Sovereign Bonds and Merger Misgivings

Also bank stress tests, oil debt, scams, politics, the apocalypse, and unicorn anatomy.

Sovereign debt.

If you are an investment banker, your job, more than making money or avoiding risk or anything else, is to not miss deals. That is the measure of your worth as a banker and a person: If deals happen, did you do them? If they make money and are good deals, that is nice, but the important thing is that you were there. "Russia plans to issue at least $3 billion of foreign bonds—its first international issue since the U.S. and its allies imposed sanctions in 2014," and that is awkward for European and especially U.S. banks. On the one hand, there are the sanctions, and a State Department warning that "helping Russia finance its debt would run counter to the objectives of the sanctions" and raise reputational risks. On the other hand, if you are the Eastern Europe sovereign-financing banker at a U.S. bank, how can you miss this deal? War and geopolitics and patriotism don't change the prime directive, which is to not miss deals. Some banks are out, but "other banks, including Goldman and J.P. Morgan, continue to weigh their options."

Elsewhere, Argentina's pari passu saga is almost over! "We're this close to a deal," the main holdouts' lawyer told Judge Griesa yesterday, having agreed on the "economic terms" of a $5 billion deal. (He apparently wasn't supposed to say that? "That statement violated the confidentiality of the discussions between the parties," said the special master supervising the negotiations. The holdouts had previously pushed for a non-disclosure agreement, but Argentina had refused .) Argentina's appeal of Judge Thomas Griesa's injunction has been dismissed, which means that Judge Griesa is now free to revoke it next Monday, as he's said he will, making Monday more or less the deadline for holdouts to settle before they lose all of their leverage. The holdouts are not happy about this time pressure: A deal "is so close and it would be such a tragedy if it vaporizes," said their lawyer, though the tragedy would be mostly for them.

Meanwhile Venezuela's economy is a horrible mess, and its government is stridently socialist, but it keeps paying its bonds:

“It’s a somewhat bizarre situation to see such a socialist, left-wing, Latin American government prioritize payment to foreign creditors over imports for the general population,” said Sarah Glendon, head of sovereign research at asset manager Gramercy Funds Management LLC, which manages $6 billion.

The reason seems to be that Venezuela gets most of its foreign currency from the state oil company, Petróleos de Venezuela SA, which has assets abroad:

Caracas fears a default could open up claims to PdVSA assets, such as rigs, refineries and oil shipments. One target by creditors could be the company’s Houston-based subsidiary, Citgo Petroleum Corp., which has three U.S. refineries that receive hundreds of thousands of barrels of Venezuelan oil a day.

Contrast Argentina, where the only state-owned asset that bondholders ever managed to seize in years of trying was a naval sailing ship that, while pretty (it illustrates all of my Argentina posts), is perhaps not the height of war-fighting technology. The neat irony is that the more socialist a country is -- the more it controls the means of production -- the more likely it is to have state-owned business assets abroad that can be seized to pay creditors.

Meanwhile in Puerto Rico, "A broad plan being put forward by the Treasury Department to ease Puerto Rico’s financial crisis would put pension payments to retirees ahead of payments to bondholders — a move that some experts fear could rattle the larger municipal bond market." Kristi Culpepper points out that prioritizing pensions has acutally been common in recent municipal bankruptcies, but that "What is unusual about Puerto Rico is that bondholders can't find a unified front to argue their position as a class versus pensions": It has so many bonds with different claims (general obligations, government agencies, etc.), and such an unusual legal regime, that no one can agree on what is in bondholders' interests.

How not to do a merger.

I don't know what is going on in this Foxconn/Sharp deal, but it's nothing good. Sharp Corp. approved an acquisition by Foxconn Technology Group and announced the terms of its agreement with Foxconn, and then Foxconn said hold on wait just a minute:

Foxconn, the parent of Hon Hai Precision Industry Co., put out a one-paragraph statement late Thursday after Sharp disclosed the agreement terms.

It read in its entirety: “We acknowledge receipt of a notice today from Sharp’s board choosing us as their preferred partner. After receiving new material information from Sharp yesterday morning, we have accordingly informed Sharp last night (before their board meeting on 2/25) that we will have to postpone any signing of a definitive agreement until we have arrived at a satisfactory understanding and resolution of the situation.”

Nononono you do the due diligence before you announce the deal, not after. "That puts the entire deal in jeopardy," says an analyst. The new information was a 100-item "list of about ¥350 billion yen worth of 'contingent liabilities,'" and while I can understand the temptation to wait until the very last possible minute to disclose bad stuff to a potential merger partner, Sharp may have overplayed its hand a bit.

Stress tests.

The European Banking Authority released its stress test methodology yesterday, and here is one change:

Unlike tests in past years, the latest test will not have a minimum capital threshold that lenders will have to meet in order to pass. As a result, no bank can actually fail — or pass — the examination, according to the European Banking Authority, which regulates lenders in the European Union.

