Is BTG Pactual better than Goldman Sachs?

Is BTG Pactual better than Goldman Sachs?


William Wright

17 Apr 2012
In late 2005, André Esteves turned down an offer from Goldman Sachs to buy his investment bank. Instead he decided to sell Pactual to UBS and then buy it back three years later.


Esteves is the power behind BTG Pactual and its biggest asset, which might pose problems for future shareholders

This week Financial News was the first to report that André Esteves, chief executive of the Brazilian investment bank BTG Pactual, was under investigation for trading on his personal account in 2007. With just over a week to go until the bank’s IPO, which is expected to value the company at around $15bn, the Italian regulator Consob has fined Esteves €350,000 for alleged insider trading and frozen €4.2m of his assets. BTG Pactual says Esteves will appeal against the ruling, and that it will have no impact on the bank or on Esteves’ position.

Setting aside this controversy, Financial News takes a look at BTG Pactual to see if it really does live up to all the hype of being “Better than Goldman”.

So, how does the Brazilian bank stack up against its larger American cousin?

One thing we know for sure is that BTG Pactual is better at creating wealth for its partners than Goldman Sachs. Shortly after UBS acquired the bank for $3.1bn plus retention payments in late 2006, Esteves said in an interview: “I like making money. I’m good at making money. It’s exciting to create wealth. Otherwise, I wouldn’t be a banker.”

Esteves has been true to his word. The man who made his first billion when he sold the bank to UBS owns 24.5% of the bank pre-IPO, and assuming a valuation of $15bn (based on an acquisition it made early this year), his stake will be worth around $3.7bn – over $1bn more than Esteves paid for the whole bank when he bought it back from UBS in 2009.

The wealth creation doesn’t stop with Esteves. BTG Pactual’s 163 partners own 84% of the bank between them, which implies an average stake of around $55m each. This pips the average stake each of Goldman Sachs’ 221 partners had in the firm when it went public in 1999 – $52m. But it’s more concentrated at the Brazilian firm. The 35 senior partners at BTG Pactual (excluding Esteves) own just over 45% of the bank, which works out at an average stake of around $195m each.

Not bad when you consider that some of them – such as Huw Jenkins, the former chief executive of UBS Investment Bank, who is now a managing partner at BTG Pactual in London – have only been with the firm for a few years. To put this in perspective, Hank Paulson, who was chief executive of Goldman Sachs when it went public, had a stake worth about $220m in the firm that he had joined in 1974. (The remaining 127 junior partners at BTG Pactual will have to make do with an average stake of just $17m).

In absolute terms, BTG Pactual is still the baby brother when compared with Goldman Sachs in the last fiscal year before it went public. BTG Pactual revenues of $1.7bn last year are just one fifth of the equivalent number for Goldman Sachs in 1998. Pre-tax profits of $1bn are around a third those of Goldman Sachs in its final year as a private partnership, according to the two banks’ IPO filings. BTG Pactual’s balance sheet of about $60bn is one quarter the size of Goldman Sachs before it went public; with just 1,255 employees it has less than 10% of Goldman Sachs’ workforce back in 1998.

To put BTG Pactual in perspective, in 2011 Goldman Sachs made as much in revenues roughly every three weeks as the Brazilian bank made in the whole year.

To understand why people are drawing such excitable comparisons between BTG Pactual and Goldman Sachs, you have to look at BTG Pactual’s profitability, growth, partnership structure, and dominance of the Brazilian market.

A glance at some of the bank’s ratios in 2011 shows that in almost every respect, BTG Pactual is not only better than Goldman Sachs when it was preparing to go public, it is showing its US rival a clean pair of heels.

At a time when most investment banks have struggled to define a profitable business model, BTG Pactual has increased its revenues at a compound annual growth rate of 17.2% since 2009, a little less than Goldman Sachs in the two years running up to its IPO, but a world apart from the 21% annual fall in revenues at Goldman Sachs over the past two years.

BTG Pactual’s cost-to-income ratio was just 42% last year (compared with 66% at Goldman Sachs in 1998 and a painful 79% last year). Its pre-tax return on equity was a best in class 21.8% last year. That compares with a 46% return on partners’ capital at Goldman Sachs in 1998 and a miserable 8.1% underlying pre-tax ROE last year.

And when it comes to valuation, $15bn would give BTG Pactual a healthy price tag of just over three times’ book value – about the same as Goldman Sachs when it went public but five times higher than Goldman Sachs’ price-to-book ratio at the end of 2011.

Carnival in Rio?

The most obvious reason for the apparent decoupling of BTG Pactual’s performance from the rest of the investment banking industry is that the bank dominates the fast-growing Brazilian financial markets (it only has three offices outside of its home market – in New York, London and Hong Kong).

Over the past five years it has been involved in a staggering 69% of all Brazilian equity issues by value. In debt capital markets, it has averaged a more mortal 9% market share over the past five years, while in mergers and acquisitions its share of Brazilian deals since 2009 has been an enviable 26%, according to the prospectus. BTG Pactual is the sixth largest broker in the Brazilian stock market and produces some of the best research on Brazil and Latin America for both equities and fixed income. The Brazilian capital markets ground to halt last year, but few rivals expect BTG Pactual to be a spectator as and when they return.

This strong presence in an exciting market means that BTG Pactual’s employees are unusually productive, generating (on my count) around $1.4m in revenues each last year – more than double the equivalent figure for Goldman Sachs in 1998.

It is at this point that the bank’s partnership structure kicks in to keep costs down. With a high number of partners relative to staff (one in eight employees is a partner), BTG Pactual is able to keep its staff costs down to almost unheard of levels: its compensation ratio last year was less than 24%, compared with 43% at Goldman Sachs. It helped by allocating bonuses as a fixed proportion of revenues.

So, the bank can pay its staff 15% more on average than an employee at Goldman Sachs ($339k versus $295k), yet they generate nearly five times as much pre-tax profit per employee ($792k versus $167k). The partnership structure is complex, with restrictions on partners selling their stakes to anyone but other partners at anything other than book value. This should help the bank retain its ethos after the IPO.

Drill down a little further and you see that BTG Pactual is also more diversified than Goldman Sachs when it went public. It is already tapping into the rapidly developing private equity and wealth management markets in Brazil. Just 32% of its revenues come from sales and trading, and only 8% from investment banking. Goldman Sachs made two thirds of its money from investment banking and sales and trading in 1998, and nearly 70% last year. Other significant businesses at BTG Pactual are corporate lending (11%), asset and wealth management (21%) and private equity (6%), with the balance made up from interest income.

A one-way bet?

On paper BTG Pactual looks set to breeze through its IPO and continue to print money. What could possibly go wrong?

Well, Esteves did not become Brazil’s youngest billionaire and (on paper at least) one of the world’s wealthiest bankers without a highly developed sense of timing. An investment in BTG Pactual’s IPO is a concentrated bet on the Brazilian economy, on BTG Pactual’s ability to maintain its growth and margins in Latin America, and on its ability to successfully export its business model to more competitive markets overseas.

Esteves’s decision to go public now taps into investor excitement about Brazil. But all the indicators are pointing to a less than stellar recovery in the country’s economy. After growth of 7.5% in 2010, the International Monetary Fund expects GDP growth of just 2.9% last year and 3.0% in 2012.
Esteves has rapidly built up BTG Pactual in the past few years in a land grab that on the one hand provides the bank with a strong platform, yet on the other could start testing its margins. Acquisitions include a small Swiss private bank, a commodities broker, a Latin American commercial bank, and a Chilean broker.

