Friday, November 30, 2012

Is Greece the Future of Pensions?

George Georgiopoulos and Lefteris Papadimas of Reuters report, Greeks rage against pension calamity:
In the heat of a June night, Eleni Spanopoulou found her audience at an Athens hotel turning ugly. Mutiny and violence hung in the air.

For hours the leader of the Greek journalists' social security fund had been chairing a meeting about disastrous losses on retirement savings caused by the country's economic collapse. "She tried to present herself as the fund's savior and asked (members) to double contributions to 6 percent of salaries," said one of those present that night at the Titania hotel. Spanopoulou, 58, did not succeed.

When she rose to leave around midnight, enraged fund members first swore, then waded in punching, kicking and tearing at her clothes, according to witnesses. A bodyguard managed to bustle her out of the room, but another group caught her just outside the hotel and gave her a second beating. She spent the night in hospital.

It was a brutal sign of the fury many Greeks feel at the way the country's debt crisis has dashed hopes of a comfortable old age. Greece's pension funds - patchily run in the first place, say unionists and some politicians - have been savaged by austerity and the terms of the international bailout keeping the country afloat.

Workers and pensioners suffered losses of about 10 billion euros ($13 billion) just in the debt restructuring of March 2012, when the value of some Greek bonds was cut in half. That sum is equal to 4.6 percent of the country's GDP in 2011.

Many savers blame the debacle on the Bank of Greece, the country's central bank, which administers three-quarters of pension funds' surplus cash. Pensioners and politicians accuse it of failing to foresee trouble looming, or even of investing pension fund money in government bonds that it knew to be at high risk of a 'haircut' - having their value reduced.

A Reuters examination of previously unpublished data from the Bank of Greece reveals the bank invested pension fund money in 1.18 billion euros of Greek bonds after the economic crisis began.

Prokopis Pavlopoulos, a lawmaker in the ruling coalition's conservative New Democracy party and former interior minister, said: "From July 2010 it was obvious that a debt restructuring would be inevitable. While foreign banks were unloading their Greek government bonds, no one moved to tell Greek pension funds to do something, that a haircut was coming."

Spanopoulou, while deploring the violence she suffered, said: "The Bank of Greece knew about the haircut on bonds well in advance and should have informed (our) fund."

The losses compound the woes of Greek pensioners, many of whom have seen their income fall; further cuts are expected as part of the latest austerity package voted through parliament in November.

The Bank of Greece rejects the criticism, arguing its room for maneuver was limited. Around the world pension funds routinely invest in government bonds, and the bank says the scale of Greece's economic meltdown was not obvious when most of its pension fund investments were made.

"More than 90 percent of the bonds that eventually suffered a haircut had been bought before 2009," said Mihalis Mihalopoulos, a Bank of Greece official who invests money on behalf of Greek pension funds.

That is not enough to assuage critics, who say the pension fund crisis is one of the most neglected facets of the Greek catastrophe. "At the very least ... pension funds were not warned," lawmaker Pavlopoulos said. "The government ... knew it was heading for a haircut and did nothing for these people, which I find hard to stomach."


Having grown up piecemeal over decades, the Greek pension system is highly fragmented with about 200 official bodies running different funds, with different costs and benefits, covering numerous occupations.

Broadly, though, the majority of people rely on schemes with an element of government funding as well as contributions from employers and employees. The state also plays a pivotal role in deciding how such funds invest, and appoints the boards on many of them.

Under a law passed in 1997 and refined in 2007, pension funds have to place 77 percent of any surplus cash in a pool of "common capital" managed by the Bank of Greece. The law requires the common capital to be invested only in Greek government bonds or Treasury bills (T-bills). The remaining 23 percent of funds can be invested in other assets, such as mutual funds, shares and real estate.

The aim of the measures, officials said, was to ensure that most of the money was safely tucked away for a steady return. In the good times, this worked. But it was to have disastrous consequences when the credit crunch that began in 2007 led to a crisis in sovereign debt.

When the incoming government of 2009 revealed Greece's finances were far worse than previously admitted, ministers initially dismissed the idea of reneging on some of the country's debts. But in some circles the prospect rapidly gained ground, according to a former Greek representative to the International Monetary Fund (IMF).

"The IMF ... was more open to securing the sustainability of Greece's debt via a writedown (than the euro zone countries)," said Panagiotis Roumeliotis, a former economy minister and Greece's IMF representative at the time. Foreign investors were not slow to see the danger.

Many scrambled to sell their holdings of Greek debt, but officials managing pension fund money at the Bank of Greece did not. Pavlopoulos claims that while foreign investors dumped more than 100 billion euros of Greek government bonds from 2009 to 2011, the country's pension funds actually raised their holdings by 9 billion euros.

The central bank disputes his figures. It says that between January 2009 and May 2011 it invested pension fund money in government bonds with a nominal value of only 1.18 billion euros, after which it stopped. It also said, in a letter to Pavlopoulos, that from the end of 2009 to the end of 2011 pension funds' total holdings of Greek bonds fell by 2.5 billion euros.

Despite those figures, Pavlopoulos remains dissatisfied. "The Bank of Greece did nothing to protect the pension funds," he said.

Amid the wrangling over exactly who bought what when, one thing is clear: when the financial storm struck, the pension funds remained heavily exposed. Bank of Greece figures show that the pension funds still held 19 billion euros of Greek bonds and 1.4 billion euros in T-bills as the country teetered on default in early 2012.

Mihalopoulos, the central bank investment manager, said selling the bonds would not have helped: "Had we liquidated the bond portfolio we would have realized a loss of 8 billion euros as prices had come down sharply."

In the end, however, the pension funds appear to have suffered an even bigger loss. In March, Greece completed the largest-ever sovereign debt restructuring as part of its bailout by the "troika" of euro zone members, IMF and European Central Bank. In a move known as "private sector involvement" or PSI, Greece replaced old bonds with new ones worth 53.5 percent less.

Bank of Greece figures show that by June the pension fund assets it controlled had plummeted to 11.1 billion euros, made up of 8.7 billion in bonds and 2.4 billion in T-bills. In the space of three months pension funds had lost about 10 billion euros.

Former Labour Minister George Koutroumanis told Reuters the losses were unavoidable. "How could we have asked to protect our own pension funds and let all the others take the blow, it could not have worked that way," said Koutroumanis, whose former department is in charge of the pension system. "The billions of euros that pension funds lost because of the PSI was a significant hit. But it has to be weighed against the need to ensure the viability of the country in the euro and the system's continued funding."

That argument does little to stem the anger of those facing impoverishment. Before the PSI, the journalists' pension fund had assets at the central bank worth 115 million euros; after the PSI they were worth 59 million euros, according to Bank of Greece figures.

Employees at ATEbank, a state-run institution that recently had to be rescued, are among others to have suffered. "The (health and supplementary pension) fund of ATEbank's employees is collapsing ... as a result of the PSI, which cost 70 million euros," said Konstantinos Amoutzias, president of the bank's employee union. "We have asked the Bank of Greece since the summer to provide us with data on the investment of our funds and they haven't answered us yet."

A senior Bank of Greece official, who declined to be named, said: "Any fund which has asked for data on transactions and market prices has received it." He added that, for reasons of legal confidentiality, the central bank could not reveal full details, such as the names of the banks from which it had bought government bonds in the secondary market.

Vaso Voyatzoglou, secretary general of insurance at the bank employees' union OTOE, said: "Eventually all pension funds will end up suing the Bank of Greece in order to find out what exactly happened and how they lost their money."


Among individuals on the receiving end of the losses is Constantine Siatras, 79, a retired lieutenant-general, who says his income has fallen by 33 percent during the crisis.

"We should not have illusions that our pension fund will recoup what it lost from the haircut on its government bond holdings," he said. "It's very hard to get by as a pensioner the way things are going."

Yet Siatras is one of the lucky ones: he still gets about 1,700 euros a month. Most have to survive on far less. Despite Greece's reputation for profligacy - with reports of public sector workers retiring early on fat pensions - the average pension is about 850 euros a month, according to unions representing 80 percent of pensioners.

