• NY Times: The Madoff Economy

The financial services industry has claimed an ever-growing share of the nation’s income over the past generation, making the people who run the industry incredibly rich. Yet, at this point, it looks as if much of the industry has been destroying value, not creating it.

At the crudest level, Wall Street’s ill-gotten gains corrupted and continue to corrupt politics, in a nicely bipartisan way. From Bush administration officials like Christopher Cox, chairman of the Securities and Exchange Commission, who looked the other way as evidence of financial fraud mounted, to Democrats who still haven’t closed the outrageous tax loophole that benefits executives at hedge funds and private equity firms (hello, Senator Schumer), politicians have walked when money talked.

• NY Times: How India Avoided a Crisis

“He basically believed that if bankers were given the opportunity to sin, they would sin,” said one banker who asked not to be named because, well, there’s not much percentage in getting on the wrong side of the Reserve Bank of India.

As the credit crisis has spread these past months, no Indian bank has come close to failing the way so many United States and European financial institutions have. None have required the kind of emergency injections of capital that Western banks have needed. None have had the huge write-downs that were par for the course in the West. As the bubble has burst, which lenders have taken the hit? Why, the private equity and hedge fund lenders who had been so eager to finance land development. Us, in others words, rather than them. Why is that not a surprise?

Hopefully this will remain so.

• Economic Times: Credit crunch: Realtors turn to private lenders

. . . all major realty companies around the country are collecting cash from private financiers and even individual lenders at a whopping interest rate of 36-48% per annum to save and complete their projects.

. . . the top five listed developers in the country have reportedly picked up Rs 4,000 cr to Rs 6,000 cr at interest rates of 40-48% from these financiers in the last four to six weeks.

Private equity deals have dried up and there are no financial sources to support smaller real estate developers. Banks have made it clear that they are looking at viable lending options and will consider providing support to only large real estate companies.

And yet they won’t cut prices far enough, fast enough.

• Information Arbitrage: Stocktwits Closes its Series A a/k/a Building a Long Tail Meritocracy

We are also working on deals with distribution partners who are eager to bring the Stocktwits commentary into their feeds. One such partner is Bloomberg. We are working with them to create a filtered feed of high-value Stocktwits commentary, that can be incorporated into their already large and growing pipe of alternative content such as online news, blogs other non-traditional sources. Who says you can’t teach an old dog new tricks? Bloomberg is getting it, and Stocktwits can be part of their answer. Why? Real Investors. Real Ideas. Real Time.

Stocktwits massively leverages the power of the long tail, but the reason followers are able to rapidly identify value is because of reputation. THE STOCKTWITS COMMUNITY IS A MERITOCRACY. Those that hem and haw and say little don’t get followed. Those who are insightful, sharp and decisive command large readership.

• Bloomberg: Crude Oil Trades Near a Four-Year Low on Skepticism OPEC Cut Is Sufficient 

Crude oil traded near the lowest in more than four years on skepticism that OPEC’s larger-than- expected supply cut will be enough to boost prices as fuel demand drops. Oil extended yesterday’s 8.1 percent decline after OPEC agreed that the group’s 11 members with quotas will trim current production by 2.46 million barrels a day to 24.845 million barrels a day.

OPEC’s rate of compliance with a previous output cut is more than 85 percent, al-Naimi told reporters yesterday before the ministerial meeting that decided production targets. Analysts and traders are skeptical of the ability of the group to enact the output reduction.

“I don’t think OPEC can keep this production cut at the level they decided,” said Newedge’s Hasegawa. “They have to make money. Cheating will begin and the market knows that.”     

• Bloomberg: Goldman Sachs’s Tax Rate Drops to 1%, or $14 Million

Goldman Sachs Group Inc., which got $10 billion and debt guarantees from the U.S. government in October, expects to pay $14 million in taxes worldwide for 2008 compared with $6 billion in 2007.

The company’s effective income tax rate dropped to 1 percent from 34.1 percent, New York-based Goldman Sachs said today in a statement. The firm reported a $2.3 billion profit for the year after paying $10.9 billion in employee compensation and benefits.     

“I was definitely taken aback,” Willens said. “Clearly they have taken steps to ensure that a lot of their income is earned in lower-tax jurisdictions.”

