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Could The Markets Crash Again? | Zero Hedge

Could The Markets Crash Again? | Zero Hedge.

This is the trillion-dollar question. From a common sense perspective, the simple answer is “absolutely!”

Since 1998, the markets have been in serial bubbles and busts, each one bigger than the last. A long-term chart of the S&P 500 shows us just how obvious this is (and yet the Fed argues it cannot see bubbles in advance?).

Moreover, we’ve been moving up the food chain in terms of the assets involved in each respective bubble and bust.

The Tech bubble was a stock bubble.

The 2007 bust was a housing bubble.

This next bust will be the sovereign bond bubble.

Why does this matter?

Because of the dreaded “C word” COLLATERAL.

In 2008, the world got a taste of what happens when a major collateral shortage hits the derivatives market. In very simple terms, the mispricing of several trillion (if not more) dollars’ worth of illiquid securities suddenly became obvious to the financial system.

This induced a collateral shortfall in the Credit Default Swap market ($50-$60 trillion) as everyone went scrambling to raise capital or demanded new, higher quality collateral on trillions of trades that turned out to be garbage.

This is why US Treasuries posted such an enormous rally in the 2008 bust (US Treasuries are the highest grade collateral out there).

Please note that Treasuries actually spiked in OCTOBER-NOVEMBER 2008… well before stocks bottomed in March 2009.

The reason?

The scrambling for collateral, NOT the alleged “flight to safety trade” that CNBC proclaims.

WHAT DOES THIS HAVE TO DO WITH TODAY?

The senior most assets backstopping the $600 trillion derivatives market are SOVEREIGN BONDS: US Treasuries, Japanese Government Bonds, German Bunds.

By keeping interest rates near zero, and pumping over $10 trillion into the financial system since 2007, the world’s Central Banks have forced investors to misprice the most prized collateral backstopping the entire derivatives system: SOVEREIGN BONDS.

SO what happens when the current bond bubble bursts and we begin to see bonds falling and yields rising?

Another collateral scramble begins… this time with a significant portion of the interest rate derivative market (over 80% of the $600 TRILLION derivative market) blowing up.

At that point, rising yields is the last thing we need to worry about. The assets backstopping a $600 trillion market themselves will be falling in value… which means that the real crisis… the crisis to which 2008 was the warm up, will be upon us.

This is why Central Banks are so committed to keeping rates low. This is also why all Central Bank policy has largely benefitted the large financial institutions (the Too Big To Fails) at the expense of Main Street…

THE CENTRAL BANKS AREN’T TRYING TO GROW THE ECONOMY, THEY’RE TRYING TO PROP UP THE FINANCIAL INSTITUTIONS’ DERIVATIVE TRADES.

To return to our initial question (is this just a temporary top in stocks or THE top?), THE top is what we truly have to watch out for because it will indicated that:

1)   The Grand Monetary experiment of the last five years is ending.

2)   THE Crisis (the one to which 2008 was just a warm up) is beginning.

 

For a FREE Investment Report outlining how to prepare for another market crash, swing by: www.gainspainscapital.com

 

Best Regards

 

Phoenix Capital Research

Could The Markets Crash Again? | Zero Hedge

Could The Markets Crash Again? | Zero Hedge.

This is the trillion-dollar question. From a common sense perspective, the simple answer is “absolutely!”

Since 1998, the markets have been in serial bubbles and busts, each one bigger than the last. A long-term chart of the S&P 500 shows us just how obvious this is (and yet the Fed argues it cannot see bubbles in advance?).

Moreover, we’ve been moving up the food chain in terms of the assets involved in each respective bubble and bust.

The Tech bubble was a stock bubble.

The 2007 bust was a housing bubble.

This next bust will be the sovereign bond bubble.

Why does this matter?

Because of the dreaded “C word” COLLATERAL.

In 2008, the world got a taste of what happens when a major collateral shortage hits the derivatives market. In very simple terms, the mispricing of several trillion (if not more) dollars’ worth of illiquid securities suddenly became obvious to the financial system.

This induced a collateral shortfall in the Credit Default Swap market ($50-$60 trillion) as everyone went scrambling to raise capital or demanded new, higher quality collateral on trillions of trades that turned out to be garbage.

This is why US Treasuries posted such an enormous rally in the 2008 bust (US Treasuries are the highest grade collateral out there).

Please note that Treasuries actually spiked in OCTOBER-NOVEMBER 2008… well before stocks bottomed in March 2009.

The reason?

The scrambling for collateral, NOT the alleged “flight to safety trade” that CNBC proclaims.

WHAT DOES THIS HAVE TO DO WITH TODAY?

The senior most assets backstopping the $600 trillion derivatives market are SOVEREIGN BONDS: US Treasuries, Japanese Government Bonds, German Bunds.

By keeping interest rates near zero, and pumping over $10 trillion into the financial system since 2007, the world’s Central Banks have forced investors to misprice the most prized collateral backstopping the entire derivatives system: SOVEREIGN BONDS.

SO what happens when the current bond bubble bursts and we begin to see bonds falling and yields rising?

Another collateral scramble begins… this time with a significant portion of the interest rate derivative market (over 80% of the $600 TRILLION derivative market) blowing up.

At that point, rising yields is the last thing we need to worry about. The assets backstopping a $600 trillion market themselves will be falling in value… which means that the real crisis… the crisis to which 2008 was the warm up, will be upon us.