It has also launched several real estate ventures. An uncomfortably large chunk of BTG Pactual’s growth last year came from acquisitions (and nearly half of the growth in revenues came from interest income on its own capital), raising questions as to whether its rocket-propelled growth could start running out of fuel.
At the same time, BTG Pactual is looking to export its Brazilian expertise into more developed markets from a low base (it has just 46 registered staff in the UK). In these markets it will face competition unlike anything it has experienced in Brazil. BTG Pactual’s margins in its home market will also come under pressure as Brazil becomes a more stable and attractive long-term prospect for international competitors.

But perhaps the biggest risk for potential new shareholders in BTG Pactual is what has, until now, been its biggest asset: Esteves himself. Esteves is the controlling shareholder and the prospectus makes it clear that many of the decisions at group level are “his and his alone”. It is difficult to imagine BTG Pactual without Esteves. But having this sort of power concentrated in one individual has got many investment banks into trouble before.

-- William Wright is a writer and commentator on investment banking and financial markets. He can be reached at william@william-wright.com or on Twitter on @williamw1

Read the story online here: Is BTG Pactual better than Goldman Sachs?

MARK CUBAN: "Tax The Hell Out Of Wall Street And Give It To Main Street" (And Other Advice For The Protesters...) @hblodget, 10/15/11 14:06

MARK CUBAN: "Tax The Hell Out Of Wall Street And Give It To Main Street" #OccupyWallStreet (And Other Advice For The Protesters...) My Soapbox Advice to the OWS Movement and then some Oct 14th 2011 8:53PM I may not know much, but I know a lot of it. So I decided to share my opinions and thoughts on what I would do if the OWS movement either elected me Grand Poobah or asked for my advice: 1. The Great Lie of Wall Street. Every CEO tells the same great white lie. It is at the heart of every communication. It is at the heart of every financial decision. It is, at it's very base, the reason why you all are in the 99pct and they are in the 1pct. The Lie ? Great CEO  White Lie = "We are acting in the best interests of shareholders." When a CEO utters this lie, everyone automatically forgives whatever they do. Add 10k jobless to the unemployment rolls ? Sorry, we did it in the BEST INTEREST OF SHAREHOLDERS.  Merge or buy a company and cut back across the board ? We did it in the Best Interest of Shareholders. The problem is that unless the company is losing money and it is the only way to keep the company alive, in this era of 9.1pct unemployment  it NEVER is in the BEST INTEREST OF SHAREHOLDERS. Shareholders , whether they own shares directly or through mutual funds or pensions do not live in a corporate vacuum.  Their lives are impacted by far more than the share price of a stock. Every layoff in the name of more earnings per share puts a stress on the economy, on the federal, state and local governments which is in turn paid for through taxes or assumption of government debt by….wait for it.. the same shareholders CEOs say they want to benefit. If OWS really wants to change corporate structure and impact the economy, talk to shareholders. Talk to your parents, uncles/aunts, cousins, friends who own shares of stocks either directly or indirectly and have them state loudly and clearly that they would rather have a higher Price to Earnings Ratio and even a lower stock price than have their TAXES increase in order to support all the people laid off from their jobs in the name of shareholders !   You might even consider buying a share of stock. Just 1. Maybe you can all pitch in and then go to a shareholders meeting and let them know how you feel about the best interests of shareholders. 2.  Push to Make All Financial Institutions Partnerships We should make all investment banks become reporting partnerships (meaning they still have the same reporting requirements they have today ). I would have no problem with our government loaning money to the partners of Goldman Sachs and Morgan Stanley and other Too Big To Fail Institutions so that they can buy back all public shares of their stock. Of course all those  partners would become personally liable for repaying that money back to the government.  It would probably be about 120B dollars in total to take these 2 companies private. That is far, far less than a possible bailout would cost. Those personal guarantees would change EVERYTHING in the banking industry. It would change the decision making process across the board.   There would be a moral hazard to every decision. Today , a wrong decision and they vacation on their yacht. As a partner,  the wrong decision and they are protesting right next to the OWS crowd as a 99pct er.  It would be the definition of having "skin in the game" 3.  Limit the Size of Student Loans to $2,000 per year

After Gaddafi: A spent force - FT.com

After Gaddafi: A spent force

Behind the facade of the Libyan Investment Authority lies an opaque organisation beset by poor investment decisions, write Lina Saigol and Cynthia O’Murchu

After Gaddafi: A spent force - FT.com

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Check it out on The MasterTech Blog

Canadians launch counterbid for TMX

"MAPLE" Syrup used to glue all the partners...

Four pension funds have joined with banks in the deal, which offers TMX shareholders C$48 a share for the group, 70 per cent of that in cash and the rest in shares, a person familiar with the situation said. For every TMX share held, TMX shareholders would be offered C$33.52 in cash, up to a maximum of C$2.5bn, and 0.3016 of one share in the new TMX entity. TMX shares closed at C$41.75 on Friday.

This would give the bank and funds consortium, codenamed “Maple”, 60 per cent of the group, with existing shareholders holding the rest.

The funds are Caisse de dépôt et placement du Québec, Ontario Teachers' Pension Plan, Canada Pension Plan Investment Board – which manages Canada’s public pension plan, the biggest in the country – and the Alberta Investment Management Corporation.

Banks leading the offer are Toronto-Dominion, Bank of Nova Scotia, Canadian Imperial Bank of Commerce and Quebec-based National Bank of Canada.

It was not clear whether the two banks advising the LSE on the TMX deal, Royal Bank of Canada and BMO, will join the counter-offer

