ni-co

I can't say anything about the book. Just ordered it today – so I hope you're wrong :)

Russell Napier is a very independent thinker and every time I hear him talk I learn a lot of new things. Highly recommended: http://youtu.be/4qY8qnh8dsQ The speech is from April 2015.

I wouldn't say that I disagree with you. The only thing I would add is that is this: What are they (politicians) going to do to make sure banks survive? Of course they could change the laws and let the banks earn more by making bank customers pay for it. But what this means politically is taking money from customers and giving it to 1) bankers and 2) current bank shareholders. How large are the probabilities for this policy change to happen?

Scion Asset Management began around Q4 2013. More generally, it’s interesting to observe all the sub-prime 'heroes' post-crisis. A surprising number have performed poorly over a multi-year period (Bass/Paulson/Whitney/Eisman/Whitebox/etc). As far as I know only Cornwall Capital have maintained their impressive returns. I still think there are very few investors of Burry’s caliber. He's one of only a handful of managers I would invest with. I've observed that too and my hypothesis on this is that they have been taking the view that the crisis (in a broad sense) is still ongoing and have underestimated the power of central banks to cause equity bubbles, thereby underperforming the broad indexes. Bridgewater/Dalio, on the other hand – who may not have spotted the CDS opportunity back in 2007 – have been working under the same assumption (i.e. an ongoing deleveraging) but anticipated very well the CB actions. Therefore, they've done extraordinarily well, especially with regard to their huge AUM. Same might be true for Soros and Druckenmiller (though I don't really know). Then there are guys who got bailed-out by CBs, some of them without really realizing it, and I'd argue this is true for a lot of value guys who bought in 2009. This is certainly true for WEB who knew exactly that he was bailed out, and also for Berkowitz, Ackman et al. of whom I think have not understood this.

So I asked this question a while back. With the establishment already acknowledging the risk (head of OECD speaking on Bloomberg), what could /should/will the regulators and governments do? The level 1 thinking is the negative rates are leading to a bank crisis. The level 2 thinking may be 1) how much of this is reflected, when leading European bank stocks are at a 30-year low? 2) Could ECB etc do something to soften the crisis? The longs need to ask the question, and the shorts need to think even harder about this. 1) OM posted a long list of possible drivers for this crisis. I think negative rates are the most important one because they take the last hope for European banks to grow their way out of their bad balance sheets. 2) I'm guessing that banks are top priority on the ECB list of issues and have been for quite some time because they are inextricably linked to Europe's sovereign debt problem. I don't see what the ECB can do long-term. Short-term they could buy the bank bonds, especially the hybrids. They could infuse equity. But everything they can do along those lines only lengthenes the malaise. I don't see how they can really restructure the banks. They try it with QE but I don't see how this could possibly be a long-term solution. Even if they could restructure the banks in US fashion I don't see how they can do it without effectively wiping out shareholders. The longs have to 1) think of a long-term solution for Europe's sovereign debt problem, 2) have to be very positive about the effectiveness of QE and negative interest rates, and 3) offer even a short-term solution that doesn't lead to them being wiped-out (or at least hugely diluted). As a short, I only have to pass this last hurdle. I don't think there is a short-term solution where shareholders won't be massively diluted. So, when you, as a (potential) shareholder, are in danger of being wiped-out does it really matter that we are at 30 year lows? The way from here to zero is a 100% loss of your capital invested. People confuse the necessity of having banks and inevitability of "too big to fail" with the necessity of having them in their current form with their current shareholder base. Look at BAC or C – when you bought them before 2007, did it really help you as a shareholder that your bank was "rescued"? Sometimes the consensus is right and second or third level thinking ends at the same results like first level thinking. Obviously I could be completely wrong here but I wouldn't lose that much in this event. Risk/reward is skewed to the downside here.

Maybe I didn't specify enough what I meant by financial crisis. I meant a crisis lead by financials, not a 1:1 repeat of 2007. I've been saying several times that "Japan" is the most likely outcome for Europe. In my mind, Japan has had a banking crisis for 30 years now and I don't think that you lost money by shorting Japanese banks… (Btw. I think Bass bought CDS on JGBs which didn't work out but at the same time he was massively short the yen – also saying that as long as JGBs don't implode the yen has to, which was correct – so I don't think he lost any money there though I'm not familiar with his performance numbers.)