This is why Central Banks are so committed to keeping rates low. This is also why all Central Bank policy has largely benefitted the large financial institutions (the Too Big To Fails) at the expense of Main Street…

THE CENTRAL BANKS AREN’T TRYING TO GROW THE ECONOMY, THEY’RE TRYING TO PROP UP THE FINANCIAL INSTITUTIONS’ DERIVATIVE TRADES.

To return to our initial question (is this just a temporary top in stocks or THE top?), THE top is what we truly have to watch out for because it will indicated that:

1)   The Grand Monetary experiment of the last five years is ending.

2)   THE Crisis (the one to which 2008 was just a warm up) is beginning.

 

For a FREE Investment Report outlining how to prepare for another market crash, swing by: www.gainspainscapital.com

 

Best Regards

 

Phoenix Capital Research

HAA HAA: Will Another Creditanstalt Be Revealed Once The Hypo Alpe Aldria “Black Box” Is Opened? | Zero Hedge

HAA HAA: Will Another Creditanstalt Be Revealed Once The Hypo Alpe Aldria “Black Box” Is Opened? | Zero Hedge.

Recall that the bank which precipitated the first Great Depression was Austria’s Creditanstalt, which declared bankruptcy on May 11, 1931 and which resulted in a global financial crisis, after its failure waterfalled into the chain-reaction of bank failures that marked the first systemic financial collapse. As part of CA’s rescue, Chancellor Otto Ender distributed the share of bailout costs between the Republic, the National Bank of Austria and the Rothschild family (and as a bit of historic trivia, following the Austrian Anschluss to Nazi Germany in 1938, Creditanstalt-Bankverein was targeted for a variety of reasons, leading to the arrest of Louis Nathaniel Rothschild and his imprisonment for the losses suffered by the Austrian state when the bank collapsed. Aggrieved, he emigrated to the US in 1939 after more than one year in custody).

A little over 80 years later, while the world is knee deep in explaining how snow during the 4th warmest January on record is the culprit for an abrupt and dramatic slowdown in world growth, and is following the geopolitical developments out of Crimea with great attention, the real action may once again be taking place in the small, quaint and quiet central European country, where yet another bank may be sowing the seeds of further financial mayhem.

Presenting Hypo Alpe Aldria (or “HAA” although certainly not funny as in funny HAA HAA: more shortly), a bank which in reality has been in the news for years following its nationalization in 2009 by the Austrian government to prevent a bank collapse. In fact, just last week, Austrian Chancellor Werner Faymann said the government is right to avert the collapse of Hypo Alpe-Adria-Bank International AG, as he cited the precedent of Creditanstalt, whose crash helped trigger the 1930s depression. “The crash of Creditanstalt in 1931 caused economic meltdown,” Faymann told parliament’s lower house in Vienna today. “There was a consensus in 2009 to act where necessary, to avoid the mistakes of the 1930s, to avoid a collapse by nationalizing and by installing protection measures at the European level.”

As a follow up, as Bloomberg also reports, the fate of HAA – whatever it ends up being – may have significant political consequences for the Austrian government. Again Bloomberg reports that “support for Austria’s ruling coalition is slipping five months after it won a narrow majority as inaction over the nationalized Hypo Alpe-Adria Bank International AG lifts backing for protest parties. Latest polls suggest voters are losing trust in Social Democratic Chancellor Werner Faymann and People’s Party Vice Chancellor Michael Spindelegger and warming to the euro-skeptic Freedom Party before May’s European Parliament elections. The Green and Neos parties also stand to gain, said Hubert Sickinger, a political scientist at the University of Vienna.”

“The ruling parties have a problem,” Sickinger said in an interview. “They postponed the Hypo Alpe ‘dead bank’ problem hoping that the economy would change but they’ve known since early 2013 that this wouldn’t help.”

One party that has been quite vocal on the issue of HAA is the Austrian Freedom Party nationalists, who seek to restrict immigration, and which has the most to gain from detouring the status quo as they would finish first in the EU parliamentary election, according to a Feb. 14 Gallup poll commissioned by the Oesterreich newspaper. The Freedom Party under deceased leader Joerg Haider helped build Hypo Alpe from a regional lender into one of the biggest banks in the Balkans.

“The European elections will be payback day” over the government’s handling of Hypo Alpe, said Franz Schellhorn, director of Agenda Austria, a Vienna-based research group.

“Anger is growing,” Schellhorn said in an interview today. “This black box has to be opened to see what is going on inside.”

It is the “opening of this black box” that suddenly has the entire investment community on edge, even if most of them hope the story simply goes away as it has for the past five years. Only this time it may be impossible to once again kick the can, er, box.

And while the legacy story of the post-bail out HAA may be known, it is the recent developments that are largely unknown and where the risks lie. This can be seen in the recent dramatic drop in HAA bond prices.

So why should people care about HAA? Bank of America explains:

The real surprise of the Hypo Alpe Adria (HAA) situation is not that bondholders may lose money, but the sight of the third richest country in Europe by per capita income apparently looking for ways out of paying what are clearly guaranteed debts of a 100% nationalized bank, for HAA debt is guaranteed by the Austrian State of Carinthia under a deficiency guarantee. The Austrian Finance Minister may be targeting a contribution from bondholders, according to reports on Bloomberg on Friday, We would consider it an astonishing turn of events if this actually ever came to pass, with wide-ranging negative implications for investors in not just Austria but potentially Europe as a whole.

What are the other implications from a potential HAA fallout? Here are the cliff notes:

  • Direct impacts: other Austrian banks?

Erste Bank and RBI will likely trade as proxies in any negative newsflow which could pressure their spreads. They aren’t really affected, though, in our view.

