Black Swan Revisited

The Black Swan theory (in Nassim Nicholas Taleb’s version) refers to a large-impact, hard-to-predict, and rare event beyond the realm of normal expectations. The term black swan comes from the commonplace Western cultural assumption that all swans are white. In that context, a black swan was a metaphor for something that could not exist. The 17th Century discovery of black swans in Australia metamorphosed the term to connote that the perceived impossibility actually came to pass.

In risk management, we need to deal with black swans that have consequences. Further, a search in the literature in the philosophy and history of probability shows the depressing fact that large impact events are absent from discussions. Probabilities by themselves do not matter. They can be very small, but their results are not. What matters in life is the equation probability x consequence. This point may appear to be simple, but its consequences are not.

If small probability events carry large impacts, and these small probability events are more difficult to compute from past data itself, then our empirical knowledge about the potential contribution – or role – of rare events (probability x consequence) is inversely proportional to their impact.

Warren Buffett Interview

What can I possibly do with billions and billions of dollars? I don’t see the fuss in having 6 houses with greenskeepers; I don’t see the fuss in having 20 cars in the garage. If you think about it you are living better than John D. Rockefeller. If you want to watch the Super Bowl you just turn on the TV and watch it. If he wanted to see the World Series it would take him a long time to get there, and he would not have air conditioning and that type of thing. The problem is not getting rich, but finding a game you enjoy and living a normal life. The most important thing is finding the right spouse. If you make the wrong decision on that you will regret it, there is a lot of pain involved, but if you have the right spouse it is just wonderful. What qualities do you look for in a spouse? Humour, looks, character, brains, or just someone with low expectations. The most important decision that you will make is that. If you make that one decision right I will guarantee you a good result in life.

Question: What is happiness? Are you happy?

I am so blessed. I get to do what I like to do with people that I love. That is happiness. I am happy day after day after day. How could I be any happier? Someone once said success is getting what you want and happiness is wanting what you get. And that’s what I see in people as I look around. The only thing I have to do in life that I don’t like doing is fire people occasionally – very seldom. I would pay a lot of money if I didn’t have to do that. But wverything else I like. I’m doing what I like doing. I could be playing shuffleboard, I could be in Vegas, but I’m doing what I like doing. There is a woman here in Omaha who is a Polish Jew. She was in Auschwitz, her family was in Auschwitz. One would be in one line, another in another line. One of them didn’t come out. She said this to me “Warren, I am very slow to make friends, because the bottom line when I look at somebody is would they hide me?” Now I know people my age that have dozens and dozens of people who would hide them, Tom Murphy for example from Berkshire. I can tell you about a whole bunch of others who are worth billions and billions of dollars, who have schools named after them, who nobody would hide them. Their own kids wouldn’t even hide them “He is in the attic, he is in the attic”. That hiding is just a metaphor for love. If you have people that you want to love you, that do love you. If you leave out illness I have never found anyone who has dozens of people who love them, or would hide them using my metaphor, who is an unhappy person. I have seen all kinds of people that they are miserable. They have what the rest of the world may think is important, but they don’t have anybody who gives a damn about them. Being given unconditional love is the greatest benefit you can ever get. The incredible thing about love is that you can’t get rid of it. If you try to give it away you end up with twice as much, but if you try to hold onto it, it disappears. It is an extraordinary situation, where the people who just absolutely push it out, get it back tenfold. My friend Tom Murphy that I mentioned before, if he does 20 things for me he doesn’t expect even one back.

Temasek selling Merrill Lynch?

Temasek Selling Merrill Lynch
Half or total of 87m shares have been sold off at a loss, according to US recorded filings.
Seah Chiang Nee
Jul 24, 2008

Temasek Holdings has sold off half its ill-timed investment in Merrill Lynch – or about 87m shares, according to a mutual funds report on institutional trades on US stocks. The online report, MFFAIRS (Mutual Fund Facts About Individual Stocks), reported it sold off 86,949,594 shares (50%), leaving a current holdings of 86,949,594 shares (50%), according to the filings made public.

The report gave no exact date or price of the sale. Neither has there been any confirmation from Temasek, which had paid US$48 a share last year. http://www.mffais.com/newsarticles/2008-07-22/2473637-211738.html

Last week Merrill Lynch was traded at $31.

At that price Temasek would have suffered a loss of $17 a share – or a total loss of about US$1.48b for the 87mil shares.

