The best investments China never made ….
CITIC — according to Felix — never closed on its investment in Bear. If I was a bit more skilled with blog formatting, I guess I should scratch Bear and write JP Morgan. Talk of a spectacular collapse. And if I had to guess, I would bet that Chinese financial institutions are going to be a bit more reluctant to invest in large US banks and broker dealers going forward.
CITIC isn’t the only institution happy not to have made a set of big investment — or at least not closed — over the past several months.
The China Investment Corporation (CIC) hasn’t been in any rush to place large sums in US and European markets. It has spent an extended period of time selecting its external fund managers. But, at least to my knowledge, it hasn’t actually awarded a set of large mandates yet. It may already have picked a few hedge funds to manage its money though …
Certainly the CIC didn’t buy a bunch of foreign exchange from the PBoC in January. If it had, China’s reserves wouldn’t have gone up by as much. The large Ministry of Finance bond issue was held in RMB at least through the end of January, and perhaps longer.
It actually may not be in the CIC’s interest to put its money to work quickly. By holding on to its RMB, the CIC kept its assets in an appreciating currency. And it avoids taking market risk.
I probably need to qualify my last statement. The RMB has been appreciating against the dollar, but not — at least over a short horizon — against the euro (or even, over past few weeks, the yen). The CIC could consequently have gained by trading RMB for euros, or any other currency that has benefited from the dollar’s sharp recent slide. But I rather suspect that the last thing the Europeans want right now is a huge surge in Chinese government demand for their currency.
Clearly, the CIC hasn’t avoided all market risk. The market value of its investment in Blackstone has fallen significantly; Morgan Stanley isn’t down as much, but it is still down. But the CIC did avoid dumping a bunch of money into a host of equity markets in December only to see their value fall this year.
There is a broader point here as well. While the past several months are unique, the CIC is perhaps the only investment company in the world that might well be able to do better financially if it didn’t invest any of the funds that were raised for it to invest.
Of course, if the Ministry of Finance just held on to the RMB, there wouldn’t be much need for a CIC. At least not in its current form. Most of the CIC’s assets are domestic — as it received equity in domestic financial institutions in exchange for the foreign exchange used in their recapitalization. But a part of the CIC was also supposed to manage an external portfolio …
Bear Stearns is not the only big financial house in trouble. The potential for contagion is real and menacing. The real questions are: Which of the big banks will be next to fail? How many more banks will fail? Will the whole system turn to panic if Citigroup unwinds?
The quality of leadership provided by Citigroup CEO Vikram Pandit, and Robert Rubin, the man who chose him, is a major concern now that Citigroup has been forced to pour $1 billion into the hedge fund Pandit sold his employer. The Board at Citigroup seems hypnotized to be putting up with that maneuver.
Some of the large bank groups may have to be broken up. Citigroup tops the list. These firms are just not managed well and are too large and diverse to be managed effectively. The economy has been put at grave peril by the unwillingness of Pandit and other leaders of the Wall Street banks to reform what are clearly broken banking practices and a failing business model.
The Federal Reserve continues to bail out major financial institutions without imposing meaningful conditions to improve their conduct and performance. It is failing to require the reforms that have closed the bond market to banks, make the securitization of bank loans virtually impossible, and have greatly curtailed responsible lending to businesses by banks. In turn, the banks continue to impose onerous conditions on their customers. Many are sound businesses not responsible for the crisis the banks have created yet bear the primary burden.
Hence, the Federal Reserve continues to give aid to the irresponsible, while letting these same banks punish their customers.
Peter Morici
Professor
Robert H. Smith School of Business
University of Maryland
College Park, MD 20742-1815
“I would bet that Chinese financial institutions are going to be a bit more reluctant to invest in large US banks and broker dealers going forward.”
I wish they were more reluctant to buy US treasuries
I think there is too much stake for asian manufacturers given that consumption in US very important to sustain their exxport led growth. I think there is going to coordinated intervention coming very soon. Fed has no role any longer to prop up economy as this collapse is caused by supply side constraints rather than overinvestment led collapse. I think current crisis has the reminiscent of finnish economic crisis of early 90’s when economy contracted by 13%.