  • Indirect: negative for marginal banks

The Carinthia guarantee is a throwback to a very different banking world – when banks enjoyed implicit and explicit institutional support. Those days are over. We underline
that we have moved to a bail-in regime where investors will contribute to the costs of bank clean-up. This has implications for other very marginal banks e.g. the Cooperative Bank in the UK which we think is struggling.

  • Why the fuss? Who pays for HAA?

The European Commission in its decision on State Aid (dated 3rd Sept 2013) puts the capital need at €5.4bn in a stressed scenario. Liquidity needs are put at up to €3.3bn, meaning that the total outlay could be as high as an extra €8.7bn, in addition to the billions that have already been committed by the current and former shareholders. HAA’s total assets as of June 2013 were ‘only’ €31.3bn, recall.

  • What kind of outcomes for HAA?

We struggle to see how those positing bondholder losses get around the guarantee from Carinthia and all that implies. However, with lower cash prices in many of the bonds, perhaps the way forward opens up for e.g. substitution (of Austria for Carinthia) at a discount. There may also be the time value of return of principal to factor in.

  • Negative outcomes: maybe tough to do

If the Austrian Government decides to be tough, then the negative scenarios for HAA bondholders are potentially many. The Government may be somewhat hampered however by the fact that HAA bonds under the 2006 Prospectus are issued under German Law.

* * *

For the extended, and must read, notes on what Hypo may lead to, here is the full note from Bank of America’s Richard Thomas:

Funny HAA HAA or funny peculiar? Implications of Hypo Alpe Adria

HAA – the implications

The emerging crisis re: how to resolve Austria’s Hypo Alpe Adria (HAA) looks like it’s already one destined for the textbooks.

It has been rumbling around in our ‘bank peripheral vision’ for years as a problem child but now seems to be coming to a head because of what appears to be increased political pressure for a solution that potentially involves the imposition of senior bondholder losses in the mix. As such, we need to look at it to see what read-across, if any, there is to other European banks, as it seems to represent a hardening of attitudes to bank resolution amongst one of Europe’s richest countries.

We do not express an opinion or investment recommendation on the securities of HAA itself. Using conventional bank analysis, we believe that HAA is potentially uninvestable not only because of its evident non-viability and the lack of appetite to save it but also because of the allegations of past misconduct, as widely reported in the press, and what appears to be ongoing incompetence e.g. leasing invoicing ‘irregularities’ in Italy provided against as recently as in 1H13 numbers. The outcome for bondholders will ultimately be based on Austria’s view of its obligations and how it deals with the Carinthia guarantee, in our view. We expect that prices will therefore trade according to the last comment from someone important – highly unpredictable. For example, they were down on Friday following comments from the Austrian FinMin, but up this morning on comments over the weekend from the Head of the Austrian Central Bank. A final decision on what happens could be many months out.

For us, the shock of the current situation is not so much about bail-in being applied in the case of a failed bank – like most credit investors, we are used to this by now. The real surprise of the situation is the sight of the third richest country in Europe by per capita income apparently trying to manoeuvre out of paying what are clearly guaranteed debts (HAA debt is guaranteed by the State of Carinthia). We would consider it an astonishing turn of events if this actually ever came to pass, with wide ranging negative implications for investors in not just Austria but Europe as a whole.

Direct implications?

The read across from HAA to other banks is weak, in our view. However, there are a few implications to highlight which may impact spreads.

  • The most directly impacted bank would seem to be Bayerische Landesbank (BYLAN), former owner of the bank and where there is still some outstanding exposure. BofAML analyst Jeroen Julius talked about this in his note on BYLAN last week here. We remain Underweight-70% the BYLAN 5.75% T2 bonds. There is still an outstanding line of €2.3bn from BYLAN to HAA of which we understand €1.8bn was due at end 2013 – by March (if not sooner) then this will need to move to an impaired classification. HAA is saying that these monies are an equity substitute and are trying to claw back €2.3bn already repaid. Our view is that BYLAN may sacrifice some of the outstanding amount in  any settlement but seem unlikely to have to pay back the repaid amount. In the meantime, it seems that they do have a say in some of the levers which Austria may want to use in resolving HAA, so their negotiating stance looks solid.
  • Other widely traded banks where spreads could come under pressure are Erste Bank and RBI. We will likely see these banks trade as proxies in any negative newsflow which could pressure their spreads – their illiquid CDS is probably already trading some 10-15bps wider in senior and ~13bps wider in sub CDS. These banks should be much more sensitive to negative news from Central and Eastern Europe rather than Austria though, in our view, given their focus on emerging economies.
  • RBI’s exposure to Austria reflects its domicile and the corporate ties between Austrian companies and the EE corporates where most of RBI’s operations are placed. It does not have direct exposure to the Austrian complex in the way that e.g. BAWAG or Erste Bank have. The RBIAV 6% is probably down a point from its highs in the last week or so. We see the impact on RBI as quite tangential: if Austria takes a tough stance with bondholders, it’s more negative for sentiment on the banks, given that it implies a reduced sovereign exposure – so hardly negative for the sovereign from e.g. higher debt levels, albeit lower contingent liabilities.
  • About half of Erste Bank’s credit risk exposure is to Austria. It is therefore more of an ‘Austrian’ bank than RBI but that’s not really the problem here, in our view.
  • We are still very comfortable with RBI at this point, especially given the recent capital increase. However, we recommend reducing risk by switching into lower cash priced bonds versus higher cash price bonds. That means out of e.g. the 6.625% bond with a cash price of about €113 into lower cash priced bonds like the 6% (€106.5) or the 5.163%, though this is a much more illiquid security. We downgrade the 6.625% bonds to Underweight-30%.

