August 28, 2012
Spanish Bonds and Stuff: whatevs

100/(1.015)^10 = 86.1667

100/(1.07)^10 = 50.8349 (this how much a 7 percent 10 year 100 Euro bond would sell at auction)

this is so wrong it is unbelievable

if spain issued a €100 face value 10 year bond yielding 15% it would sell for a price far in excess of €100. with current market interest rates where they are a 10 year bond yielding 7% would sell for about €100.

so imagine it issues both and imagine the 15% one sells for €160. what happens to the price when spain looks like it won’t be saved? market interest rates increase. and so the price of that bond falls. if market interest rates increase to about 15% the price of that bond will fall from €160 to about €100

the 7% yielding bond will also fall in price as market interest rates increase. this is so the subsequent amortisation of price back up to par over the remaining life is a substitute for the missing interest in the coupon *8% is missing compared to the market interest rate)

so what is the problem for spain? i mean, if the price of all their bonds has fallen why don’t they just by them back at a discount to where they sold them? well, for starters they’ve spent all the money. so the issue now is as 4% coupon debt expires, they now have to issue 7% coupon debt. and given the magnitude of their debt burden and their enormous budget deficit, this will soon mean that they cannot afford interest payments. and they’ll default on their debt.

i’m skipping the rest of the mathematics and going to…

I mean think about it. If you actually thought Spain was going to default, you would charge a hell of a lot higher interest than just 7 percent annualized.

no. people do think spain is going to default and they are only charging 7%. why? because they think that if spain threatens to default the ecb and the rest of europe will cave in and bail them out (then 7% coupon when 10 year treasuries return less than 2% will seem like a great investment)

But that’s an arbitrage opportunity. It is an arbitrage opportunity that a computer couldn’t spot, but it was definitely an arbitrage opportunity.

it’s not an arbitrage opportunity. it is a risk opportunity. what happens if spain is not bailed out when they try to default? then not only do you say goodbye to the 7% you say goodbye to your capital as well. then the 10 year treasury looks like a great investment decision.

The difference was between the world it is right now and the world that had to be. The European Central Bank had to be a central bank to all of Europe. And if you knew that, you could’ve not worked at all this year. Well, you worked. Just like with your brain instead of like regular working.

this paragraph makes no sense at all

What will happen now is that because of the Basel banking rules requiring banks to hold government bonds, the next time the ECB buys Spainish bonds at 1.5 percent, all the banks in Europe will buy your 7 percent bonds at like 1.7 percent prices or whatevers. And you get like 65 dollars on your 100 dollar investment.

that is not true. basel requires banks to hold capital of a certain quality in a certain proportion to their assets (their loans). if spain is downgraded further, then the ability of a bank to use spanish government debt as capital to meet basel requirements is diminshed and they must find alternatives. this in turns leads them to sell those bonds to buy the alternatives (10 year treasuries for example) further driving the price of the spanish ones down (the yield up past 7%) but whether to 65 cents on the dollar is another question your mathematics is not equipped to answer

I guess it would be in Euros. But anyways, it’s a lot of free money. FREE money!

it’s not free money. the fact they’re paying interest on it shows it is not free. the fact that as interest rates go up bondholders suffer a loss shows that too.

If you invested 1 billion Euros, you’re looking at 650 million Euros in return over just maybe like 4 or 5 months. That’s like a 150% annualized return. That’s way better than any hedge fund you’ll ever find.

if you invested €1 billion in spanish bonds right now you better hope mario draghi gets permission to bail them out. if he does, you might just save your capital from the gouging losses that would otherwise be experienced if they were allowed to default. the only problem is, by the time your investment matured, the 7% yield you might be getting might not be enough to cover the inflation that might be caused by the bailout. a classic catch-22 position

I wanna run the Saudi Arabian sovereign fund so bad. I’d do a good job conquering the world.

if this is how you choose your investments the saudis would not let you touch one dinar. and if this is how you decide what your return is then i’m sure climbimg a hill would lead you to believe you are in fact king of the world.

It’s just like a video game.

no it’s not. while traders do sit in front of screens all day it is more chess than WoW

It gets a little trickier with the currency carry trade. But if you lived and worked in Europe, this was what you should have done. Bought a whole shit load of Spanish and Italian bonds. Well, not NOW. Before.

i hope you don’t have a spanish grandmother and italian aunt you are advising. because if you had you might not be so popular at christmas given how much money you’d have lost them

This money had to come from somewhere though. It’s a little zero sum and possibly quite wealth destroying. It came from money banks could have used to invest in small businesses. It came from the velocity of money in Europe, which is really the absolute worst thing ever. But what do you care? 69 percent! Heehee. 69.

a little zero sum is an oxymoron. either something is or it isn’t. if it is zero sum then any increase in yields is definitely wealth destroying. and because you are talking about sovereign debt, why are you now mixing in talk of lending money to businesses which is not something the spanish givernment generally does as a day job?

Screw everybody else. They’re just going to break your heart anyway.