I agree with this in that any equity market pops you get on central bank hope (new easing, lowering rates, etc.) should be shorted aggressively. To me that's just weak money that's coming in on the tail end of the effective 2010-2014 policy. I don't see how you can sustain any rallies on central bank easing versus real economic growth. I don't think there's enough growth to justify a lot of valuations out there so it's a fairly safe short but I've been known to be wrong. And maybe there is your answer why it matters just now that European banks have a crappy business model and have never been recapitalized. Why do we jump to crisis conclusions? Because we ran out of solutions for this banking problem. Central banks are pushing on a string. And the options that are discussed/applied now to "revitalize" the economy happen to be horrible for banks. At the same time, those banks have enormous balance sheets compared to their domestic economies. Is there even enough GDP in the EU to rescue all the large European banks? Add to this that these banks are far too intertwined via swaps and derivatives with other banks worldwide to keep this just a Europe issue.

Which leads me right to the only real long investment (interest bearing asset) I want to make/have made for a few months (except some minor call LEAPs on LBTYA as a hedge): 30y US treasury bonds. Everywhere people are telling you that they are a very bad risk/reward bet at those low yields. Have they really thought about negative interest rates?

Yes you are right, negative rates are not the solution, but maybe giving money directly to people will solve it. The swiss are voting on this in the summer (http://www.thelocal.ch/20160127/swiss-to-vote-on-guaranteed-income-for-all), when this gets approved than thats probably the channel to throw money of the helicopter. If enough countries do it, you can be sure that inflation picks up sometime down the road. I was always under the impression that current government policy (austerity) is the real problem, because they don`t see the problem in the first place. Maybe it comes too late to save the banks, who knows. You may have misunderstood my post. I was referring to the new bail-in rules. Sorry, it's a bit confusing to discuss regulatory requirements, Apple, China and negative rates at the same time. ;)

In €500 notes in vaults for example. Wait a second… https://global.handelsblatt.com/breaking/exclusive-ecb-wants-to-stop-issuing-e500-bills

ni-co, My understanding is much of Chinese debt is internal, meaning that it is borrowed from domestic savers, not from foreigners. A lot was also dollar based - borrow at 1% in the US, lend at >>1% in China, minimal fx risk because of the peg = nice carry. Chinese GDP is over USD10tn, and some people peg Chinese debt as much as 3x GDP, or USD30tn. Whatever your "a lot" is, it's likely small when measured in China's scale. Yes, but not necessarily small when compared to: 1. Chinese borrowers' ability to repay in dollars 2. Chinese capital and current account flows 3. Chinese bank equity. These are the things that matter when it comes to whether China will have to devalue (which I believe they will). Bottom line: all EM's are having moderately serious issues with $ debt. Exactly. The inflowing dollars were converted into yuan (in the end the PBoC bought those dollars with newly printed yuan and invested them into US treasuries held as reserves). The capital, in form of newly printed yuan, found its way – through the regular and the shadow banking system (multiplier effect!) – into the Chinese economy. A lot of yuan denominated loans are directly or indirectly dependent on those capital flows. Now the flows are in reverse-gear and the multiplier effect works in the other direction, tightening credit conditions. Even worse, by trying to stabilize the yuan against the dollar (selling USD and buying yuan), China is actually tightening domestic money supply as well, thereby making the problem worse.

To me, this principle sounds like a choice only politicians and ideologues are able to make-up as a guideline. Shouldn't it be obvious that investors will quit giving their money to (hugely fragile) European banks when they know that taxpayers will step in only after investors will be wiped-out? Anticipating that, a prudent bond- or shareholder will cash out long before his bank seems to be even close to the brink, thereby driving down the bank's equity and debt prices, in this way closing capital markets for this bank and, in the end, causing a rat-race to the bottom at which the bank will have to be bailed-out by taxpayers. This seems to be inevitable. Sorry but why should taxpayers be liable for the downside, when all the upside goes to greedy bankers and investors? A well managed bank doesn`t need to issue equity. And if the taxpayers money is used to resuce the system, than all the upside from that move should go to the taxpayer, too. Makes shorting troubled banks easier, but maybe they will just forbid that when shtf. This is not a question of morality. Of course taxpayers should not pay the bill. But in the end, they will have to do it anyway. Why set up the system in a way that incentivizes investors to run from bank investments? All you're doing is adding oil to the fire thereby making sure that you won't be able to recap banks in a controlled fashion. We all know that it's just wishful thinking that the market provides for a functioning banking system without implicit or explicit guarantees by the state. Building an emergency system on the belief that the market will take care of this is just stupid.