Instead, local banking supervisors like the Bank of England and the European Central Bank will use the results to determine whether banks need to take additional action, such as raising capital.

Okay look. The way U.S. stress tests work is, there's a stress test, and if you fail that one you have to raise capital, and then there's another stress test, and if you fail that one you can't return capital. So there are in a sense three grades -- Return Capital, Hold Capital, Raise Capital -- though they come with various pluses and minuses and incompletes. But two of those three grades are, technically, phrased as failure. This is sort of the opposite of the self-esteem movement in America's schools, and you can see why U.S. regulators would prefer to keep banks' self-esteem in check. You can also see why European regulators might prefer to eliminate the word "fail" from their vocabulary. Raise Capital just sounds gentler than "fail." 

Elsewhere in banking, Pimco has seven reasons not to break up the big banks, one of which is that traditional banking cross-subsidizes investment banking. "Barclays Plc cut the bonus pool for its investment bank by about 10 percent to 12 percent," on top of the 1,200 worldwide job cuts. And Banco do Brasil SA's contingent convertible notes are the worst cocos of the year, having "tumbled 25 percent in 2016, seven times the average."


Oof. You never want to hear this at your oil-industry conference:

Many executives counted how many previous crashes they had weathered. Some took solace in the musings of “Persian wise men” and philosophers from the 19th century.

Nobody's quoting Persian wise men when times are good. Times are bad! 

Energy XXI Ltd. and SandRidge Energy Inc., oil and gas drillers with a combined $7.6 billion of debt, didn’t pay interest on their bonds last week. They have until the middle of next month to either pay the interest, work out a deal with their creditors or face a default that could tip them into bankruptcy.

If the two companies fail in March, it would be the biggest cluster of oil and gas defaults in a month since energy prices plunged in early 2015.

This is of obvious interest to banks, which keep increasing reserves for bad energy loans, while "investor anxiety about bank energy portfolios has remained high." And: "Here’s How Electric Cars Will Cause the Next Oil Crisis." In slightly brighter news for the energy sector, "Chesapeake Energy Corp. surged 23 percent after saying it will pay off the remainder of a half-billion dollar debt that’s coming due in three weeks with proceeds from asset sales that were twice as large as the company expected." Those bonds were trading at a yield-to-maturity of over 200 percent as recently as two weeks ago, so I guess this counts as a pleasant surprise.


It is hard to get simpler than this scam:

In the scam, a criminal mimics a chief executive’s email account and directs an employee to wire money to an overseas bank account. By the time the company realises it has been duped, the money is gone.

And yet this "has cost businesses around the globe more than $2bn in little over two years, according to the US Federal Bureau of Investigation," with more than 12,000 victims, some of which "have been tricked into sending as much as $90m to offshore accounts." Lessons here include: 

  • business is dumb,
  • fraud is easy, and
  • pick up the phone!


One thing that I like to point out is that, pace Bernie Sanders, it is Washington, not Wall Street, whose business model is fraud, where lying is allowed and encouraged and an accepted path to success. In that vein, I will point you to a decision yesterday in which a U.S. appeals court struck down as unconstitutional an Ohio law against "disseminating false information about a political candidate in campaign materials during the campaign season ‘knowing the same to be false or with reckless disregard of whether it was false or not, if the statement is designed to promote the election, nomination, or defeat of the candidate." The constitution protects your absolute right to lie about political candidates in order to get them elected (or prevent them from being elected). It is the American way; it is the very core of our politics.

Meanwhile, lying to make money remains, in many cases, illegal. Here is Helaine Olen on the lawsuits alleging "persistent fraudulent, illegal and deceptive conduct" at Trump University. "I spent $1,495 on the Trump three-day seminar and $24,995 on the Trump Gold Elite mentorship package, only to be demeaned and belittled,” claims one alleged victim, and honestly I would expect that if Donald Trump was my mentor -- Gold Elite or otherwise -- he would mostly demean and belittle me. That seems to be the appeal? And here is Stephen Bainbridge on what a Trump presidency would mean for securities regulation:

I have no idea. His website is sparse on issues like that. He's got a lot of experience as a defendant in securities litigation, however, so that might incline him towards the deregulatory side of things.

Elsewhere: Why isn't big business fighting back against economic populism?

Gold vs. bitcoin.

Life is short and the apocalypse is coming, so I am not personally going to read this comparison of "whether gold or Bitcoin would be better suited for the toughest times," but I pass it on to you in case you are interested. I take a fairly traditional approach to the economics of societal collapse, and would probably stock up on non-perishable food, medicine, rural land, weapons and ammunition. (One reader suggested "opiates with good shelf lives.") Gold, it seems to me, would be of limited use in an apocalypse. "You can fondle the cube," etc., and gold's traditional use as money would be little comfort in a world in which all institutions have broken down.

