Around the world the financial scavengers still continue to feast on the rotting flesh left behind from the Panic of 2008. You have to remember — carcasses are heavenly nutrition for the parasite, the hyena and the vulture. Today’s Markets and Money shows what it means for your investment strategy.
We begin in the United Kingdom. Currently, the British government owns a £32 billion stake in the Royal Bank of Scotland (RBS). This came after the bank collapsed during the global financial crisis. The UK government stepped in and bailed it out to the sum of £45 billion.
The average price the former Labor government paid was £5 a share. The shares are trading around £3.50 these days. The market is not buying RBS just yet, because the major players know it’s still dealing with the overhang of the crisis. That’s going to change sooner rather than later.
But for now the British taxpayer is currently sitting on a £17 billion loss. And they are about it to have that loss — or at least part of it — shoved down their throats.
The Chancellor of the Exchequer (Treasurer) of the UK, George Osborne, gave a speech to a ‘City’ audience this week. A City audience refers to the City of London, where the heavyweights that rule the UK financial sector operate. It’s the top hat and tails part of town.
Osborne said that the British government will no longer wait for the RBS share price to recover as previously indicated. The government will begin to sell its holdings off at a loss.
I mentioned the top hat and tails in the City of London. Well it’s about to be party time for those guys, because Osborne’s going to essentially give them even more free money than the billions they already got. Just as the British economy is really starting to move – and require an expansion in bank credit — he’s selling the taxpayer out.
You see, what has held the RBS share price back so far, and the British banking system as a whole, is working through the backlog of bad debts. But in 12–24 months those will be gone.
The money is coming in to buy up what’s left of the distressed debt and then some. The Financial Times reported in April that the UK is facing a ‘deluge’ of mortgage assets as companies look to sell off their loans books. All of these are much more valuable in the improved market conditions the government propped up in the first place.
‘David Edmonds, corporate finance partner at Deloitte, said a “mountain” of money has been raised by distressed debt and private equity funds over the past 18-24 months, to reach about €100bn of capital. With the ability to borrow and gear up, he estimated that €400bn of cash is “looking for a home” across Europe.’
€400 billion is a lot of moolah in anyone’s language. That brings us back to Chancellor Osborne. Why then is he selling out of RBS now, just when things look good? Let’s see his justification for ‘losing patience’ at the performance of the RBS share price over the last seven years. According to the Wall Street Journal;
‘Mr. Osborne said he had sought guidance on the RBS share sale plan from Bank of England Governor Mark Carney, who in a letter on Wednesday agreed the plan should go ahead now to “promote financial stability, a more competitive banking sector and the interests of the wider economy…’
One wonders why they would attribute those qualities to a bank, whose net loss of £24 billion in 2008 was the worst in British corporate history, according to the Financial Times. Its bailout was also a record figure.
The collapse of the British banking system plunged the economy into a major depression that saw millions of jobs lost and output crumble. Is that stability? And competition? The UK’s four big banks — RBS included — hold 75% of British market share.
The article goes on…
‘Selling the shares will underline the government’s view that an economic recovery has taken hold in Britain and that its banking system has been significantly strengthened.’
So let’s see. The taxpayer gets the losses when the economy is in the dunny but now things are looking up, let’s handball this off to our financial mates cheap. The losses are socialised and the gains left for the markets and big players.
Deals get done and the UK heavyweights will now all come out and say what a great idea it is for the government to get out of the way of the shares.
Good for them…
Of course, none of this is new. In the 1970s after a major collapse in both the UK and America, Dana L. Thomas wrote in the book Lords of the Land
‘The business of unloading and buying distressed properties is being conducted in the most discreet way possible. Like a family which refuses to admit that one of its members has died and keeps the corpse embalmed in the living room rouged by a make-up specialist, so the trusts and the banks who are unloading their properties are pretending that nothing out of the way is happening…’
All this is to say, nothing has changed since 2008. The bankers have not been brought to heel. Around in circles we go.
We can see things in the US turning in a similar way too. Colleague Chris Mayer reports that US banks still sit on a mountain of bad loans secured by residential housing. There’s US$163 billion in loans not paid in more than 90 days. But the banks are selling these loans books off to companies who think they can make a buck out of it.
Here’s how it works. The banks have delinquent loans with a certain face value. Companies come in and buy these loans in packages — but at a discount. Then they try and collect the money. The banks aren’t interested in doing this themselves for a variety of reasons. So entrepreneurial types take the task off them.
This is another reason why the US recovered so quickly out of 2008. Someone always comes up with a way to make money out of the crisis, and the stock market is big enough to support it.
Chris, a former banker, reported in his latest issue of Mayer’s Special Situations: ‘In February of this year, Bank of America offered $2.6 billion of delinquent loans. Citigroup and JPMorgan and others are looking to unload big portfolios of nonpaying loans. Even the GSEs — Fannie Mae and Freddie Mac — have loans they must sell, by federal mandate.’
This is an essential process to watch for us because it gets the bad debts off the big banks balance sheet. Imagine a wound being cleaned by maggots. It’s something like that.
Here’s the key point: it all frees up their ability to expand bank credit.
We’re going to see a further expansion in the UK and US economies as their banking sector really start to fire once the junk is cleaned out of their system. This is bullish for stocks and real estate. Get on board for the ride here.
Editor, Markets and Money