Can’t be good for their public image, eh?

PS: Short Cayman Islands. 

• Business Standard: Mutual funds keen to buy FCCBs

Mutual funds are considering buying Foreign Currency Convertible Bonds (FCCBs) of Indian companies that are trading at discounts of 30 to 40 per cent to their face value on the assumption that these bonds can deliver good returns in two to three years, when they mature.

AMCs can invest $7 billion abroad, and $300 million per AMC, but investments are way below these levels. Most equity schemes can invest 35 per cent of their assets abroad and there are schemes that invest only in overseas equity.

“If mutual funds need to invest in only AAA-rated instruments, there may be no Indian company with an ‘AAA’ foreign currency rating overseas,’’

Heck, just call up Moody’s. Don’t they offer a special fee-based arrangement to certify anything (including cow dung) as ‘AAA’?

• Morgan Stanley: 2009 Growth Outlook: Still in a Coupled World

We have always argued that the most important driver of India’s growth cycle over the last four years has been global risk appetite and capital inflows. With the duration of risk-aversion in global financial markets likely to be longer than what we estimated earlier, we are cutting our GDP growth estimate for 2009 for India to 5.3% from 5.8%. We are also cutting our F2010 (year-end March) estimate for GDP growth in India to 5.3% from 5.7%.

India’s export growth averaged 24.8% over the last three years . . . exports are likely to be unusually weak over the next six months. We now expect exports to decline by 5.3%Y in 2009 compared with 12.7% in 2008 (estimated) and 23.1% in 2007.

• Cassandra: Bernie Comes Out of the Closet

. . . it seemed to me that the “split-strike conversions” were profit shifting bookeeping tools. Money invested in the feeders did obtain split-strike conversion positions on their books that had an implied “yield” equal to their return but it seemed these were pre-arranged combinations that shifted return back to the investment vehicles and were “phontom” positions vs. Madoff securities. In the interim, Madoff presumably has use of the entire pool of capital, to do what he pleased, plus whatever that pool could command in terms of leverage from bank lines and financing sources. It could be in anything and everything.

He could be doing mutual fund timing, or mutual-fund market impact trades. Credit arbitrage. Funding coiiup d’etats in Africa. or buying GSCI commodity swaps. More plausibly, he could be doing option and index-option market impact trades since he was ostensibly at the center of market flow, or he could be at the center of a loan-sharking network across America earning 50%pa, and here he was passing a paltry 9% back to investors. Either he was crooked beyond belief or he was an evil contrapreneurial genius. Who would have have thought he was both??!!

What is too good to be true usually is.

Economic Times: Industrial growth declines by 0.4% in Oct

India’s industrial output fell for the first time in many years by 0.4 per cent in October, stifled by manufacturing sector, for rescuing which the government announced a stimulus package earlier this month. Output had grown by 5.45 per cent in September, and 12.2 per cent in October 2007.

Manufacturing sector, which accounts for 80 per cent of the index, declined 1.2 per cent from 13.8 per cent in the year-ago period. The overall decline was mainly on account of fall in intermediate and consumer goods.

This trend will continue in the near future. The markets though don’t seem too worried - the indices recovered from 2-3% losses after the news came out. Sell the rumour, buy the news?

• Bloomberg: Hedge Funds Shrink by $64 Billion Amid Global Recession, Eurekahedge Says 

The global hedge-fund industry lost $64 billion of assets in November, with an index tracking its performance declining for a sixth month as economies in Asia and Europe joined the U.S. in recession, Eurekahedge Pte said.

Hedge-fund industry assets peaked at $1.9 trillion in June, data compiled by Chicago-based Hedge Fund Research Inc. show. Investment losses and withdrawals may shrink that amount by 45 percent by the end of this month.

• Brad Setser: Global trade is shrinking, fast

China’s November trade data (a 2.2% year over year fall in exports; a 17.9% year over year fall in imports — see Andrew Batson of the Wall Street Journal) suggests that global trade is contracting quite rapidly. And since trade accounts for a rising share of global activity, it suggests that the global economy has stalled — and perhaps is contracting.

