Monday, October 15, 2012
The China data is on the face of it a bit of something for everyone. The headline's were a surprise to some, but not to all (see our last post), but market response has been pretty muted and in general are pretty quiet, which is a theme that is probably worrying anyone who has to make a daily shilling to pay the fixed costs that don't go away. Fine for the long term investor, in fact a relief, but for speculators without other day jobs it must be getting painful.
Market volatility falling
Market volumes falling
Speculators being squeezed out.
Reduction in staff levels at banks.
Does it sound as though the score is
Regulators 1 - 0 Finance Industry ?
If the public, political and regulatory environment is morally against you making money by any other means than being a nurse, teacher or doctor is it worth trading in markets that are under more scrutiny and where profits are more highly visible.? Is the reaction of public opinion and regulatory oversight driving those on the margins that most need regulating out of sight? Why ever list and bear the burden of regulatory burden or shareholder pressure when instead you can fund through loans through private investments? Why list as a fund when you can slip below many radars as a "family office"?
So that's the financier's argument - Regulation stealing our lifeblood and driving the margin underground. Now TMM have never been in favour of such idiotic ideas as transaction taxes or procyclical accounting rules, but they do get a sense that their compatriots are not being entirely honest with themselves. In TMM's careers, trading floors have been stuffed with plenty of eejits that can barely count, let alone exhibit analytical understanding of the complex drivers of economics, markets, or even things as simple as what a cash flow actually is. In prior jobs, TMM lost count of the number of times they were asked to do a USD/JPY trade for "value yesterday" - it is staggering just how many in finance do not understand what happens once you have pressed "Yours" or "Mine" because, you know, it's kind of important (especially when your counterparty is about to go bust).
Without wishing to spark a debate about academics vs. practitioners, because this is not at all what this is about, TMM reckon that the inability of the industry to make money post crash and the associated staff cuts, are more a case of The Invisible Hand catching up. Witness, for example, the creeping transformation of businesses like FX towards the Sales-Trading model or even just the Direct Market Access model (see the eruption of electronic platforms).
Ditto, the realisation that under Basel III - a regime that has deservedly met much criticism for its pro-cyclicality at a time like this. But if you designed a regulatory system for banks from scratch, you probably wouldn't have designed anything particularly different. So TMM are continually reminded by a UBS report last year suggesting that BarCap would never have turned a profit over the past decade or so (we forget the exact dates) under such a regime.
So the question becomes - and this relates to a previous post on RBS and UK banks- to what extent did banks merely make profits as a result of the implicit subsidies put upon them. And related to that, their staffing levels - it is particularly staggering in the UK that productivity in the financial industry has fallen dramatically and has been suggested as one of the principal contributors to the UK's productivity puzzle.
So is the conclusion really that it is NOT:
Regulators 1 - 0 Financial Markets
The Invisible Hand 1 - 0 Financial Luddites
Now let's have a look at private wealth buying up productive assets. As "C" put it in comments to our last post -
"With hindsight somewhere down the line I think the world will wake up and realise that while most of it was hiding, long term real wealth was busy buying up the worthwhile productive assets available. I really think that is what is happening quite insidiously many of today's assets won't be coming back for sale at significantly lower prices for the foreseeable future. They're now being held by people who don't need ,or want to sell simply because there is an ever diminishing pile of worthwhile productive assets left to chase with whatever money they liquidate."
TMM agree that this is happening but the argument that regulation is driving deals underground or at least away from regulatory scrutiny does not pass muster as the one true driver. There are plenty of agreements now between tax havens and "everyone else" to go after these kind of things too re: regulation/taxation. Perhaps the real reason, is a function of Mark To Market volatility as you don't have to MTM private holdings in the same way as listed equity. Exactly what we are seeing with volumes falling as faster money is being transferred to "stronger hands". Long term 1 - Short term 0. The fact that equity is so cheap, with the Equity Risk Premium at levels not seen since the early 1980s, makes expected returns look fantastic especially against debt. De-equitisation has certainly been a theme over the past 5 or so years and TMM would argue that this is more the reason than anything more sinister.
So TMM are left in conclusion that the reduction in volumes, the reduction in volatility, the pressure on margins and the evolution of markets is part of a natural rebalancing that has been long overdue and it is unclear as to whether any one set of factors can be blamed more than it just being a natural confluence of inevitability. But as we know, everyone has an agenda and there are enough excuses for failure amongst the probable causes for everyone to find their own "not my fault guv".