S&P Cuts FGIC Rating to ‘Junk’

By ANDREW EDWARDS
March 28, 2008 6:40 p.m.

Standard & Poor’s Ratings Services cut Financial Guaranty Insurance Co. to
“junk” status, saying the company “has failed to implement a strategic plan to re-establish itself as a viable operating entity.”

S&P said the underlying rating of bonds ensured by FGIC may well be stronger than those of the insurer after this downgrade — basically saying FGIC’s insurance is worthless.

The move follows a cut to junk status by Fitch Ratings on Wednesday.

FGIC, which guaranteed many bonds that have run into trouble as the credit markets seized up, recently suspended writing new business in order to generate badly need new capital, which it has been unable to raise from investors.

Adding to its woes the was recently notified that its exposure to potential losses exceeds New York State regulatory limits, which cold lead to serious consequences if not corrected.

“Our increased concerns over regulatory and managerial issues have led us to a downgrade to the speculatively level,” also-known-as junk, S&P wrote. “Unlike many of its peers, FGIC has been unsuccessful so far in raising new external capital.”

S&P warned that future ratings cuts deeper into junk could be on the way. The ratings agency discontinued coverage on all of the “public finance and corporate transactions” insured by FGIC that do not have an underlying public rating.

FGIC lost $1.89 billion in the fourth quarter, mostly because of a $1.71 billion mark-to-market loss on derivatives it wrote on securities backed in large part by subprime mortgages. Bond insurers have argued that mark-to-market losses represent changes in the market value of their derivatives and are likely to largely reverse themselves over time.

–Lavonne Kuykendall and Kathy Shwiff contributed to this report.

Write to Andrew Edwards at andrew.edwards@dowjones.com

http://online.wsj.com/article/SB120674109627872841.html?mod=mkts_main_news_hs_h

 http://www.ft.com/cms/s/1/11fb192c-fcaa-11dc-961e-000077b07658.html

Hedge funds

Published: March 28 2008 09:34 | Last updated: March 28 2008 12:31

Moving chips around a roulette table as the ball settles will get you thrown out of a casino. But an equivalent ruse in the hedge fund world – investing in a flexible fund following a multitude of investment strategies – seems to pay off time and time again.

Data from Eurekahedge on 17,000 hedge funds worldwide shows that multi-strategy funds have performed best of all strategies – and with the lowest risk profiles – since the turn of the decade. The multi-strategy index is up about 210 per cent over that period, net of expenses – better than more celebrated sub-categories such as managed futures (+180) and equity long/short (+170).

If the numbers are to be believed, the real mystery is why the multi-strategy segment is not a whole lot bigger. Assets under management have grown from about $20bn in 280 funds in 2000 to $273bn in 845 at the end of last year. But that is from a total hedge fund pot of more than $1,600bn. Has most of this money been invested sub-optimally?

Not necessarily. For one thing, definitions are shaky. Many multi-strategy managers have in fact one single, blockbuster strategy with a few unsuccessful satellites tacked on. Diversification efforts do not always pay off, and it can take years to get, say, a distressed debt or Japanese equities team on board.

A second, more important reason is agency risk. Allowing managers to chase returns by switching capital into whatever strategy is hottest is all well and good, but that can also be done via a fund of hedge funds. Such vehicles may charge another layer of fees, eating up precious performance, but they will not be wiped out by fraud or a bad bet at one particular fund. Concentrating on a single manager, no matter how well performing, is not an easy sell – especially to relatively new buyers in a market scarred by recent collapses.

Post and read comments on this Lex

Copyright The Financial Times Limited 2008

 http://www.ft.com/cms/s/1/11fb192c-fcaa-11dc-961e-000077b07658.html

 http://www.bloomberg.com/apps/news?pid=

20601109&sid=aHacfhqvht2Q&refer=exclusive

Fed May Rethink Greenspan’s Hands-Off Approach Towards Bubbles
By Craig Torres and Vivien Lou Chen

March 28 (Bloomberg) — Federal Reserve officials may be rethinking their aversion to acting against asset-price bubbles, an article of faith during former Chairman Alan Greenspan’s 18 years at the helm.