Indirect implications?

The wider implications of what happens in the HAA case include:

  • If we do move to some kind of forced loss imposition from Austria on these bonds, then it probably isn’t a good moment for bank risk (or indeed European risk). However, as we explain, in this case loss imposition is rather tricky to do, given the existence of the guarantees from Carinthia.
  • Whatever happens, we see the HAA situation as reflecting a growing impatience with marginal and near-failing banks and that a hard line is likely to be followed in resolving them. It underlines that we have moved to a bail-in regime where investors will contribute to the costs of bank clean-up. This has implications for other very marginal banks e.g. the Cooperative Bank in the UK which we think is struggling. Underweight-70% the 11% T2 bonds of the Coop Bank at £123.
  • The Carinthia guarantee is a throwback to a very different banking world – when banks enjoyed implicit and explicit institutional support. Those days are over. Such support often allowed excessive expansion on the back of cheap funding – we can point to the continued need for adjustment in the Landesbank sector for evidence of that.
  • One final point: in our view there would be a negative read-across to the German Landesbanken more generally if a way was found around the deficiency guarantee in this case. The Landesbanken heavily rely on State guarantees. For example, HSH Nordbank has a €10bn guarantee (that helps its capital position) form Hamburg and Schleswig- Holstein.

Funny HAA HAA or funny peculiar?

A special case?

We think there is a good argument for saying that HAA is a special case amongst European banks. One can read its downfall and subsequent full nationalization as a familiar juxtaposition of overexpansion (in the former Yugoslavia) without sufficient risk controls being in place as a result of too cheap funding, owing to its funding guarantee from the Austrian State of Carinthia (currently rated A2 by Moody’s). Yet the narrative is worsened by allegations of serious past misconduct involving money laundering, fraud and possibly murder. See for example The Economist, Sept 9th 2010 or the New York Times, October 20th 2010.

Whilst mismanagement may well have been a feature of some European banks before the crisis; we would hesitate to attribute this level of alleged misconduct, however, to even many of the most stressed European banks. The nature of the allegations, in our view, serves to underline Austrian public antipathy for taxpayers having to pay for the continuing losses at the bank. It also differentiates it sharply from other European, and of course Austrian, banks. HAA’s situation and alleged misconduct is simply too severe to have systemic implications for other Austrian banks, in our view.

Could there be a haircut? Wait!

Bloomberg reports that two thirds of the Austrian public is against the use of further public monies being used to prop up the bank. With such a powerful consensus against such a move and elections next year, it’s not surprising that recently the rhetoric has turned firmly towards finding solutions for HAA that involve imposing losses somewhere – anywhere – other than at the door of the Austrian taxpayer. Hence, the comments from the Finance Minister Spindelegger on Feb 21 that Austria was looking at ways to get bondholders to contribute.

So far, so straightforward: the only problem is that the bulk of HAA senior bonds enjoy a deficiency guarantee from the State of Carinthia. This complicates the burden sharing. We note, by the way, that the EC ruling on State Aid for HAA made no mention of senior bondholder losses at all. Is it really possible to get around the deficiency guarantee and impose losses?

Our understanding is that the deficiency guarantee is not quite like other guarantees. It’s this ‘gap’ that allowed Moody’s to downgrade HAA to Baa2 from A1 on Feb 14. It means that a creditor must have attempted in vain to satisfy his or her claims against (in this case) HAA first before he can use the guarantee, though not if bankruptcy proceedings were already started. Non-payment alone may not be sufficient to invoke the guarantee, absent due process. Even so, it still looks to us that it’s just a matter of time before creditors could ask Carinthia to satisfy their claims. It seems doubtful that the State could afford to perform on the guarantee however with the €12.3bn or more of bonds being many multiples of Carinthia’s income, according to Moody’sIt seems hardly credible that we could be looking at bankruptcy of a Federal State of one of the richest countries in Europe.

Hence, the dilemma. This really would be a new departure for a European country – we’ve had bondholder haircuts before, but not on instruments guaranteed by a governmental entity like Carinthia.

What’s the size of the hole at HAA?

The European Commission in its decision on State Aid (dated 3rd Sept 2013) puts the capital need at €5.4bn in its stressed, or worst case, scenario. Similarly, the liquidity needs are put at €3.3bn in the stressed scenario, assuming that the above capital is provided in cash, meaning that the total outlay could be as high as €8.7bn, in addition to the billions that have already been committed by the current and former shareholders. HAA’s total assets as of June 2013 were ‘only’ €31.3bn, remember, and of this, €3.5bn was already earmarked as for disposal – giving a pro forma number of €27.8bn. To put this in further context, existing capital resources at HAA (equity plus sub debt) are €3bn, and provisions existing already are €3.5bn. Loans net of provisions are ~€17bn.

The now former Chairman of the Bank, Mr. Liebscher, has previously commented that HAA could require up to €4bn of further capital (‘only €400mn a year over 10 years’). Capital needs could vary considerably if assets were transferred out of the regulatory capital environment e.g. to an asset management company, since these require much less capital. We note too that Weiner has reported that the loss for the year at HAA may have grown to €1.8bn (from the €0.8bn at half year 2013) – we think it’s likely that is already reflected in the EC’s numbers though we’re not completely sure.

