http://www.ft.com/cms/s/0/d13838d0-9e20-11dc-a7ef-0000779fd2ac.html

Activist hedge fund returns hit hard

By James Mackintosh

Published: November 29 2007 03:46 | Last updated: November 29 2007 03:46

Hedge funds aiming to profit from activism and corporate events have been hit hard this month as a raft of deals fell through and markets plummeted.

The so-called event-driven sector, which includes many of the best-known activist hedge funds, is bearing the brunt of a downturn in hedge fund performance this month, the worst for the industry since the credit squeeze hit home in August.

Event-driven funds buy cheap stocks where they believe a catalyst such as a bid or restructuring will boost the price. They often agitate for change.

According to investors several funds turned in double-digit drops in the first three weeks of this month, hurt by losses as private equity groups walked away from agreed takeovers and by the renewed impact of concern over credit.

Chicago-based Hedge Fund Research’s daily HFRX index calculates the event-driven sector is down 4.3 per cent so far this month, with only long-short equity traders – who tend to be highly exposed to the market – producing a worse performance. By September the main stock markets had turned in their worst performances since the bear market of 2001-2002.

“It is bloody awful,” said one prime broker. “The dispersion between the best and the worst this month is something we have never seen before.”

Among prominent fallers, according to investors, are JPMorgan-owned Highbridge’s $750m Event Driven fund, down 12.7 per cent in the first two weeks of this month; two funds from New York-based Atticus; London’s Tisbury Capital; and New York’s Kinetic Partners.

However, some of the managers, such as Atticus, remain strongly ahead for the year. Highbridge’s $1bn long-short equity fund has risen 4 per cent this month and is up 34 per cent for the year.

“Even the best event-driven managers can’t do well in these conditions,” said an executive at one big fund of hedge funds.

François Barthelemy, manager of F&C Partners’ listed fund of event-driven hedge funds, said the sector had suffered as falling markets hurt the value stocks that are their favourites.

But he said the outlook for the sector was strong as managers would switch from looking for potential private equity bid targets to finding value in troubled companies.

“Distressed is becoming a much larger part of the event driven market,” he said. “The portfolios will look very different to how they looked up until the summer.”

According to one US hedge fund manager, 15 US deals have fallen through or been subject to renegotiation this month, hurting the traditional merger-arbitrage side of the business. Merger arbitrage typically involves buying shares of the target company and selling shares of the buyer short, unwinding the trade on completion.

Still, the drop this month is far less serious than the problems in August, when deal spreads – reflecting the risk taken by merger arbitrage – ballooned.

“The recovery from August was much faster than we thought,” said one hedge fund investor, “so it is no surprise that there’s a readjustment”.

Copyright The Financial Times Limited 2007

High & Low Finance

Capital Is King Once Again

FLOYD NORRIS

Published: November 30, 2007

When you take big risks, you expect big rewards if all goes well. Right?

Well, not in early 2007.

As the credit markets continue to unravel, the public is getting a look at more and more of the strange financial concoctions that were cooked up by the financial engineers.

The latest one blew up last week. The investors who put up the money stand to lose about 90 percent of their investment. Clearly, they were taking big risks.

What were those risks? Essentially, they were guaranteeing, for 10 years, the credit of a group of financial companies, including credit guarantee insurance companies like Ambac and MBIA. A lot of defaults would be devastating to the investors, but so, too, would be rising market doubts about the quality of the companies’ credit. It was those doubts, measured in the market price of credit default securities, that brought on the losses.

Got that? They were guaranteeing the credit of the companies that guarantee the credit of large parts of the financial system. And they were guaranteeing that people would trust the credit of those companies.

When this deal was put together by UBS in March, Moody’s figured it was a sure thing and gave it a AAA rating. It seemed so safe that the upside — what the investors would get if all went well — was a truly teeny interest rate: the Libor rate plus one percentage point. (Libor is the London interbank offered rate, basically what banks pay on loans to each other.)

The demise of this deal — known as a constant proportion debt obligation is emblematic of what is happening to the financial system in the credit collapse of 2007. The financial engineers persuaded people that big risks could be financed mostly through safe investments. So AAA-paper financed subprime mortgages and leveraged loans. And in this case, it financed guarantees of credit for credit guarantors.