Many pensioners have to get by on less, including Yorgos Vagelakos, a 75-year-old former factory worker, and his wife, who live in Keratsini, a working-class district near Athens. "We can barely afford to buy our grandchildren anything, not even a colorful notepad. When they ask us for one, we change the subject and then we cry," Vagelakos said in the tiny yard of his house.

His pension of 650 euros a month supports himself, his wife Anna and, when possible, the family of his 42-year old-son, who is unemployed. "Thankfully my younger son and his wife have a job," he said.

Tax increases and high prices have hit hard. "We have slashed everything by 50 percent. At night we keep the light off to save on our electricity bill. We have become vegetarians from cutting back. We can't take it anymore," Vagelakos said, talking while his wife cooked cauliflower and potatoes for lunch, a meal that would also feed the family of their elder son, who has two children.

"Out of 650 euros, at least 170 go for medicines for me and my wife, another 100 for electricity and 30 euros for water. With the rest we get by as we can." He picked up a bunch of bananas. "We don't eat these, we save them for our four grandchildren."

Faced with the plight of the retired and public anger, officials are now promising to make good some of the pension fund losses. The government has passed a law to enable it to transfer some state-owned assets, such as real-estate, into a new vehicle for the benefit of pension funds.

However, no such body has yet been established. And, as the country's debt crisis persists, the value of its state-owned assets remains uncertain.
As I stated in my last comment, Greek pensions got royally screwed because they were forced to invest in Greek bonds and stocks. There is no pension governance whatsoever in Greece where these funds are routinely raided for political purposes.

Back in September 2010, I met up with Petros Christodoulou, the head of  Greece's Public Debt Management Agency, and he confirmed what I long knew, namely, that Greek pensions are run by a bunch of political and union hacks. The system is riddled with corruption and gross mismanagement.

And it's still vulnerable to further abuse. The latest Greek debt deal does nothing to introduce meaningful reform to the Greek pension system. What Greece needs is to get rid of its fragmented pension system and start anew, following a governance model that has worked well in Canada, and even going above and beyond it.

In fact, if the Greek government was serious about introducing meaningful pension reform, it would hire David Dodge, Canada's former (and best ever) central banker, and Bernard Dussault, Canada's former Chief Actuary. Dodge is a proponent of expanded CPP and so is Dussault. They should also hire the former CEO of the Healthcare of Ontario Pension Plan, John Crocker, a staunch defender of defined-benefit plans.

As far as pension governance, the Greek government should hire yours truly. I produced a report for the Treasury Board of Canada that is collecting dust somewhere in Ottawa, one that would make the leaders of Canada's widely touted public pension funds blush from embarrassment or turn white with fear (and I had to water it down significantly because the folks at the Treasury Board got all flustered).

But the chances of Greece hiring Crocker, Dodge, Dussault and yours truly to revamp their grossly antiquated pension system is slim to none. Greek politicians and unions want to control pensions. The Greek central bank shouldn't have anything to do with pensions. There are very smart people working there but the governance is all wrong. Greece desperately needs to amalgamate its fragmented pensions and set up an independent investment board that operates at arms-length from the government. 

In Canada, more and more experts are coming out to state that the CPP offers ‘economies of scale’ that make it a cheaper alternative to PRPPs, but we too have a lot of work ahead of us to increase coverage and bolster our defined-benefit plans. As more and more corporate pensions fly off course, my greatest fears are coming to fruition.

In the United States, the focus is on the fiscal cliff but they've already gone over the pension cliff.  The magnitude of the catastrophe is so large that some public pensions face a meltdown. And as US and Canadian corporations offload pension risk to insurers, basically carving out the pension turkey, some retirees are rightfully enraged and threatening to sue:
Verizon retirees have sued the phone company because it's planning to transfer the responsibility of paying their pensions to an insurance company, where they will have weaker legal protection.

Verizon Communications Inc. said last month that it would transfer $7.5 billion of its pension obligations, covering 41,000 management retirees, to Prudential Insurance. The deal effectively turns the company's defined-benefit pensions into annuities.

Members of the Association of BellTel Retirees sued in federal court in Dallas on Tuesday. They're seeking a court order to halt the deal, which is set to close in December.

They note that annuities aren't covered by the federal Pension Benefit Guaranty Corp. A shortfall in the assets backing the annuities would be replaced by a "patchwork network of state guaranty associations, many of which are underfunded," the group said.

"Retirees and their spouses, especially in states with the lowest protection levels, will be seriously harmed and left with as little as two years pension replacement in case of insurer default," said William Jones, president of the retirees' association.

Randal S. Milch, New York-based Verizon's general counsel, said the suit lacks merit, adding that Prudential has a long history of providing group annuity benefits.

"Prudential is providing an irrevocable commitment to make all future annuity payments, and this promise will be supported by the extra protection of assets being placed in a separate account at Prudential dedicated to Verizon retirees," Milch said.

When it was announced, Verizon said the deal lowers the risk that its pension obligations will end up costing more than projected.

Consulting firm Aon Hewitt, which helped Verizon on the deal, said it was the second largest insured annuity settlement ever in the U.S. This summer, General Motors Corp. said it would settle $26 billion in pension obligations through lump sum payments and purchases of Prudential annuities.

Verizon has a total of $30 billion in outstanding pension obligations including the $7.5 billion slated to be transferred to Prudential.
Pay attention to this case and the one that threatens CalPERS and other US public pension funds. As CalPERS meets Greece, corporations offload pension risk to insurers, and 401(k)s get decimated, my fear is that many pensioners will get screwed but by the time they realize it, it will be too late. At that point, they'll suffer the same fate as Greek pensioners, ie. looming pension poverty.

Below, euronews reports on Greek pensioners protesting cuts (no comment). And Chris Tobe, pension consultant and former Kentucky Retirement System board member, discusses why Kentucky is Greece.

Thursday, November 29, 2012

When CalPERS Meets Greece?

Steven Church and James Nash of Bloomberg report, Calpers Seeks to Sue San Bernardino Over Pension Payments:
The California Public Employees’ Retirement System is seeking to sue bankrupt San Bernardino over missed pension payments, the second potentially precedent- setting fight the fund picked with a California city this year.

San Bernardino can’t use U.S. bankruptcy law to justify its failure to make at least $5 million in payments, Calpers, the biggest U.S. public-employee pension fund, said in court papers filed Nov. 27. The motion relies on arguments the fund is also making in the bankruptcy of Stockton, California, and may be a warning to other cities struggling with high pension costs, said James E. Spiotto, a bankruptcy attorney and partner at Chapman & Cutler LLP in Chicago.

“You don’t know if they are trying to send a message to others through San Bernardino, which is to be respected,” Spiotto said yesterday in a telephone interview.

Other cities and municipal bond investors may fear that Calpers’s strategy will lead to long and costly legal battles that leave less money to pay for essential services such as police and fire protection while driving up borrowing costs, Spiotto said.

Bondholders would be penalized if Calpers gets its way, Matt Fabian, managing director of Municipal Market Advisors, a research firm in Concord, Massachusetts, said.
Statutory Liens

“The issue is, do Calpers obligations supersede unsecured bondholders?” Fabian said in a telephone interview. “There’s an awful lot of unsecured bondholders in California. If you put pension obligations to Calpers as secured and senior to unsecured debt, in effect those bonds have been downgraded.”

In the Stockton and San Bernardino cases, Calpers is arguing that pension contributions must be made ahead of payments to other creditors because they are so-called statutory liens, or debts that state law requires to be paid. Bondholders and other creditors that oppose Calpers argue that pension debt is a contractual obligation like any other.

San Bernardino City Attorney James Penman and Gwendolyn Waters, a city spokeswoman, didn’t return calls seeking comment on the court filing.

Since initiating bankruptcy proceedings, San Bernardino has skipped $6.9 million in payments to Calpers, the pension fund said in an e-mailed statement. The $241 billion fund has continued to pay pensions to the city’s retirees, according to the statement.
Spending Plan

“This legal action would allow us to collect the employer contributions from San Bernardino, which are required by state law, to maintain the integrity of the San Bernardino pension plan for its public employees and retirees and to avoid needless procedural disputes and additional legal costs,” Anne Stausboll, Calpers chief executive officer, said in the statement.

Earlier this week, San Bernardino passed a provisional spending plan for use in bankruptcy. Under the so-called pendency plan, the city would put off paying $13 million to California’s retirement system and $3.4 million for pension bonds.