After this month’s near-collapse of Bear Stearns Cos., Minneapolis Fed Bank President Gary Stern — the longest-serving policy maker — said in a speech yesterday that it’s possible “to build support” for practices “designed to prevent excesses.” New York Fed President Timothy Geithner, whose district bank took on almost $30 billion of Bear Stearns assets to rescue the firm, argued two years ago for a larger role for asset prices in decision-making, and there’s no indication his views have changed.

For Fed policy makers, “the consequences of their permissiveness have become so disastrous that they simply can’t keep singing the same old tune in public,” said Tom Schlesinger, executive director at the Financial Markets Center in Howardsville, Virginia.

While the soul-searching is unlikely to result in immediate changes to monetary policy, Stern’s comments show how the credit freeze has forced officials to scrutinize long-held philosophies about the Fed’s role in markets, and even ask how their current policies may undercut those views.

“As a risk manager, the Fed needs to take account of both directions, not just dealing with the aftermath,” said Bruce Kasman, chief economist at JPMorgan Chase & Co. in New York. “We have had two asset-prices bubbles in the last 10 years that have had big implications for the Fed’s desire for a more stable macroeconomy.”

Stern’s Reflection

Stern, 63, has been president of the Minneapolis Fed since 1985 and is currently a voting member of the rate-setting Federal Open Market Committee. In his speech to the European Economics and Financial Centre in London yesterday, he said that “while I have not yet changed my opinion that asset-price levels should not be an objective of monetary policy, I am reviewing this conclusion in the wake of the fallout from the decline in house prices and from the earlier collapse of prices of technology stocks.”

He added that “it is well within the realm of possibility for policy makers to build support for, and at least obtain tolerance of, policies designed to address excesses.”

Fed officials have spent years wrestling with how to prevent bubbles without damaging the economy through high interest rates, and few have come up with an answer. That’s partly because the debate focused on use of the main policy rate instead of regulatory tools.

Greenspan Philosophy

For two decades, the ruling philosophy has been Greenspan’s. “It is far from obvious that bubbles, even if identified early, can be pre-empted at a lower cost than a substantial economic contraction and possible financial destabilization,” Greenspan told the American Economic Association in 2004.

“I have always said if we could defuse a nascent asset bubble, I would be all for it,” Greenspan, 82, said in an e- mailed response to a question yesterday. “The reason I am against is that in my experience it cannot be done. I know of no occasion when such actions have been successful.”

But his successor, Ben S. Bernanke, and his team now find themselves reconsidering their approach to everything from regulation to the fate of the world’s largest securities dealers. The collapse of the U.S. subprime-mortgage market has led to $208 billion in writedowns and credit losses since the start of 2007, pushing Bear to the brink of bankruptcy before its purchase by JPMorgan.

In his public remarks, Bernanke, 54, has opposed using interest rates to rein in asset prices, favoring keeping the benchmark rate focused on managing growth and inflation.

Role For Regulation

At the same time, he does see a role for regulations to reduce the likelihood of bubbles and protect institutions when they pop. He is also open to using other tools, as his response to the seven-month credit crisis has shown. And if the Fed gets more supervisory responsibility for securities firms, officials are likely to take more interest in policies that can discipline markets and balance incentives, economists said.

“If it is the case that asset prices matter for the intermediation of credit, then they have to worry about it,” said Vincent Reinhart, former director of the Fed’s Monetary Affairs Division, and now a scholar at the American Enterprise Institute in Washington.

The Fed has cut the benchmark rate 2 percentage points this year, the fastest pace in two decades. Bernanke has also changed the composition of the Fed balance sheet, absorbing more mortgage bonds, and swapping Treasuries for even private-label and commercial mortgage-backed securities, in effect influencing prices of securities tied to housing.

Bailout `Hazards’

Stern has spoken publicly only seven times in the last year. The Minneapolis president co-authored a 2004 book called “Too Big to Fail: the Hazards of Bank Bailouts,” which concluded that while governments shouldn’t avoid public support for creditors of failing banks, they should minimize that backing because of the distortions it produces.

“If someone like that, steeped in the Fed’s traditions, opens the door to a new or different approach to policy, we have to take it seriously,” said Robert McTeer, a former president of the Dallas Fed.

To contact the reporter on this story: Vivien Lou Chen in San Francisco at vchen1@bloomberg.net

Last Updated: March 28, 2008 00:01 EDT

 Stiglitz numbering now?