The ready availability of that financing encouraged more risks to be taken by lenders. Easy credit meant borrowers could pay off old loans with new loans, and thus seemed to make the risks lower.

In retrospect, it was inevitable this would blow up. It was not inevitable that the first problems would be in subprime mortgages. But a system that encouraged more and more risky lending, with less and less concern about credit quality, could not endure forever.

The most important question for the markets now is this: With the theory of riskless risky lending thoroughly discredited, where will new financing come from? The buyers of AAA paper have learned their lesson, and the flow of money has dried up.

One possibility is government guarantees. Guarantees by government-sponsored enterprises back the securities financing most new mortgages now, and Ben Bernanke, the Fed chairman, has suggested providing a direct government guarantee for some large mortgages.

The other possibility is to go back to the banking system, which would make loans it intended to hold, rather than to package and sell. That would mean “going back to the 1980s model, rather than the 21st-century model,” as one financial engineer put it privately to me this week.

But that would require banks to have enough capital to make and keep more loans, and the losses now being taken are cutting into that capital.

Wall Street preaches that there is such a thing as “optimal leverage.” In that worldview, too much capital depresses a bank’s return on capital and is, therefore, as bad as too little.

Fearing they would have too much capital, banks bought their own stock at high prices, benefiting shareholders who were fleeing. Now they must sell shares at low prices. Kathleen Shanley, a bond analyst at Gimme Credit, points out that in 2005 and 2006 Citigroup spent almost $20 billion buying back stock at an average price of about $47 a share. Now it is raising $7.5 billion from Abu Dhabi on terms that pay the Mideast nation 11 percent a year for three years. Abu Dhabi will end up with stock purchased at prices of $31.83 to $37.24. Buy high, sell low.

At least that deal assures that Citigroup will have adequate capital if it must report further losses from bad loans. Wells Fargo, a well-capitalized competitor, announced this week that it would unload $11.9 billion in home equity loans that it probably should not have purchased to begin with. It is taking a $1.4 billion reserve against losses. That is more than 11 percent of their face value.

Some banks would run out of capital long before they could take comparable write-offs, a fact that places more pressure on those banks to raise capital at a time when investors are already worried. Banks with capital concerns are not eager to make many new loans.

Much of the discredited “21st-century model” was aimed at finding ways to make loans without tying up capital. Now capital is crucial again. Unfortunately, there may not be enough of it to finance all the loans needed to keep the economy growing.

Read Floyd Norris’s blog at norris.blogs.nytimes.com.

$200 Billion to Invest, but in China

By KEITH BRADSHER

Published: November 29, 2007

HONG KONG, Nov. 28 — As governments in the Middle East take big stakes in American companies, China’s state-run investment fund has quietly shifted its focus from overseas deals to bolstering the country’s troubled banking system.

The fund, the China Investment Corporation, plans to spend roughly two-thirds of its $200 billion assisting Chinese banks, according to a person familiar with the company’s decision making.

In contrast to other sovereign wealth funds — like the Abu Dhabi Investment Authority, which invested $7.5 billion for a 4.9 percent stake in Citigroup this week — the Chinese have no immediate plans to take a large stake in any foreign company.

The remaining third of the fund, roughly $70 billion, that is not committed to shoring up banks with needed cash has been parked in very short-term money market instruments, this person said, with the exception of two previously announced investments: a $3 billion stake in the Blackstone Group, taken in June, and a $100 million stake in the state-controlled China Railway Group, which plans to go public next month.

“We don’t have any more significant investment plans,” said the person knowledgeable about the fund, insisting on anonymity because the government tries to restrict public comment on its policies. Despite China’s keen interest in natural resource companies, the fund does not plan to bid for Rio Tinto or BHP Billiton, two primarily Australian mining companies currently sparring over a possible merger.

Though the China Investment Corporation is still drafting a strategic plan, it intends to largely pursue a portfolio approach — making many small purchases of equities, bonds and other investments, rather than big-ticket acquisitions, the person familiar with the fund’s decision making said.

Some of the differences between the Chinese investment strategy and those of Arab region funds are a function of their relative size and experience.

The Abu Dhabi Investment Authority, for example, started in 1976. It occupies its own skyscraper, with three trading floors and total square footage equivalent to a third of the Empire State Building. While many ruling families in the region relied on one or two investment advisers a generation ago, today their own, often Wall-Street-trained sons and daughters invest their swelling oil profits.