The city has $90 million of outstanding debt repaid from the city’s general fund, according to an Aug. 29 council report. Its unfunded pension liability is about $143 million, according to court papers. To help curb spending, the city has fired school crossing guards, closed three branch libraries and cut 41 non-uniformed police jobs, the city said in budget memos.
Legal Action

The County of San Bernardino voted to authorize any legal action that may be needed to collect $1.5 million in landfill fees owed by the city, county spokesman David Wert said. The county, which has about 2 million residents, is run by a separately elected board of supervisors who represent the unincorporated areas of the region.

The Stockton fight is further along and may set a precedent for how Calpers payments are treated, Spiotto said. That decision will be made by the federal judge overseeing Stockton’s bankruptcy case in Sacramento.

Calpers also may set a legal precedent in the San Bernardino case if it wins the right to fight the city outside bankruptcy court, Kenneth N. Klee, who helped rewrite Chapter 9 of the U.S. Bankruptcy Code in the 1970s as a lawyer working for Congress, said in an e-mail. Once a city or private company enters bankruptcy, creditors can’t seize property or sue for payments without permission from the judge overseeing the case.

Exemption Claim

Calpers claims that it is exempt from that requirement because it is a governmental agency. The fund may have a hard time winning that argument because it isn’t exercising traditional police powers, Klee and Spiotto said.

“If participants in the Calpers system fail to timely make payments, then Calpers will be unable to provide an actuarially sound retirement system,” the pension fund said in a filing in U.S. Bankruptcy Court in Riverside, California.

In August, San Bernardino became the third California city to file bankruptcy in less than three months. The city of more than 200,000 people lies about 60 miles (97 kilometers) east of Los Angeles. A fiscal emergency, brought on by a $46 million budget shortfall, forced it to stop paying some creditors and seek court protection, the city said.

San Bernardino filed for bankruptcy under Chapter 9, which is reserved for governmental agencies. Companies use Chapter 11, which allows them to cancel pensions, often shifting the burden to the government’s Pension Benefit Guaranty Corp.

The case is In re San Bernardino, 12-28006, U.S. Bankruptcy Court, Central District of California (Riverside).
Alison Frankel of Reuters also reports on this case writing, Calpers and the Constitution: a looming confrontation? (h/t Pension Tsunami):
On its face, the brief filed late Tuesday night by the California Public Employees' Retirement System in the municipal bankruptcy of San Bernardino isn't especially provocative. 
As Reuters was the first to report, Calpers wants U.S. Bankruptcy Judge Meredith Jury of Riverside to lift the automatic stay on litigation against San Bernardino, which filed for Chapter 9 protection in August, facing a gaping $46 million deficit. San Bernardino stopped making monthly payments to Calpers after it entered Chapter 9, and its debt to the pension fund now tops $5 million. Calpers' lawyers at K&L Gates argued in Tuesday's brief that under California's pension and labor laws, as well as the federal bankruptcy code, San Bernardino must make good on its obligations and pay the money it owes the pension fund. 
Those pension contributions, Calpers argued, are part of employee compensation, which is entitled to priority in federal bankruptcy. If San Bernardino won't pay, the brief said, the pension fund must be permitted to bring an enforcement action.

You won't find any sweeping pronouncements of Calpers' priority over San Bernardino's other creditors in Tuesday's brief. There's not even any mention of the city's proposed plan to resolve its deficit, which was passed Tuesday by the city council and calls for the city to continue to defer payments to Calpers. It's certainly possible that when Jury hears Calpers' motion to lift the stay in December, she'll treat it as a routine matter of Chapter 9 housekeeping. 
But I don't think that's going to happen.

Calpers didn't file Tuesday's motion in a vacuum. The pension fund is the biggest creditor not just in San Bernardino's municipal bankruptcy but also in Stockton's; San Bernardino's unfunded pension obligation is about $143 million and Stockton's is about $245 million. 
In the Stockton case, which predates San Bernardino's Chapter 9, Calpers has aggressively asserted its rights as a creditor. In response to complaints from bond insurers about Stockton's failure to negotiate any reduction in payments to Calpers, the pension fund said that it has priority over all other creditors and that the pension rights of public employees are protected by California's constitution. 
The bond insurers Assured Guaranty and National Public Finance Guarantee (an arm of MBIA) filed formal objections to Stockton's eligibility for Chapter 9 protection, challenging Calpers' claim of priority and hinting at a collision between the Supremacy Clause of the U.S. Constitution, which holds that federal law trumps state statutes, and the California state constitution's pension protections. 
(I've previously written about the federalism issue in the Stockton Chapter 9, which hinges on the intersection between 10th Amendment limits on federal judges overseeing municipal bankruptcies and the simultaneous requirement that cities show they're entitled to federal bankruptcy protection.)

The federalism issue has been pushed aside for now in the Stockton Chapter 9, as Calpers, the bond insurers and the city engage in mediation over Stockton's deficit reduction plan. A hearing on the bond insurers' challenge to Stockton's eligibility for bankruptcy protection isn't scheduled until March.

Calpers' motion in the San Bernardino Chapter 9 is on a much faster track. So if bond insurers want to test the strength of Calpers' power under the California constitution, they may well raise their Supremacy Clause arguments in responses due on Dec. 7. 
I believe the bond insurers are eager for the federalism fight; in the Stockton case, U.S. Bankruptcy Judge Christopher Klein of Sacramento has already ruled once that the whole purpose of federal bankruptcy is to permit debtors to sidestep contractual obligations and that "the Supremacy Clause trumps the similar contracts clause in the California state constitution." Klein wasn't ruling on Stockton's obligations to Calpers, but his reasoning bodes well for creditors who believe the pension fund's reliance on the state constitution is misplaced.

Calpers also engaged in some muscle-flexing in the San Bernardino motion that must have irritated the bond insurers. The fund cited its "police powers" as an instrument of the state of California and asserted that it's not even obliged to ask the court to lift the stay on litigation. It said it was only filing the motion "out of an abundance of caution." 
Calpers held out the prospect of terminating its relationship with San Bernardino, which would leave the city $319.5 million in the hole. And the pension fund also included several references to its powers under the California constitution. Though the motion addresses only San Bernardino's missed payments and not the city's long-term plan to pay its debt to Calpers, the brief can be read as bait by someone who is looking for a fight.

Calpers counsel at K&L Gates declined to comment. A Calpers representative told Reuters, "This legal action would allow us to collect the employer contributions from San Bernardino which are required by state law, to maintain the integrity of the San Bernardino pension plan for its public employees and retirees and to avoid needless procedural disputes and additional legal costs." 
National Public Finance is represented in both the Stockton and San Bernardino Chapter 9 cases by Winston & Strawn, which declined to comment. The bond insurer Ambac is represented in the San Bernardino bankruptcy by Arent Fox, which didn't respond to a phone message.
Finally, southern California public radio, 89.3 KPCC, also reports, Pushback: State pension giant CalPERS challenges San Bernardino's refusal to pay into retirement plan:
The city of San Bernardino has missed making payments of more than a million dollars a month to its employee pension plan since July, when the city first declared its fiscal emergency.

That non-payment is part the city's plan to show a bankruptcy court judge how it will close a deficit of nearly $46 million and restore the city to solvency.

The San Bernardino City Council decided Monday to not direct nearly $13 million it would normally have paid this fiscal year into California's public employee retirement system, known as CalPERS.

The city is already $6.9 million in arrears, the most any California city has fallen behind in recent months, said CalPERS spokeswoman Amy Norris. She was not immediately able to say if other municipalities have gone deeper into debt to CalPERS in past years, so it's difficult to put San Bernardino's non-payment into historical context.

CalPERS responded to the plan Wednesday by asking the judge who's monitoring the city's bankruptcy case to let it sue the city for payment. Normally, a city that files for bankruptcy would be shielded from lawsuits while it restructures its finances.

Mayor Pat Morris said insolvent San Bernardino had no choice but to temporarily halt paying into the pension plan.

"We have to first of all keep our essential services alive to protect our community and deliver those baseline services and doing that is taking all of our resources, it's that simple," Morris said.