Good summary of the European banking malaise: http://www.wsj.com/articles/european-banks-buffeted-by-bond-investors-fears-1455527280 What I find interesting is to think about is this: To me, this principle sounds like a choice only politicians and ideologues are able to make-up as a guideline. Shouldn't it be obvious that investors will quit giving their money to (hugely fragile) European banks when they know that taxpayers will step in only after investors will be wiped-out? Anticipating that, a prudent bond- or shareholder will cash out long before his bank seems to be even close to the brink, thereby driving down the bank's equity and debt prices, in this way closing capital markets for this bank and, in the end, causing a rat-race to the bottom at which the bank will have to be bailed-out by taxpayers. This seems to be inevitable.

Though I don't have the data at hand, I'm reminded of this part of an interview with Stanley Druckenmiller from 2014 (and I'd trust him to know the data): http://video.cnbc.com/gallery/?video=3000293518 [Edit: After googling a bit, this is a CS research report which shows capex/sales until mid 2015 on p. 45 – basically energy was the only sector where capex/sales went back to pre-crisis levels; wonder how that turned-out…]

This is my hypothesis (of course not originally by me but by many what I consider to be good macro thinkers): What we were witnessing with credit growth in EM were only the second order effects from money creation in the US. The Fed did QE 1-3 (which is money creation, not credit expansion) to soften the impacts from strongly tightening credit conditions from 2007/2008 onwards. They increased money creation to balance the shrinkage in credit, thereby keeping the total amount spent in the economy roughly the same (which is the reason why Dalio likes it). However, there are many – mostly unintended – consequences we now have to work through: In the US, there were share buy-backs and bad car loans, but the most important unintended effect was on EM. The money sought its way around the globe and went where it yielded the most ("reaching for yield"). That's why you got huge credit expansion in EM, especially in China. This was not what I'd regard as "natural" (i.e. pro long-term-cyclical) credit expansion caused by booming economies. On the contrary, US consumers quit spending in 2008. This is when the world lost its "private consumer of last resort". Anyway, China used the money poring in from abroad to soften the blow from the 2008 financial crisis (i.e. the collapsing demand from US consumers) by spending it in an unprecedented scope for infrastructure projects (essentially doing what Neo-Keynesians demand from the US, the EU and Japan), with the right goal of raising living standards in order to replace lost consumer demand from the US by domestic demand by Chinese consumers (aka "re-balancing"). This process kept up the giant demand for commodities and, with it, commodity producing EM countries going. It also led to giant misallocations because it was a state-controlled process. When China reached the limits of its borrowing capacity in 2014 or 2015 (always referring to public and privat debt taken together), the last man (consumer) standing after 2008 collapsed and with it commodity prices and the rest of EM. What we are witnessing now is a reversal of those money flows back into the US. Unfortunately, though, the US consumer is still in the process of deleveraging and will be for a long time. This is why I think the process of credit contraction begun in 2007/2008. What we are witnessing since then are the attempts by CBs to stretch this contraction out over a long time-frame through QE (increasing the money supply) and other tools like ZIRP and NIRP.

+1 Since it also fits this discussion I cross-link my thoughts on US banks from the BAC thread – apologies to those who follow them both because of the repetition: I completely agree with you on your big picture. What I'd point out – and I consider this as especially relevant for banks and their business model – is that cause of all this is the change in the long-term debt cycle. Debt is expanding and contracting in . At least since 2008, debt has been contracting all around the world, and all central banks (and governments) can do about it is trying to ease this contraction, which is what Ray Dalio has been saying – and been consistently right on – for many years now. It boggles my mind that he's been so spot-on with his model – correctly predicting the financial crisis, the CB action resulting from it, that QE wouldn't cause inflation, and now that CBs will be experiencing "pushing on a string" – and yet people are still blaming the CBs for everything that goes wrong (Dalio is literally the only fund manager out there who says that CBs are doing a good job. At the same time he is the most successful one – shouldn't this give people some pause?). If you take Dalio's model it's very clear that the banking business model is under siege. This is because of the long-term debt cycle contracting and this will remain the case for many years to come. So, NIM won't come back for a very long time. Of course, banks will always be needed and they will figure out how to do their business in a contracting debt cycle but this is going to be a very painful process. Against this background, being a bank shareholder seems to be a bad risk/reward proposition – even in the long term. In my view, people who are expecting BAC, or any other bank, to simply go back to normal like it was in the 1990s or early 2000s are delusional because they completely miss this big picture. The late 1930s and the 1940s provide a far better model to think about the challenges and risks that banks will be facing in the coming one or two decades. When you view the world through Dalio's eyes everything that's happening right now with banks is completely logical and not surprising in the least. Brushing this aside as "ZH talk" is ignorant at best. I don't say that you have to follow this model but at least acknowledge that it exists and that it provides what seems to be a logical explanation for what is going on right now. Since I am a value investor at heart it took me some time to internalize this model for the really big picture. But ever since, it has been extremely useful and rewarding.