By contrast, the China Investment Corporation has only been active for six months. It has fewer than two dozen employees, mainly people who have transferred from China’s central bank and have little familiarity with equity investments. Indeed, the fund is seeking senior managers willing to move to Beijing to help it invest the nearly $70 billion it wants to commit to opportunities abroad.

The China Investment Corporation did not consider a stake in Citigroup and is not looking to acquire distressed financial assets in the United States, the person close to the fund said, and it has ruled out investments in foreign airlines, telecommunications businesses and oil companies as potentially contentious.

Chinese officials remember the bitter opposition in Congress two years ago when the state-owned China National Offshore Oil Corporation sought to buy Unocal. The effort failed amid wide objections in the United States.

Such sensitivities have also led the fund to decide not to pursue overseas technology companies as a way of bringing advanced technologies to China.

“That’s political, and we don’t do that,” the informant said.

To be sure, other state-run Chinese businesses continue to buy substantial holdings abroad. Last month, for instance, Citic Securities, a government-run investment bank, and Bear Stearns said they would take $1 billion stakes in each other and set up a joint venture in Hong Kong.

But China Investment Corporation, having generated headlines last spring with its Blackstone investment and come under scrutiny from Washington, faces powerful pressures to take a more cautious approach to overseas investing.

Concern has been growing in Western capitals about the rising influence of sovereign funds like the Abu Dhabi Investment Authority, valued at $650 billion. Treasury Secretary Henry M. Paulson Jr. and finance ministers of other leading economies called last month for these essentially government funds to make greater public disclosure.

China has been particularly eager to stay out of the limelight cast by overseas acquisitions as elections get closer in the United States and officials at the European Union and in Washington grow increasingly critical of China’s rising trade surpluses.

“There is some hesitation to make too much waves,” as well as a wariness of the declining dollar, said Victor Shih, a Chinese finance expert at Northwestern University.

The dismal performance of China Investment in Blackstone has also encouraged a tepid approach. The fund paid $29.605 a share for the private equity firm, just as credit markets began to turn against risky deals; it has since lost almost $1 billion of its $3 billion, setting off criticism even on Chinese Internet sites. Blackstone shares closed at $21.47 on Wednesday.

The person close to the China investment fund defended the Blackstone purchase. “The decision to invest in Blackstone,” he said, “was cautious and focused on much longer-period returns and not about the share price over six months or a year — we do not worry about it.”

But the biggest source of pressure on the Chinese state fund lies in the continuing need to strengthen the chronically weak Chinese banking system as the economy continues to grow 11 percent a year.

Chinese and Western bankers agree that banks in this country fall short of Western standards in assessing the creditworthiness of borrowers and in controlling fraud. Nonperforming loans as a percentage of total loans at Chinese commercial banks have dropped steeply, to 6.2 percent in September from 12.4 percent in March 2005, according to the China Banking Regulatory Commission. But this is mainly because banks have stepped up their lending, actually increasing their exposure to bad debt if the economy slows and recent borrowers default.

China Investment plans to inject roughly a third of its assets into the Agricultural Bank of China and the China Development Bank, two state-owned institutions preparing for initial public offerings in the next year or two. The exact amount of those investments has not been set and will depend on a continuing assessment of the extent of the banks’ nonperforming loans.

The fund plans to spend one-third more to buy the Central Huijin Investment Company from China’s central bank.

As the central bank has spent foreign currency reserves acquiring large stakes in the Bank of China, the Industrial and Commercial Bank of China and the China Construction Bank over the last three years, it has parked those stakes in the Central Huijin Investment Company. They will now be transferred to China Investment.

The person familiar with the dealings of the fund said the details of both transactions still had to be worked out. Another person with broad knowledge of Chinese financial policy making described the plans as “a done deal.”

Heather Timmons contributed reporting from New Delhi.

http://www.nytimes.com/2007/11/29/business/worldbusiness/

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Turkish Press

US Says China Agrees to End Some Subsidies
New York Times - 56 minutes ago
By STEVEN R. WEISMAN WASHINGTON, Nov. 29 - Bowing to American pressure on the eve of high-level talks to reduce economic tensions, China agreed today to end a dozen subsidies that promote exports and discourage imports of steel, wood products, …
US, China settle one trade dispute MarketWatch
China to Abolish Subsidies US Challenged at the WTO (Update1) Bloomberg
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By STEVEN R. WEISMAN

Published: November 29, 2007

WASHINGTON, Nov. 29 — Bowing to American pressure on the eve of high-level talks to reduce economic tensions, China agreed today to end a dozen subsidies that promote exports and discourage imports of steel, wood products, information technology and other manufactured goods.

