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Juan Toro

New assessments on housing prices focusing in the UK property market show strong overvaluations. A recent report by HSBC foresees a similar movement in the UK property market to that going through currently in the US. The Land Registry (a very reliable source of house price data) pinpointed that that property prices fell by 0.6 per cent in October in London or 6 % annually approximately. HSBC reckons that overvaluations go as far as 30 % in the UK housing sector. HSBC is not the only institution to have offered such a gloomy picture of the housing market in the UK. Last month the International Monetary Fund (IMF) estimated an overvaluation of 40 % in UK housing prices.

Continue reading 'Negative carry in housing investments'

Juan Toro

It has been a busy week with lots of Fed speakers sending messages and analyzing events. These speakers are trying to build up expectations on future Fed’s policy on the December meeting. However the market is stubbornly retreating away from Feds’s messages and the market pricing of an 80 per cent probability of a further 25 basis point cut is firmly resisting any Fed talk. But the Fed does not want to get trapped in the cul de sac they found themselves beginning of this month.

Continue reading 'The Fed chatting the street'

Juan Toro

The subprime crisis and the development of the structured derivative markets might be complicated for someone not following the financial press closely. The vast numbers of acronyms (CDOs, SIV,…) does not help much. I found this very cogent explanation of the matter that I recommend very much.

http://www.youtube.com/watch?v=SJ_qK4g6ntM

Juan Toro

Dollars is sliding down quickly against most currencies. The direction of the trend seems undisputed. This depreciation has been praised for long, as it helps correcting the huge US current account deficit. However policymakers worry about a disorder depreciation with sharp dollar movements. Policymaker prefer an orderly unfold of events as Fukuda verbally claim early this week in relation to his own currency: “It is fine if you want to buy yens but please do not rush”. Well known reasons explain the dollar downward trend: a) an enormous current account deficit; b) a different monetary policy cycle compared with other large economies; c) recent turmoil in US financial markets.
Since the start of this trend some other events have pushed the trend further. Among these events some are worthwhile stressing. First, recent statements raised by China monetary authorities have pointed out that they would like to keep their reserves in a wider set of currencies not just in dollars. This could (or already has) trigger a sell off from their side. Second, recent comments from the governor of the Central Bank of United Arab Emirates have stressed that the peg to the dollar might not be a right policy for the future given the dollar weakness. After this statement, other Gulf States with a pegged currency to the dollar, might also consider revising their current exchange rate agreements. This second reason is also linked to the potential vicious cycle that might be created by a depreciating dollar and continuously higher oil prices. Persian Gulf countries, given the dollar weakness, might invest the reserves of current high oil prices into other currencies, pushing the dollar lower relative to these new chosen currencies.

Continue reading 'The dollar slide'

Juan Toro

Rumours abounded last week in relation to write offs of the main investment banks.
Main economic news were put aside by the rumourology on new write offs and unknown exposures of investment banks to murky assets. The Fed’s comment signalled balance risks on growth and inflation, the GDP number came in better than expected and the employment number in the US was much better than predicted. However all these good news were not enough to brighten market views.

The main worry that keeps market nervous is the true balance of banks. Every day a new rumour appears on potential write offs by the main investment banks. Last weeks rumors were heard on Goldman taking a 13bln dollars write down whereas Royal Bank of Scotland Group Plc and Barclays Plc were among U.K. banks that may post ``major trading losses'' amid the global decline in credit-securities prices, according to analysts. On the same issue, the Security and Exchange Commission (SEC) in the US is looking into how some Wall Street firms have been valuing, or "marking," its mortgage securities. The SEC seems to be investigating the off-loading of important chunk of mortgage related securities onto hedge funds by Merril Lynch. The issue is whether this strategy is just postponing the reckoning of some write downs.

Continue reading 'Write offs'

Juan Toro

During the second week of August 2007 some of the most prominent hedge funds suffered huge losses. Among these funds losses abounded within the long/short quant funds category. Goldman´s funds as well as some of Renaissance’s funds were among the victims just to name a few. The first question that rose is how risk neutral fund could have been so badly affected, after all most of the return should not be beta related and systemic risk should be absent. Second question that attracted the attention of analyst is why those quant funds were hit hardest. In a recent paper by Amir Khandanui and Andrew W.Lo entitled “What happened to the quants in august 2007?” These authors present some hypothesis to explain the triggering of the losses and understand the evolving process that ended with some quant funds having lost close to 30 % of their wealth just on the month of August. In order to understand the pattern of gains and losses and given the lack of transparency of hedge funds they replicate a long/short neutral strategy during the second week of August. Main question addressed is the following: What triggered the losses during the 7th and 8th of August for quant funds when others assets returns did not show abnormal return over these two days? The authors hypothesize that these losses were triggered by the liquidation of a multistrategy fund that was forced to reduce their risk all across the board due to losses is some credit strategies. Losses initiated in a credit related fund (which part of this multistrategy hedge fund), induced deleverage on other investments of the fund, among which was reduction of the investments in long/short quant fund. This unwind started on the 7th of August and extended till the 9th. This original movement probably induced further liquidations during these days as the price impact of the original liquidation caused severe losses on other long/short funds. On the 10th of August the long short quant strategies mean reverted making up all the losses of the previous days. However the severe losses suffered from the 7th till the 9th, were much higher than the final reversal.

Continue reading 'When quants failed.'

Juan Toro

The Fed cut rates yesterday by 25 basis points as markets has correctly priced. The statement from the Fed is clear with a few important messages. According to the statement:

a) This cut together with the previous one in September were designed to “help forestall some of the adverse effects on the broader economy” from the credit crunch.
b) Sees intensification in housing downturn.
c) The Fed sees “the upside risks to inflation roughly balance the downside risks to growth."
d) “But recent increases in energy and commodity prices, among other factors, may put renewed upward pressure on inflation."

Summarizing, the Fed believes the combined cuts of September and October will help easing credit conditions. But more importantly they need to watch carefully inflation increases, specially taking into account recent movements in oil. The statement sends a message to markets that this is the end of a brief easing cycle that was initiated just to grease the wheels of credit markets.

Continue reading 'The unwanted Fed cut'