IFR awards are among the highest accolades capital markets participants can aspire to, but occasionally they can come back to haunt us. While we stand by our decisions on a snapshot-in-time basis, there are some where we wish we had known what was coming.
The time (T) between the receipt of an IFR award (A) and the slippery slope to doom (D) and ignominy (I) – for those that succumb – seems to be in the order of two years plus, so framing an equation to account for this might go something along the lines of:
T(D,I) ≥ A+2
Take Lehman Brothers. The bank had, of course, won IFR’s coveted Bank of the Year award in 2002. But because that was almost six years before the mighty conflagration that consumed Lehman and much of the financial world in September 2008, we’re more than comfortable with that decision.
It was and continues to be an inspired choice – says the man who made the decision. The introduction did include the magnificent line:
“The pure investment banking model is bankrupt. If that’s the case someone forgot to tell Dick Fuld.”
Looking a little more awkward, however, is Lehman Brothers winning the North American Securitisation House of the Year award in 2004 and 2005, and, in particular our global securitisation house and credit derivatives house awards in 2006, the last full financial year before the financial crisis hit. However, given the nature and provenance of the crisis (exotic structured credit and securitisation), you could say that IFR called the crisis well over two years in advance … only, kind of, in reverse.
Calling the crisis in reverse
By the end of 2006, Lehman had originated a ton of business of the kind that would send the world financial system to the edge of the abyss. But that’s not how it looked at the time. Even though it had become patently clear that the mortgage origination process in the US was deeply flawed, red-hot demand from investors worldwide for US sub-prime mortgage exposure only added fuel to the fire. Underwriters couldn’t get mortgage-backed securities out fast enough as buyside demand careered out of control, craving exposure any way it could get it.
(In)famously, in our awards write-up, we extolled Lehman as the model that other houses were chasing to copy. We praised it for keeping up to the mark on its mortgage securitisation business and retaining its top underwriting slot by aligning itself with originators such as – sharp intake of breath at this point – Countrywide, BNC, Option One and First Franklin.
“The pure investment banking model is bankrupt. If that’s the case someone forgot to tell Dick Fuld”
In credit derivatives, Lehman and others were doing things that would make toes curl in today’s structured credit-free world. Lehman was the most active trader of iTraxx tranches (monthly average volumes of €20bn-plus) and was number two in CDX trading (US$30bn); in vanilla index trading it averaged US$60bn per month. Incredible.
In the year in question, just remind yourselves of what Lehman did: it structured the first managed rated equity CDO tranche; the first full capital structure loan CDS-backed synthetic portfolio trade; and the first synthetic constant proportion portfolio insurance trade based on a quantitative long/short credit strategy. It was one of only two dealers to close public constant proportion debt obligation trades.
It was a global leader in the development of loan CDS liquidity and remained the top trader of the pref CDS market that it had opened in 2005. Its Exum Ridge note issuance platform integrated a cashflow mechanism with standard CDO triggers to provide fully placed capital structure trades comprising synthetic high-yield or loan assets with portfolio transparency, short ramp-up times, no pre-payment risk and five-year bullet maturities.
Its Spirit notes applied a synthetic constant proportion portfolio insurance structure to a quantitative credit strategy developed by its own research team to give targeted expected returns of Euribor plus 200bp–250bp with a low expected lock-in event. Its Antara Capital trade became the second to use the CPDO structure; and Lehman closed a number of dynamic rules-based leveraged credit trades. The CPDO was of course IFR’s Innovation of the Year in 2006 – that hostage-to-fortune award is no longer an annual fixture.
The very idea that there was solid demand for exotic exposures like that boggles the mind today. How the world has changed.
Strategy shift
Then, there are the banks that change strategy without telling you. One episode in particular stands out in this respect. Back in 2004, we had given JP Morgan our Euro-CP House of the Year. JPM had an impressive money-markets business, and had developed its Euro-CP origination and placement platform as part of that, building strong client relationships and a global distribution network. The bank was a big liquidity provider, too. We had interviewed the senior members of the team, and they exuded a passion for the business, as you’d expect from product evangelists.
Little did we know that at the time we were interviewing them, the bank had already made a decision to shut its Euro-CP desk and get out of the business.
Within days of the publication of the 2004 Review of the Year came news of the closure and the fact that IFR had given JPM its award, which was by then all over the market. This caused no end of amusement – to the market, at any rate. Red faces all around, particularly our Euro-CP reporter who bore the brunt of the joshing.