Despite massive write-downs and capital injection, Merrill Lynch’s outlook remains uncertain, reports Bloomberg.

The company’s equity capital position is weak relative to competitors, said Brad Hintz, a New York-based analyst at Sanford C Bernstein, reports Ambereen Choudhury.

“With $19.9b in CDOs still frozen on the balance sheet and with counterparty risk rising on the hedges underlying these troubled positions, the potential for additional material write-downs remains a concern,” Hintz said.

The New York-based firm’s credit rating was cut last week by Moody’s Investors Service to A2 from A1.

The third-biggest US securities firm probably will report a loss of $6.57 a share this year, compared with an earlier forecast of $1.07, Hintz said. The revised estimate assumes the company generates no earnings in the second half. Merrill may have to take an additional $10 billion of pre-tax write-downs related to its holdings of mortgage securities, Moody’s estimates.

Huge paper losses

The disposal leaves Temasek Holdings and the Government Investment Corporation (GIC) still holding substantial parts of big troubled Western banks. Its remaining investments in UBS (Switzerland), Citigroup, Barclays and Merrill Lynch – at an original cost of US$21.88b – have declined on by some 47 percent in value. That is a paper loss of US$10.28b. However, Minister Mentor Lee Kuan Yew had said these investments were made as a long-term strategy of 30 years. But as the Merrill Lynch sale shows, Temasek is not inflexible about cutting losses, if things threaten to get worse. The political leadership has defended its investment of these sub-prime banks as “an opportunistic” foray that can happen once in a long while. It believes these companies will survive the crisis and emerge stronger.

Some experts believe that Temasek has made an error of judgment. Investment guru Jim Rogers said in July he believed that US bank stocks could fall further and predicted that Singapore’s state investors would lose money on Citigroup and Merrill Lynch. “I’m shorting investment banks on Wall Street,” the successful investor said. “It grieves me to see what Singapore is doing. They are going to lose money.”

At the Nomura Dialogue recently, Minister Mentor Lee Kuan Yew reported to investment mistakes, but that no one had benefited from it.

Singaporeans who want to see greater transparency in the government’s investments in troubled companies are unhappy with this vague answer to a serious problem.

One writer said, “Should we just move on? I do not think so. The patently huge mistake is not merely the result of recklessness but rather a systemic lack of accountability in making some of our largest investments.

“Let it be clear, the harm is terminally done. The entire reserves system must be re-examined and audited.”

Said slohand, “I saw the interview on TV last night and felt shortchanged.

“He brushed aside the issues with the logic that since the officers who made the decisions were not the beneficiaries in any sense of the word, such lapses are mistakes and are therefore acceptable…” ..The size indicates that it can only come from the very top.”

Ben Graham

“There are two requirements for success in Wall Street. One, you have to think correctly; and secondly, you have to think independently.”

~ Ben Graham

Credit crisis far from over: expert

Credit crisis far from over: expert

Geoffrey Newman | May 02, 2008

A DERIVATIVES expert who two years ago warned of a potential meltdown in global credit markets has cautioned that the crisis is far from over, and has endorsed recent calls to relax controls on inflation and allow higher prices to help markets trade their way out of their problems.

Longtime critic of derivatives markets, Satyajit Das, says those who believe the US sub-prime loans crisis, and the drought in credit markets it triggered, are nearly over are wrong.

“I think the cycle has some way to run yet,” he told a Financial Services Institute of Australasia function in Sydney yesterday. “It’s a matter of years, not a matter of months.”

In particular, investors in the US stock market, which has climbed off its lows amid a growing mood that the worst of the crunch was over, were being too optimistic, he said.

The author of Traders, Guns & Money warned that many of the problem financial instruments were still hidden and the total amount of debt attached to them largely unknown.

Losses incurred by US banks were certain to rise as $US1 trillion ($1.06 trillion) in sub-prime housing loans was due to reset to higher interest rates in the next two years.

The use of credit card debt — now totalling $US915 billion — was cushioning US home owners. But, in an ominous sign, card issuers were rapidly increasing their provisions for bad debts, by as much as 500 per cent in the case of one bank.

The use of sub-prime debt structures was also a feature of other markets, such as private equity, where $US300 billion in loans were due to be refinanced in the next two years.

Mr Das said another $US1-$US5 trillion of assets would have to come back on to US bank balance sheets as a result of defaults on housing and other debts, and it was unclear how the banks could fund them — issuance of preference shares by US banks was already at a record high. He said losses at financial institutions from the credit crunch were likely to almost double to $US400 billion.