I think investment is made in high storage nano battery technology to change the way of life to reduce consumption of oil without change in lifestyle rather than keeping the consumption economy propup with 150 bn stimulus package.We should think long term not short term bailout although politically not feasible.
it’s the <strike></strike> tag
cheers!
CITIC and PBoC will need to spend/invest their money at home. US Consumption is slowing pretty markedly from my informal polls. Hotels, Limos, Tech investments all slowing pretty significantly in the last few weeks in NE and MW. This means less exports and less cash to cover the huge investments that have been made by both state and private sector companies in China. Already margins are razor thin.
More write-offs to come. Goldman I see has made press at 3 Billion, AIG and MER have more to come. LEH in spotlight as is WaMU.
Macro level is too much leverage, micro level is folks are cutting back in wake of huge inflation spike in food and energy. I have no idea what they were thinking using HEL as ATM. Its payback time.
What is missing in all of this has been the lack of common sense by the IBs, Banks, consumer and corporate and public leadership. It’s appalling on how they have squandered the Greatest Generation’s contributions.
Our future is like Britain’s. Sell any/everything unless we buckle down and realize we’re broke. Not one of the folks who will run for President gets it.
The new Governor of NY said it all: The only prostitutes he knows are lobbyists. I think that’s about as good a quip as Shakespeare on lawyers!
Brad,
When I read this story in the journal, I couldn’t help think that Westerners are still misreading the situation.
1) When there is a clear opportunity, things move VERY fast in China.. and when the Chinese want to assess a situation or they feel that there is something “off”, they will take their sweet time.
In the case of the Citic deal, my guess (based on experience with bankers in China), is that they began these talks with the understanding that there was an opportunity but once they realized the exposure of Bear Stearns to subprime.. they s l o w e d the process down to get their hands around how far subprime would go, and what that would mean for their deal/ position.
Why must it be that they got lucky? Maybe this is a case of where the Chinese side properly assessed the risk.
2) Through this article is that there is a feeling that by somehow passing on this investment, CITIC missed out on their opportunity to really globalize…
Maybe it is just literary 3 card Monty, but I think that CITIC and others are a bit more savvy than they are given credit for. If nothing else, keep in mind that now there is talk about the problems that many other banks are having… and perhaps, CITIC sees a better opportunity in a JP Morgan or Citi.. or ??
there is a lot more to this deal, and the reasons for its “failure”. My guess is that CITIC and others do not see there process as a failure, but as a save for them, and with other banks rumored to be in similar difficulties I would expect that someone in Beijing/ Shanghai is already running the numbers on various what if scenarios to understand which deal would provide the best terms/ opportunity for them.
R
http://www.allroadsleadtochina.com
All roads — I had no intent to suggest that China is missing an opportunity. I never have really thought that passive investments in major US and European financial institutions were necessarily a great idea for state banks/ sov. funds. I agree that CITIC may have slowed things down once they got wind that US financial institutions might be more exposed than they expected.
That said, I do not think that China is simply sitting back and assessing the opportunities. The CIC’s investments in Morgan Stanley and Blackstone had the feel of something that was done rather quickly, and without a lot of due diligence. Rather it seemed like the CIC jumped at the opportunity to buy into a brand name.
The broader point of this post is that it does make financial and economic sense for China to invest more at home (in my view) and buy fewer us financial assets (tho right now a big shift in policy would be jarring). However, the CIC wasn’t set up for domestic investment. On the other hand, it can probably achieve one of its mandates — namely getting better returns than SAFE — by waiting as lon as possible to buy $ and invest abroad, and thus leave the currency losses with SAFE.
The impression that I got was that CITIC was all for the deal but that the regulators in Beijing were much more skeptical (correctly).
Looking at this, it’s amazing what a spectacularly bad deal this would have been had it gone through. CITIC has planning on paying $1 billion for six percent of Bear-Stearns and no management control. The amount of money that JP Morgan paid for 100 percent was $270 million.