The Chinese actions affect exports by companies that have foreign investment or are joint ventures with foreign companies. Nearly 60 percent of Chinese exports are produced by these companies.

While the intent is to help American companies compete against China, some of the loss of subsidies would be borne by companies that export goods to the United States and owned at least in part by Americans.

Susan C. Schwab, the United States trade representative, announced the agreement by China, signed earlier in the day at the World Trade Organization in Geneva. She hailed the action as “a victory for U.S. manufacturers, producers and workers” and a vindication of using negotiations to resolve trade disputes.

Ms. Schwab said she could not identify any names of American or other companies affected by the new agreement without their permission.

The agreement came only two weeks before Ms. Schwab is to join Treasury Secretary Henry M. Paulson Jr. and other Cabinet members for a high-level meeting of the “strategic economic dialogue” with China that Mr. Paulson launched last year to reduce tensions with China.

The dialogue is aimed at resolving tensions that have mounted along with the trade deficit, which soared to $232 billion last year and is likely to go significantly higher this year.

Ms. Schwab said there was no immediate information on how many exports would be affected, in part because China was eliminating a set of 12 different subsidy and loan laws on its books, and it was not clear how many companies had actually taken advantage of them.

The agreement by China left intact other subsidies of exports that the United States is still challenging in certain kinds of steel products, heavy-duty tires, paper and chemicals. These challenges are to subsidies and government assistance that American laws deem unfair and subject to duties imposed on imports.

Also unresolved are American complaints that China is using regulations and other practices to favor exports and discourage imports on a broad array of manufactured goods, as well as separate complaints that China has done little to crack down on piracy and counterfeit goods of software, videos and consumer products.

Nor does it affect the principal complaint that the Chinese are keeping the value of their currency, the yuan, artificially low to promote exports.

The Chinese have been irate over American actions challenging their economic practices at the World Trade Organization, and this has aggravated efforts to resolve the disputes through negotiations.

But Ms. Schwab said the agreement on subsidies today vindicated the administration’s approach of using negotiation to resolve disputes, and to oppose punitive legislation that is pending in Congress.

 http://www.nytimes.com/2007/11/29/business/

worldbusiness/29cnd-trade.html?ref=worldbusiness

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2007/11/29/were-from-citadel-and-were-here-to-help/

We’re From Citadel, and We’re Here to Help

November 29, 2007, 10:07 am

When Amaranth Advisors was collapsing last summer because of energy trades gone bad, the firm’s chief operating officer, Charles Winkler, got a call from Kenneth Griffin. Mr. Griffin came right to the point: “Charlie,” he said, according to documents Amaranth filed in a recent lawsuit, “what can we do, and how can we help?”

The conversation probably began much the same way with E*Trade Financial, the Internet bank and brokerage that said Thursday it would receive a $2.5 billion cash infusion from a group led by Mr. Griffin’s firm, Citadel Investment Group. With its latest investment, Citadel has solidified its role as the cash machine for financial firms in distress. And these days, there’s a lot of distressed financial firms to choose from.

In the last year or so, Citadel has bought Amaranth’s troubled energy book and the entire portfolio of Sowood Capital, a hedge fund that lost more than half its value when the credit markets seized up. It also acquired some assets from Sentinel Management Group shortly before that cash-management firm filed for bankruptcy protection.

With Thursday’s deal, Citadel will pick up E*Trade’s collection of asset-backed securities. This portfolio includes collateralized debt obligations, which are complex bundles of debt whose value has slumped because of the recent rise in mortgage defaults.

Citadel is getting E*Trade’s portfolio for a cut-rate price: It is paying $800 million for assets that had a book value of $3 billion. E*Trade said Thursday it is taking a $2.2 billion haircut on the transaction. E*Trade’s advisers in the deal were Evercore Partners and J.P. Morgan Chase.

By most accounts, E*Trade is not nearly as troubled as Amaranth or Sowood were. It is well-capitalized by regulatory standards, and many analysts think its problems are manageable.