The global flow of funds right now is actually quite simple: China runs a large surplus and the US runs a fairly large deficit — and, assuming hot money flows are (still) modest, China’s large surplus leads to rapid growth in China’s reserves and large Chinese purchases of US Treasuries. That is the dominant global flow right now — together with the “deleveraging” of the private sector.

• Via Kirk, Manual of Ideas: The Wisdom of Great Investors

Avoid Self-Destructive Investor Behavior

Understand That Crises Are Inevitable

Don’t Attempt to Time the Market

Be Patient

Don’t Let Emotions Guide Your Investment Decisions

Recognize That Short-Term Underperformance Is Inevitable

Disregard Short-Term Forecasts and Predictions

Got lucky, once more. The key WAG in my August post - Inflation? No problem (by December 2008) -  was that inflation would drop below 8% by end of 2008.

Here is today’s headline: Inflation dips further to 8%

Continuing its southward journey, the headline inflation fell further to 8 per cent during the week ended November 29 from 8.4 per cent a week earlier. However, while inflation has dropped to its lowest since April-end, the relentless rise in prices of food articles is emerging as a major concern.

Note that this is as of November end. The number at Dec 31 should be even lower.

Meanwhile, to jog your memory, here is an ‘expert’ prediction from back when I wrote my post:

Barclays: “We believe WPI inflation will remain in double-digit territory until May 2009. We expect WPI inflation of 17 per cent by September 2008.”

As I’ve said before, mere linear extrapolation of the recent past doesn’t do much good. So much for the economics PhDs. Keep this in mind when they talk about GDP growth in 2009, fiscal stimulus, etc.

• Bespoke: The Volatility Bubble — Average Daily Change Now Above 4%!

We’ve had our own little bubble in India, with the ATR on the Nifty spiking to over 9%.

• Morgan Stanley: Government’s Stimulus Package

Hundreds of SMEs have raised external commercial borrowings over the past few years when the cost of borrowing in the international market was very low. Some had not hedged the foreign exchange risk or had hedged under ‘knock-in knock-out’ (KIKO) agreements. Many hedges made under these KIKO contracts are lapsing due to the sharp movement in the rupee in such a short time.

. . . the RBI has relaxed norms for loans to “viable units facing temporary cash flow problems”. We believe that this change in norm will reduce the transparency of banks’ balance sheet. This will likely lower the market’s comfort in the asset quality of the banking system and dampen investor sentiment towards Indian banks.

. . . we believe that the real economy data for 1Q09 could be a major surprise for the market. We see risk of industrial production declining on a year-on-year basis for a few months in 1H09. We think that there could be greater risk of banking sector stress due to a sharp increase in NPLs. The vicious loop of rising credit defaults, a shrinking risk capital pool, slowing growth and rising unemployment is unveiling.

• CNN Money: Citadel under siege

. . . the story of how Citadel clawed its way back from the abyss is a cautionary tale for any investor who would try his hand at making money in volatile markets. The firm’s horrific downturn provides a lesson about the way raw human emotions like panic can trump even the smartest mathematical models. More important, the tactics the hedge fund used to survive - preventing its investors from withdrawing en masse and opening up its books - may become trends for hedge funds in the future. 

But what will Citadel look like at that time? It will be a leaner shop, possibly with fewer assets under management. It will obviously hold on to cash cows such as its options and stock-trading platforms. Griffin says the firm will engage in far fewer complex trading strategies - that long-short equities will be its core: “I think we’re looking at a period of time going forward where the market will value simplicity.” 

Right now, there are plenty of opportunities Citadel would love to pounce on: loads of cheap stocks, undervalued deals - the kind of thing Griffin obsessively seeks out. He says, in fact, he plans to start a convertible-arbitrage fund again as soon as he can.

• Brad Setser: Good bye, petrodollars …

Saudi spending has been growing at something like 15% a year, if not a bit more — remember, the Saudis had to increase their budget substantially just to assure that salaries kept up with inflation. And the Saudis probably aren’t going to scale back spending immediately. They don’t want the Saudi economy to come to a sudden halt. Projecting existing spending patterns out, I wouldn’t be surprised if the Saudis spent 585 SAR ($156) in 2009 — a spending level that produces a crude estimated break-even price of the Saudi blend of around $57. For sweet light, that works out to an oil price of $60 or more ..