The city had negotiated with CalPERS to try and arrange a different payment schedule and to pay interest on the mounting debt, Morris said. The agency manages pension funds for about 3,000 current and future retirees.

Morris says the city plans to pay up eventually, and does not want CalPERS -- which he described as a good partner to the city -- to drop or terminate the city's pension business.

"We're a member of the family in acute distress, and we're hoping that here in the ER room they will be one of the doctors who will help us through this and not an assassin," the mayor said.

Rising public employee pension costs worry other California cities, and some might be tempted to copy San Bernardino's strategy, said Karol Denniston, a San Francisco attorney who helped write the state's process for cities to declare bankruptcy.

"It matters to every municipality in California that's looking at having cash flow challenges and not been able to make their CalPERS payments either now or in the future," Denniston said.

She said California cities and financial industry players are closely watching the San Bernardino case to see whether the federal bankruptcy court will permit the city to pay CalPERS less than its contract called for, something that California law appears to forbid.

A bankruptcy judge would also decide whether CalPERS gets top priority, or must stand in line for payment behind other creditors.

Municipal bankruptcies are so rare that those issues have never before been decided in court, Denniston said. If San Bernardino can alter the terms or timetable of its pension payments, other cities might follow.

"We have over 450 municipalities in California right now. A good number of them are looking at struggling to make their CalPERS payments," she said.

While only three other California cities -- Stockton, Mammoth Lakes and Vallejo -- have declared bankruptcy in recent years -- none had withheld payments to CalPERS, said agency spokeswoman Norris.

In September, Compton tried the tactic. It had fallen about $3 million behind in its pension payments, Norris said. But CalPERS sued, and Compton has since made up the shortfall.
Earlier this month, I asked an important question: will California's bankruptcies rock munis? I've been tracking CalPERS's looming constitutional showdown very closely because if they manage to secure pension payments ahead of unsecured bondholders, it could potentially rock the municipal bond market, making it more expensive for cities to borrow money.

But if CalPERS loses this case, it opens up a Pandora's box as other municipalities will follow San Bernardino and suspend their pension payments. If that happens, CalPERS will have to make difficult choices, like drop or terminate city pensions. This isn't in anyone's best interest.

I titled this comment "When CalPERSs meets Greece?" because this is what happens when cities, states and countries run out of money. All the constitutional laws in the world don't protect pensions. Just go and read Andreas Koutras's latest comment, Euro council bond risk, a new type of bond risk, where he notes:
If Greek banks marked to market their nGGB (new GGB) holdings then they would suffer no additional losses due to this. If on the other hand they have them booked at par then all the benefits would be negated by the increase in capital injection by the state. As for the Greek pension funds, their massive losses and funding gaps do not count in the Greek debt. So it is a free raid on the future pension.
Greek pensions got royally screwed because they were forced to invest in Greek bonds and stocks. There is no pension governance whatsoever in Greece where these funds are routinely raided for political purposes.

Luckily CalPERS doesn't face these governance issues but they do face a looming constitutional battle to try and secure pension payments ahead of unsecured bondholders. The ramifications of this case will be felt across the United States and I fear that if CalPERS loses this case, US pensioners will face the same fate as Greek pensioners.

Below, Fox Business interviews former Schwarzenegger Press Secretary Aaron McLear and attorney Joey Jackson on CalPERS lawsuit against San Bernardino, California, for not making pay.

Wednesday, November 28, 2012

Caisse Thinks Bond Party Is Over?

The Globe published an article by Alexandra Stevenson of the Financial Times, Bond party is over, says Caisse chief Sabia:
The bond party is over – this according to one of Canada’s biggest pension fund managers, which plans to cut back significantly on its fixed income holdings.

“Over the last three to four years returns on fixed income have been amazing – almost equity-like,” Michael Sabia, chief executive of the Caisse de dépôt et placement du Québec, told the Financial Times.

“Our view on this is that the party is over, that therefore the eight to nines [per cent yield] we were earning are going to be replaced with twos, threes, maybe fours,” Mr. Sabia said.

The Caisse de dépôt manages more than $160-billion in private and public pension and insurance funds in Quebec. It is a big investor in British infrastructure, including a 13.3 per cent stake in Heathrow Airport and a 50 per cent stake in South East Water.

Mr. Sabia said the Caisse de dépôt will lower its $58.8-billion allocation to fixed income by $7-billion to $8-billion next year “as a starting point.” The money will be deployed to finance investments in less liquid assets such as private equity, real estate and infrastructure. The fund’s overall portfolio weighting in such alternative assets will change from a quarter today to 34 per cent.

The pension fund’s sentiment echoes that of GMO, the $104-billion (U.S.) Boston-based asset manager, which said it had “given up” on long-dated sovereign debt. This despite investors continuing to shovel billions into sovereign and corporate bonds, fuelling a rally in bond markets that some commentators warn has approached bubble proportions.

The Caisse de dépôt’s reallocation from fixed income is part of bigger shift away from a relative return approach – which involves benchmarking investments against indices – to focus on an absolute return model.

“I look at the returns that can be made either off the dividend or capital appreciation and I compare that with what we might earn in a fixed income portfolio and for me, that’s a good trade-off,” Mr. Sabia said.

“I’d rather put the money to work there and live with the notional increase in risk [than] from, say, a fixed income portfolio,” he added.

Diminishing returns from bond markets have prompted other institutional investors to question the asset class.

“Looking at valuation, 10-year bond yields in the U.K. and in the U.S. are at historic lows . . . suggesting bond markets have never been as overvalued as they are today,” said Mouhammed Choukeir, chief investment officer at Kleinwort Benson.
Michael Sabia joins a chorus of others warning that the bond party is over. You'll recall AIMCo's CEO, Leo de Bever, called the top on bonds in early May and then warned of storm clouds ahead in June.

More recently, De Bever was interviewed on BNN, warning investors of the risks in the bond market and illiquid alternatives (skip to parts 4 and 5). He flat out states there are basically two scenarios in bonds: "One is terrible, with sustained low yields, and the other is really terrible, which means at some point yields go up and that means returns on long bonds go down." Given a choice, he said he would rather be in stocks but admitted the stock market will be "inherently much more volatile" because returns on stocks "are driven up artificially" by quantitative easing.

As far as alternative investments, he said they're sometimes being used as a "panacea." AIMCo has significant exposure to private equity and infrastructure but "a lot of money has been poured to those markets so you have to be very careful that you're just not going from the frying pan into the fire and that yields are not being bid down to the pint where you're no longer being compensated for the risks you're taking."

So is the bond party over? Yes, it's over but it's also morphing into potentially more dangerous bubbles. Pensions and other investors have fueled the corporate bond bubble to the point where the risk-return tradeoff isn't as appealing. More worrisome,  investors hunting for yield are pushing funds back into CLOs, attracting many inexperienced managers.

Longer-term, some bond bulls turned bond bears see hyperinflation in the cards. Nonetheless, as I've previously stated, I don't agree with many calling the top on bonds because the 'titanic battle' over deflation has not killed bonds, and think that investors are underestimating risks of US credit markets and overestimating risks of European credit markets.

Importantly, while the bond party is over, bonds are far from dead. If Europe slips into a protracted debt deflation cycle, dragging the whole world along with it, you could potentially see another Japanese surprise where bonds continue outperforming all other asset classes on a risk-adjusted basis for another decade. 

But central banks and global policymakers will fight deflation tooth and nail. Even in Japan, there is a seismic shift going on to introduce inflation into the system. As central bankers pump up the jam, it will lead to more volatility in stocks and bonds.

This is why many large investors like the Caisse and AIMCo are shifting assets intro alternatives, to escape excess volatility in public markets. But as Leo de Bever warns, alternatives are no panacea, which is why I keep warning investors gung ho over the new asset allocation tipping point to temper their enthusiasm and recognize that alternatives present their own unique set of risks.

Below, Josh Lipton of Bloomberg reports on why some well-known bond bears are capitulating, buying Treasuries though the 1.69 percent yield on 10-year notes even though it is less than the rate of inflation and returns on the $10.9 trillion of marketable debt are the least in three years.

And Tony Crescenzi, portfolio manager and strategist at Pimco, talks about the bond market, Federal Reserve monetary policy and the so-called U.S. fiscal cliff. He speaks with Tom Keene, Michael McKee and Sara Eisen on Bloomberg Television's "Surveillance," stating that Treasuries remain a good asset class.