March 28, 2008, 11:09 am

Six Degrees of Joseph Stiglitz

Paul Erdos was a peripatetic and immensely prolific Hungarian mathematician who worked with hundreds of collaborators on a broad range of mathematical problems.

Stiglitz

If you drew a diagram linking different mathematicians, many of the lines would cross at Erdos. That’s given rise to what’s known as an Erdos number. People who collaborated directly with Erdos have an Erdos number of 1. People who collaborated with those collaborators have an Erdos number of two. And so on. Erdos, who died in 1996, has an Erdos number of zero.

Nobody in economics has been quite as prolific as Erdos, who wrote over 1500 papers — probably a good thing, considering Erdos’s amphetamine use. But a careful analysis (consisting of a few emails to economists) suggests that Columbia University’s Joseph Stiglitz is the economist with the most Erdos-like output.

Mr. Stiglitz, a Nobel laureate, has written over 600 articles and books. His C.V. runs to 59 pages — about as long as a typical economics paper. He’s slowed down in the past decade (slow being a relative term), but in his heyday he ran the gamut, writing on everything from finance to environmental economics. Much of what he’s written, he’s written with others — he has over a hundred co-authors. Among them are Avinash Dixit, at Princeton, William Easterly at NYU, financial theoretician and fund manager Rob Arnott and brothers Peter, Michael and Jonathan Orszag. All of these people get a Stiglitz number of 1.

Federal Reserve Chairman Ben Bernanke gets a Stiglitz number of 2 — he’s co-written with Princeton economist Alan Blinder, who’s co-written with Stiglitz. MIT’s James Poterba, who’s about to take over the helm at the National Bureau of Economic Research also gets a 2 — he’s co-written with Columbia’s Jeffrey Sachs, who’s co-written with Mr. Stiglitz. “Freakonomics” author Steven Levitt of the University of Chicago has co-written with Mr. Poterba. He gets a 3.

Erdos’s Stiglitz number is 4. –Justin Lahart

Permalink | Trackback URL: http://blogs.wsj.com/economics/2008/03/28/

six-degrees-of-joseph-stiglitz/?mod=WSJBlog/trackback/

Pensions accounting

Published: March 27 2008 09:08 | Last updated: March 27 2008 09:08

The introduction of international financial reporting standards to Europe in 2005, has been broadly successful. However, standard-setters have given too much priority to philosophical issues – such as probing the limits of fair value – at the expense of removing flaws in existing standards. The latest consultation on pensions from the International Accounting Standards Board, the guardian of international financial reporting standards, is, therefore, a welcome initiative. There are still big debates on pensions such as on what interest rate to use to discount liabilities. But the IASB has taken the opportunity to tie up two loose ends.

First it wants to remove a fudge. In principle, under IFRS, companies show on their balance sheet the latest market value of pension scheme assets and liabilities, discounted at a bond-type rate. Companies may, however, opt for a “corridor” approach, allowing them to defer recognition of big valuation swings in a scheme. Use of the corridor is popular in continental Europe, less so in the UK. It is also a nonsense. The IASB is rightly pushing for immediate recognition. Since most pension schemes have enjoyed years of rising equities, and thus have deferred gains, the IASB will likely get its way.

Second, the IASB wants to eliminate the bizarre phenomenon whereby companies with pension deficits actually report profits from them. The profit and loss statement, rightly, includes the notional interest cost on the gross obligation. But the notional income from the pension assets can be set by the company at a far higher rate. The IASB has several proposals to clean this up. The best is to cap the notional income at a cash-like rate. Any valuation moves beyond this can be disclosed and marked to the balance sheet. The result of the proposals should be that a company with a pension deficit will actually have a reciprocal expense in its P&L, and that its balance sheet is accurate: a triumph for common sense.

Copyright The Financial Times Limited 2008

http://www.ft.com/cms/s/1/ec405342-fbdb-11dc-9229-000077b07658.html

Regulating the broker-dealers

Published: March 26 2008 14:36 | Last updated: March 26 2008 20:47

How will Wall Street fare under greater regulation? US Treasury secretary Hank Paulson raised the possibility on Wednesday, which should not have come as a big surprise. If – and it is still a big if – the Federal Reserve is going to give investment banks access to the discount window, not just as an emergency measure but longer-term as well, it is going to want more oversight.