But E*Trade does need cash: Its recent write-downs had raised questions about whether it could maintain adequate capital ratios, and at least one analyst has speculated that E*Trade’s customers could cause a run on the bank by withdrawing their money en masse.

Putting a value on mortgage-related securities is difficult these days, because they are thinly traded and it is unclear how much worse the subprime mess will become. But if turns out that Citadel got E*Trade’s assets at a fire-sale price, it could mean big profits for Citadel and its investors. (Citadel is also getting unsecured notes and E*Trade stock as part of Thursday’s transaction.)

Few analysts think the mortgage-related turmoil is over, so Citadel is bound to have more opportunities to buy assets from firms in dire straits.

More distress could help Citadel in another way as well: Many of the other potential sources of capital — such as big investment banks — are nursing wounds of their own. That could mean even less competition for Citadel as it fishes in the pool of financial misery.

Go to Related Item from DealBook »

1 comments so far…

• 1.

  November 29th,
  2007
  10:42 am

  Citadel has earned a reputation for agressively negotiating these types of deals. I’m sure they already have a 20-30% gain locked in on those distressed assets. When everyone is talking about financial firms falling on the sword many hedge funds are producing returns by shorting securities or employing capital on devalued assets.

  - Richard
  http://www.HedgeFundBlogger.com

  — Posted by Richard Wilson

CAPITAL By DAVID WESSEL

The Cost to U.S. of ‘Petrodollar Recycling’ November 29, 2007; Page A2 With so many economic threats facing the U.S., consider for a moment an old worry: the fear that oil-producing nations wouldn’t be able to “recycle” all the money they were collecting, to the detriment of the global economy. Angst about “petrodollar recycling” made headlines in the 1970s. It’s a worry that seems quaint today as the Abu Dhabi Investment Authority trades the proceeds of roughly 75 million barrels of oil — about a week’s worth of U.S. oil imports — for a 4.9% stake in Citigroup. Still, three decades ago there was genuine concern that the Organization of Petroleum Exporting Countries wouldn’t know what to do with the windfall from the first oil shock. And there was fear that oil-importing countries, especially in the developing world, might try to compensate for their growing oil-induced trade deficits by reducing other imports. The International Monetary Fund set up special “oil facilities” to lend to oil-thirsty developing nations that were running up huge trade gaps. U.S. Treasury Secretary William Simon lobbied oil producers to deposit petrodollars in U.S. banks and discouraged them from direct investment in U.S. companies — amid talk Iran might buy a stake in ailing airline Pan Am, which is now defunct. OPEC, it turned out, went on a buying binge. The money it did save, before oil prices fell, went into government securities or bank deposits. Commercial banks, in turn, increased lending to Latin America and other developing countries to bankers’ later regret. With that prominent exception, though, “Recycling was carried out quite successfully in 1974-78,” retired Federal Reserve economist Robert Solomon wrote in a monetary history of the period. “The problem turned out to be manageable after all.” Now oil prices are up, and money again is flowing from consumers in the U.S., Europe, Japan, China and India to producers who are — as Edwin Truman of the Peterson Institute for International Economics puts it — “taking wealth out of the ground and putting it above ground.” Even if oil falls back to $70 a barrel, oil producers have nearly $2 billion to invest every day. So why so little worry about recycling petrodollars? CAPITAL EXCHANGE   New York Fed essay: “Recyling Petrodollars”1 Readers, weigh in: How worried — or not — are you about recycling all these petrodollars? Share your opinions in the Capital Exchange forum2. For starters, the global economy of the early 2000s has been far healthier than the stagflationary 1970s. The world has largely weaned itself off rigid foreign-exchange regimes, though not entirely, a problem for Middle Eastern countries whose dollar-linked currencies are sinking with the U.S. dollar when fundamentals suggest they should be rising. Global financial markets are far bigger than they were then. The prospect of huge trade deficits doesn’t seem as unsettling as it once did, perhaps because the U.S. has managed to maintain a large and (until recently) growing trade gap longer than doomsayers thought possible. And the biggest emerging markets are far more robust than they were 30 years ago. Indeed, China is running a huge trade surplus despite its hefty oil imports. And the IMF projects that, within a few years, funds managed by the investment arms of Asian governments and foreign-exchange reserves will be far bigger than OPEC’s hoards. It’s clear oil producers are far more sophisticated investors than they were in the 1970s, though no one really knows where all the money is going. Simon Johnson, chief IMF economist, says only half the oil producers’ windfall is accounted for. About 20% of their investing — as opposed to spending on buildings or baubles — is going into banks, much of that lent to emerging markets, the IMF says. Another 30% shows up in U.S. Treasury reports as going into various U.S. securities. But those reports are incomplete — partly because Saudi money managed in London and invested in U.S. stocks shows up as British, not Saudi. Much of the rest is believed to be going into stock markets around the world. But there’s only one big borrower in the global economy these days: the U.S. “The U.S. has been the ultimate destination — even if has not been the direct destination — for petrodollars recycled into the international financial markets,” a trio of New York Fed economists wrote a few months ago3. Other oil importers, taken together, have curtailed consumer spending, boosted saving or reduced investment to avoid huge U.S.-style trade deficits that require financing from abroad. Ron Paul, the Republican presidential candidate with some distinctly unconventional economic ideas, has this one right: “Right now we owe foreigners $2.7 trillion,” he said in a recent debate. “No wonder they have money to come back in here and buy stuff up. And then we object … but that is a natural consequence of what happens when you live beyond your means.” So is all of this good or bad? Well, this money has helped keep U.S. interest rates one-half to three-quarters of a percentage point lower than they would otherwise be, a welcome counterweight to the economic harm done by higher oil prices. And, as the Citigroup deal illustrates, it’s nice to have someone with capital to invest when American financial institutions suddenly need it, even if it is costly. Yet every day, the U.S. economy sells a bit more of itself to oil producers and thrifty Asian economies because it doesn’t save enough to finance its investment. In exchange, future profits from those assets will flow abroad instead of staying home. Mr. Wessel responds to reader comments at WSJ.com/CapitalExchange4. Or email him at capital@wsj.com5. URL for this article: http://online.wsj.com/article/SB119629687498907262.html Hyperlinks in this Article: (1) http://www.newyorkfed.org/newsevents/news/research/2007/rp070103.html (2) http://forums.wsj.com/viewtopic.php? p=41949 (3) http://www.newyorkfed.org/newsevents/news/research/2007/rp070103.html (4) http://www.WSJ.com/CapitalExchange (5) mailto:capital@wsj.com