Morgan Stanley and Citi In the Crisis

New Details Emerge About Morgan Stanley and Citi In the Crisis

February 10, 2011, 11:12 am

By SUSANNE CRAIG and BEN PROTESS

Joshua Roberts/Bloomberg News

Big banks like Citigroup and Morgan Stanley, which were battered by the 2008 financial crisis, are once again on solid ground.
But a set of documents, e-mail messages and minutes of crucial regulatory meetings released recently by the Financial Crisis Inquiry Commission provide fresh detail about just how close to the brink both firms came.
This week the commission will release another set of documents on its Web site, including an interactive timeline that goes back to the Great Depression. The site will also feature hours of previously unreleased audio recordings of interviews with major players in the crisis, like Joseph Cassano of the American International Group, who was at the center of the credit-default swaps business.
The current documents paint an especially desperate picture of Citigroup, one of the most troubled big banks, which needed several cash infusions from the government during the crisis.
“In short, I will characterize the liquidity and confidence situation as negative and deteriorating such that viability may be threatened without outside support,” a Federal Deposit Insurance Corporation official, Christopher J. Spoth, wrote of Citigroup in an e-mail on Nov. 21, 2008, to the F.D.I.C. chairwoman, Sheila C. Bair.
That late-night missive also contained a chilling summary of a call earlier that day between Citigroup’s risk management team and regulators.
Shares of Citi fell 20 percent, to $3.77, on Nov. 21, 2008, and were down about 60 percent in that week. The liquidity pool of the bank, which had received its first bailout funds just a few weeks earlier, was shrinking and customers were panicking.
The call summary shows that private bank deposits fell $1 billion that day, with $353 million “withdrawn due to Citi name concerns.” The bank was bleeding money elsewhere as well. At 5 p.m., the so-called broker-dealer cash box — the equity and cash that Citigroup keeps on hand to cover short sales — was valued at $15.3 billion. The pot of money had dwindled to $11.4 billion by the end of the day.
Amid the turmoil, counterparties were backing away from Citigroup. “UBS initially cut equity finance lines in half to Citi, from $1.8 billion to $900 million,” the call summary said. UBS temporarily reversed its decision after Citigroup’s senior management reached out to the banks. But the call summary said UBS planned on Monday to ask Citigroup to post additional collateral and would no longer accept certain collateral.
That Sunday, documents show, Ms. Bair chaired a closed-door meeting of F.D.I.C. directors to discuss Citigroup’s rapidly deteriorating financial position. Directors gathered in person and by phone to determine whether Citigroup’s ailing health posed a systemic risk.
“In hindsight, I think there have been some systemic situations prior to this one that were not classified as such,” said John M. Reich, an F.D.I.C. director, according to a transcript of the meeting. “The failure of IndyMac pointed the focus to the next weakest institution, which was WaMu, and its failure pointed to Wachovia, and now we’re looking at Citi, and I wonder who’s next.”
The meeting ended with an agreement that Citigroup should be considered systemically important to the American financial system. The next day regulators intervened. The Treasury, along with the F.D.I.C., agreed to provide protection against the possibility of unusually large losses on an asset pool of $306 billion of loans and securities backed by residential and commercial real estate and other assets.
“Citi is a fundamentally different company today than it was before the crisis,” a company spokesman said on Wednesday. “Under Vikram Pandit’s leadership, Citi has overhauled its risk management, reduced its risk exposures and bolstered its financial strength. With the goal of supporting the American and global economic recovery, Citi is implementing a strategy based on its core banking businesses and is focused on responsible growth.”
Morgan Stanley, too, was on shaky ground, before negotiating a cash infusion in October 2008 from Mitsubishi UFJ Financial Group of Japan. “Morgan is the ‘deer in the headlights’ and having significant stress in Europe,” wrote Amy White of the Federal Reserve Bank of New York in an e-mail on Sept. 19, 2008, to several senior officials of the New York Fed, including its then-chairman, Timothy F. Geithner, currently the Treasury secretary.
“It’s looking like Lehman did a few weeks ago,” Ms. White wrote, on a day when Morgan Stanley experienced $22 billion in outflows from its prime brokerage unit.
As is well-known at this point, Lehman Brothers was sinking fast. In the bank’s final days, just a week or so before Ms. White’s email, Lehman desperately turned to JPMorgan Chase for advice, and a financial lifeline.
“They sent the Junior Varsity — they have no proposal and are looking to us for ideas/credit line to bridge them to the first quarter when they have [sic] intend to split into good bank/bad bank,” a JPMorgan executive, John J. Hogan, wrote in a message to a colleague, Steven D. Black.
Mr. Black responded, looping in his boss, Jamie Dimon, the chief executive: “Let’s give them an order for the same drugs they have apparently been taking to think that we would do something like that.”
Lehman filed for bankruptcy less than a week later in the largest corporate failure in American history.

Global Risk and Reward in 2011 by Nouriel Roubini - Project Syndicate

Global Risk and Reward in 2011

Nouriel Roubini

NEW YORK – The outlook for the global economy in 2011 is, partly, for a persistence of the trends established in 2010. These are: an anemic, below-trend, U-shaped recovery in advanced economies, as firms and households continue to repair their balance sheets; a stronger, V-shaped recovery in emerging-market countries, owing to stronger macroeconomic, financial, and policy fundamentals. That adds up to close to 4% annual growth for the global economy, with advanced economies growing at around 2% and emerging-market countries growing at about 6%.

But there are downside and upside risks to this scenario. On the downside, one of the most important risks is further financial contagion in Europe if the eurozone’s problems spread – as seems likely – to Portugal, Spain, and Belgium. Given the current level of official resources at the disposal of the International Monetary Fund and the European Union, Spain now seems too big to fail yet too big to be bailed out.

The United States represents another downside risk for global growth. In 2011, the US faces a likely double dip in the housing market, high unemployment and weak job creation, a persistent credit crunch, gaping budgetary holes at the state and local level, and steeper borrowing costs as a result of the federal government’s lack of fiscal consolidation. Moreover, credit growth on both sides of the Atlantic will be restrained, as many financial institutions in the US and Europe maintain a risk-averse stance toward lending.

In China and other emerging-market economies, delays in policy tightening could fuel a rise in inflation that forces a tougher clampdown later, with China, in particular, risking a hard landing. There is also a risk that capital inflows to emerging markets will be mismanaged, thus fueling credit and asset bubbles. Moreover, further increases in oil, energy, and commodity prices could lead to negative terms of trade and a reduction in real disposable income in net commodity-importing countries, while adding to inflationary pressures in emerging markets.

Moreover, currency tensions will remain high. Countries with large current-account deficits need nominal and real depreciation (to sustain growth via net exports while ongoing private- and public-sector deleveraging keeps domestic demand weak), whereas surplus countries (especially emerging markets) are using currency intervention to resist nominal appreciation and sterilized intervention to combat real appreciation. This is forcing deficit countries into real exchange-rate adjustments via deflation – and thus a rising burden of public and private debt that may lead to disorderly defaults.

Furthermore, several major geopolitical risks loom, including military confrontation between North and South Korea and the lingering possibility that Israel – or even the US – might use military force to counter Iran’s nuclear weapons program. There are also the political and economic turmoil in Pakistan and the risk of a rise in cyber-attacks – for example, in retaliation for criminal proceedings against WikiLeaks.

In the US, slower private-sector deleveraging – given the fiscal stimulus from the extension of unemployment benefits for 13 months, the payroll-tax cut, and maintenance of current income-tax rates for another two years – could lull policymakers into assuming that relatively large fiscal and current-account imbalances can continue indefinitely. This could generate financial strains over the medium term – and protectionist pressures in the short term.

Finally, in the face of political opposition to fiscal consolidation, especially in the US, there is a risk that the path of least resistance becomes continued monetization of fiscal deficits. Eventually (once the slack in goods and labor markets is reduced), this would push inflation expectations – and yield curves – higher.

But there are also several upside risks. The US corporate sector is strong and very profitable, owing to massive labor shedding, creating scope for increased capital spending and hiring to contribute to more robust and above-trend GDP growth in 2011. Similarly, the eurozone, driven by Germany, could lurch toward greater economic and political union (especially some form of fiscal union), thus containing the problems of its periphery.

Meanwhile, growth in Germany and the eurozone “core” may further accelerate given the strength of emerging markets, which may show even greater resilience, underpinning more rapid global expansion.

The attenuation of downside risks and pleasant surprises in developed and emerging economies could lead to a further increase in demand for risky assets (equities and credit), which would reinforce economic recovery via wealth effects and lower borrowing costs. Positive feedback from consumption to production, employment, and income generation – both within countries and across countries via trade channels – could further accelerate the pace of global growth, particularly if monetary policies in most advanced economies remain looser than expected, supporting asset reflation and thus demand and growth.