The €5.4bn of capital needs calculated by the EC could be higher or lower therefore but let’s use it as a basis for thinking about outcomes. Are there any offsets? Certainly,
HAA believes so. It is claiming that €4.6bn of funds extended to the bank in 2008 by BayernLB is an equity substitution under Austrian Law. €2.3bn of this is still outstanding (it’s not being serviced by HAA) but HAA has applied to the Munich Regional Court for a return of amounts that they’ve already paid back. Our core case is that BayernLB will lose some of this money (if only to settle the case) but we have no real idea how much they and HAA would settle at, of course, or if they will settle at all.

How (much) could bondholders pay?

Is it conceivable that the senior bondholders could be expected to contribute a sizeable chunk of the €5.4bn? As of end-June 2013, issued bonds at HAA totaled €11.1bn (we exclude Pfandbriefe); we don’t have data for any redemptions in 2H13. We do however know that there is a very substantial redemption of senior debt on March 17th of €750m (the HAA 3.75% bond). Again, the interim financials showed a cash balance of €2.6bn at the bank which on its own should comfortably cover the repayment. We are more skeptical about HAA’s liquidity, given the continued deterioration of its financial position implied by the reported further €1bn loss in 2H13. Perhaps it is this that is focusing the attention of Austrian policymakers on bondholders.

Repaying this bond would be a substantial cash outflow from the bank and bondholders would be getting par – these bonds are currently quoted at a mid-cash price of ~€96 but the bid/offer is something like 5 points, underlining the huge uncertainty. But it would also probably be taken as a pointer towards future treatment of bonds and so, if repaid, would likely positively impact prices.

The €5.4bn additional capital need would imply a forced senior bondholder haircut of anything from 20% upwards in our view depending on what is considered the pool of bailin-able liabilities, though admittedly we find it quite hard to believe this will be the actual outcome at this point. This number could be kept down not least by any  settlement with BayernLB – and we can’t really imagine that Austria will make a zero contribution here. Even the €5.4bn total capital needs number calculated by the EC is ‘only’ about 2% of Austrian GDP.

We also struggle to see how those positing bondholder losses get around the guarantee from Carinthia and all that implies. It’s this, we think, that is the really interesting part for European bank bondholders. We have seen headlines suggesting that the Republic of Austria would substitute itself as guarantor for the bonds, subject to bondholders agreeing to a substantial haircut.When the bonds were at par, that looked really unlikely, but with e.g. the 2016 and 2017 bonds having traded down so dramatically in the last few days (currently quoted with a cash price at around €85-86), perhaps the conditions are beginning to evolve for this type of liability management.

Ultimately, we think it’s unlikely that Carinthia could pay back bondholders and remain solvent itself – as Moody’s highlights in its downgrade of the State on Feb 14 2014, the debt outstanding is some six times Carinthia’s 2013 budgeted operating revenue. Recall that HAA is 100% owned by the Republic of Austria – it seems unlikely that the shareholder would enforce the insolvency of a regional State without acting itself.

We also wonder if there is some leeway in terms of the timing difference implied by the final payment under the deficiency guarantee – how prompt might this be? Months? Years? Longer? If it could be demonstrated that bondholders would have to wait many years before getting any of their principal back, then perhaps there is the basis for an offer that gives investors liquidity today, albeit at a discounted price.

What could induce bondholders to agree to any changes?

We suspect that this is currently under consideration – there likely is little limit to the scenarios that could be conceived, but it all depends on the view the Republic takes of itself in the markets and its concerns about any likely fallout from its actions. Freezing the liabilities of the bank and the guarantee? Rescission of the guarantee? Anything is possible but perhaps some of these worst scenarios are not the most probable. However, what is clear is that the outcome for bondholders, as we have seen before in these haircut scenarios, is highly unpredictable and politicized.

In spite of the Austrian Finance Minister’s comments to the contrary, we are of the view that most HAA bonds are still with the original, investment grade, investor base. We believe that the rotation into ‘trader’ or ‘hot money’ hands is probably only still at the beginning – only recently have we heard that blocks of bonds have been coming out, rather than the trading of very small amounts. This could change rapidly in the coming weeks if Austria decides to step up the bondholder loss rhetoric of course but at this point, it would be ordinary money managers, we think, who would be absorbing most of the losses, not hot money or speculators.

As an added twist, we note that HAA bonds issued under the August 2006 Prospectus are under German Law (rather than Austrian). Again, this points in the direction of either repayment of the bonds under the guarantee, or a negotiated settlement with bondholders, rather than the imposition of an arrangement by the Austrian Government, since legally they may not have the flexibility to do much else.

* * *

In conclusion all we have to add is that it would indeed be supremely ironic if the “strong” foreign law bond indenture would be tested, and breached, not by Greek bonds, as so many expected in late 2011 and early 2012, but by one of the last contries in Europe which is still AAA-rated. We would find it less ironic if the next leg of the global financial crisis was once again unleashed by an Austrian bank: after all history does rhyme…

Ukraine Military Reveals Protesters Stole Weapons Cache; Guilty Of “Terrorist Acts” | Zero Hedge

Ukraine Military Reveals Protesters Stole Weapons Cache; Guilty Of “Terrorist Acts” | Zero Hedge.