Who would want to own a primary dealer of U.S. securities with the underlying currency turning into toilet paper ? China and others are reeling from the implosion of the U.S. consumer structure that is contracting. The Fed, Wall St. and the government are responsible for this mess. Bernanke inherited this mess
and is only doing what he can. China, Japan, Korea are going to have to live with it..
It should be clear by now that factors other than foreign central banks determine US treasury yields.
Anyone who’s holding large reserves of US dollar must be thinking damage control, rather than maximise profits or get a safe return.
“How can we put out this fire before everything burns up?” has got to be the train of thought across the board in Central banks and FX reserves management, rather than any blatant opportunism, or such.
I think SWFs are going to end up controlling a big chunk of the banking sector, provided that their dollar holdings don’t simply go up in smoke, simply because there is a fundamental lack of liquidity for other alternatives. What else can happen?
“…The first morning of [Davos], I wedged into a jam-packed session hosted by CNBC’s Maria Bartiromo under the intriguing banner, “Who’s in Charge?” On stage was a luminary cast including former US Treasury secretary John Snow, Nobel-prize winning economist Joseph Stiglitz, financier-philanthropist George Soros and Infosys board co-chairman Nandan Nilekani. With studio cameras everywhere — CNBC would later broadcast the session in the US and Europe — they and a set of designated challengers including former Treasury secretary Larry Summers debated three timely ["resolutions"]:
Motion 1: Central bankers have lost their focus and control with respect to economic governance.
Motion 2: New stakeholders such as sovereign wealth, hedge and private equity funds, have become the new power brokers.
Motion 3: We need a new sheriff to police global financial markets.
The sides were drawn, and the rhetoric was sharp. One of the participants advocated for the first motion, declaring that “sovereign wealth funds are the new powers and the new power brokers” — and they are now deciding “which banks are re-capitalised and which will fail.” Another advocated against the third motion, asserting that a global sheriff is “completely impractical.” Can you imagine, he warned, “the President or the Fed calling up a sheriff to ask for permission to stimulate the economy or cut interest rates?”
With handheld voting devices, the large audience then cast its ballots against the central bankers — 59% said they have indeed lost their way; for the new stakeholders — 81% said they are the new power brokers; and against a global sheriff — 75% said we need no such policing.
It proved one of the most riveting sessions of my six years at the forum, in part because the audience’s votes confirmed a new global reality: Several hundred of the world’s elite had concluded that central bankers had lost control; sovereign wealth, hedge and private equity funds were increasingly in control; and no new authority should be put in control…” http://sify.com/finance/fullstory.php?id=14607824
what a surprise…
“…the Fed has agreed to protect [JP Morgan] firm from a certain amount of liability…” http://www.nytimes.com/2008/03/17/business/17bear.html?pagewanted=2&_r=1&hp
“…Shareholder lawsuits could be filed against the firm if investors suspect Bear Stearns officials knew Friday that bank’s value practically evaporated but failed to disclose that information publicly…” http://www.washingtonpost.com/wp-dyn/content/article/2008/03/16/AR2008031601672.html
JP Morgan, post Bear purchase, now has notional $ 100 trillion in derivatives.
It’s Official. Citic Securities to terminate Investment in Bear Stearns
http://www.bloomberg.com/apps/news?pid=20601089&sid=aGWqjgY4s57E&refer=china
March 17 (Bloomberg) — Citic Securities Co. terminated a proposed $1 billion investment in Bear Stearns Cos. after the Wall Street brokerage was bought by JPMorgan & Chase Co., said the chairman of Citic’s parent company.
Citic Securities, China’s largest securities firm by market value, also scrapped plans for a joint venture with Bear Stearns, Citic Group Chairman Kong Dan said in an interview in Beijing today. Citic Group, China’s largest investment company, owns 23.4 percent of Citic Securities.
Jim Rogers Says Fed Support of Bear Stearns `Outrageous’: Video
http://www.bloomberg.com/avp/avp.htm?clipSRC=mms://media2.bloomberg.com/cache/vpsp3dpnTUuA
00:00 Federal Reserve “has given up” on the dollar
00:57 Says he’s not selling any “real assets”
02:11 Fed action; Bernanke’s “audacity” in bailout
02:52 Fed response; “let somebody go bankrupt.’”
