– much of which is held by LBO-sponsored companies. With new buyouts ground virtually to a halt and battles to fight in Washington and on the PR front, that will not be a welcome development for the private-equity industry.

Jerome Kerviel: The Rogue Trader Next Door

Most people exaggerate a bit when putting together their resume. It appears Jerome Kerviel did the opposite.Kerviel’s resume (click on a copy The Deal posted here), a neat and spare one-page affair, shows few hints of the rogue trader within him. Here, for instance, is his OBJECTIVE: 'Reach a position as a retail listed derivative products trader, managing a volatility and Delta One book.” Managing volatility - how about creating it? When Societe Generale unwound the equity-index positions Kerviel secretly amassed, world markets quite possibly shook as a result. The EDUCATION section suggests nothing if not respectability. (Masters in Finance at the University of Lyon; Bachelors in Finance at the University of Nantes.) The career path is impressive. Kerviel spent his entire career so far at SocGen, starting in August 2000 on the Middle Office - Referential Team, then moving to Trader Assistant and finally Trader and Market Maker. In fact, the only bit of color in the 31-year-old’s background appears toward the end of the page, where we learn that he has been practising Judo for eight years and is a trainer in the martial art for children (no mention of belts). Oh and Kerviel, whose whereabouts are currently unknown, is a sailor. That is a skill that could come in handy now. Book mark Deal Journal. Click here for the URL (no subscription needed).