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Chavez Rift With Uribe Unlikely to Damage Trade Ties (Update2)
By Helen Murphy and Matthew Walter

Nov. 29 (Bloomberg) — Venezuelan President Hugo Chavez’s deepening rift with Colombia’s Alvaro Uribe is unlikely to damage trade ties. It may bolster Chavez’s push to change the constitution in a national referendum this weekend.

The two have traded insults over the past week after President Uribe told Chavez to halt efforts to free 45 hostages held by Colombia’s biggest guerrilla group. Chavez said the falling-out may hurt economic links between the Latin American neighbors, worth an estimated $4 billion. Each country serves as the other’s second-biggest trading partner, behind the U.S.

“They are too important to each other to see any commercial breaks,” said Gianfranco Bertozzi, a Latin America economist with Lehman Brothers Inc. in New York.

Chavez said yesterday that he won’t maintain relations with his neighbor while Uribe remains in office, calling it a matter of “dignity.” His words may be aimed at rallying national pride before a Dec. 2 referendum on his plan to overhaul the constitution with 69 changes, including the end of presidential term limits, said Luis Vicente Leon, a Caracas-based pollster.

“The situation with Colombia has been positive for Chavez,” Vicente Leon said.

`Expansionist’ Plan

Political analysts, including Vicente Leon, say Chavez’s rhetoric has increased since polls signaled this weekend’s referendum may be too close to predict. Venezuela law prohibits the publication of polls in the week prior to the voting.

Chavez, who said he would leave government if he loses the vote, said those protesting the reforms, including former Defense Minister Raul Baduel, are traitors. Government supporters and opposition groups have clashed in recent weeks as campaigning for the referendum began.

“This is him covering up his embarrassment after Uribe fired him,” Bertozzi said

Joel Acosta Chirinos, the former commander of the failed coup attempt that Chavez led in 1992, told Brazil’s O Globo newspaper in an interview that armed forces are divided over the new constitution and that he can’t rule out the possibility that some members may take up arms should violence break out.