Tuesday, November 27, 2012

Clinching a Lasting Greek Deal?

Jan Strupczewski and Luke Baker of Reuters report, Greece, markets satisfied by EU-IMF Greek debt deal:
The Greek government and financial markets were cheered on Tuesday by an agreement between euro zone finance ministers and the International Monetary Fund to reduce Greece's debt, paving the way for the release of urgently needed aid loans.

The deal, clinched at the third attempt after weeks of wrangling, removes the biggest risk of a sovereign default in the euro zone for now, ensuring the near-bankrupt country will stay afloat at least until after a 2013 German general election.

"Tomorrow, a new day starts for all Greeks," Prime Minister Antonis Samaras told reporters at 3 a.m. in Athens after staying up to follow the tense Brussels negotiations.

After 12 hours of talks, international lenders agreed on a package of measures to reduce Greek debt by more than 40 billion euros, projected to cut it to 124 percent of gross domestic product by 2020.

In an additional new promise, ministers committed to taking further steps to lower Greece's debt to "significantly below 110 percent" in 2022.

That was a veiled acknowledgement that some write-off of loans may be necessary in 2016, the point when Greece is forecast to reach a primary budget surplus, although Germany and its northern allies continue to reject such a step publicly.

Analyst Alex White of JP Morgan called it "another moment of ‘creative ambiguity' to match the June (EU) Summit deal on legacy bank assets; i.e. a statement from which all sides can take a degree of comfort".

The euro strengthened, European shares climbed to near a three-week high and safe haven German bonds fell on Tuesday, after the agreement to reduce Greek debt and release loans to keep the economy afloat.

"The political will to reward the Greek austerity and reform measures has already been there for a while. Now, this political will has finally been supplemented by financial support," economist Carsten Brzeski of ING said.


To reduce the debt pile, ministers agreed to cut the interest rate on official loans, extend the maturity of Greece's loans from the EFSF bailout fund by 15 years to 30 years, and grant a 10-year interest repayment deferral on those loans.

German Finance Minister Wolfgang Schaeuble said Athens had to come close to achieving a primary surplus, where state income covers its expenditure, excluding the huge debt repayments.

"When Greece has achieved, or is about to achieve, a primary surplus and fulfilled all of its conditions, we will, if need be, consider further measures for the reduction of the total debt," Schaeuble said.

Eurogroup Chairman Jean-Claude Juncker said ministers would formally approve the release of a major aid installment needed to recapitalize Greece's teetering banks and enable the government to pay wages, pensions and suppliers on December 13 - after those national parliaments that need to approve the package do so.

The German and Dutch lower houses of parliament and the Grand Committee of the Finnish parliament have to endorse the deal. Losing no time, Schaeuble said he had asked German lawmakers to vote on the package this week.

Greece will receive 43.7 billion euros in four installments once it fulfills all conditions. The 34.4 billion euro December payment will comprise 23.8 billion for banks and 10.6 billion in budget assistance.

The IMF's share, less than a third of the total, will be paid out only once a buy-back of Greek debt has occurred in the coming weeks, but IMF Managing Director Christine Lagarde said the Fund had no intention of pulling out of the program.

Austrian Chancellor Werner Faymann welcomed the deal but said Greece still had a long way to go to get its finances and economy into shape. Vice Chancellor Michael Spindelegger told reporters the important thing had been keeping the IMF on board.

"It had threatened to go in a direction that the IMF would exit Greek financing. This was averted and this is decisive for us Europeans," he said.

The debt buy-back was the part of the package on which the least detail was disclosed, to try to avoid giving hedge funds an opportunity to push up prices. Officials have previously talked of a 10 billion euro program to buy debt back from private investors at about 35 cents in the euro.

The ministers promised to hand back 11 billion euros in profits accruing to their national central banks from European Central Bank purchases of discounted Greek government bonds in the secondary market.


The deal substantially reduces the risk of a Greek exit from the single currency area, unless political turmoil were to bring down Samaras's pro-bailout coalition and pass power to radical leftists or rightists.

The biggest opposition party, the hard left SYRIZA, which now leads Samaras's center-right New Democracy in opinion polls, dismissed the deal and said it fell short of what was needed to make Greece's debt affordable.

Greece, where the euro zone's debt crisis erupted in late 2009, is proportionately the currency area's most heavily indebted country, despite a big cut this year in the value of privately-held debt. Its economy has shrunk by nearly 25 percent in five years.

Negotiations had been stalled over how Greece's debt, forecast to peak at 190-200 percent of GDP in the coming two years, could be cut to a more bearable 120 percent by 2020.

The agreed figure fell slightly short of that goal, and the IMF insisted that euro zone ministers should make a firm commitment to further steps to reduce the debt if Athens faithfully implements its budget and reform program.

The main question remains whether Greek debt can become affordable without euro zone governments having to write off some of the loans they have made to Athens.

Germany and its northern European allies have hitherto rejected any idea of forgiving official loans to Athens, but European Union officials believe that line may soften after next September's German general election.

Schaeuble told reporters that it was legally impossible for Germany and other countries to forgive debt while simultaneously giving new loan guarantees. That did not explicitly preclude debt relief at a later stage, once Greece completes its adjustment program and no longer needs new loans.

But senior conservative German lawmaker Gerda Hasselfeldt said there was no legal possibility for a debt "haircut" for Greece in the future either.

At Germany's insistence, earmarked revenue and aid payments will go into a strengthened "segregated account" to ensure that Greece services its debts.

A source familiar with IMF thinking said a loan write-off once Greece has fulfilled its program would be the simplest way to make its debt viable, but other methods such as forgoing interest payments, or lending at below market rates and extending maturities could all help.

German central bank governor Jens Weidmann has suggested that Greece could "earn" a reduction in debt it owes to euro zone governments in a few years if it diligently implements all the agreed reforms. The European Commission backs that view.

The ministers agreed to reduce interest on already extended bilateral loans in stages from the current 150 basis points above financing costs to 50 bps.
Some thoughts on this latest Greek deal. First, I told my readers a long time ago to start looking beyond Grexit. There was no way in hell they would let Greece leave the eurozone, not because they love Greece, but because they're terrified of the domino effect that action would have on Spain, Italy and Portugal.

Second, while this deal ensures wages and pensions will continue being paid in Greece, it also ensures German and French banks won't take bigger losses and continue collecting interest on their debt. A friend of mine remarked yesterday that the IMF wanted more write-offs because in Europe, these deals are almost entirely being financed by the public sector. "The IMF knows this isn't sustainable."

Third, as I recently noted in the end of European solidarity, Greece will never get its debt under control until it reforms its bloated public sector, cuts bureaucratic red tape and corruption, and implements meaningful investment policies to start growing again. Without growth, they will never escape their debt quagmire.

Fourth, mark my words, there will be another "Greek haircut" in the future but only after Frau Merkel gets reelected. This deal buys her time to focus on getting reelected but once she gets in, I suspect you will see a much more receptive Merkel.

Finally, for all you vulture funds looking to score big on Greek and periphery Europe's sovereign debt woes, have a look at what's going on in Argentina where they just appealed a US hedge fund ruling:
Argentina has appealed against a US court order forcing it to pay $1.3bn (£810m) to hedge funds holding debts from the country's 2001 default.

The economy minister in Buenos Aires said the US ruling was an "attack on sovereignty" as it filed an appeal in New York on Monday.

Last week, US district judge Thomas Griesa ordered Argentina to pay out $1.3bn to the tiny minority of bondholders who refused to sign up to a hard-fought writedown of its debts after the country's sovereign debt default a decade ago.

About 93% of bondholders agreed to a restructuring that gave them back about 30p in the pound, but some hedge fund creditors refused the deal and are pursing Argentina through courts across the world. Argentina has refused to pay the hedge funds, which it describes as "vultures".

The economic ministry said Griesa's ruling "shows ignorance of the laws passed by our Congress".

Earlier on Monday, investors holding $1bn-worth of restructured Argentine debt filed an emergency motion in a US court to also fight the ruling, which they fear could prevent payment on their bonds and lead to a fresh default.