Indeed, after four years (2007-2010) of either recession or sub-par recovery, the process of balance-sheet repair – while not completed yet – is underway, and may result in less saving and more spending to boost growth in advanced economies. The damage from the financial crisis is still ongoing, but stronger growth can heal many wounds, especially debt-driven wounds.

So far, the downside and upside risks for the world economy are balanced. But if sound government policies in advanced and major emerging economies contain the downside risks that are more prevalent in the first half of this year – which derive from political and policy uncertainty – a more resilient global economic recovery could take hold in the second half of 2011 and into 2012.

Nouriel Roubini is Chairman of Roubini Global Economics (www.roubini.com), Professor at the Stern School of Business at NYU and co-author of Crisis Economics

Copyright: Project Syndicate, 2011.
www.project-syndicate.org
For a podcast of this commentary in English, please use this link:
http://media.blubrry.com/ps/media.libsyn.com/media/ps/roubini34.mp3

Global Risk and Reward in 2011 by Nouriel Roubini - Project Syndicate

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Who on Wall Street Got Fed Loans - NYTimes.com

Who on Wall Street Got Fed Loans? Hedge Funds Got Fed Help, Too

December 1, 2010, 4:30 pm By BEN PROTESS

5:54 p.m. | Updated
Wall Street banks weren’t the only ones approaching the Federal Reserve for help.
When the credit markets nearly froze up in the fall of 2008, the Federal Reserve Bank of New York helped hedge funds, mutual funds and other big investors buy highly rated securities backed by car loans and student debt, among other assets.
The institutional investors, which collectively borrowed $71 billion through the program, included such market giants as Pimco, T.Rowe Price and BlackRock.
In a statement, BlackRock said that it borrowed the funds “on behalf of both institutional and mutual fund clients.”
The California Public Employees Retirement System, the nation’s largest pension fund, also borrowed through the program, known as the Term Asset-Backed Securities Loan Facility, or TALF. The Major League Baseball Players Pension Plan was another pension fund participant in the program.
Hedge funds made the list as well. Magnetar Capital, an Illinois-based hedge fund, received seven loans from the Fed.
Magnetar was the subject of a ProPublica investigative report over the fund’s bets against risky mortgage-related securities that Magnetar itself sponsored.
The program was a “resounding success in providing liquidity to the consumer credit markets,” a Magnetar spokesman said in a statement.
Frontpoint Partners, the hedge fund that recently made news when a portfolio manager brushed up against an insider trading investigation (he was not charged), received a few dozen TALF loans.
“On behalf of clients, FrontPoint was an early participant in the Government TALF program,” said a spokesman for the firm. “With our clients, we were able to support the government in this important initiative.”
The Fed used the loans to entice investors into the largely frozen asset-backed securities market. Most of the loans came cheap and lasted for a year. The program ended earlier this year.
Morgan Stanley, which is in the process of spinning off FrontPoint, was the only investment bank on the list of TALF recipients under its own name.
The disclosures of loan recipients come from Federal Reserve’s release of volumes of previously undisclosed information about the trillions of dollars in loans it made during the financial crisis.
One crucial Fed lending program was the Primary Dealer Credit Facility, a cheap overnight loan system for banks that was similar to the Fed’s discount window.
You name the big broker-dealer, and they’re on that list. Goldman Sachs, Morgan Stanley, Bank of America and Citigroup all borrowed through this program.
One surprise, however, is that JPMorgan Chase borrowed only three times, all in the fall of 2008. The program started in March 2008 and ended February 2010.
Citigroup, Bank of America and Morgan Stanley kept borrowing through the spring of 2009.
There was a clear advantage to keep borrowing: As time went on, the Fed’s interest rate kept falling. When Bank of America drew its last loan in May 2009, the $375 million loan carried a nominal 0.5 percent rate.
In the same week in October 2008 that banks received TARP funds, Goldman took out overnight loans worth as much as $60 billion. Morgan Stanley borrowed as much as $34 billion in one day that week.
Foreign banks also received assistance. Societe Generale, headquartered in Paris, and the Italian bank Intesa Sanpaolo, received loans through the Fed’s Term Auction Facility, or TAF. So did a few Canadian banks as well as the Arab Banking Corporation. The firms all have offices in New York.
The Fed created the TAF program in late 2007 when some banks balked at borrowing from the Fed’s discount window. The program offered 28-day loans to generally healthy depository institutions.

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Who on Wall Street Got Fed Loans - NYTimes.com

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Foreclosures & RoboSigning For Idiots

excellent!!

via zerohedge.com and Reuters

RoboSigning For Idiots (More Cartoons)

By Tyler Durden

Created 11/15/2010 - 14:44

With even dummies being fully aware what the robosigning scandal means for the housing sector and for home prices in general, Reuters has released "Everything you need to know about [1]...  The Foreclosure Freeze." The 10 simple cartoons should explain what robosigning means to even the most staunchly Adderall-addicted segments of US society.
Via Reuters [1]:
[2]
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[7]
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h/t William Banzai 7

• Reuters

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Source URL: http://www.zerohedge.com/article/robosigning-idiots-more-cartoons

Links:
[1] http://www.reuters.com/article/interactive/idUSNLA2ME63320101103?view=large&type=marketsNews
[2] http://www.zerohedge.com/sites/default/files/images/user5/imageroot/gono/ROBO 1_1.jpg
[3] http://www.zerohedge.com/sites/default/files/images/user5/imageroot/gono/ROBO 2.jpg
[4] http://www.zerohedge.com/sites/default/files/images/user5/imageroot/gono/ROBO 3.jpg
[5] http://www.zerohedge.com/sites/default/files/images/user5/imageroot/gono/ROBO 4.jpg
[6] http://www.zerohedge.com/sites/default/files/images/user5/imageroot/gono/ROBO 5_0.jpg
[7] http://www.zerohedge.com/sites/default/files/images/user5/imageroot/gono/ROBO 6.jpg
[8] http://www.zerohedge.com/sites/default/files/images/user5/imageroot/gono/ROBO 7l.jpg
[9] http://www.zerohedge.com/sites/default/files/images/user5/imageroot/gono/ROBO 8.jpg
[10] http://www.zerohedge.com/sites/default/files/images/user5/imageroot/gono/ROBO 9_0.jpg
[11] http://www.zerohedge.com/sites/default/files/images/user5/imageroot/gono/ROBO 10.jpg
[12] http://www.zerohedge.com/sites/default/files/images/user5/imageroot/gono/ROBO 11.jpg
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The MasterFeeds: On Tomorrow's Secret Meeting To Plot The End Of Hi...

