A feature of modern life is that banking crises appear more frequently than they did. In yet another abuse of language this is what central bankers call “resilience”. Also these things invariably involve fraud and sometimes lots of it. I point this out because central bankers claim the risk of fraud and the frequent crises are a reason to avoid things like Bitcoin and completely ignore the issues with banks. Yes Bitcoin has risks but they need to be compared to the risks of banks as for example much monetary policy can be perceived as a banking bailout.
For younger readers there is something awfully familiar about the quote below. Or as the great Yogi Berra put it “it is just like deja vu over again”
Investors in the $2tn leveraged loan market have warned that the abrupt collapse of First Brands Group is an early sign of trouble for a market where hasty deals and hurried due diligence have become commonplace.
First Brands was among the largest issuers of loans bought by collateralised loan obligations, investment vehicles that buy up small slices of hundreds of individual corporate loans. ( Financial Times)
Nearly all of that could have been and indeed was written about the way Mortgage-Backed Securities contributed to the credit crunch. On that road we get another perspective on my topic of Wednesday.
Our long-stated plan is to stop balance sheet runoff when reserves are somewhat above the level we judge consistent with ample reserve conditions. We may approach that point in coming months, and we are closely monitoring a wide range of indicators to inform this decision. ( Fed Chair Jerome Powell)
As the Federal Reserve has some US $2.09 trillion of Mortgage-Backed Securities still on its books from all its QE buying it now seems clear that the announcement above was in response to them suddenly hearing Lyndsey Buckingham on the radio and Spotify.
I should run on the doubleI think I’m in trouble,I think I’m in trouble.
We get a perspective on the QE era as they are looking to stop the balance sheet reductions with large positions remaining. Something else they did not tell us about. But the crucial point here is that the Federal Reserve looks rather nervous about what happens next. This inevitably raises the question what do they know?
There is another familiar feature which is a type of mathmatical fallacy.
CLOs have become popular with insurers and other big investors who bet that by spreading their lending across many different companies they are protected from the pain of defaults in one or two businesses. ( Financial Times)
Not if they behave in the same way it isn’t as you are concentrating rather than spreading risk. Something that we find all those “clever” people always miss. Indeed it appears they have missed quite a lot.
“You’re not paid to do due diligence in this market,” an executive at a former lender to First Brands said. ( FT)
It would seem that the investment policy was based on how lemmings behave.
Investors who have suffered losses on the loans say due diligence was not made a priority, with some investors taking comfort from the fact that larger managers with bigger teams of credit analysts had bought in. ( FT)
It would seem that actual analysis was a long way down the priority list.
Josh Easterly, the chief investment officer of investment group Sixth Street, pointed to the fact that many CLO investment firms have just a handful of analysts covering their entire credit portfolios, which can include hundreds of different investments. Moody’s estimates roughly 2,000 companies issue debt that is bought by CLOs in the US. ( FT)
Also we can complete the repetitions of the past with a AAA Klaxon.
The top-rated AAA tranches in CLOs have proven their mettle during prior market sell-offs and economic downturns, given how diversified the vehicles are. Investors said defaults would need to rise dramatically to begin to impair investors in even the lower-rated portions of the vehicles. ( FT)
As you can see we are assured that it is all perfectly safe. Later we will discover that they were hoping to find someone to sell to.
First Brands
A week or so ago a tweet by @compound248 attracted my attention by highlighting an inquiry as to where some US $1.9 billion which was supposed to be in a segregated account was? And the reply was “I don’t know.”
That theme continued yesterday with this from Reuters.
Trade finance firm Raistone, a creditor of First Brands, has asked a court to appoint an independent examiner after claiming that as much as $2.3 billion “simply vanished”, while U.S. investment bank Jefferies (JEF.N), opens new tab and Swiss lender UBS (UBSG.S), opens new tab have exposure running into millions of dollars.
We always get told this.
Jefferies said while First Brands’ situation could lead to some financial losses over time, it expects them to be readily absorbable.
The bank said the impact on its stock and credit perception was “meaningfully overdone”. ( Reuters)
Such replies at a time like this are a type of public relations exercise as in the background the due diligence will be being done right now.
These issues also have a familiar cast list as we have already seen UBS ( is it rude to wonder of this is another benefit of the Credit Suisse take-over?) and now we see this.
A joint venture between Norinchukin Bank and Mitsui & Co faces $1.75 billion of exposure to the auto parts supplier, Bloomberg News has reported.
For newer readers Norinchukin got itself into trouble buying bonds at the top of that particular market. Usually I admire consistency but not this time. I looked at it on June 25th last year.
We have learnt from previous crises that assets and collateral have this awful habit of not being all they are cracked up to be.
Bank of America (BAC.N), opens new tab Chief Financial Officer Alastair Borthwick said the lender’s syndicated loans to First Brands are asset-backed and secured by collateral. ( Reuters)
In case you are wondering why funds piled in? There was this.
First Brands debt offered attractive rates, with an interest rate 5 percentage points over the floating rate benchmark for the US dollar loans it issued in March 2024. When accounting for discounts investors received at the time of the capital raise, the loans yielded roughly 11 per cent. ( FT)
That screams due diligence is required but as so many “clever” people had invested it was not considered necessary. If there had been some diligence they would have spotted this.
Others pointed to the difference between the cash flows that First Brands generated and the profits it reported it was earning. ( FT)
Then another classic of the genre.
The company was perpetually buying up smaller businesses and raising more debt to fund those takeovers. Investors said that made it difficult to assess how the underlying business was faring. ( FT)
Comment
These things invariably happen to a mundane business in this instance brake pads and motor parts. I think it lulls people into a false sense of security or if we are less polite they do not care as long as the expect large profits. You may wonder how this links to the banks? They will be there lending and just to show how really familiar this is let me take you back to the 1980s and Yes Prime Minister. The events sound familiar.
Breaking the law.
– I wouldn’t put it like that.
Were the directors siphoning off funds into their own companies?
– Might’ve paid it back later.– But didn’t.
– Well, they haven’t yet.
– Tax fiddles.
They placed their own interpretation on Treasury regulations.
– Someone has to interpret them.
– What about the Treasury’s interpretation? It didn’t seem appropriate.
– Capital transfers to Liechtenstein companies?
– Bit of that.
So when’s all this going to come out?
– That’s just it, it mustn’t.– How do you stop it?
– That’s what I meant about breaking the rules.If they were profitable, it wouldn’t need to come out.
– Now they’re going bust, I’m worried.
– Are you involved? Surely a huge bank like yours isn’t affected? I wish you were right, but we’ve supported them in a big way.
We’re in for 400 million.
It’s all very well for you, but when you’ve got all that Arab money at 11%, you’d look pretty silly if you didn’t lend it to somebody for 14.
– You couldn’t trust many people to pay 14.
– Obviously.
Then we put in more to keep them afloat.
– If you knew they were crooks
– We didn’t.– You could’ve made inquiries.
– You don’t make such inquiries in the City.
They seemed like decent chaps.
Decent chaps don’t check up on decent chaps to see if they’re behaving like decent chaps.
And ignorance is worth paying £400 million for? Ignorance is safety.
It’s not a crime to be deceived.
And it’s not our own money.
Very little actually changes in a scandal like this. The cast is even sometimes the same. Oh and a bailout by the Bank of England was expected which returns me to my QT thoughts. Also if I look at the stock market the banking issue is highlighted by Barclays Bank and its share price being down 6% today. Falls in bank share prices are awful news for whoever’s turn it is to present one of the central banks morning meetings.