05:03 U.S. dollar strategy, Bernanke and Greenspan
“Apparently JPM bought (for themselves or clients?) 30k BSC Mar 30 puts and 12,000 S&P puts (across various contracts) on Friday” http://ftalphaville.ft.com/blog/2008/03/17/11638/jpms-6bn-legal-bear-pot/
“…Goldman Sachs has so far profited from the credit crunch, but is set to disclose a $3bn writedown in the declining value of the value of its stake in the Industrial & Commercial Bank of China.” http://www.guardian.co.uk/business/2008/mar/17/jpmorgan.useconomy1
Brad,
Sorry. Didn’t mean to imply you were the one misreading the situation, it was an impression I got from the original WSJ article, and some other comments I have seen/ heard.
with regards to the blackstone deal, that is a classic case of how things can move very fast, and at the same time I think it is a reason why the Chinese have pulled back on the throttle a bit… things have changed for all of the US banks since that deal, and with few people feeling comfortable calling the bottom near, it is no surprise that the Chinese are looking to hold on a bit more.
After all, if Lehman or someone else were to come onto the market (Citi, Washington Mutual, etc)… they would have more options to choose from theoretically.
R
http://www.allroadsleadtochina.com
So much for the free market … Robert Rubin demands federal taxpayer bailout for his gross mismanagement at Citicorp and his Hedge Fund crony clients.
TAXPAYER BAILOUT = CORPORATE WELFARE. PERIOD.
” Last week, Robert Rubin, the former Treasury secretary, and John Lipsky, a top official at the International Monetary Fund, both suggested that taxpayer public funds might be needed to rescue the U.S. financial system. ”
http://www.nytimes.com/2008/03/17/opinion/17krugman.html?
Brad, you have occasionally linked to comments by Michael Pettis. Do you happen to know if he has changed any of his underlying assumptions in his book ‘The Volatility Machine’ written in 2001? As the liquidity model seems to now at least marginally appear to flow from LDCs to developed markets and not vice versa. I see the implications as being the same. Imbalances that build-up until they are unsustainable, and then a bust in the underlying asset values as investors underprice risk and over-estimate growth prospects. However, now that America/Wall Street need those LDC bailouts in earnest they may find as you suggest that CBs/SWFs are in no hurry to throw good money after bad? Thanks for your comments. Cheers. MrBill.
“factors other than central banks determine treasury yields” …
care to elaborate?
Central banks bought $150b of $ and euros in the fx market in january and those funds have to go somewhere. true, there also has been a collapse in confidence in a host of other assets, leading to a flight into treasuries. But given that many investors have lost confidence in the dollar, it strikes me that the fact that there is still int. demand for dollar denominated treasuries despite low yields is indicative that central banks are still part of the equation.
All roads — my guess is that the SWFs don’t want to go in to an institution just before it crashes, and that now seems a more realistic risk than in the past. The game seems to have changed. In Nov and Dec the SWFs underestimated the scale and depth of the troubles in the us financial system.
It was Steve Forbes who called for suspension of “mark-to-market” activities this morning. - “We are in a panic and need to take twelve months to see how these things actually work out. This is all making the situation worse, not better.”
This Free Market stuff is so messy, can’t we just neaten it up? Steve Forbes meant to say. “All Prices should be fixed at a artificial high level that guarantees us a outrageous profit.” but was cut-off early.
This is brilliant! Government bans Loss for designated Licensed Profiteers Goldman Sachs and Citicorp!
“Industrial Production down .5% for February”
So how much more dollar devaluation is needed in order to reverse the trend? 40-60 percent since 2002 has not been helping except for few companies such as Boeing.
Where are those replacement jobs for tens of millions which will lose their jobs within next couple of years?
Nordics actually in late 80’s had rather similar situation as USA today with their housing bubbles, junk loans and trade deficits but the internet boom and low government indebteness saved the day for them.