Bye-bye petrodollars. There isn’t much reason for the US to worry though. The US oil import bill will fall nearly as fast as the oil exporters reserves … Indeed, some Gulf states are already in a position where they are selling off some of their foreign assets. Not to cover a fiscal deficit. But to bailout their over-extended private and quasi-private firms.

Bye, bye, Dubai.

• Guardian: US determined to unlock Switzerland’s banking secrets

The US department of justice has been gunning for UBS for many months. It alleges that the bank aggressively pushed its services to US citizens through none-too-subtle nudges about tax-avoidance benefits. Between 2002 and 2007, some 20,000 American clients had private accounts at UBS with a hefty $20bn in total assets. 

According to the indictment, UBS at one stage had customers signing a form which said: “I would like to avoid disclosure of my identity to the US IRS.”

Switzerland rarely allows its citizens to be extradited to face charges abroad – and its national laws require banks to respect clients’ privacy strictly. But there is a loophole: if there is evidence of criminal activity, Swiss banks can provide information to cooperate with law enforcement authorities.

• Vanifty Fair: Profiles in Panic

“Let’s take a guy who makes $5 million a year,” the banker suggests. “He’s paid two and a half million dollars of that in equity compensation”—Lehman Brothers stock. Plus he gets to buy that stock at a 30 percent discount, so he’s really getting $3.25 million in stock. “Plus appreciation? Over five years? That’s $25 to $30 million!

“Then let’s say a guy in that position borrowed $5 million against the $30 million in stock. It would seem a very conservative loan, right? Until the $30 million goes down to zero, which is what happened. So now he’s negative $5 million.”

True, that same Lehman banker got the other half of his compensation in cash. The banker nods. “For five years, he made two and a half million dollars a year in cash. So that’s twelve and a half million dollars. But of course he’s had to pay more or less 50 percent in taxes, so divide that and he’s got six and a quarter million. He’s probably spent that money over those five years—$1 million a year, it’s not so hard to do, right? So he has nothing—and he has to repay that $5 million loan.”

It’s like living on a different planet.

Bloomberg: India Rate Cuts, Stimulus May Fail to Shore Up Growth as Investment Slumps

Singh plans to allocate an extra 200 billion rupees ($4 billion) as part of a total 3 trillion rupee spending plan for the rest of the financial year ending March 31.

The size of the incremental expenditure, representing 0.3 percent of the gross domestic product, indicates the government wants to rely on monetary policy to stimulate growth.

Or we can build two more of these: Mukesh Ambani’s $2 billion home world’s most expensive - one for our spineless netas and another for our incompetent babus.

• Forbes: The Next Disaster - Mexico

The explosion of narco terror comes alongside a precipitous drop in oil prices and the crushing effects of a deep U.S. recession. The climate of fear is kicking the life out of the economy. The second wave of the global financial crisis is playing out in the developing world–and right on our doorstep. After expanding by 3.2% in 2007 to $900 billion, Mexico’s GDP growth will slow to 1.5% this year and tumble to somewhere between zero and 0.7% in 2009.

In November Fitch put Mexican government foreign and local currency debt on “negative outlook” (though the ratings are still investment grade).

Eighty percent of Mexican exports–$240 billion this year, up 10% from 2007–go to the U.S., where shoppers aren’t spending.

• AEI: The Soviet Collapse - Grain and Oil (dated)

Russia, which before World War I was the biggest grain exporter–significantly larger than the United States and Canada–started to be the biggest world importer of grain, more so than Japan and China combined. Soviet imports had to be paid for in hard currency. Mikhail Gorbachev was quite frank in one of the meetings of the Communist Party of the Soviet Union (CPSU): “We are buying [the grain] because we cannot survive without it.”[3]. 

 The influence of the inflows of gold and the silver from America to Spain are comparable to the impact of oil and gas revenues to the Soviet Union (see figure 5). The Spanish empire, without losing a single battle on the ground for fifty years, managed to lose all of its possessions in Europe outside of the Pyrenees, including Portugal, and came very close to losing Aragon and Catalonia as well. In 1989, also without losing on the battlefield for fifty years, the Soviet Union lost control over Eastern Europe. 

• Charlie Rose: Taleb on economics