On Tomorrow's Secret Meeting To Plot The End Of High Frequency Trading

By Tyler Durden   Created 10/03/2010 - 17:35

The SEC's "definitive"(ly worthless) report on what happened on May 6^th was a dud, and was nothing more than a distraction-based smear campaign against Waddell and Reed (an experiment in which we can only hope W&R participated involuntarily): a firm which did something that was completely in its right to do. But is this unexpected? After all had the SEC confirmed that it is indeed HFT who is responsible for a broken market structure, it would have effectively destroyed itself: if and when the SEC does indeed confirm that the entire market topology over the past 5 years has been hijacked by young and pustular math Ph.D.'s with fast computers, the implications to fair markets would be orders of magnitude worse than the fallout associated with the Madoff scandal, and could serve as grounds for the unwind of the SEC itself, which would have to explain why it has been avoiding calls against HFT impropriety for years. So in a sense Mary Schapiro's conclusion is nothing less than a lass desperate act of self preservation. Which however means nothing in the grand scheme of things. Tomorrow, as the WSJ [1]reported a week ago, the Investment Company Institute, better known to Zero Hedge readers as the guys who track the now permanent weekly outflows from capital markets, is holding a secret meeting in which some of the participants "are determined to push for a plan to restrict high-frequency trading" (furthermore, the ICI was rather pissed about this particular leak, implying that things are really serious). While the SEC may have declared a market structure truce, and is peddling its usual worthless solution of circuit breakers (more on this below), actual market participants have had enough of seeing their profits plunge and seeing HFT extract more capital out of the market than the much maligned ten years ago market makers and specialists ever did.

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The MasterFeeds: On Tomorrow's Secret Meeting To Plot The End Of Hi...

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-- The MasterFeeds

Excellent!!!!

Published on zero hedge (http://www.zerohedge.com)

Artist's Rendering Of Larry Summers' LinkedIn Profile

By Tyler Durden

Created 09/03/2010 - 15:36

You knew it was just a matter of time before prudent Larry looked for greener pastures. Courtesy of William Banzai [1], we bring you Larry Summers' LinkedIn profile. No matter what you think of it, it is a victory for the bulls.
[2]

• Larry Summers

---

Source URL: http://www.zerohedge.com/article/artists-rendering-larry-summers-linkedin-profile

Links:
[1] http://williambanzai7.blogspot.com/
[2] http://www.zerohedge.com/sites/default/files/images/user5/imageroot/Larry Summers LinkedIn.jpg

Artist's Rendering Of Larry Summers' LinkedIn Profile:

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Global Economy - Second Leg of Crisis Beginning: Hedge Fund Manager - CNBC

Second Leg of Crisis Beginning: Hedge Fund Manager

Published: Tuesday, 31 Aug 2010 | 5:38 AM ET

By: Patrick Allen
CNBC Senior News Editor

September and October hold bad news for stock markets and banks remain overleveraged as we head into the second leg of the financial crisis according to Pedro De Noronha, the managing partner at Noster Capital in London.

"We are seeing one of the most challenging years for investors ever," De Noronha told CNBC Tuesday. "Major investors are simply leaving the market. When it looks like markets are about to fall off the cliff they rally and vice versa.

"There are problems coming from the resetting of US mortgages and (the) euro area remains a big worry," he said.

"Germany is unwilling to save any other European country," De Noronha said. "Merkel used up lots of political capital saving Greece and she saved the Greek bond market in order to save the French and German banking system from more big losses."

"There are four or five countries that have major structural problems that should not be in the euro," he said. "I still have (yet) to see a politician who will shoot themselves in the head on austerity."

"The Greeks have no choice but to cut, the others like Spain are not doing enough, I am with the 'Austerian' school and do not buy the Keynesian argument," he said.

On Monday, Nobel-prize-winning economist Paul Krugman called for another big stimulus program for the US, saying "(e)verything is pointing to the need for more spending."

Laughable Tests?

De Noronha said he is also very worried about the banking industry and is shorting five of the biggest bank stocks in Europe: UBS, Barclays [BARC-LN 308.30 5.90 (+1.95%) ], Intesa Sanpaolo, Unione de Banche and BBVA.

"The recent stress tests made me laugh," he said. "We only stress tested what the banks told us, I did not see anyone testing anyone until they had gone broke."

"When I look at Tier 1 Capital ratios, I find things propping them up that are not assets that can be drawn on in a crisis," he said. "The real capital 1 ratio of some major banks is just 1.7 percent and I am shorting five major European banks as a result."

The majority of banks remain over leveraged going into what could be the second leg of the financial crisis, De Noronha added.

“The regulators used 6 percent as the threshold for defining the minimum capital ratios, but that 6 percent number includes non-cash assets such as deferred tax assets and goodwill," he said. "If you use only tangible book equity the 6 percent of the biggest offenders turns into closer to 2 percent which implies a leverage ratio of 50 times. That is hardly conservative for current the current economic reality."

On Tuesday, Credit Suisse took a different stance, boosting its rating on banking to "overweight" from "market weight," saying that economic risks are "overplayed" and that "funding should be less costly than initially feared."

© 2010 CNBC.com

Global Economy - Second Leg of Crisis Beginning: Hedge Fund Manager - CNBC

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Richard Russell's Daily Letter

Richard Russell's Daily Letter

August 9, 2010 -- Headline from page one, New York Times, Aug. 7: "Nation Lost 131,000 Jobs As Governments Cut Back. Hiring By Private Sector Anemic in July."

Headline from the Weekend Investor section of the August 7 Wall Street Journal: "How To Beat Deflation. Strategies to Protect Your Portfolio From and Take Advantage of the -- Dreaded 'D' word."

The specter of deflation is cropping up in many media outlets today. In fact, I'd say that deflation talk has almost become popular. The key question is this -- Fed Chief Bernanke is obviously reading and hearing all about the "coming deflation." What will Bernanke do about it? I think he will fight deflation with all the weapons at his command. And Bennie has a lot of weapons, least of which is printing "money."
.................................................................

The air is filled with rumors and contrary opinions, so many that it is literally impossible to follow them all. Some of the opinions and views have such earth-shaking implications that it's difficult to ignore them. But as my subscribers know, we're not a news site, and we don't invest or divest based on the news of the day.

A few examples -- I just finished my friend, John Mauldin's always excellent column (how does he travel continuously and write the column?). Rather than paraphrase what John is writing, I'm including an actual segment from John's latest column --"Main Street may be about to get its own gigantic bailout. Rumors are running wild from Washington to Wall Street that the Obama administration is about to order government-controlled lenders Fannie Mae and Freddie Mac to forgive a portion of the mortgage debt of millions of Americans who owe more than what their homes are worth. An estimated 15 million U.S. mortgages are implicated."
Russell Comment. Would Obama actually do this? My answer is that Obama and his buddies are so frantic to get the economy moving again that they would be willing to try anything.
Beyond mortgages, Americans are so loaded with debt that maybe the next Obama step would be to forgive ALL personal debts in the US. Better still, why not return to the year of Jubilee and cancel out ALL world debts (I don't think holders of US Treasuries would go for that one).
The current issue of Barron's is fascinating. The inimitable Alan Abelson notes that stocks are not cheap. Alan asks, "Where is it written that a market that in a not too distant-past values stocks at 60 time earnings, can't value them, if the outlook sours, at six to eight times earnings?"
Russell Comment -- Yes, I have noted that the big booster in bull markets and the big killer in bear market is the change in price/earning ratios, rather than the actual change in earnings.
But here's what I really want to talk about. From the cover page of Barron's -- "Why the Fed Will Soon Print $2 Trillion." The related major article is entitled, "Time to Print, Print, Print," and is written by Jonathan R. Laing. The author believes that the Fed has only one way to go, "Quantitative easing," and maybe printing another $2 trillion of fed notes (dollars). Laing concludes, "so it's more than likely that the big artillery of quantitative easing will be unleashed to push the economy out of its despond. It's high time to get out the money-printing machines. Damn the risks of triggering a bit of inflation and some modest investment bubbles. The alternatives are far worse."
Then (believe it or not) in the same issue of Barron's we see an article by my old friend, Robert Prechter, the guru of the Elliott Wave thesis. Robert explains how a great contraction in credit and debt will bring about deflation. Robert notes that the amount of dollar-denominated debt worldwide is some $57 trillion. . . The already-issued debt and potential debt is poised to overwhelm the possibility of management monetization. The Fed's assets amount to $2.3 trillion, a drop in the global debt bucket."
Robert concludes his frightening article as follows -- "If you are positioned for more inflation -- as the vast majority of investors are -- you are likely to find yourself on the wrong side of the monetary bet. Positioning for deflation simply means avoiding traditional investments, especially risky debt, and maintaining maximum safety in cash equivalents, held in the safest institutions. If you shed market and institutional risk, you can sail through deflationary times unscathed." 