They are concerned that if Argentina is forced to pay the so-called vulture funds it will reduce the amount of money the country has available to its other lenders, pushing it into a technical default on its existing $60bn of debts.

In his ruling last week, Griesa said: "Argentina owes this and owes it now."

"In accepting the exchange offers of 30 cents on the dollar, the exchange bondholders bargained for certainty and the avoidance of the burden and risk of litigating," he said. "Moreover, it is hardly an injustice to have legal rulings which, at long last, mean that Argentina must pay the debts which it owes. After 10 years of litigation this is a just result."

The judge made his ruling following claims led by Elliott Capital Management and Aurelius Capital Management.
I wish Elliott Capital Management and Aurelius Capital Management good luck collecting these monies. In my opinion, they were fools for not signing up to the writedown of Argentina's debt. They can seize all the Argentine vessels they want, it won't make a difference. They will be taught  a lesson and so will other vulture funds looking to make a killing off of sovereign debt restructurings (again, my opinion).

Below, Bloomberg reports that European finance ministers eased the terms on emergency aid for Greece, declaring after three years of false starts that Europe has found the formula for nursing the debt-stricken country back to health.

David Tweed, Bloomberg European Editor, also examines the agreement by E.U. finance ministers to cut rates on Greek bailout loans. He speaks on Bloomberg Television's "In The Loop."

Finally, Nick Beecroft, chairman of Saxo Capital Markets U.K. Ltd., talks about the terms on emergency aid for Greece. He speaks with Mark Barton on Bloomberg Television's "Countdown."

Monday, November 26, 2012

Asia's Alternatives Paradise?

Isabella Steger of the WSJ reports, Private Equity Interest Shifts to Southeast Asia:
Some of the world’s biggest private-equity firms have stepped up their presence in Southeast Asia this year, eager to benefit from the region’s growth. But even as the value of transactions surges, the region remains a tough place to make a deal.

One key reason: Valuations are rising quickly as competition heats up for assets. Companies, particularly those in Japan and Korea, are looking there for growth, more so as growth stalls in India and China, say bankers and deal makers. These buyers are often happy to pay more than private-equity investors.

“Our competition is very rarely private equity. Our real competition is strategic buyers,” as firms in similar industries are called, said Rodney Muse, managing partner of Kuala Lumpur-based Navis Capital.

Private-equity transactions in Southeast Asia have totaled $3.6 billion so far this year, up from $1.3 billion last year, according to data from the Centre for Asia Private Equity. This year’s figure includes a $1.7 billion buyout of snack-food franchises KFC Holdings (Malaysia) and QSR Brands by European private-equity firm CVC Capital Partners, which hasn’t yet closed.

Last month, U.S. private-equity firm Kohlberg Kravis Roberts opened its Singapore office, with co-founder Henry Kravis boldly announcing plans to invest more than $1 billion in Southeast Asia over the next five years.

Blackstone Group LP also opened a Singapore office earlier this year, while Carlyle Group LP recently closed its first Southeast Asia deal, an investment in Indonesian telecom towers operator PT Solusi Tunas Pratama for between $100 million to $150 million, according to people with knowledge of the deal.

“Strategic buyers can sometimes afford a little bit more given the synergies they expect to achieve. That has led to some aggressive bidding for assets,” said Sebastien Lamy, a partner at consulting firm Bain & Co. in Singapore.

High valuations in the stock markets could also be driving pricing expectations. Both stock markets in the Philippines and Thailand are up more than 20% year-to-date, and Indonesia is up 13%, for example. In contrast, China’s main indices are in negative territory for the year.

“Sellers’ expectations [in Southeast Asia] have become very high,” Navis Capital’s Mr. Muse said.

Some private-equity firms have benefited from the demand for Southeast Asian assets, by selling investments to strategic buyers at a hefty profit. Navis sold Singapore-based King’s Safetywear Ltd., a maker of protective shoes for industrial uses, late last year to U.S. conglomerate Honeywell International for $338 million. It had bought the company in 2008 for S$97.1 million ($79.2 million).

Apart from intense competition, one of the most common complaints is that it remains difficult to find deals, not least because of the dominance of large, family-owned conglomerates in Southeast Asia’s economies. The number of smaller startups are low in comparison.

“The entrepreneurial segment of the economy [in Southeast Asia] is still small,” Sigit Prasetya, managing partner for Southeast Asia at CVC, said on a panel at the Asian Venture Capital Journal conference in Hong Kong last week. He added that because these large business groups have great access to capital from banks, they are also asking what else private-equity can bring beyond just capital.

That may be starting to change, as the second generation of these families is more receptive toward the operational expertise that private-equity firms can offer, said John van Oost, managing partner of Singapore-based, Yishan Capital Partners, a real-estate investment firm that specializes in investing in Southeast Asia.

For example, Yishan recently formed a joint venture with Indonesian industrial group Rodamas Group, whose businesses range from chemicals to food, to manage and develop logistics facilities in the country.
Indeed, good private equity funds bring a lot more to the table than just capital and the second generation of these families, which is typically educated in prestigious business schools abroad, recognizes this and is more receptive to working with PE funds.

Asian private equity deals are on the rise. In their latest weekly roundup, Reuters reports that Blackstone and China agribusiness company New Hope Group are through to the final round of bidding for Australia's largest poultry producer Inghams Enterprises, a deal that could be worth as much as A$1.4 billion (US$1.5 billion). 

And Bloomberg's Ben Hui reports, BlackRock Sees Asian Demand in Illiquid Hedge-Fund Assets:
Blackrock, the world’s largest asset manager, said there is rising demand from Asia-Pacific investors for less liquid hedge-fund investments as European and U.S. financial institutions clean up their balance sheets.

More than half of the money BlackRock’s fund of hedge funds division drew from regional investors since January 2011 is dedicated to longer-term, special-situations investments, such as direct lending to companies that need cash and mortgage- backed securities, said Joseph Pacini, the Asia-Pacific head of Alternative Investment Strategy Group. Two-thirds of the allocation was made in the past year as macroeconomic concerns eased, he said.

“Asian investors today have a lot of cash and capital,” Pacini said in an interview in Hong Kong. “Over the last year, we have seen a noticeable shift from nervousness about investing to interest in where the markets are, what’s the dislocation and where we should be focusing now.”

U.S. and European financial institutions may have to shrink their balance sheets by another $3 trillion to comply with tighter regulation after the global financial and European debt crises, said Pacini. Asian investors who have survived the 1997- 1998 Asian financial crisis and escaped the brunt of the latest global turmoil are eying opportunities, including in commercial real estate and aviation financing, to boost returns amid low interest rates, he said.
Alternative Investments

BlackRock’s alternative investment arm managed $110 billion in assets globally as of September in private equity, real estate, hedge funds and infrastructure. BlackRock Alternative Advisors, the fund-of-hedge-funds unit, oversaw $18.7 billion as of early October, with about half of that raised from Asia- Pacific clients, Pacini said.

Large European banks may shrink their balance sheets by as much as 2 trillion euros ($2.6 trillion), or 7 percent of their assets, by 2013, Pacini wrote in a paper last month citing government and International Monetary Fund data. That compares with the $250 billion of assets sold off or cut from balance sheets during the savings and loans crisis in the U.S. in the late 1980s, and the $350 billion during the Asian debt crisis of the 1990s, he said.
Trophy Assets

While trophy assets in some markets have been sold, further deleveraging is expected, Pacini said.

BlueMountain Capital Management LLC, an $11 billion New York-based manager, said it raised $1.5 billion, double its target, for a fund that invests in structured corporate credit, including asset-backed securities and less-often-traded corporate credit, tapping investor demand for higher returns amid near-zero interest rates and bond yields as governments around the world try to stimulate economic growth.

The Lyxor Distressed Securities Index returned 6.3 percent in the first 10 months, while the Lyxor Special Situations Index gained 3.3 percent. Both outperformed the 1.6 percent advance of the Lyxor Hedge Fund Index in the same period.

