I just returned from traveling, and upon returning was thrilled to hear of the following announcements on Wednesday May, 13th.
REGULATION OF OTC DERIVATIVES IS NEARER—A GLIMMER OF GOOD NEWS
The U.S. Treasury Secretary announced that all over-the-counter (OTC) derivative settlements need to take place in a clearing house, and dealers must meet minimum capital requirements. Regulating derivatives is a good start toward avoiding another financial system meltdown such as the one we have been experiencing; however there are lasting effects of the current melt down that must still be addressed.
The reason that so many derivatives were written, is because they were structured in a way that was extremely profitable for the seller. We will wait to see if Congress (which receives way too much funding from major financial institutions) will go for the controls on the financial institutions’ most profitable products. If congress has the fortitude to regulate derivatives, it could be the start of a new era of more responsible banking. Let us hope for the best, but prepare for a politically expedient solution.
Geithner seeking to bring derivatives market under regulation
U.S. Treasury Secretary Tim Geithner is attempting to bring the $450 trillion (£299 trillion) over-the-counter derivatives market – in part blamed for last Autumn’s financial meltdown – in to the regulatory fold for the first time.
May 13, 2009
By James Quinn
In his first major revision of the US financial regulatory handbook, Mr Geithner has proposed a series of new guidelines aimed at preventing derivatives from again posing a risk that might threaten the entire financial system.
Derivatives including credit default swaps – sophisticated financial insurance products – have been blamed for exacerbating the fall-out at companies like American International Group and Lehman Brothers at the height of the credit crisis.
Such financial products have previously fallen through regulatory gaps because 90pc of them tend to be traded “over-the-counter”, directly between institutions rather than through a recognised exchange.
Financial regulators including the Securities and Exchange Commission and the Commodities and Futures Trading Commission are backing Mr Geithner’s proposal. He says that all over-the-counter derivatives should be cleared through regulated central counter-parties.
In addition, dealers in derivatives should be subjected to prudential supervision and regulation, and should be transparent and meet certain capital requirements.
Prices of derivatives trades will be made available on centralised computer platforms, Mr Geithner said.
His push is part of an effort to strengthen regulation in the financial markets in the wake of the credit crisis, and to increase transparency at the same time.
Unfortunately, one cannot go back and retroactively make everything correct, reversing all of the idiocy which created the current problems. So, we expect the policies of using big government spending and bailouts to continue, as this is the only alternative to deal with the derivatives which have already irreversibly melted down.
The government will have to finance these bailouts. Part of the solution may be to make the banks, which are owned partly by the government, buy the government’s bonds. They may also require the pension funds of these bailed out companies to buy government bonds. Both of these will happen, but the big buyer of debt to cover the $2 trillion deficit this year and all of the huge deficits in coming years will be the U.S. government.
The Federal Reserve is committed to buying bonds. Initially interest rates fall, but the eventual long term effects will be a lower U.S. dollar, and a bond market with higher interest rates.
THE U.S. DOLLAR HAS BEGUN TO DECLINE
The U.S. dollar has fallen by about 8% from its highs, after rising by over 25% from its lows in 2008. All of this has taken place, as the balance sheet and fiscal future of the United States has deteriorated greatly over the same time frame. We remain amazed that the dollar was able to rally so much. We believe that the dollar’s rise has been a function of the relatively unattractive nature of the major alternatives, the Euro and the Yen, and generalized fear which caused the uninformed to fly to the incorrectly perceived safety of the U.S. dollar.
We continue to expect that the dollar has much farther to fall and recommend that all of those readers who think in terms of currencies other than the U.S. dollar exercise caution and avoid the U.S. currency.
We plan to hold foreign currencies for the cash balances of our clients, due to our pessimism about the long term future of the dollar. Our favorite currencies continue to be Canadian, Australian, Norwegian, and the Euro.
As the news is constantly telling us, Pakistan is undergoing a fight for its survival as a secular state. We are skeptical about these reports, for according to our sources much of Pakistan is already under the control of the Taliban, and in most of the rest of Pakistan, the Taliban has an important presence. Pakistan has long been operating in a feudal manner where the rich and well connected have controlled most of the land and have rented it to landless farmers.
Education for all but the top classes has been neglected. As a result huge resentments have been formed, and the country is paying the price for this. In our opinion, Pakistan has already fallen under the influence of non-productive influences, and the U.S. is once again paying the price for supporting regimes who have no interest in bettering the quality of live of the local people. In our opinion, the U.S. and its allies should focus much more attention on India to stabilize the South Asian and eastern Mid East regions. India has shown itself to be an economically viable and responsible country and one that is moving toward a larger role in international affairs.
Many technical analysts are calling for the demise of the current stock market rally. All of the capital raising by banks and other companies ($21 billion in newly issued shares were raised in the week between May 7 and May 14 2009) has caused a decline in the U.S. market this past week. We will wait to see what happens, but if new share issuance slows down, the U.S. market rally could resume its two month rally.
Many investors are bearish on the market due to this being the historically weak season for stocks; “sell in May and go away” is an old stock market axiom. The conventional wisdom is calling for a correction. The fact is that the market is about even on the year, after falling heavily in the first two months of 2009.
On the other hand, the economic backdrop is gradually improving, and the stock and currency markets are responding more to rationality, and less to fear, hence the falling value of the U.S. dollar. If we can assume that fear is receding, and that rationality is returning, we can assume that markets will be more rational about stock and currency valuations.
In our mind the Japanese, European and U.S. markets have a mediocre long term future, while many other markets are more attractive. This does not mean we will not own stocks in the U.S., Europe, or Japan. It just means that we will have to be very selective to buy only those with truly visible earnings growth.
In other parts of the world, India and China especially, the economies are growing fast, yet stock prices do not reflect the rapid economic growth, which has continued during the economic upheaval of the last year and a half…and is expected to continue uninterrupted for some time.
While it is true that some companies and industries are doing poorly in Europe, Japan and North America, other companies and industries continue to grow nicely. We see opportunity in many areas, especially in energy, precious metals, agriculture related, India, China, and currencies other than the U.S. dollar.
Thanks for listening.
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