But, and I really cannot stress this enough, bitcoin as an apocalypse currency is just ridiculous. Do you know how bitcoin works? You get a bunch of networked computers and they all come together to agree on how many bitcoins everyone has, and then you use those computers to spend those bitcoins. Who is maintaining the Internet in the bitcoin-enabled apocalypse? Are you going to mine bitcoins with pencil and paper? Bitcoin is a lovely libertarian dream precisely because it relies on everyone working together and achieving consensus, with no authority imposed by force. That's a pretty optimistic view of modern society, never mind the apocalypse.

People are worried about unicorns.

Money Stuff last week included a JPMorgan illustration of a unicorn vomiting rainbows as a way to express the idea that people are worried about unicorns. Those worries seem to have intensified. There's rainbow gore everywhere. Here is an illustration of an extremely dead unicorn that is bleeding rainbows:

Screen Shot 2016-02-25 at 5.44.33 AM

That image is from a flyer that has apparently been posted on lampposts in Palo Alto telling employees of Palantir, the Spy Unicorn, that their common shares are worthless and that they should "stand up for startup employee rights." I posted the picture on Twitter and was informed by both a doctor and a coder that its depiction of unicorn anatomy is inaccurate. I see where they're coming from -- It's sort of a unibone? And the bone is the wrong way round? And how many legs does it have? -- but on the other hand unicorns are magical creatures that die when their valuation drops below the liquidation preference of their preferred stock, so you shouldn't expect them to look like regular horses on the inside.

Somehow that is not the strangest startup news of the day. Here is a story about a start-up competition in which "Each finalist jumped into an ice hole and, submerged in zero-Celsius water, presented ideas to a jury of potential investors." It is not called Ice Combinator. (It's called "Midnight Pitch Fest," and honestly midnight is not the salient feature here.) The pictures here are, trust me, even more disturbing than that bisected unicorn. I am worried about frozen unicorns.

In happier startup news, Stripe Atlas will help entrepreneurs around the world get a Delaware incorporation and a U.S. bank account for $500, which seems like a useful service. Also here is "The Downround Tracker," which tracks private company exits and fundraisings at below previous valuations; it does not have a cutesy unicorn illustration.

People are worried about bond market liquidity.

"New rules to bring more transparency to bond markets will not necessarily hurt liquidity if done carefully, the head of Europe's markets regulator said on Thursday," so that's something. The Bank of England is worried about liquidity and mutual fund redemptions. And pay for human bond traders is going up.

Me recently.

I wrote some more about IEX's controversial exchange application this morning. Elsewhere in market structure, here is an argument from an Haoxiang Zhu at MIT that institutional investors should "introduce some 'noise,' or the appearance of randomness," into their orders to trick high-frequency traders:

For example, if the real goal is to buy 100,000 shares, then the investor could include some sells in the mix of transactions to essentially play hide-and-seek with the HFT and mask its true intent.

Is ... that ... spoofing? Not really, but a little bit, right? Market structure is weird; everyone thinks they're the victim and the other guys are the crooks. Elsewhere, Bloomberg Gadfly's Lionel Laurent worries that the LSE-Deutsche Boerse merger might increase systemic risk. And here is a claim that New York Attorney General Eric Schneiderman's investigation of dark-pool misdeeds increased IEX's market share, and that "two Schneiderman donors, activist hedge fund investors David Einhorn and William Ackman, benefited from the investigation because their hedge funds own stakes in IEX."

Things happen.

How Islamic State’s Secret Banking Network Prospers. Judging Federal White-Collar Fraud Sentencing: An Empirical Study Revealing the Need for Further Reform. Arbitration Awards Against Stockbrokers Go Unpaid. Japan's Longest Bond Joins the Rest as 40-Year Yield Below 1%. My Bloomberg View colleague Peter Orszag is joining Lazard. "While the Options Activity Tell doesn’t have the pedigree of, say, the century-old Dow Theory, Mr. Rafter says it is supported by history." The best asset class in 2016 so far has been lean hogs, the worst has been natural gas. AIG Says Goodbye to Guy Who Knew Where the Bodies Were Buried. Hedge Clippers Shut Down Major Investor Conference. Noam Chomsky attributes Trump's rise to "Fear, along with the breakdown of society during the neoliberal period." Matt Taibbi attributes it to the media. Powerful People Underperform When They Work Together. Millennials: Burden, blessing, or both? "Think of the exchange rate as something like the national blood sugar level." Could hackers ruin Kevin Roose's life? Colombia Investigates Guns Rental Services for Assassins. MasterCard Will Soon Accept Selfies As Passwords. Giant luxury pool floats.

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