Asian institutions have indicated interest in investing in such assets through BlackRock funds, tailor-made accounts or alongside BlackRock funds, Pacini said. BlackRock has allocated several billions of dollars to managers, often small and specialized, that invest in such assets or through co- investments with them, he added, declining to give a more specific number as it’s confidential.
Aviation Financing

The fund manager is also looking to fill a void left by European banks such as Societe Generale SA and BNP Paribas SA that are winding back aviation financing even as aircraft deliveries increase, Pacini said. Aircraft deliveries this year may rise 23 percent to $95 billion from a year earlier, with aviation bank financing to slide 4 percentage points to 21 percent, London-based trade journal Flightglobal reported in January, citing a Boeing Co. forecast.

There is an estimated real estate funding gap of $86 billion in Europe and $31 billion in the Asia-Pacific region this year and next even after insurers and fund managers have stepped up to meet some of the refinancing needs, according to a report this month by property broker DTZ Holdings Plc.

“There’s refinancing that needs to happen because a lot of the commercial mortgage-backed securities and debt done in 2006, 2007 are coming due,” said Pacini.
As banks retrench from certain activities to shore up their balance sheets, hedge funds and private equity funds will step in to fill the void, for a price. That's why bankers are jumping ship to hedge funds and private equity.

Will Asia become an alternatives paradise? Not sure, too early to tell. There are plenty of opportunities but many pitfalls too. I would caution investors to temper their enthusiasm on illiquid alternatives in Asia. The deals are being bid up aggressively, raising concerns on pricing.

As far as Asian hedge funds, investors should approach them carefully. India's Economic Times reports that Kevin Kwong, a partner at Blackstone-backed Senrigan Capital, has left the Hong Kong-based hedge fund this month to start his own investment firm:
Kwong was part of the core investment team at Senrigan, an Asia-focused event-driven hedge fund that started in 2009 with seed capital from US alternative asset manager Blackstone Group. Senrigan, however, has racked up big investment losses over the past two years.

The executive's departure comes at a tough time for the Asian hedge fund industry which has seen investors pull out a net $1.35 billion through October this year, according to data from industry tracker Eurekahedge.

However, some Asian spinouts from global hedge funds such has Lone Pine and Perry Capital have collected hundreds of millions of dollars as investors still continue to back fund managers with a proven track record.

Kwong, who worked with Senrigan boss and one of Asia's best-known hedge fund managers Nick Taylor for the last eight years, is setting up The Aria Group, a family office that will run multiple investment strategies, one of the sources said.
Finally, Carlyle co-founder, David Rubenstein, says China is in transition, opening up to the rest of the world:
China is in a historic period of transition and is evolving to become a more open society, according to David Rubenstein, co-founder of the global private equity fund The Carlyle Group.

Rubenstein said China's fast growing population, along with the political transition set to take place under new president Xi Jinping, marks a turning point for a nation that in the past has tried to remain insular.

"It's impossible to take 1.3 billion people and keep them closed to the rest of the world," Rubenstein said Thursday at the Washington Ideas Forum. "You're not going to be able to go back to the system you had before."

Rubenstein, who has overseen billions of dollars of investment in China, also said the country is ripe with entrepreneurship. "There are more entrepreneurs per capita then there are anywhere else in the world," Rubenstein said of China. "In the business world, they are as determined to be successful as people are here."

Rubenstein also called on Congress to solve the fiscal cliff. He said doing nothing would cause harm to the U.S. economy and send a signal of incompetence to the rest of the world. "They know what they're supposed to do. They know they have to solve the fiscal cliff but they don't know how to do it," Rubenstein said of Congress. "How can this country be the leading country in the world when we can't solve these problems?"

Rubenstein added that he thought Democrats and Republicans would come to an agreement but that it would not solve long-term issues. "I think they will come up with a one-year bargain. There will be something for everybody," Rubenstein said. "I don't think it will be very pretty."

After the fiscal cliff is solved, Rubenstein says businesses will better be able to make decisions for their future. "What business people want is certainty," he said. "Just tell us what the rules are and we'll figure out how to deal with them."

Rubenstein, a noted philanthropist, also said that Americans, while the most generous people in the world in terms of money given to charities, could give more.

"The implication is that you have to be a billionaire to be a philanthropist," he said. "I want everybody to feel they should give some of their time or money. More people at all levels of income should do it."
Below, David Rubenstein, co-chief executive officer of the Carlyle Group LP, talks about investment strategy, the outlook for the private equity industry and U.S. fiscal policy. Rubenstein talks with Erik Schatzker, Scarlet Fu, Cristina Alesci and Peter Cook on Bloomberg Television’s “Market Makers.” Listen carefully to what he says.

Sunday, November 25, 2012

Bankers Jumping Ship to Hedge Funds?

Tommy Wilkes of Reuters reports, Job cuts and regulation push bankers toward hedge funds:
The hedge fund industry is expected to see a wave of new launches in the next year by traders who have lost their jobs at investment banks or who have left in search of better pay.

The start-ups are expected despite the unimpressive performance of other new ventures and questions about where they will find new capital to finance them.

New rules banning U.S. banks or those with U.S. subsidiaries from risky but potentially profitable proprietary trading are also encouraging some traders to make the move.

Mitt Romney's U.S. presidential election defeat means little chance of the wider regulatory bill being repealed, as he had promised.

"If you consider what's going on for (banks) at the moment from a compensation point of view, plus the increase in regulation and impediments to expressing risk...then working at a hedge fund looks like a compelling option at the moment," said David Barenborg, a portfolio manager at BlackRock (BLK.N) Alternative Advisors.

Among the most prominent names who have tried to launch this year are JP Morgan's Mike Stewart and Deepak Gulati, Citi's former head of proprietary trading Sutesh Sharma, and Nomura's Borut Miklavcic, who gained approval from Britain's Financial Services Authority for his LindenGrove Capital this month.

Other traders away from the proprietary businesses, such as so-called "flow" traders, who engage in market-making transactions for clients, are also leaving banks.

Antoine Cornut, a former head of flow-credit trading for Deutsche Bank, is setting up his own credit-focused hedge fund Camares Capital, two people familiar with the launch said.

Investment banks across the globe have slashed hundreds of thousands of jobs since a market peak in 2007, as tougher regulations and weak dealmaking force them to cut costs. UBS said last month it was winding down its fixed income business and cut 10,000 jobs.

Banks are also under pressure to cut bonuses and benefits, reducing the incentive to stay on at a bank with the promise of a more lucrative job elsewhere.


Proprietary trading, or trading with the banks own money, can closely resemble trading in the hedge fund business and has turned out big profits before the financial crisis.

But the U.S. Dodd-Frank bill, introduced under President Barack Obama, includes a ban, known as the Volcker rule, on proprietary trading because it is risky.

Under that rule, U.S. banks or banks with U.S. subsidiaries or branches - most major European and Asian lenders - were banned from betting with their own capital from July this year, but given until 2014 to comply.

Many banks were quick to dismantle their "prop" desks ahead of the rule, but others have taken a wait-and-see approach and may now have to make big cuts. This will likely mean several new launch attempts in the first quarter of next year.

"We will definitely see some new spin-outs over the coming year as most banks continue to plan ahead," said Daniel Caplan, European Head of Global Prime Finance at Deutsche Bank, which has worked with several of the major launches to come out of banks since the 2008 financial crisis.

He expects the next year will herald more start-ups in credit - one of the top performing and most popular sectors in 2012 - because many of the big ones so far have focused on trading equities.

The average credit hedge fund is up almost 9 percent this year, beating the average hedge fund's 4.3 percent, data from industry tracker Hedge Fund Research shows.


There is no guarantee traders will be able to raise sufficient capital to launch their own funds, however.

The bulk of the money flowing into the industry since the financial crisis has gone straight to the biggest names, leaving start-ups struggling.

Bank traders have instead found themselves snapped up by the big, established hedge funds - an offer some who fail to get planned launches off the ground will likely take.

Moreover, many of the biggest new ventures have failed to make their backers money.

Edoma Partners, set up by a former senior proprietary trader at Goldman Sachs and one of the most hyped launches since the financial crisis, said earlier this month it was shutting down after just two years, hit by poor returns and investor exits.

As I stated last week when I went over third quarter 13F filings of top funds, these are tough times for even the best hedge funds. In fact, these are tough times for all active managers, with one US study showing that active managers do have a better track record in recessions, but the study concludes that “active portfolio management fails to add value above the higher costs it imposes on investors.”