Things have to get worse before they get better. The U.S. consumer is the key and that structure is imploding. The government catered to the credit card industry and changed the bankruptcy laws to worsen consumption. Hence the real estate crumble. China and all the rest on board for the ride. Reaping what is sewn.
“…As part of the original cross-investment deal, Bear Stearns agreed to assume $1 billion of Citic’s debts…” http://business.timesonline.co.uk/tol/business/industry_sectors/banking_and_finance/article3492144.ece
did bear assume the debt and how much might it and other u.s. banks hold? remembering:
“The US investment bank Goldman Sachs has signed a landmark deal with (ICBC) to form a strategic partnership to dispose of non-performing loans. Hank Paulson… said that the venture would mark the start of a longterm relationship with the bank. The joint venture intends to take on bad loans… but no details were provided on how the portfolio would be valued or the expected rate of return. This venture is the first of its kind between a foreign institution and a Chinese bank, though both Goldman Sachs and a consortium led by Morgan Stanley have formed joint ventures with Huarong, an asset management company created to dispose of a tranche of ICBC’s bad debts.”
“…”We’re not doing this to get a specific, targeted return,” Henry M. Paulson Jr., Goldman’s co-chief executive, said… “We’re investing to signal our confidence in Guangdong.”…” http://query.nytimes.com/gst/fullpage.html?res=9E00E0D8133DF934A25751C1A96E958260
“care to elaborate”
From the Telegraph:
As feared, foreign bond holders have begun to exercise a collective vote of no confidence in the devaluation policies of the US government. The Federal Reserve faces a potential veto of its rescue measures.
Asian, Mid East and European investors stood aside at last week’s auction of 10-year US Treasury notes. “It was a disaster,” said Ray Attrill from 4castweb. “We may be close to the point where the uglier consequences of benign neglect towards the currency are revealed.”
The share of foreign buyers (”indirect bidders”) plummeted to 5.8pc, from an average 25pc over the last eight weeks. On the Richter Scale of unfolding dramas, this matches the death of Bear Stearns.
Rightly or wrongly, a view has taken hold that Washington is cynically debasing the coinage, hoping to export its day of reckoning through beggar-thy-neighbour policies.
It is not my view. I believe the forces of debt deflation now engulfing America - and soon half the world - are so powerful that nobody will be worrying about inflation a year hence.
Yes, the Fed caused this mess by setting the price of credit too low for too long, feeding the cancer of debt dependency. But we are in the eye of the storm now. This is not a time for priggery.
The Fed’s emergency actions are imperative. Last week’s collapse of confidence in the creditworthiness of Fannie Mae and Freddie Mac was life-threatening. These agencies underpin 60pc of the $11,000bn market for US home loans.
With the “financial accelerator” kicking into top gear - downwards - we may need everything that Ben Bernanke can offer.
“The situation is getting worse, and the risks are that it could get very bad,” said Martin Feldstein, head of the National Bureau of Economic Research. “There’s no doubt that this year and next year are going to be very difficult.”
Even monetary policy à l’outrance may not be enough to halt the spiral. Former US Treasury secretary Lawrence Summers says the Fed’s shower of liquidity cannot cure a bankruptcy crisis caused by a tidal wave of property defaults.
“It is like fighting a virus with antibiotics,” he said.
We can no longer exclude a partial nationalisation of the American banking system, modelled on the Nordic rescue in the early 1990s.
But even if you think the Fed has no choice other than to take dramatic action, the critics are also right in warning that this comes at a serious cost and it may backfire.
The imminent risk is that global flight from US Treasury and agency debt drives up long-term rates, the key funding instrument for mortgages and corporations. The effect could outweigh Fed easing.
Overall credit conditions could tighten into a slump (like 1930). It’s the stuff of bad dreams.
Is this the moment when America finally discovers the meaning of the Faustian pact it signed so blithely with Asian creditors?
As the Wall Street Journal wrote this weekend, the entire country is facing a “margin call”. The US has come to depend on $800bn inflows of cheap foreign capital each year to cover shopping bills. They may have to pay a much stiffer rent.