Russell Comment -- Whew, how's that for a scary contrary opinion? Robert believes that way to safety in a deflation is to have cash, and lots of it. My concern with this approach is that I question the safety of the US dollar (and all fiat money, for that matter). So in an all-out deflation, Robert Prechter will be sitting in all cash or US Federal Reserve notes. But the dollar is collapsing, and with a US that is deflating, none of our foreign creditors will want dollars (in fact, they will be trying to get rid of dollars). With fiat money in retreat all over the world -- and currencies devaluing against each other, the world's peoples will turn to the only money they can trust -- gold. I'm aware that Prechter believes gold will be heading down in a deflation, I disagree.

I was there during the Great Depression, and I can tell you nobody at that time had dollars. But if you did have dollars they were trusted and they were considered as good as gold. Today, it's different. The very validity of the dollar is in question.

By the way, Prechter believes the Dow will end its bear market at a value of 400. If so, Prechter is looking for a calamity comparable to the Great Depression of the 1930s. 

Russell response -- I distrust all scenarios and predictions, although I read 'em all and find many of them fascinating. In the end, I only trust the wisdom of the stock market. I haven't liked the recent action of the stock market, and I've advised my subscribers to get out of stocks. From our standpoint, when it comes to news events, our main interest is not in the news, but in the stock market's reaction to the news.

The stock market will tell its story as we go along and in its own good time. Our job is to ignore all opinions and forecasts and to follow the stock market and believe what it's telling us.

Gold has advanced seven days in a row, and should be ready to back off a bit. The many arguments and rumors regarding gold are almost deafening. I don't give a damn what the gold bulls or the gold bears say, I follow the price action as best I can. Often, the best test -- is what an item can or can't do. On the latest correction, gold held 1100 -- bullish. Can Dec. gold climb into the 1300s, which would be a record high? That's what I'm waiting to see. By the way, gold may be forming a head-and-shoulders bottom. More technicals -- the 200-day moving average for Dec.gold is at 1155.10. The 50-day MA for Dec. gold is at 1215.90, which is bullishly above the 200-day MA. If Dec. gold can close above 1215.90, that would be a bullish development.

The Federal Open Market Committee meets tomorrow. Will they hold interest rates at zero and will they accelerate their printing? If they do, it will put pressure on the dollar and it will be bullish for gold. If they boost interest rates, expect gold to correct.

TODAY'S MARKET ACTION:

My PTI was up 7 at 6117. The moving average at 6095, so my PTI is bullish by 22.
The Dow was up 45.19 to 10698.75.
Transports were up 59.09 at 4516.35.

Utilities were up 1.30 to 395.02.

NASDAQ was up 17.22 to 2305.69.

S&P was up 6.15 to 1127.79.

September crude was up 0.78 at 81.48.
Total Volume on the NYSE and associated exchanges was 3.43 bn.

There were 2199 advances and 830 declines on the NYSE.

There were 305 new highs and 15 new lows. 
The Big Money Breadth Index was up 4 at 807.

Dollar Index was up 0.26 at 80.67. Euro was down 0.49 at 132.25. Yen was down 0.60 to 116.48. Currency prices as of 1 PM Pacific Time.

Bonds: Yield on the 10 year T-note was 2.82. Yield on the long T-bond was 4.01. Yield of the 91 day T-bill was 0.14%.

December gold was down 2.70 to 1202.60. September silver was down 0.23 to 18.24.

My Most Active Stocks Index was up 2 to 200.

GDX was up 0.02 to 50.19.

HUI was down 0.22 to 459.72.

CRB Commodity Index was down 0.12 at 274.59.

The VIX was up 0.40 to 22.14.

Late Notes -- Dow up 45, Trannies up 59, Utes up almost 2. It's increasingly more difficult to be bearish on this market when my PTI remains bullish. It was up 7 today to 6117, making my PTI bullish by 22 points. As for the "internals," well you heard the PTI report. NYSE breadth was good, 2199 issues higher, only 830 down, 305 new highs and 15 new lows. Up volume on the NYSE was an impressive 71% of up + down volume. 

Dollar Index was up 0.26 to 80.67. Are there too many bears on the dollar. When the shorts overdo it, you know what happens -- the item goes UP. Bonds were slightly lower. Dec. gold was down 2.70 to 1202.60, but still holding above 1200. Tomorrow Bernanke and the gang meet for the Fed Open Market Committee, and everybody is waiting breathlessly to hear what the gang comes up with. 

My pen-pal, the one and only Dennis Gartman notes that the M-2 is diving and that the adjusted monetary base has gone nowhere for the last nine months. John Williams reconstructs the broad M-3 money supply and shows that it is diving. So what's going on -- is the Fed playing games with us? Can the market and the economy go up without a rising money supply?

Never mind, we go by the action of the market, and so far, the action has been OK, although a bit ragged. 

See you tomorrow, with diamonds hidden in my hair -- wait, Faye just cut most of my hair off. I'm walking around with a buzz cut, can this be me?

Adios,

Russell

Expensive stones, most of them over one billion years old.

With the advent of GIA (Gemological Institute of America) certificates, diamonds are becoming a leading safe-haven item. You can send a diamond to the GIA and get a recognized certificate showing the cut, carat, color and clarity of your diamond. Seasoned buyers will not buy a diamond without a GIA "cert." These certs have finally put diamonds in a different category. You can now buy a diamond a receive (with a cert) a close approximation of what the stone is worth.

India is fast becoming the center of diamond cutting and trading. The best diamonds have come from the Golconda area of India. The Golconda diamonds were "whiter than white." By the way, the Golconda mines are exhausted. The lower the nitrogen content of a diamond, the whiter the stone is. Golconda diamonds have a nitrogen content of 2% to down to 1%, making them the whitest of all diamonds. Actually, a few other diamonds sport this low nitrogen content, and despite the fact that they don't come from India, they are still called Golconda diamonds. Only about 1% of all diamonds are classified as Type IIA or Golconda diamonds. These special diamond bring huge prices. For instance, a well-cut internally flawless Type IIA diamond of 5 carats may sell for over one million dollars. 

As a rule, white diamonds are judged on their whiteness -- the whiter, the better. Colored stones are judged by the depth of their color and the evenness of their color throughout the stone. 