As far as bank traders are concerned, the very best of them will move to start their own operation or, far more likely, join an established hedge fund. Saijel Kishan, Miles Weiss and Jesse Westbrook of Bloomberg report, Brevan Howard on Hiring Spree Makes Comeback in New York:
Brevan Howard Asset Management LLP, Europe’s second-biggest hedge fund, is rebuilding in the U.S. after largely pulling out during the 2008 financial crisis.

The $39 billion firm, run by billionaire Alan Howard, is seeking traders for its New York office after adding 14 people to its U.S. unit in the past five months, four people familiar with the matter said. Among those recently hired by London-based Brevan Howard are Don Carson, who ran Credit Suisse Group AG’s U.S. dollar swaps desk, Josh Bertman, a mortgage trader from the Zurich bank, and strategists from Deutsche Bank AG.

Brevan Howard, whose U.S. unit expanded to 16 people last month from two in June, is hiring as Wall Street banks shrink or eliminate trading desks and hedge funds struggle to profit from Europe’s sovereign-debt crisis and other global economic trends. The firm, whose main fund is on track for its second-worst year, is expanding to gain more insight into U.S. markets, attract traders and give employees the opportunity to relocate to New York, said one person with knowledge of the matter, who like the others asked not to be named because the information is private.

“Expanding in New York at this time is a smart move given how there’s a lot of blood on the street as banks and hedge funds cut talent,” said Gustavo Dolfino, president of New York- based recruitment firm WhiteRock Group LLC. “Some of the hot strategies right now include global macro and commodities.”

A spokesman for Brevan Howard declined to comment.
Seeking Talent

Brevan Howard is a macro hedge fund, which seeks to profit from broad economic trends by trading everything from currencies to commodities. Such funds posted an average 0.9 percent loss this year through October, according to data compiled by Bloomberg.

Brevan Howard’s Master Fund, which has never had a losing year since its 2003 inception, returned about 1.8 percent through Nov. 9, according to a person briefed on the returns. Its worst year on record was a 1 percent gain in 2010.

Carson was hired last month, and Bertman is set to join after leaving Credit Suisse in October, people with knowledge of the hires said earlier this month. Giles Coppel, a former trader at hedge fund Tudor Investment Corp., is listed as the head of trading in a registration filed by Brevan Howard’s U.S. unit.

Vinay Pande, who was chief investment adviser at Deutsche Bank, was scheduled to join the hedge fund’s New York office last month, heading a team of three researchers. David Gilbert, an attorney in Brevan Howard’s London office, became chief operating officer of the U.S. subsidiary in September, filings show.
Midtown Office

The firm also hired Shelley Goldberg, a former commodities strategist at Nouriel Roubini’s Roubini Global Economics, said another person with knowledge of the matter.

Worldwide, Brevan Howard employs about 430 people, of which 110 are directly involved in investing. Apart from London and Geneva, Brevan Howard has offices in Hong Kong, Tel Aviv, Washington, Sao Paulo and St. Helier in the island of Jersey, according to its website. Its New York offices are on Madison Avenue, in midtown Manhattan.

Howard, 49, whose personal wealth was estimated at 1.4 billion pounds ($2.2 billion) by the Sunday Times in April, relocated in 2010 to Geneva from London, joining other hedge- fund managers who moved to Switzerland after the U.K. government announced plans to raise taxes on top earners.
Founders’ Departure

The first part of Brevan Howard’s name is made up of the initials of founding partners. Chris Rokos, the “R” in Brevan, left the firm in August. James Vernon, the former chief operating officer and the “V”, left last year, and Jean- Philippe Blochet, the “B”, left in late 2009. The remaining co-founders are Howard and Trifon Natsis.

Brevan Howard’s U.S. operations were cut back in 2008, and many of those who worked in the U.S. were given the option of moving to London, according to two former employees. The downsizing included an office in Connecticut, which employed former traders from RBS Greenwich Capital Markets who focused on interest rate products, including U.S. government bonds and derivatives, for the firm’s master fund, another former employee said.

Brevan Howard’s main investment-advisory unit claimed an exemption from U.S. hedge-fund regulation in March of this year and formed a new U.S. unit a month later that is subject to oversight by the Securities and Exchange Commission. BlueCrest Capital Management LLP and Winton Capital Management Ltd., the third-biggest and fourth-biggest European hedge funds, are registered with the SEC. Man Group Plc, Europe’s largest hedge fund, has had a registered U.S. unit since 2000.
U.S. Unit

According to a June 8 filing with the SEC, Brevan Howard “envisaged” that the U.S. unit registered with the SEC would initially manage about $300 million on behalf of the master fund run out of London. The unit, Brevan Howard US Investment Management LP, was slated to open in July, according to the document. In August, Brevan Howard’s U.S. unit amended its registration to say that the net assets totaled $800 million.

Brevan Howard, which is regulated in the U.K. by the Financial Services Authority, previously spun off a mortgage trading operation run in the U.S. by David Warren, a former managing director and chief operating officer in Morgan Stanley’s mortgage-backed securities department.

Warren in March 2009 set up his own firm under the name DW Investment Management LP. The firm manages money exclusively for Brevan Howard partnerships, including the Brevan Howard master fund and the Brevan Howard Credit Catalysts fund, and is on the same floor of a New York office building as Brevan Howard’s U.S. unit. DW’s assets under management totaled almost $4 billion as of March 15, according to a government filing.
‘Friendliest Market’

While Warren controls investment decisions, Brevan Howard’s compliance department monitors DW’s daily trading activity, according to documents filed with the SEC. Brevan Howard also establishes all arrangements for the custody of securities in funds managed by Warren’s firm, and has the ability to prescribe risk mandates, the filing says.

Brevan Howard had also registered a brokerage unit in New York that helps raise money from American investors. About 64 percent of the money invested by pension plans and other institutional investors in hedge funds comes from North America, while Europe accounts for 24 percent, according to Preqin Ltd., a London-based research firm.

The firm is currently looking to the U.S. to raise money for a three-year-old currency fund. It filed an Aug. 9 private- placement notice with the SEC to raise an unspecified amount of assets for its Macro FX fund. The filing allows a hedge fund to raise money without going through the SEC’s registration process for securities, based on the regulator’s view that potential investors are sophisticated and able to fend for themselves.

“Fundraising is tough at the moment but easier in the U.S. than the rest of the world,” said Daniel Celeghin, a partner at Casey Quirk & Associates LLC, a Darien, Connecticut-based firm that advises asset managers. “U.S. investors are the friendliest market to hedge funds right now.”
Indeed, US investors can't get enough of hedge funds. I think Brevan Howard is on the right track hiring top traders away from banks. I just wish they opened up offices in Toronto and Montreal so I can introduce them to top talent in Canada.

How many Canadian traders/ managers can survive the cut-throat environment at Brevan Howard? Very, very few. I can count them on one hand but there's definitely talent worth approaching here and these individuals would fit perfectly with Brevan Howard or other large hedge funds looking for true alpha talent.

As Canadian banks follow their global counterparts and retrench from proprietary trading and hedge fund activity, opportunities are opening up here for hedge funds to hire talented traders/ investment managers. I personally believe banks shouldn't be in the hedge fund business. Their myopic focus on short-term results isn't conducive for hedge fund investments and as Soros rightly noted, there's no alignment of interests.

Apart from hedge funds, pension funds should be seeding top alpha talent. Unfortunately, in this conservative environment where everyone is "de-risking," not many pension funds have an appetite to seed anyone. But some are getting creative with external managers and mandating seeding activity to experienced shops like Blackstone.

Below, KKR & Co., the buyout firm founded by Henry Kravis and George Roberts, hired nine members of Goldman Sachs Group Inc.’s U.S. principal-strategies group for a new hedge fund. Bloomberg's Cristina Alesci reported this back in October 2010.

And Jack McDonald, chief executive officer of Conifer Group, talks about the outlook for the hedge-fund industry. He speaks with Erik Schatzker and Stephanie Ruhle on Bloomberg Television's "Market Makers." LionTree Advisors LLC's Aryeh Bourkoff also speaks.

Finally, Bloomberg News' Kelly Bit discusses hedge fund compensation. She speaks with Deirdre Bolton on Bloomberg Television's "Money Moves."