One area that is striking is the high leverage ratios of the investment banks, which, even on a net basis, have been rising during the past few years to levels not seen since the late 1990s. About 50 per cent of the earnings improvement for the sector has come from this increased leverage since the end of 2003, according to Bernstein Research.

With or without regulation, the broker-dealers are likely to want to bring those ratios down anyway. Some have boosted their capital; some will limit asset growth. None of this is easy in the current market, with writedowns piling up as well. You can de-leverage the balance sheet quickly and badly if, for instance, you flog highly liquid assets.

It is, though, worth remembering that the Bear Stearns implosion was not caused directly by leverage or lack of capital. It was a liquidity crisis. Here the focus could be refined. Currently the main issue is how the broker-dealers would cope with a seizing up of the unsecured funding market. But this was not what sunk Bear. It was the fear among counterparties in the secured market.

Ultimately, the broker-dealers may have to live with a lot more demand for information: what their liquidity position looks like, on what terms they can borrow and how they are valuing their less liquid assets. Whether this knowledge gives the regulators much more power to prevent the next crisis is another question.

Copyright The Financial Times Limited 2008

http://www.ft.com/cms/s/1/04832ad2-fb42-11dc-8c3e-000077b07658.html

Investcorp sells service stops for £500m

By Pan Kwan Yuk

Published: March 28 2008 20:43 | Last updated: March 28 2008 20:43

Welcome Break, the UK’s second-largest motorway services operator, has been sold by Investcorp to a consortium of infrastructure investors led by NIBC, the Dutch bank.

The terms of the transaction were not disclosed but Appia Investments – as the consortium is called – is understood to have agreed to pay about £500m.

While the sale price is what Investcorp had hoped to fetch, it was just enough to allow the Bahrain-based private equity group to break even on its investment after 11 years.

Investcorp bought Welcome Break in 1997 for £473m, financing the deal through a pioneering “whole business” securitisation involving a £376m bond issue. The plan was to invest heavily in run-down sites to transform profit growth, but the business hit trouble soon after the acquisition, requiring a change in management and strategy and the injection of emergency funds.

Over the past decade, Investcorp is thought to have invested more than £400m in the company, though a £300m leveraged recapitalisation last year – resulting in a dividend payment of about £150m – has allowed the private equity firm to recoup most of its original equity investment.

Investcorp could not be reached for comment. A person familiar with the business said the deal did not produce the most stellar returns for the group. “Let’s just say it was not one of their most successful investments,” the person said.

In a statement, James Mahoney, of Investcorp’s private equity team, said: “We are pleased to have concluded this transaction. This outcome demonstrates particular strengths of Investcorp’s business model and our willingness to support portfolio companies.”

Welcome Break’s 23 sites with average leases of 33 years have an annual footfall of 80m people and provide highly-stable long term cash flows, hence the interest from infrastructure funds. Profits in the year to September 2007 amounted to £40m.

Copyright The Financial Times Limited 2008

http://www.ft.com/cms/s/0/a6e82a50-fd06-11dc-961e-000077b07658.html

Investcorp puts Welcome Break up for sale - Oct-19

Gulf fund to tap domestic investment - Jul-09

Investcorp buys Icopal for $1.1bn - Jun-15

Investcorp snaps up UK oil services group - Jan-02

Polestar investors set to lose £700m - Dec-07

Investcorp begins roadshow for LSE listing - Nov-19

Ten Days That Changed Capitalism

Officials Improvised
To Rescue Markets;
Will It Be Enough?
March 27, 2008; Page A1

The past 10 days will be remembered as the time the U.S. government discarded a half-century of rules to save American financial capitalism from collapse.

On the Richter scale of government activism, the government’s recent actions don’t (yet) register at FDR levels. They are shrouded in technicalities and buried in a pile of new acronyms.

But something big just happened. It happened without an explicit vote by Congress. And, though the Treasury hasn’t cut any checks for housing or Wall Street rescues, billions of dollars of taxpayer money were put at risk. A Republican administration, not eager to be viewed as the second coming of the Hoover administration, showed it no longer believes the market can sort out the mess.

“The Government of Last Resort is working with the Lender of Last Resort to shore up the housing and credit markets to avoid Great Depression II,” economist Ed Yardeni wrote to clients.