Diamonds as a safe haven have one big advantage over gold. Millions of dollars worth of stones can cross a border hidden in a tiny packet or sewed into the lining of your pants. And with the advent of GIA certs, you can be reasonably assured of what they are worth. High-grade stones are so hot today that dealers have been calling retailers and asking them if they have any overage in their diamond inventory. There is almost no bargain diamonds for sale today. The best deals are seen when a professional outfit buys a diamond from a private party, a party that knows nothing about the value of their diamond. 

Thus you see ads in the newspapers as follows: "We want your gold and jewelry and particularly your diamonds. Nobody pays higher prices than we do."

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Blackstone's Byron Wien Singlehandedly Refutes The Double Dip, Hilarity Abounds

Blackstone's Byron Wien Singlehandedly Refutes The Double Dip, Hilarity Abounds

To all the bulls out there, we have a Wien-er just for you. In an essay that is basically a sequel to last week's job application in a second-tier position in the administration by a Moody's strategist and a Princeton economist (yes, yes, we know... oxymorons), the BlackStone head of something, Byron Wien, says the fututre for the market, the economy, and pretty much everything else is brighter than a nuclear bomb (incidentally one going off today would likely send the market into the greatest melt up in history).  Lest there be any confuction what Byron's view is: "My view is that the economy is going through a temporary lull and business conditions will improve later this year and in 2011." At least Wien is honest: "In preparing this essay I used research from Goldman Sachs, Lord Abbett, Credit Suisse and International Strategy and Investments for arguments on both sides of the double-dip issue." Mmhmm - that some serious "both sides" source list. And the piece de resistance: "The factors that argue against a resumption of the recession are the strong liquidity position of corporations which have 6% of their assets in cash, a level not seen since the 1960s, and the fact that both housing and autos are at low levels of production and not likely to drop further."  Over the weekend we will present an extended analysis finally putting to rest the inane argument that corporations are flush with cash: while true on a gross basis, the net level of cash vs debt, and especially vs equity, is at one of the worst levels in history. This ongoing childish avoidances of the liability side of the corporate balance sheet must stop and someone has to finally shut up these so called sophisticated economists and their endless lies.   Feel free to print out two copies of the attached Wien essay: we hear his work "product" is much better in two ply format.   h/t FMX Connect

View article...

Fear Empty Flats in China's Property Bubble_English_Caixin

CAIXIN ONLINE

Aug. 3, 2010, 8:30 p.m. EDT

Fear empty flats in China's property bubble

Commentary: Even worse than price bubble is quantity bubble of vacant flats

By Andy Xie

BEIJING (Caixin Online) -- How many flats in China are sitting empty? The media recently floated a story -- denied by power companies -- that 64.5 million urban electricity meters registered zero consumption over a recent, six-month period. That led to a theory that China has enough empty apartments to house 200 million people.

Statistical transparency is lacking in this area, so the truth about empty apartments remains under wraps. Publishing accurate data should be of the highest priority, since the size of the nation's unused apartment stock is perhaps the most important measure of the extent and seriousness of China's property-market bubble. Indeed, it's a grave concern for policy making, since unpublished data may indicate not only a price bubble but a quantity bubble burdening the market.

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Real estate is prone to price bubbles because unique factors restrict its supply response. Inflated prices have been the mark of most modern-day property bubbles. Price bubbles occur frequently and can last a long time.

In the 1980s, Tokyo saw a tremendous rise in property prices not in tandem with supply. The Hong Kong property market experienced a similar phenomenon in the 1990s.

One reason for limited supply is that property development is subject to government regulations, especially local rules. Established communities usually restrict building heights and density, for example, making it virtually impossible for mature communities to increase supply quickly. London, which is now experiencing a price bubble, and Tokyo in the past are cities that tightly control building heights.

Second, infrastructure development takes time and is always relative to land availability. Even in an island-city such as Singapore, land can be reclaimed from the sea at low costs, pointing to the correlation between land and infrastructure. But when property prices are high, and even when money is available for infrastructure development, one should be cautious about plunging in for fear that property prices could later fall. Thus, even over extended periods of time, property supplies may not respond to price increases.

Hong Kong doesn't have height restrictions like London or Tokyo. Nor does it have infrastructure or land shortages. But a government policy limiting land supply created scarcity before 1997, setting the stage for a bubble. The subsequent catalysts for higher prices were loose monetary conditions imported from the United States through Hong Kong's currency peg to the dollar. Even though prices were rising, the government chose not to increase supply, leading to a price bubble.

Thus, demand for property also rises under eased monetary conditions, and climbing price momentum attracts speculative demand. If monetary conditions remain loose for a while, credit access can sustain this kind of speculative demand. This points to a need for the Chinese government to adjust its property-market policies as well as interest rates to reduce speculation and steer the market out of a looming bubble crisis.

It's been said many times that China is experiencing a nationwide urban property price bubble. High prices in major cities where most of the country's property value is concentrated cannot be explained rationally.

Rising rents are a little easier to explain, however, even in the face of empty flats everywhere. Some blame intermediaries for ramping up the market, but this explanation is hard to stick in China's fragmented intermediary real-estate industry. Instead, inflation expectation is probably driving current rent increases: Property owners anticipate spending more in the future remodeling flats to compensate for renter wear-and-tear, so they charge higher rents now to plan for higher costs.

Quantity pump

What especially distinguishes China's property bubble, however, is an unprecedented amount of living space. This huge stock of empty flats equals the nation's quantity bubble.

Quantity bubbles are less common than price bubbles, and they don't last as long. Rising supply usually exerts downward pressure on prices, although an influx of money can hold up prices even when supply is rising.

A price bubble can damage an economy in three ways. First, it usually leads to a banking crisis. As the market trades at ever-higher prices, buyers borrow more against the same property. Banks that maintain the same lending cushion with, say, a 30% down-payment rule suffer losses when prices fall below that level. A banking system in crisis cannot lend normally, and the economy suffers collateral damage due to dysfunctional banking.

Second, the wealth effect leads to excessive consumption during a bubble. The payback weakens an economy for several years.

And third, bubble-induced demand distorts the supply side. When inflated industries go down with a bubble burst, it takes time for other industries to rise in an economy in their place.

A quantity bubble is sometimes a construction bubble, and it fizzles out when a building cycle turns over, crashing prices as soon as new supply becomes available. This is what happened to a commercial property bubble in the United States in the late 1980s, triggering a bank crisis when it burst and prompting the Federal Reserve to maintain a loose monetary policy that helped the banking system heal.

Quantity and price bubbles may grow together. Southeast Asia, for example, experienced a quantity-cum-price bubble that lasted several years in the 1990s. As regional currencies were pegged to the dollar, loose monetary conditions were imported from the United States, fueling a property bubble. Due to few restrictions on urban development, rising prices led to massive increases in supply. Liquidity inflow fueled speculative demand. But when U.S. monetary policy tightened, the market crashed and triggered the Asian Financial Crisis.

The latest experience in the U.S. market was mainly based on a price bubble, although some cities such as Las Vegas and Miami saw quantity bubbles as well. The U.S. government quickly recapitalized its banking system, limiting the direct effect of the banking crisis on the economy. Current weakness can be explained mainly by the wealth effect and employment losses in bubble-inflated industries.

When Taiwan experienced a price-cum-quantity bubble in the late 1980s, analysts determined the number of empty flats by obtaining electricity meter data from the power supplier, leading many to conclude that about 15% of all flats were empty. Today, some analysts are trying the same tactic in China. But Taiwan's housing conditions are less complex. Getting to the core of China's data requires more calculating.