With Putin hoping that they can just keep it from going full civil war for a few more days, Ukraine continues to slide towards a dismal result. This morning sees the next level of escalation in the break-away Western region:

  • *UKRAINE’S SECURITY SERVICE SAYS WEAPONS CACHE STOLEN: INTERFAX
  • *UKRAINE SECURITY SERVICE SAYS PROTESTERS SEIZED 1,500 GUNS
  • *UKRAINE SERVICE SAYS PROTESTERS SEIZED 100,000 ROUNDS OF AMMO
  • *UKRAINE SERVICE SAYS PROTESTERS GUILTY OF `TERRORIST ACTS’

And with that, the ‘excuse’ the military needed to get involved as Interfax reports the Ukraine’s SBU starts “Anti-terrorist” operation in the Western region of Ivano-Frankvisk. With 25 dead and 241 injured, according to the AP, we suspect these numbers are sadly just the start.

Via Interfax,

Volodymyr Porodko, deputy head of the Ukrainian Security Service, said weapons and ammunition have been stolen from the Ukrainian Security Service department in Ivano-Frankivsk.

A total of 268 service pistols, two rifles, three assault rifles, 92 grenades, and some 15,000 cartridges were seized in the Ukrainian Security Service department in Ivano-Frankivsk,” he said while meeting with foreign ambassadors in the Ukrainian Foreign Ministry on Wednesday.

Russia is starting to comment:

Extremists are to blame for the events happening in Ukraine, however opposition forces, which refused the compromise, and Western countries, which interfered in the domestic affairs of Ukraine, bare some responsibility as well, Russian Foreign Minister Sergei Lavrov said.

Of course, the blame is on extremists, who tried all these weeks and all these months to bring the situation to such forceful scenario but considerable share of responsibility is also on opposition activists, who refused compromise, gave the authorities demands outside the legal frame and in the end turned out to be incapable to fulfill what has been agreed,” Lavrov said at a news conference following a meeting with his Kuwaiti counterpart.

Ukraine CDS spiked to 4 year highs…

The Tanks Are Rolling In Post-Devaluation Kazakhstan | Zero Hedge

The Tanks Are Rolling In Post-Devaluation Kazakhstan | Zero Hedge.

Following the 20% devaluation of Kazakhstan’s currency on Tuesday, the nation has quietly drifted into a very un-safe scenario. As the following clip shows, tanks and Humvees are lining the streets around Almaty as stores are closed and food is running desperately short. Local accounts note that the people are growing increasingly indignant. At a mere 192bps, the cost of protecting Kazakhstan sovereign debt from default (or further devaluation) seems cheap in light of this.

Tanks and Humvees lining the streets around the largest city in Kazakhstan…

Kazakhstan CDS remain notably cheap…

Bankruptcy In The USSA: Detroit Bondholders About To Be GM’ed In Favor Of Pensioners | Zero Hedge

Bankruptcy In The USSA: Detroit Bondholders About To Be GM’ed In Favor Of Pensioners | Zero Hedge.

First, the Obama administration showed during the course of the GM and Chrysler bankruptcy proceedings, that when it comes to Most Preferred Voter classes, some unsecured creditors – namely labor unions, and the millions of votes they bring – are more equal than other unsecured creditors – namely bondholders, and the zero votes they bring. Five years later we are about to get a stark reminder that under the superpriority rule of a community organizer for whom “fairness” trumps contract law any day, it is now Detroit’s turn to make a mockery of the recovery waterfall. As it turns out, bankrupt Detroit is proposing to favor pension funds at roughly double the rate of bondholders to resolve an estimated $18 billion in long-term obligations, according to a draft of a debt-cutting plan reviewed by The Wall Street Journal.

The breakdown to unsecured stakeholders would be as follows: 40% recovery for pension funds, 20% for unsecured bondholders – all this to the same pari class of unsecured creditors. Because just like in Europe when cashing out on CDS in insolvent nations is prohibited as it would suggest that the entire Eurozone experiment is one epic farce, regardless of how much “political capital” Goldman Sachs has invested in it, so in the US municipal creditors are realizing that in the worst case scenario, they will be layered first and foremost by all those whose votes are critical in keeping this crony administration in power.

According to the WSJ the plan calls for recovery to be divided among the unsecureds amounting to $4.2 billion, more than the originally planned $2 billion to settle claims which included about $11 billion in unsecured debt, including $6 billion in health and other benefits for retirees; $3.5 billion for retiree pensions; and about $530 million in general-obligation bonds.

There is a possibility that final “math” in the Plan of Reorg is changed before the final draft.

It was unclear from the plan reviewed by the Journal whether the city is using all of the same estimates for the money owed to unsecured creditors in its draft plan. A person familiar with the draft plan said the recovery rate for the pension funds could end lower than the balance sheet shows.

 

Details of the plan sent to creditors on Wednesday have been kept under wraps as the city and its debtholders continue to talk in closed-door mediation. The city sent its working draft to creditors in the hopes that the plan with a richer payout might spur some of them to settle with the city individually or, in the least, offer their own suggestions toward modifying the overall proposal, according to another person familiar with the matter.

 

The formal plan is expected to be filed in federal court in Detroit within two weeks, officials said. Creditors will vote on the plan, but the final decision rests with the court.

Still, the probability is that Kevyn Orr has finally gotten cold feet on playing hard ball with the unions. “The proposed plan provides the road map for all parties to resolve all outstanding issues and facilitate the city’s efforts to achieve long-term financial health,” Detroit Emergency Manager Kevyn Orr said in a statement Wednesday. Mr. Orr’s spokesman declined Thursday to comment on the plan’s details. Several creditors, who were opposed to the city’s early plans to offer creditors, including bondholders and pension funds, less than 20 cents on the dollars owed to them, also declined to comment.”

One can only imagine the amount of “Steve Rattnering” that must have gone on behind the scenes, and how much more is still set to happen, for such a skewed plan to pass the bankruptcy judge over creditor objections. Which it will once the president makes a phone call.