First, over St. Patrick’s Day weekend, the Fed (aka the Lender of Last Resort) and the Treasury forced the sale of Bear Stearns, the fifth-largest U.S. investment bank, to J.P. Morgan Chase at a price so low that a shareholder rebellion prompted J.P. Morgan to raise the price. To induce J.P. Morgan to do the deal, the Fed agreed to take losses or gains, if any, on up to $29 billion of securities in Bear Stearns’s portfolio. The outcome will influence the sum the Fed turns over to the Treasury, so this is taxpayer money; that’s why the Fed sought Treasury Secretary Henry Paulson’s OK.

DISCUSSION

Has the U.S. government done enough to save American financial capitalism, or has it crossed a line? Join a discussion.

Then the Fed lent directly to Wall Street securities firms for the first time. Until now, the Fed has lent directly only to Main Street banks, those that take deposits from ordinary folks. That’s because banks were viewed as playing a unique economic role and, supposedly, were more closely regulated than other types of lenders. In the first three days of this new era, securities firms borrowed an average of $31.3 billion a day from the Fed. That’s not small change, and it’s why Mr. Paulson, after the fact, is endorsing changes to give the Fed more access to these firms’ books.

Increased Leverage

In the days that followed, the Republican Treasury secretary leaned on two shareholder-owned, though government-chartered, companies — Fannie Mae and Freddie Mac — to raise capital that their boards didn’t want to raise. In exchange, their government regulator allowed them to increase their leverage so they can buy about $200 billion more in mortgage-backed securities.

So Fannie and Freddie will get bigger, a welcome development when mortgage markets are in trouble. Already, they have regained lost market share. They accounted for 76% of new mortgages in the fourth quarter of last year, up from 46% in the second quarter, Mr. Paulson said Wednesday. But everyone knows that if Fannie or Freddie stumble, taxpayers will get stuck with the tab.

And then, the federal regulator of the low-profile Federal Home Loan Banks, which are even less well capitalized than Fannie and Freddie, said they could buy twice as many Fannie and Freddie-blessed mortgage-backed securities as previously permitted — more than $100 billion worth.

Was this necessary? It’s messy, uncomfortable and undoubtedly flawed in many details. Like firefighters rushing to a five-alarm fire, policy makers are making mistakes that will be apparent only in retrospect.

Too Great to Ignore

But, regardless of how we got here, the clear and present danger that the virus in the housing, mortgage and credit markets is infecting the overall economy is too great to ignore. The Great Depression was worsened because the initial government reaction was wrong-headed. Federal Reserve Chairman Ben Bernanke spent an academic career learning how to avoid repeating those mistakes.

Is it working? It is helping. One key measure is the gap between interest rates on mortgages and safe Treasury securities. A wide gap means high mortgage rates, which hurt an already sickly housing market. A lot of recent activity, including Wednesday’s previously planned auction in which the Fed is trading Treasurys for mortgage-backed securities, is aimed at increasing demand for those securities to drive down mortgage rates.

The gap remains enormous by historical standards, but has narrowed. On March 6, according to FTN Financial, 30-year fixed-rate mortgages were trading at 2.92 percentage points above the relevant Treasury rates; Wednesday the gap was down to 2.22. Normal is about 1.5 percentage points. Money markets are still under stress, as banks and others hoard cash and super-safe short-term Treasurys.

Is it enough? Probably not. Although it’s hard to know, the downward tug on the overall economy from falling house prices persists. The next step, if one proves necessary, is almost sure to require the explicit use of taxpayer money.

Cushion the Blow

The case for doing more is twofold. One is to cushion the blow to families and communities, even if some are culpable. The other is to disrupt a dangerous downward spiral in which falling prices of houses and mortgage-backed securities lead lenders to pull back, hurting the economy and dragging asset prices down further, and so on.

In ordinary times, a capitalist economy lets prices — such as those of homes, mortgage-backed securities and stocks — fall to the point where the big-bucks crowd rushes in, hoping to make a killing. But if the big money remains on the sidelines, unpersuaded that a bottom is near, the wait for bargain hunters to take the plunge could be very long and very painful.

So the next step, no matter how it is dressed up, is likely to involve the government’s moving in ways that put a floor under prices, hoping that will limit the downside risks enough so more Americans are willing to buy homes and deeper-pocketed investors are willing, in effect, to lend them the money to do so.

Write to David Wessel at capital@wsj.com

 http://online.wsj.com/article/SB120657397294066915.html?mod=mostpop