Uribe accused Chavez of violating an agreement by contacting Colombia’s army commander directly, instead of going through the president’s office. Chavez called Uribe a “liar.”

`Stepping up Attacks’

Uribe responded by accusing Chavez of attempting to spread an “expansionist” agenda across the continent, and of wanting to install a terrorist government in Colombia. He criticized Chavez’s interaction with other world leaders after tensions flared in recent weeks with Spain and Chile.

Venezuela, South America’s third-biggest economy, relies on imports from Colombia to ease shortages of basic food staples. The demand has given Colombia a $1.8 billion trade surplus with Venezuela this year, according to Interbolsa SA, Colombia’s biggest brokerage. Colombia imports Venezuelan gasoline.

Colombia’s government and business groups have identified 30 countries as possible export destinations should the spat with Chavez undercut bilateral trade, Caracas-based El Universal newspaper said Nov. 28, citing ministers and business groups.

“The whole affair may be over soon, but definitely a good resolution to all this will depend upon the result of the referendum,” said Asdrubal Oliveros, chief economist at Caracas-based research firm Ecoanalitica. “If you see this carefully, it is Chavez, not the Colombians, who is stepping up the attacks.”

Stocks

Colombia’s benchmark stock index fell the most in five weeks on Nov. 26 because of concern the conflict will hurt Colombian exporters. Cia. Colombiana de Tejidos SA, a Medellin- based textile exporter, had its steepest two-day drop in 18 months this week. The IGBC stock index was little changed yesterday, even as markets elsewhere in Latin America rose.

In 2005, a row between the two nations over the capture in Venezuela of FARC leader Rodrigo Granda disrupted trade along the border. Coal and food were blocked from entering either country, and three municipalities in Colombia’s northern Arauca province went without electricity three days after guerrillas bombed an energy line. Venezuela, which usually provides the bulk of the province’s electricity needs in emergencies, refused to help.

“This spat has really brought out the worst in both of them in terms of statesmanship,” said Shannon O’Neil, adjunct fellow for Latin American studies at the Council on Foreign Relations in New York.

Colombian Foreign Minister Fernando Araujo, in comments carried on Bogota-based Radio RCN, said he has received no official word from Venezuela on relations and reiterated his earlier statement that Colombia has no plans to withdraw its ambassador. Venezuela on Tuesday recalled Ambassador Pavel Rondon for consultations.

To contact the reporters on this story: Matthew Walter in Sao Paulo at mwalter4@bloomberg.net ; Helen Murphy in Bogota at Hmurphy1@bloomberg.net .

Last Updated: November 29, 2007 07:33 EST

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=20601086&sid=a1Tvj2qk44Dw&refer=latinamerica

China’s fuel issues

Published: November 28 2007 08:58 | Last updated: November 28 2007 19:06

Foreign car company executives dream of hundreds of millions of new vehicles taking to China’s roads. But the big consumer of oil in China is heavy industry, accounting for almost 40 per cent of the total, compared with just 30 per cent for transport. The US, in contrast, burns more than half its oil in vehicles.

China’s currency peg, which curbs appreciation against the dollar, is often cited as a reason for runaway fixed investment in the country’s exporting industries. Yet fuel subsidies are also important. Even after a recent increase in regulated prices, domestic diesel is 20 per cent below market rates, according to Lehman Brothers.

Shielding Chinese industry from surging global oil prices removes incentives to increase fuel efficiency. Energy intensity per unit of economic output has actually risen again since 2001, as investment has shifted towards heavy industries. Add fuel subsidies to the currency peg, cheap labour and light planning regulation, and the incentive to expand capacity willy-nilly is overwhelming. For example, it is estimated that China now has about 7,000 steel companies, yet the top three account for just 14 per cent of domestic production.

Beijing fears big rises in regulated fuel prices would alienate the masses, and might not subdue industrial fuel consumption that quickly, if Chinese banks continue lending freely.

Ultimately, subsidies are not sustainable. Buoyant Chinese demand boosts global oil prices. Without sudden supply increases, demand has to be hammered in countries without subsidised, regulated prices, if the market is to balance. If the latest forecasts from the International Energy Agency are anything to go by, that is happening in the industrialised world – precisely the destination for all that Chinese export capacity.

Copyright The Financial Times Limited 2007

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