Eventually though, they’re going to scrap the Basel rules because they have to, which means there is going to be a shit load of money that all of sudden has to go somewhere.

why do they have to? please explain? if your explanation is anywhere as entertaining as what you have said previously i’m sure we could all make millions just knwoing what your explanation is

These few months and years will really require some active management.

try some active learning and reasoning before you try any active management

11:20am  |   URL: http://tmblr.co/ZWwfOwSJJP0f

Filed under: interest rates spain euro ecb
July 23, 2012
a challenge to wall st? not quite…

not a challenge to wall st, more a proposal as to who should clean up the mess they created in the years leading up to the housing bubble being popped.

think of the clean up required on the beach after the five week russian rave party at kazantip. the beach is your neighbourhood, the mess is the foreclosed and abandoned homes, and of course the clean up crew is anyone but wall st.

for as long as the finance industry are not held to account, they are happy. they have already moved onto their next bet, and this one - betting against the survival of the euro - may well bring down the whole house of cards.

From an Unlikely Source, a Serious Challenge to Wall Street | Matt Taibbi | Rolling Stone

But there’s something brewing that looks like it might be a blueprint to effectively take on the financial services industry: a plan to allow local governments to take on the problem of neighborhoods blighted by toxic home loans and foreclosures through the use of eminent domain. I can’t speak for how well the program will work, but it’s certaily been effective in scaring the hell out of Wall Street.

Under the proposal, towns would essentially be seizing and condemning the man-made mess resulting from the housing bubble. Cooked up by a small group of businessmen and ex-venture capitalists, the audacious idea falls under the category of “That’s so crazy, it just might work!” One of the plan’s originators described it to me as a “four-bank pool shot.”

June 25, 2012
yes, paul krugman, we do need an abdication

abdication as in we need to discard, cast off. cast off what? two things:

1. pundits posing as economists - my comments on krugman’s article follows his quotes
2. preconceptions about the world we live in and that choices we have previously made tie us down forever. everything should always up for grabs and be able to be renegotiated. sometimes that comes at a cost, but if we are aware of the price we might be willing to pay it

Krugman: The Great Abdication

[…] what should European leaders — who have an overwhelming interest in containing the Spanish crisis — do? It seems obvious that European creditor nations need, one way or another, to assume some of the financial risks facing Spanish banks. No, Germany won’t like it — but with the very survival of the euroat stake, a bit of financial risk should be a small consideration.

But no. Europe’s “solution” was to lend money to the Spanish government, and tell that government to bail out its own banks. It took financial markets no time at all to figure out that this solved nothing, that it just put Spain’s government more deeply in debt. And the European crisis is now deeper than ever.

[…]

None of this should be happening. As in 1931, Western nations have the resources they need to avoid catastrophe, and indeed to restore prosperity — and we have the added advantage of knowing much more than our great-grandparents did about how depressions happen and how to end them. But knowledge and resources do no good if those who possess them refuse to use them.

And that’s what seems to be happening. The fundamentals of the world economy aren’t, in themselves, all that scary; it’s the almost universal abdication of responsibility that fills me, and many other economists, with a growing sense of dread.

krugman ends this with a statement that as an economist he is scared.

so, as an economist, why is it obvious creditor nations should assume some of the financial risks facing spanish banks? if people have lent to spanish banks and now they are defaulting, shouldn’t those who lent bear the burden? isn’t that a fundamental tenet of the contract they have entered into? the law that underpins their economic liability? this ‘obvious’ fact should be explained more clearly. no-one is explaining it to the german people, nor the french, nor the dutch. just saying something is obvious doesn’t actually make it so, nor does it make it right, nor does it make it the only course of action.

why is the survival of the euro so necessary? would spain’s adjustment to the economic crisis (reduction in debt and pick up in economic activity) be quicker or slower if it stayed in the euro? this is not explained. why not? shouldn’t an economist have a theory to back his conclusion?

yes, nations have the resources to restore prosperity. like intellectual resources, manual resources, creative resources, technological resources, natural resources. most nations krugman is so worried about seem to have a democratic political system operating alongside a market economy. i would say, given the social democratic proclivities in europe, let:

• spain (and greece and portugal and ireland and cyprus) default on all government and financial institution debt they wish to on one day given day this year
• them all stay in the euro if they so wish and those who wish to leave to do so as they wish
• the people of all those countries decide if they want to revisit tax revenue spending choices made in the past
• those national governments who have now suffered falls in GDP decide how to reallocate their lower euro tax revenue amongst those most in need in their society given their society’s values
• all other economic actors worldwide similarly react to this debt writedown ‘rationally’ with political actors in any affected nation-state also making the appropriate decisions about those who might be adversely affected

effectively, we need a reset. that is what a default is. it allows us to wipe the slate clean. review previous decisions. and we pay a price for it: people see us as a risk. and it takes time and hardwork to re-establish that trust. but if we want that trust back, we should work for it. and those who trusted us, they need to feel the pain so they make more intelligent, more informed choices in the future.

of course the markets are going to realise in no time at all more debt doesn’t solve the problem. krugman should also realise something: if he is writing as a pundit, he needs to make intelligent, reasoned arguments to convince us, make us evangelists for his ideas, and get us to elect into decision making positions those who are similarly like minded.

June 22, 2012

interesting interview with the lawyer who helped negotiate the Greek bailout and associated ‘haircuts’ that bondholders took. they discuss the ongoing bailout of deeply indebted european countries and the tough decisions the europeans are going to have to make. for example, implement eurozone-wide deposit insurance? or is that a step too close towards to fiscal union? and how to get the necessary political approval? (by bloomberglaw)

12:20am  |   URL: http://tmblr.co/ZWwfOwNtR9jI
Filed under: bailout euro politics
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