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Saturday, 16 December 2017

On rate rises, job cuts and stress tests

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  • Peters 475px June 2014

Morgan Stanley cutting credit by a quarter just four weeks before Christmas is a big statement

There was stuff going on Tuesday, plenty of stuff. Apart from that, it was pretty quiet.

But joking aside, the wires are, firstly, full of speculation as to what the ECB will do tomorrow and, secondly, of quotes seemingly from anybody and everybody who has ever held a security pass to the Federal Reserve building at 20th and Constitution on what the FOMC should be doing on December 16 and why.

In the case of the former, the variations on the theme do at least offer up a fairly rich mix of possible outcomes. But for the latter, what part of us can’t just accept that we’re in for a 25bp tightening move? Why do we need to hear, let alone read and interpret, the ramblings of all those people? The FOMC has never voted against the Chair so stop being so excited about what some chief assistant to some assistant chief might have to spurt.

If anything had the phone lines running hot, it was the announcement out of the venerable white-shoe shop of Morgan Stanley, that it will be reducing headcount in its fixed income division by 25%. Initially, the rumour machine was perplexed as to whether fixed income meant the government space only or whether credit would be included. Isn’t it sad that when talk is of fixed income, not even those amongst us, self included, who have spent 30-odd years working in the industry can be sure of what and who is meant?

By the end of the day it had been deduced that they had been speaking of fixed income in the traditional sense and that credit would not only be included but that it would most probably be bearing the brunt of the redundancies.

Not so many years ago Morgan Stanley under John Mack was still perched on the top of Mount Olympus amongst the other unassailables. Of the old powerhouses of Wall Street, only Goldman Sachs and Morgan Stanley were left as pure-play investment banks. First Boston is gone. Lehman Brothers is gone. Salomon Brothers is gone. Just two left and one of them, Morgan Stanley itself, is 22% owned by Mitsubishi UFJ. From the outside, though, it still looks like a proper all-American Wall Street firm.

There’s no question that Stanley is no longer the powerhouse that it once was and its efforts in the bond markets have looked ever more strained for quite some time, but cutting a quarter of the staff tells us either that it can’t see itself making any proper money out of bonds in the next five to 10 years or that it can’t see anybody else doing so either. We’ve seen retrenchment by lots of shops over the past few months and investment banks live and die by keeping staffing levels, shall we say, “flexible”. Leaking people here and there is one thing but putting one in four out to grass just four weeks before Christmas is making a big, big statement.

Word is that the axe is going to fall particularly fiercely at the executive director level which generally takes in the older and more experienced bods who might be good but for whom upward momentum in their career path has stalled. Cutting these people might sharply lower the average per capita cost on the trading floor but it also removes decades old loyalties and relationships which are not worth much in a bull market but which are invaluable if, as and when, the market goes bear. The firing spree will supposedly be over and perfectly on cue for the Fed to call an end to the money for nothing era. Let’s see how the Bloomberg IB generation, the bond markets’ equivalent of the Twitterati, do then.

Meanwhile, the Bank of England yesterday released the latest stress tests for British banks which, no surprise there, they all passed. You might remember all those traffic studies which told us that with a 50mph speed limit fewer people die on the roads than at 70 and that at 30 fewer die than at 50. You know what? At zero miles per hour, nobody gets killed.

Now go back, look at the banks’ balance sheets and ask yourself why they all passed. Then ask yourself where, out of sight of the BoE, all the lending and borrowing is taking place. Is this another exercise of “Not on my watch, Guv”?

The financial crisis broke out because lenders could no longer identify where the default risks were to be found and simply closed their wallets to all-comers. Banks were brought to their knees by the liability side of the balance sheet, not the asset side. Stress testing assets is a mugs’ game and should in reality offer us no comfort at all that another crisis will not break out. Oh, sorry, how silly of me, of course this time it will be different…

Finally, S&P has downgraded VW from A– to BBB+ and stable. Bonds have been trading that way for a while. Two weeks ago I was desperately trying to find investors who would buy into the idea that VW bonds are good but that the stock is not. I had the 3.3% 2033 on offer at 99.5; they closed last night at 103.5. I’d still be a buyer and would certainly jump on any dips although I can’t see any occurring. Smart money has the bonds and isn’t going to bail out now so they will surely remain hard to find. They have come screaming in from swaps plus 200bp to plus 160bp in the two weeks in question, but with rates on hold and yield so scarce, at nigh on 3% yield I’d not be at all scared to be a holder, duration risk or no duration risk.

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