Blain's Morning Porridge - Central Bankers and other travesties..

Blain’s Morning Porridge - June 29th 2017

“And a new day will dawn for those who stand long, and the forests will echo with laughter.”

What a fascinating week this is shaping up to be – on Monday I speculated it was going to be about Central Bankers re-thinking where we are. I guess I guessed right.

One of my colleagues from BGC, Ara Levonian, summed it up nicely in his daily comment this morning: “What a difference a day makes as the ECB pumped out a story that the whole market misinterpreted Draghi despite him speaking in English and most of us having English as out first language. Carney changed his mind from last week, which has become the norm, and said there could be need to remove some stimulus. [They] have realised the marginal utility of QE is almost non-existent now, if not negative and are SERIOUSLY WORRIED ABOUT ASSET PRICE INFLATION. (My emphasis!)

Draghi might take a tip from Alan Greenspan, who provides the most famous Central Banking quote: “Since becoming a central banker I have learned to mumble with great incoherence. If I seem unduly clear to you, you must have misunderstood what I said.” It’s often shortened to “If I have made myself clear, I’ve misspoken.”

Last night two pieces of banking news caused my spidey senses to tingle. US banks have been given the green light to make major $100bln payouts to investors – confirming they are once again the new stock market gods. Then I noticed HSBC stock hit a new high for the year – it’s my dividend yield PA bank stock pick. Both these new spots convince me we’re approaching Peak Banks! (Could not resist writing that!) Time to sell.

I’m still wondering wtf Janet Yellen was thinking when she clearly and unequivocally told an audience on Tuesday the: “financial system is not likely to experience another significant financial crisis in our lifetime.” To be fair, she was talking in context of the regulatory successes that saved the global financial system in 2008. Sure, US banks are better capitalised, but stability today is no guarantee of tomorrow. Regulators successfully put in place the tools, safeguards and mechanisms to ensure a similar crisis will not bring down the banking system again.

Which is marvellous. If the same crisis happens again. It won’t.

The next crisis is more likely to stem from the last in terms of unintended consequences. Over inflated financial asset bubbles (caused largely by the actions of central bankers - QE), will be front and centre. Sure, we can point to synchronised growth across the globe, but the real issues of confidence (which underlies every single economic choice) are under stress. (And throw in the political consequences of battered confidence: rising inequality and populist politics, Trump, May, etc..)

QE has created a false impression of financial asset values just as surely as a bank that paid and investor to provide capital created a false impression of its financial viability. (Gosh.. who could I be thinking about…)

Which leads us to the question of how to play these trends in current markets: You can talk about waiting for the tide to go out to see who is swimming naked. Or you can believe my key market mantra about the market only being happy when it’s inflicted the maximum amount of pain on the maximum amount of participants. (My favourite is the simple fable about a foolish emperor who believed the shysters who sold him a weightless, invisible suit and told him only clever people could see it. Everyone wanted everyone else to see how clever they were, so everyone agreed how magnificent the suit was – until the little boy asked his mother why the Emperor was butt naked?)

Or go with King Canute – who caught out his fawning courtiers by demonstrating to them, even he, the greatest king of his day, could not stop the tide coming in.

In short, be pragmatic.

Park investments in safe real assets. Its likely markets will go highly illiquid when the stress hits, so don’t get sucked into the liquidity fallacy: paying today for non-guaranteed “liquid” assets you hope to exit in crisis.

Buy assets with longevity to ride the storm.

Think long while the market panics short.

I’ve got a stack of alternative deals parked up from privately placed sovereign risk, infrastructure, transport (including rather attractive aircraft backed paper) and property. Now is the time to be quietly exiting over inflated financial assets, and getting ready to buy them back when the crisis is past.

Meanwhile, back on the continent of still unfixed banks, an interesting thought was triggered by a note in the FT on European banking. Is the current winnowing of the also-ran pack of broken Euro banks a plus or minus?

I think we all agree the Euro bank sector desperately needs consolidation. The risks aren’t in the 30 big SIFIs. They are in the broken second and third tier caused by unwise lending. It’s not just the public banks, but the private banks, the savings banks, post banks, state banks and the rest. Finally, Popular and the Veneto banks show its beginning to happen.

It sounds doubleplusgood. Creative regulatory destruction is underway. Troubled smaller banks are “resolved” away like snow in June, while the beneficiaries are assumed to be the large national champions like Santander in Spain, and Intesa in Italy. (I’m hearing rumours Unicredito will shortly be added to the mix of national champions – its name is being bandied about as potential acquirer of troubled Italian name Carige.)

However… one of the other indisputable facts is many acquisitions don’t work particularly well – and that as true of shot-gun weddings or drunken couples in Las Vegas as it is for swift bank takeovers. Never worked particularly well for RBOS on ABN, or Lloyds and HBOS! It gets especially messy when banking mergers are followed by banking catastrophe! And especially if the underlying reasons why lending in Italy produced 30% NPLs or Spanish real estate lending was so bad aren’t addressed.

In sort, banking is the product of the society it exists in. Where banking is successful, there is a strong moral propensity for borrowers repaying their debts. In other countries, there tends to be a higher propensity to find reasons not to pay.

Go figure what that means for European banking union and mutualising bank deposit funds…

Finally, can I remind everyone I’m doing the 600 mile Fastnet Yacht race in August to raise funds for cancer and heart charities: Fastnet Charity: http://www.sail4cancer.org/fastnet-2017-bill-blain

Bill Blain