Hardening interest rates...? The US will go belly up.

I am a bit flummoxed by C.Rengarajan’s theory that interest rates may harden.

I think we have to distinguish between short-term interest rates and long-term interest rates. In the US, the Federal Reserve does not really control long term interest rates. They can tweak it occasionally through quantitative easing and through the purchases of 7 / 10 / 30 year bonds but what they control is the short-term interest rates (the Fed fund rates). Hear out Ben Bernanke, and you feel the short-term interest rates will stay low for a very long time. In America the fiscal deficit this year will be around USD 2 trillion and I do not think they can cut the fiscal deficit next year because if they cut it, it will have a negative impact on the economy. So I rather think that the fiscal deficit will stay at this level or in my opinion actually even increase. That will lead the Fed to keep interest rates artificially low because should they increase short-term rates meaningfully then the cost of servicing the government debt in the US will escalate substantially. So I think as far as the eye can see, monetary policies in the US will stay expansionary.

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That means US dollar shall remain weak for a very long time and that means most $ funds will find its way to other currencies / asset classes. Liquidity is therefore assured and no bank will have the guts to jack up lending rates because money flow is not going to be tight for quite some time. Then where is the question of rates hardening...?

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The bond dealers are in for some rough times. But then they can't do much else except to squeal and crow for hard rates !!!!

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Bailout bill passed; now comes the hardest part

Yes. Getting the $700 billion mother of all bailout up and running.

From what it seems like Hank Paulson and his crack team (filled with ex-investment bankers, attorneys and accountants) has its priorities cut out. It will have to decide which assets to go after first, and who to buy them from. Congress has given Treasury wide discretion to decide what assets to target. Although most of the funding is likely to go toward buying up mortgage-backed securities and whole home loans still held on the books of the lenders who originated them, Treasury can also buy up construction loans, home equity loans, or even credit-card debt or car loans if it decides that is necessary.

Does that mean Treasury is likely to start out buying from banks, in an effort to shake the credit markets back into shape – biggest banks first, in that order? If so, whether to go after widely held MBS or exotic one-of-the-kind stuff…? Whoever Treasury buys from initially, the biggest issue is one of pricing the assets since market for these securities has dried up, making it hard to figure out what any of them are worth amid fears that the underlying mortgages have gone sour faster than expected. If they price it too low, banks won’t attend the auctions. If they price it too high, the government will be taking too much load. The task will be somewhat simpler when Treasury buys assets from firms that have already marked down the value of their assets to current fire-sale prices. Anyways, the initial success of the plan should have a multiplier effect in helping bolster other banks, even if they don't take part in the auctions. By purchasing assets similar to those that other institutions hold, Treasury would essentially establish a new market price, which the nonparticipating banks could use to improve their balance sheets. That might also reassure other investors enough that they start buying as well.

The irony is, Paulson will not be able to find asset managers to run this that don't already have distressed assets on their own books; there's no one else to do it. Hiring people to fix the very problem they helped create will be an issue. For that matter even Hank Paulson is an ex-Goldman Sachs alumnus – a part of the problem in a way. Conflict of interest or not, success of the program could hoist Hank Paulson a big hero, may be win him a candidature for next Presidency. Failure would mean a return to economic dark ages - not just for America, if the downward drift of global markets (post passage of the bailout bill) is anything to go by!

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invoking Caveat Emptor

Guess Indian firms lately have been waking up to global connections of Private Equity.

Noida-based Phoenix Lamps Ltd, in which UK-based Actis bought a controlling stake last year, is cashing in on a slew of global tie-ups with international lighting firms, aggressive forays into international markets including Europe and West Asia, and rapid ramping up of capacity.

Aurangabad-based Endurance Technologies, in which Standard Chartered Private Equity Fund picked up stake a couple of years ago has been on a roll ever since, acquiring three European firms and opening a Detroit office.

Gokaldas Exports, India’s largest garment exporter, decided to sell out to Blackstone Group for $165 million in August last year to leverage Blackstone’s financial muscle and contacts in the key US market.

Shaken but not stirred by impossibility of leveraged finance, the private equity barons have been looking to move on. Dismayed and disillusioned western investors will no longer play ball. In the leveraged loan markets, assets have been marked down by a fifth, so 80 cents in the dollar is the new par. Thus the financial alchemists have turned to the huge pools of money available in the Middle East and Asia.

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The vanity of the PE model attributed to its strategic (besides financial) prowess has been significantly exposed after the recent liquidity crisis in the Wall Street – where PE firms and its I-bankers abused the inept regulatory regime and lax credit conditions to erect dubious financial structures. Nobody bothered about the obscene management fee charged by the LBO architects that maintained that a superior financial structure is worth it all. Time to get back to the original PE model – no debt, no leverage; just plain capital invested in a business that screams `opportunity’.

Hope Indian firms don’t call the PE bluff way too soon like their cousins in the developed world… I invoke Caveat Emptor ;)
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Vacation (in a) spot

Global funds go ballistic over India’s infrastructure scene. Some statistic –

The no. of PE deals struck in the first four months of 2008 were 156 for a total investment of $4.94 billion. Over the same period in 2007, we had 136 deals and $3.42 billion. However, fund houses are going slow on investments seeking reasonable valuations. In April, 08 the no. of PE deals inked was 32 and aggregating $560 million, down from 35 deals worth $1.21 billion in March. In February, the number of PE deals struck was 27 and amounting to $1.48 billion.

Sign of slackening pace and harder wrangling between investors and fund seekers. Recently a mid-sized I-banking executive told me he’s planning a long vacation, away at idyllic Kovalam beach. He sounded glad because for the last two years, he had no time for anything other than work. Now that mandates have slowed down, he and his tribe are taking a break.

But this morning I read this piece of news. I hope the guy gets to enjoy his full vacation with his family. The way it sounds, he could get summoned soon to make it back home. Balmy beaches and silver sands don’t go anywhere; good times do :-)

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Bernanke did it, finally...

It’s a tight rope walk for Ben Bernanke, no doubt. If policy makers cut rates too cautiously, they risk a recession; if they cut them too much or too early, they risk stoking inflation.

In reducing its benchmark interest rate by an unusually large one-half percentage point, to 4.75 percent from 5.25 percent, the Federal Reserve made it clear that policy makers viewed the turbulence and disruptions of the past couple of months as too dangerous to ignore.

The reaction in stock markets was ecstatic: the Dow Jones industrial average jumped 200 points almost instantly and ended the day up 335 points, or 2.51 percent, at 13,739.39.

With a weak dollar that helps surge in American exports, for a change, the US is no longer the world’s engine of growth; the global economy could now become the engine of American growth.

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