As of June 2007, foreigners owned $6,007bn of long-term US debt. (Equal to 66pc of the entire US federal debt). The biggest holdings by country are, in billions: Japan (901), China (870), UK (475), Luxembourg (424), Cayman Islands (422), Belgium (369), Ireland (176), Germany (155), Switzerland (140), Bermuda (133), Netherlands (123), Korea (118), Russia (109), Taiwan (107), Canada (106), Brazil (103). Who is jumping ship?
The Chinese have quickened the pace of yuan appreciation to choke off 8.7pc inflation, slowing US bond purchases. Petrodollar funds, working through UK off-shore accounts, are clearly dumping dollars amid rumours that Gulf states - overheating wildly - are about to break their dollar pegs. But mostly likely, the twin crash in the dollar and US agency debt reflects a broad exodus by global wealth managers, afraid that America is spinning out of control. Sauve qui peut.
The bond debacle last week tallies with the crash in the dollar index to an all-time low of 71.58, down 14.6pc in a year. The greenback is nearing parity with the Swiss franc - shocking for those who remember when it was 4.375 francs in 1970. Against the euro it has hit $1.57, from $0.82 in 2000. Against the yen it has smashed through Y100. Spare a thought for Toyota. It loses $350m in revenues for every one yen move. That is an $8.75bn hit since June. Tokyo’s Nikkei index is crumbling. Less understood, it is also causing a self-reinforcing spiral of credit shrinkage throughout the global system.
Japanese investors and foreign funds are having to close their yen “carry trade” positions. A chunk of the $1,400bn trade built up over six years has been viciously unwound in weeks. The harder the dollar falls, the further this must go.
It is unsettling to watch the world’s reserve currency disintegrate. Commodities from gold to oil and wheat are taking on the role of safe-haven “currencies”. The monetary order is becoming unhinged.
I doubt the dollar can fall much further. What is it to fall against? The spreading credit contagion will cause large parts of the globe to downgrade in hot pursuit - starting with Europe.
Few noticed last week that the Italian treasury auction was also a flop. The bids collapsed. For the first time since the launch of EMU, Italy failed to sell a full batch of state bonds.
The euro blasted higher anyway, driven by hot money flows. The funds are beguiled by Germany’s “Exportwunder”, for now. It cannot last. The demented level of $1.57 will not be tolerated by French, Italian and Spanish politicians. The Latin property bubbles are deflating fast.
The race to the bottom must soon begin. Half the world will be slashing rates this year to stave off credit contraction. The dollar will have a lot of company. Small comfort.
Guest — please look at the Friday TIC data release. admittedly it is for january, but i doubt february or march will be all that different. the latest data suggests ongoing record official demand. foreign central banks may be buying in the secondary market — or shifting to bills and other short term instruments to avoid locking in low rates, but they are still buying. again — go to the Jan tic data. i didn’t have time to blog on it.
Brad
It’s probably less a case of foreign central banks dumping or not buying any treasuries but that the current circumstances may make it difficult for them not to subtly reduce investment or consider other alternatives(however unpalatable they may be). To put it bluntly, these CBs aren’t investing because treasuries are the best investments or ‘cos they’re pro-American, it’s just that not investing means existing investments will suffer a sharp decline in value should the American financial system go belly up. There aren’t any real alternatives, even if there were, how do you discreetly shift 800bn or so out of US$ denominated investments (yes, even something like treasuries) without panicking the rest of the world and thereby causing your investments to decline further in value. No one walks away unscathed from the disintegration of the biggest financial system of the world. The question is will investing in treasuries and thereby leaving Paulson and Bernanke some space to solve the present problems really produce the hoped for magic pill?
Judy — that is indeed the question. but i would argue that the jan data strongly suggests that central banks are still adding to their treasuries at a substantial pace, in effect giving paulson et al time to find a solution …
CIC “hasn’t been in any rush” - really? Their very first equity RFI went out just before Christmas and they’ll choose the final mandate winners in the next week or so. At (and I admit I’m guessing) USD1.5bn per mandate, that’s not quick?