Then again, with contract law abrogated as was made very clear with this administration’s first steps into the “Fairness Doctrine” back in 2009 and the bankruptcy of GM and Chrysler, nothing can, or should, surprise one any more.

Russia Ruble Collapse Escalates To Record Low | Zero Hedge

Russia Ruble Collapse Escalates To Record Low | Zero Hedge.

With all eyes on Russia over the next month as the Sochi Winter Olympics ramps up, we are sure having the market’s attention on a collapsing currency is not what Putin had in mind before he dropped $50 billion to make it snow. While the Ruble remains just above record lows against the USD, Bloomberg reports that it has dropped to a record low against the central bank’s dollar-euro basket. Russia’s finance minister proclaimed today (Erdogan style?) that Bank Rossii should not raise rates (which has been unchanged at 5.5% for the last 15 months). Russian CDS is widening (193bps at 4 month highs) but not cratering like other EM currencies but MICEX (stocks) have had their longest losing streak since April.

 

 

As Bloomberg adds,

The ruble depreciated 1.2 percent to 40.9632 versus the central bank’s dollar-euro basket by 6:01 p.m. in Moscow. A weaker ruble encourages Russians to withdraw and convert local- currency deposits, Sberbank’s main source of funding, while hurting retailers by making imports more expensive in ruble-denominated prices.

 

Investors are scared of the ruble devaluation,” Sergey Vakhrameev, an analyst in Moscow at AnkorInvest LLC, which manages about $30 million in assets, said by phone. “During strong devaluations, stock markets fall, investors become scared of indexes in countries where the devaluation isn’t controlled.”

Of course, this will only make the bank run problems worse…

Russian Bank Halts All Cash Withdrawals | Zero Hedge

Russian Bank Halts All Cash Withdrawals | Zero Hedge.

It would appear the fears of a global bank run are spreading. From HSBC’s limiting large cash withdrawals (for your own good) to Lloyds ATMs going down, Bloomberg reports that ‘My Bank’ – one of Russia’s top 200 lenders by assets – has introduced a complete ban on cash withdrawals until next week. While the Ruble has been losing ground rapidly recently, we suspect few have been expecting bank runs in Russia. Russia sovereign CDS had recently weakned to 4-month wides at 192bps.

 

Via Bloomberg,

Lender has introduced complete ban on cash withdrawals until end of week, news agency reports, citing unidentified person in call center.

 

Bank spokeswoman declined to comment by phone

 

My Bank is top 200 lender by assets: Prime

 

NOTE: Central bank has revoked about 30 banking licenses since July 1 when Elvira Nabiullina succeeded Sergei Ignatiev as governor, compared with three in the firt half of the year

Interestingly, Russia’s biggest lender Sberbank has seen a 8.7% rise in deposits in December… it seems the Russian’s are realizing that bank deposits are nothing more than risky loans to highly levered entities…

Bank Of America Caught Frontrunning Clients | Zero Hedge

Bank Of America Caught Frontrunning Clients | Zero Hedge.

Every time a TBTF bank releases its 10-Q, we head straight for the section, usually well over 100 pages in, that discloses the bank’s total profitable trading days.

This is what the most recent Bank of America 10-Q said on this topic:

The histogram below is a graphic depiction of trading volatility and illustrates the daily level of trading-related revenue for the three months ended September 30, 2013 compared to the three months ended June 30, 2013 and March 31, 2013. During the three months ended September 30, 2013, positive trading-related revenue was recorded for 97 percent, or 62 trading days, of which 69 percent (44 days) were daily trading gains of over $25 million and the largest loss was $21 million. These results can be compared to the three months ended June 30, 2013, where positive trading-related revenue was recorded for 89 percent, or 57 trading days, of which 67 percent (43 days) were daily trading gains of over $25 million and the largest loss was $54 million. During the three months ended March 31, 2013, positive trading-related revenue was recorded for 100 percent, or 60 trading days, of which 97 percent (58 days) were daily trading gains over $25 million.

In summary, so far in 2013, Bank of America lost money on 9 trading days out of a total 188.

Statistically, this result is absolutely ridiculous when one considers that the bulk of bank trading revenues are still in the form of prop positions disguised as “flow” trading to evade Volcker which means the only way a bank could make money with near uniform perfection is if it either i) consistently has inside information that it trades on or ii) it consistently front-runs its clients.

In related news, the only more absurd datapoint was JPMorgan’s announcement of how many trading day losses it had in the first nine months of 2013. For those who missed out succinct post on the matter, the answer was clear: zero. The absurdity becomes even clearer when one considers that in the pre-New Normal days, JPM had an almost normal profit/loss distribution in its trading days.

But back to Bank of America, where as we noted, the kind of trading result would only be possible if the bank was aggressively insider trading or just as aggressively frontrunning flow orders in its prop book (a topic we covered back in 2009 as relates to Goldman Sachs, and which the bank sternly rejected).

We now know that at least one of the two almost certainly happened after Reuters report from earlier today that it discovered on the FINRA BrokerCheck page of one of the bank’s former Managing Directors, Eric Beckwith, the following curious ongoing investigation:

WE UNDERSTAND THAT THE USAO (US Attorney Office) -WDNC IS INVESTIGATING WHETHER IT WAS PROPER FOR THE SWAPS DESK TO EXECUTE FUTURES TRADES PRIOR TO THE DESK’S EXECUTION OF BLOCK FUTURE TRADES ON BEHALF OF COUNTERPARTIES, AND WHETHER MR. BECKWITH PROVIDED ACCURATE INFORMATION TO THE CME IN CONNECTION WITH THE CME’S INVESTIGATION OF THE SWAPS DESK’S BLOCK FUTURES TRADING. WE ALSO UNDERSTAND THAT THE COMMODITY FUTURES TRADING COMMISSION IS CONDUCTING A PARALLEL INVESTIGATION INTO THE TRADING ISSUE.