Between borrowing and disaster lies … not much
In the borrowing sphere, IFR’s 2006 FIG Issuer of the Year award went to a small UK bank headquartered in the North East of England. It was a very savvy borrower, using capital markets to fund 75% of its balance sheet. In the year in question, it had borrowed £25.6bn across a range of products, but predominantly in RMBS. It was a Single A rated bank, but around 75% of its total issuance was Triple A and only 16% was in sterling. Its name: Northern Rock.
“To the uninformed,” we wrote at the time, “Northern Rock is not an obvious candidate to be a financial borrower of the year …” We certainly got that right. “… but then it is not exactly a likely candidate to be a top UK mortgage lender”.
A year after receiving the IFR award, Northern Rock was in the headlines for very different reasons. Wikipedia explains: “Northern Rock is a British bank, best known for becoming the first [UK] bank in 150 years to suffer a bank run, after having had to approach the Bank of England for a loan facility to replace money market funding during the credit crisis of 2007”.
The Rock was ravaged by the meltdown in the wholesale money markets so was unable to roll over debt falling due. By 2008, it had gone bust and had to be nationalised.
We had reminded readers in our awards article that to build its non-conforming and near-prime mortgage-backed business, the bank had begun originating sub-prime mortgages to feed Lehman Brothers’ securitisation platform. Alliance & Leicester, another mid-tier UK bank, also originated sub-prime loans for Lehman. A&L also fell victim to the financial crisis and had to be taken over by Santander.
In 2005, our FIG Issuer award had gone to HBOS, another heavy user of the wholesale capital markets (raising £30bn in the year in question). In our awards write-up, we kicked off as follows: “Borrowers fall into three camps: those that know; those that think they do and those that will listen”. Noting that those in the third camp are far and away the most successful, we gave HBOS the award for its collegiate, collaborative and flexible approach.
In 2005, HBOS had done some groundbreaking deals but as history showed, it was another victim of the financial crisis. In order to avoid another bank collapse, the UK government forced HBOS into a rescue merger with Lloyds Bank not long after Lehman had gone under.
Off the hook
To complete our roster of villains, Royal Bank of Scotland picked up the FIG Borrower award in 2004 – I’m beginning to think FIG Issuer isn’t such a good award to win – but that was long enough before (Sir) Fred Goodwin won the bidding war for ABN AMRO, which ended up destroying RBS and sending it into ignominious nationalisation, to get us off the hook.
Similarly, our choice of the Republic of Argentina as Emerging Market Borrower of the Year in 1997 and Latin American Borrower of the Year in 1998 was just about long enough before the sovereign’s US$93bn debt default.
Our write-up of the time contained an absolute gem: “Argentina is often compared to Italy,” we wrote, quoting a banker who said: “Everyone knows that they need to raise a lot of money, but they do it very well.” (Actually not so sure that last comment jives with Italy).
Looking back on Argentina’s massive borrowing spree through the 1990s, though, one might perhaps have wondered how it was going to pay it all back through the volatile and vicious economic cycles that characterise Latin America. At the time, investors were ravenous for Argentina exposure and the sovereign treasury team was more than happy to tap whatever pocket of demand it could find.
For the year in question, the sovereign sold debt in a bunch of pre-single currency segments (Eurolire, Europeseta, Euro-Deutsche Mark) as well as Eurosterling and Euroyen; it did the first-ever Euro-peso issue; did US dollar Globals across the curve and sold US$2.5bn of domestic Bontes Treasury bonds offshore. At the very least, when the sovereign came to negotiate its excruciatingly painful restructuring, IFR journalists were familiar with where its bonds were!
At the end of the day, fortunately, it’s not IFR’s place to determine whether debt is going to be repaid. That’s an issue purely for the borrower and our absolute get out of jail free card.
And just to prove that no year is without a mishap of some sort, the winner of the Equity Derivatives House of the Year announced in December 2011 was Morgan Stanley, a team run by Luc Francois. Or so we thought. To his credit, a spokesperson quickly called after the winners were announced to inform us that Francois had left to pursue other opportunities.
Cognisant of the potential for an IFR award being a precursor to disaster, this year a very senior banker told us during a pitch conversation: “If you give us [this] award, you can be sure that we won’t embarrass you,” he said. Something of an empty promise considering his likely departure in case of disaster, but comforting nonetheless.
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