Housing types, for example, must be considered. China's urban housing stock is mainly split between old, public housing built for company or government employees, and some 60 million units of private housing built over the past 10 years. Property developers are now building about 20 million private flats, and local government-owned land banks may be good for another 20 million to 30 million.

About 1 billion square meters worth of public housing (or about 14 million, 70-square-meter units) have been torn down, leaving about 9 billion square meters of this type of living space nationwide.

Moreover, companies and government agencies are still building apartments for employees. This practice has slowed but remains significant in many cities even today. It's hard to tell how many of these newer flats are out there.

There are similar unknowns about dormitories, such as factory dormitories that house workers from rural areas who migrate to manufacturing regions. Most of China's more than 200 million migrant workers may be living in such dormitories.

Not all commercial property is market-driven, since certain people with connections or other advantages may own rental apartments that tend to have high vacancy rates and should be taken into account when calculating market excess.

Another consideration is that massive quantities of housing have been springing up in rural communities near major cities. And when farmland is rezoned for urban development, the region's housing starts falling into the urban category.

Numbers crunching

Although China's new property sales topped 14% of GDP in 2009, the data is confusing. Maybe it's confusing by design, since firm figures on total urban housing stock are hard to find. My guesstimate is that China's total urban stock is around 17 billion square meters, plus or minus 10%.

One useful figure for analysts is China's living space per capita. Surveys in most cities suggest the average living space is between 28 and 30 square meters per person. We don't know which population segment these surveys cover; they certainly don't include migrant workers. And we don't know if empty flats are counted.

Based on this limited data, however, we can confidently conclude that China does not have a housing shortage. Moreover, its per-capita living space is higher than in Europe and Japan. Indeed, if we adopt Japan's standard, China already has sufficient urban housing space for every man, woman and child in the country.

Far more important than general data, however, are the housing figures pointing to a huge quantity of empty flats apparently being held only for speculation.

In a normal market, the vacancy rate should be equal to the number of households relocating, times the average transition period, plus newly formed households times the average purchase period. For example, a vacancy rate of 1.5% could accommodate a market in which 6% of households relocate every year, and the transit time is three months. If new household formation is 3%, and the average period for a property purchase is six months, this factor requires a vacancy rate of another 1.5%. The total normal vacancy rate should be 3%. This figure includes the new properties ready for sale.

Although the government doesn't publish vacancy data, I think the vacancy rate for the nation's private, commercial housing stock is between 25% and 30%. That's at least double what's required in a normal market. The gap between what's needed and what's available can be viewed as speculative inventory. The value of this inventory held by speculators is probably around 15% of GDP. It's being kept on ice, just as copper and other commodities are hoarded in anticipation of rising prices.

Watch out

We should fear China's quantity bubble. And we should be terrified by the potential for a massive amount of new, speculative inventory that could come on line this year and next.

Right now, tight credit is holding back the market, and supply is piling up on the developer side as inventory. The government's tightening squeezed buyers of second and third homes, and transaction volumes across the country collapsed. What I've learned from intermediaries is that most property demand now falls into restricted categories, i.e., speculative.

It's reasonable to assume, therefore, that the supply would be close to 15% of GDP in value this year and in 2011. That's because when the policy is relaxed -- as most expect -- speculation will probably revive and lead to a doubling in the total value of speculative inventory.

Chances are good that policy makers will indeed relax policy. In some cities, banks are already loosening a bit. A key reason is that local governments have a lot of debt -- commonly five times more debt than revenue -- and could get into financial trouble without a decent level of property transactions.

Local governments in China depend on real-estate deals for revenue and could default if the market falls too far. Thus, the central government may loosen policy to help the locals without making a formal announcement. Such a change of heart would ease short-term government difficulties but double the trouble down the road when the property bubble bursts.

So even if China's stock of empty flats is only half that recent estimate of 64.5 million, it would still be equivalent to 20% of all urban households. That's higher than Taiwan's vacancy rate at the peak of its bubble. Moreover, as credit rules are loosened, the stock could rise to more than 30%.

China's housing oversupply isn't surprising. Excess supply reflects the under-pricing of capital, and China's system is structured to increase supply quickly. But rising prices alongside rising vacancy rates are surprising. Normally, speculators are spooked by high vacancy rates. But China's phenomenon is unique for at least four reasons:

1) A sustained negative real interest rate has led to a falling demand for money and rising appetite for speculation. Greed and inflation fears are working together to form unprecedented speculative demand for property.

2) A massive amount of gray income is seeking safe haven. China's gray income of various sorts could be around 10% of GDP. In an environment of rising inflation with a depreciating dollar -- the traditional safe haven -- China's rising property market is becoming a preferred place to park this money.

3) Few people in China have experienced a property bubble. The property crash in the 1990s touched a small segment of society, such as foreigners and state-owned enterprises. Geographically, it was restricted to the country's freewheeling zones in Hainan, Guangdong and Shanghai. Most people didn't even know there was a property crash. This ignorance has led to a lack of fear that's now turbo-charging greed.

4) Speculators think the government won't let property prices fall. They correctly surmise that local governments rely on property deals for money and do all they can to prop up prices. But their faith in government omnipotence is misplaced. At the end of the day, the market is bigger than the government. The government can delay, but not abolish, market forces. Nevertheless, faith in government is replacing fears of a downside, and speculative demand will continue to grow as long as credit is available.

In other parts of the world, central bank attitudes toward real-estate speculation are changing. Israel's central bank just raised its interest rate, specifically citing a need to fight a property bubble. Property prices in Israel have risen 20% in the past 12 months. India, Korea and Taiwan are raising interest rates out of concern for inflation and speculation as well.

China's problems are much bigger than what's found in these economies. But keeping interest rates low will only worsen the nation's bubble problem. Periodic credit tightening and crackdowns on speculation won't work because they are not taken seriously and never last.

China's latest property-market tightening appears to have been improvised. Of course, any buyer discrimination policy is complex, hard to implement and creates excessive market volatility. Now, if special-interest pressure leads to a change in policy, speculators would be further emboldened, and the excess would multiply, making the eventual adjustment so much more painful.

Raising interest rates, however, would cool speculative demand gradually, avoiding market disruptions. At this point, a rate hike would be the best policy option. But a delay in raising interest rates would only cause a surge for the stock of empty flats and inevitably lead to collapse.

Long range, a policy of sustainability would require resolving local government financial problems by increasing non-property revenue sources or limiting expenditures. Currently, the investment-led growth strategy that's been adopted by all local governments inevitably leads to maximizing revenues from land sales. So unless limits are put on this strategy, the property market will function abnormally.

Property taxes could play a significant role in revenue streams. In many countries, property taxes support local governments and public services. China should adopt the same model, while also restricting fiscal spending.

The bottom line is that China urgently needs a coherent property strategy. The massive overhang of empty flats should goad policy makers to act now. If the government eases rules for the property market before adopting a coherent policy, though, a crash could bring down the economy for an extended period.

One only needs to glance at modern-day price and quantity property bubbles around the world to understand the stark consequences. What's happening to the U.S. economy now is a prime example, and it should be lesson for us. Otherwise, China's economy will look like America's. See this commentary on Caixin Online.

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Fear Empty Flats in China's Property Bubble_English_Caixin

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