More from Reuters:

The U.S. Department of Justice and the Commodity Futures Trading Commission have both held investigations into whether Bank of America engaged in improper trading by doing its own futures trades ahead of executing large orders for clients, according to a regulatory filing.

The June 2013 disclosure, which Reuters recently reviewed on a website run by the securities industry regulator FINRA, sheds light on the basis for a warning by the Federal Bureau of Investigation on January 8.

The warning, in the form of an intelligence bulletin to regulators and security officers at financial services firms, said that the FBI suspected swaps traders at an unnamed U.S. bank and an unnamed Canadian bank may have been involved in market manipulation and front running of orders from U.S. government-owned mortgage giants Fannie Mae and Freddie Mac.

Only this time it’s different, because a quick check on the background of Beckwith shows that his expertise is not trading MBS but a different product entirely.

First, it goes without saying that Eric would promptly scrap his LinkedIn Profile as the following URL shows.

What Eric, however, was unable to delete was the mention of his name as the Bank of America contact for an “innovative new product created [by the CME and the banks] based on client demand” –Deliverable Interest Rate Swaps Futures, or as some call them Deliverable Interest Rate Products.

What is this newly promoted product, and why is there demand for it? This is what the CME had to say about the benefits of “DIRPs” (even though the technical acronyms is DSFs):

  • Capital efficient way to access interest rate swap exposure
  • Flexible execution via CME Globex, Block trades, EFRPs and Open Outcry
  • Allows participants to trade in an OTC manner:
    • Ability to block calendar spreads
    • Lower block thresholds and longer reporting times
    • No block surcharges

But, as in the case of CDS, and all other novel products, the main reason for DIRPs is simple: an even lower margin requirement compared to Interest Rate Swaps and Treasury Futures (margined together), allowing one to express a position, or better, manipulate the market in Interest Rate products, using the least amount of margin (initial capital) possible.

The following chart explains just this:

Bottom line: if you want to manipulate Treasurys in a reflexive market, where the derivatve almost always drives the price of the underlying (as perhaps explained best by none other than the then-member of the Fed Dino Kos), this is the best product as you get even more firepower for your buck.

Only in this case, anyone trading with the Bank of America DIRPs desk was apparently also being frontrun on a consistent basis.

We are relatively comfortable with alleging that BofA did indeed allow this to happen (whether it neither admits nor denies guilt at the end of the day), because a few weeks after the notice appears in Beckwith’s Brokercheck profile on June 14,2013, he promptly “left” Bank of America in July as Reuters reports: not exactly the course of action an innocent man would take.

In other words, while Reuters is focused on the Fannie and Freddie frontrunning angle, it appears the frontrunning activity spread substantially to involve the entire Treasury curve as well!

So while HFTs frontrun all equity retail trades in open markets, major banks frontrun all institutional block equity orders in their own dark pools, we find out that bankers also just happen to frontrun clients in “you name it” over the counter product, where the only reason to be involved is to take advantage of the low margin – something JPM’s CIO did quite aggressively and quite well until it blew up of course.

But the best news: we finally know how it is possible that every bank reports quarter after quarter of near uniform trading perfection and close to zero trading day losses.

Finally, our question for the regulators: in a Volcker world in which banks are supposedly not allowed to trade ahead of their clients, why are banks, well, trading ahead of their clients!?

* * *

Appendix 1 – the CMEs overview of Deliverable IR Swap Futures

Appendix 2 – Eric Beckwith’s Brokercheck profile

China’s Liquidity Injection Did Not Calm All Its Credit Markets | Zero Hedge

China’s Liquidity Injection Did Not Calm All Its Credit Markets | Zero Hedge.

While last night’s almost unprecedented reverse repo liquidty injection into the Chinese banking system stopped the bleeding of short-dated money-market rates briefly, the likelihood remains that a shadow-banking system default will occur: As CASS’s Zhang noted:

  • *CHINA TRUSTS AND SHADOW BANKING TO SEE DEFAULTS IN 2014: ZHANG
  • *CHINA SHADOW-BANKING DEFAULTS WOULD BE GOOD THING: CASS’S ZHANG

Perhaps that explains why China’s CDS spread remains at its highest since the summer credit crunch, barely budging on last night’s cash drop. At double the default risk of Japan, China appears far from out of the contagion fire.

 

China’s risk makes the US debt ceiling debacle look miniscule and while liquidity does not reign supreme in these markets, the last few months have seen considerably more activity in Asian sovereign CDS…

 

China’s Academy of Social Sciences Zhang Ming had a few other things to say…

  • *CHINA EXPORTS MAY NOT BE AS GOOD AS MARKET EXPECTS: ZHANG
  • *CHINA MONETARY POLICY TO REMAIN RELATIVELY TIGHT IN 2014: ZHANG
  • *YUAN APPRECIATION COMING TO AN END, CASS’S ZHANG MING SAYS
  • *YUAN MAY WEAKEN AFTER REACHING 6 PER DOLLAR: RESEARCHER ZHANG

and typically is seen as yet another mouthpiece for the administration… so that won’t please Schumer and his crowd…

 

Chart: Bloomberg

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