I don't think it's significantly higher than with a physical ETF, they have to buy the derivatives after all. The risk in the case of an index swap ETF is the solvency of the counter-party to DB – though this might be another DB entity or another European bank, of course. What is a significant risk, though, are ETNs because they are senior debt notes, what a lot of people don't realize.

Thank you very much! You're welcome. So far: yes. Dito. I was on and off the short side of European banks since the second half of 2014, too, and didn't make any money with it until 2016. Luckily, I didn't lose all that much. I wouldn't call it "advanced profit avoidance", it's just difficult to do that in a choppy market. Options are the only way (for me) to try shorting equities without the risk of suffering incalculable losses. Honestly? At no price. I don't think the equity in those banks has any MOS. That doesn't mean that I would stay short until the bitter end – which might be, you know, a zero – but I certainly have no appetite for investing into them. My personal opinion is that the Golden Age of banking and finance is over. I expect banks to return to doing what they did before the 1980s in the next 10 or 20 years. [EDIT: I should add: We still haven't had a real crisis event – just prices falling. It's still only a working hypothesis – could also be just a scare.]

I have to correct this. They didn't announce anything. This is just an anonymous source talking to the FT – which I find suspicious in its own way. Then even the rumor is only that they are "considering" it.

Do yourself a favor and read this great interview with William White, former Head of the Monetary and Economic Department of the BIS. Two excerpts: and https://www.linkedin.com/pulse/what-more-can-central-banks-do-interview-dr-william-white-tavares Pure gold.

Pershing Square is down 18.6% in January. I think we may see quite a few value-oriented hedge funds blowing up in the next few months.

Look at the return on U.S. banks from pre-2008 to now and ask yourself if the gov't stepping in really means much in the way of putting a floor on your prospective losses... Exactly. Also helps that we know that, with banks, once trust starts eroding it's a reflexive downward spiral until government has to intervene. It's like a bank run, only that here it's a run on the bank's equity. The bull case for European banks is that everybody calms down and we go back to business as usual (which is bad enough for European banks and which is made almost impossible by the rates environment and the already turning short economic cycle in Europe). Government intervening is definitely not the bull case for shareholders. Take a look at a long-term C or BAC chart and you know where the journey's going. When I realized this I went short.

Yes. I couldn't believe it either when I had a look at the prospectus. Well, they got away with it so far. But, as should be clear for everybody by now, this won't work anymore. Next time DB needs equity (rather sooner than later), it will be through share offerings or forced capital infusions. I really can't understand the people today who are rushing out to buy DB shares because they are rumored to "consider" the – really stupid – idea of buying back some of their senior bonds. Two weeks ago DB was still talking about issuing 5bn in CoCos until 2020 now they rather buy back some senior bonds? And the market takes it as a sign of strength. I take it as a sign of ultimate desperation. They succeeded in what I think was the purpose of this rumor: hindering the share price from going below the 2009 lows (in EUR) which would have resulted in a huge press feast.

Just be aware that these are two conflicting statements. Because "inflation swindles the equity investor" and rates won't stay low when inflation pops up.

So contingent convertibles have no conversion feature? Makes sense. They are converted into the bank's T1 equity but not into ordinary shares. Bond holders lose the principal (gets written down – here with the chance of getting written back up again with future profits) and T1 equity capital goes up. However, there is no change in the share count and therefore no immediate dilution. It's different with other banks like SAN or CS where CoCos are converted into ordinary shares. You really have to look closely at every prospectus. I'd argue that the situation is comparable anyway because the market won't give DB the money for a second round of CoCos once it has written down the first round. They will be forced to issue equity after that. So, this is not a repeatable thing in a banking crisis. They are only shifting the problem around.