There were also second-round effects to come as the damage done to the real economy from financial sector losses fed back into further bank losses.
Mr Das said there needed to be a massive reduction in debt levels globally or a “nuclear deleveraging” before the crisis could be said to be over. That could be achieved through an economic crash “on the scale of 1929” but allowing inflation to rise would help to avoid that scenario. Higher inflation was a legitimate policy option since it reduced the real value of debt and gave companies and individuals breathing space to reduce their leverage by helping to put a floor under asset prices.

His comments come as some economists urge Australia’s Reserve Bank to relax its inflation targeting policy to help avoid a severe economic downturn.

He acknowledged that as inflation rose higher it was more difficult to control it, but noted the global economy was moving into a period of higher inflation anyway. “It could be the lesser of two evils,” he said.

http://www.theaustralian.news.com.au/story/0,25197,23631137-643,00.html

UBS Gives Haircuts

UBS Gives Haircuts
Vidya Ram, 03.28.08, 5:00 PM ET

LONDON –

In its advertising, UBS tells clients “it’s you and us,” but on Friday it told investors “you’re on your own.”

The Swiss bank told clients it was reducing the value of auction-rate securities in their accounts, by an average amount of 5%. It also refused to buy the bonds back from investors who bought the securities, thinking they were getting an easy-to-sell, higher-yielding alternative to money market funds but instead found themselves stuck with illiquid securities and capital losses, courtesy of the global credit crunch that began in the U.S. subprime mortgage market.

“This is the right thing to do,” said a UBS spokeswoman. “This is in the best interest in our clients regarding our accounts. Given the current market dislocation this the next logical step for any committed wealth manager.”

Auction-rate securities are long-term bonds issued by local governments, agencies, or corporations but sold in periodic auctions, say every 7 to 28 days, to set the interest rate. Firms that handle the auctions, like UBS and most of the big Wall Street concerns, used to step in an buy in the auctions if there weren’t enough bidders.

But that all went by the wayside in January and February as investors fled the bond markets. Auctions failed after no buyers showed up and the banks refused to step in as they had previously done. That meant the auctions failed, leaving brokerage customers holding the bag and issuers paying much higher penalty interest rates. The Port Authority of New York and New Jersey, for example, saw its rate skyrocket to 20% from 4% when its auction failed in February.

As a consequence of paying soaring penalty rates, many issuers are converting their auction rate bonds to fixed-rate bonds, putting more pressure on the remaining auction-rate securities that still haven’t started selling again. The bonds cost more than the issuers were paying on the auction-rate securities but yield far less than the penalty rates.

The banks backed off supporting the auctions because they didn’t want to risk taking more illiquid assets on their books after collectively writing off more than $100 billion in mortgage and credit derivatives. UBS has been among the hardest hit of the banks, already writing down $17 billion worth of credit holdings and facing another $11 billion in write-downs in the first quarter, according to analysts at Oppenheimer.

Its problems don’t stop there. Massachusetts securities regulators subpoenaed UBS, Merrill Lynch and Bank of America about their sale of auction -ate securities to customers, particularly bonds sold in closed-end mutual funds. The state is looking at what the banks disclosed about the possible risks of the securities.

“We received calls from a young saver whose house down payment is now frozen; two siblings whose family trust is now frozen; and small business owners who find their business interrupted because money they thought was liquid is tied up in these frozen securities,” said William Galvin, the Massachusetts secretary of the commonwealth, in a statement.

UBS wouldn’t say how much its brokerage customers own in auction rate securities, but the market is about $330 billion. The timing of UBS’s decision is perhaps telling. American investors are facing tax time, when many will need access to cash to pay Uncle Sam.

The Swiss banking giant previously told customers who were unable to sell the securities in scheduled auctions that the bonds would retain their full value and receive enhanced interest rates, according to TradeTheNews.com.

After falling 2.4% in Switzerland, to 28.98 Swiss francs, before the announcement, UBS American depositary receipts slid further in New York, dropping to $27.80, a loss of $1.33, or 4.6%, on the day. Less than a year ago, the stock had been above $66.

Investors who feel betrayed are likely to sue, adding to the pressures on UBS from the global liquidity crisis that began in the U.S. subprime mortgage market. UBS was the first major global bank to be hit by a lawsuit over losses related to the subprime crisis.

Swiss bank UBS reports huge loss after subprime debacle

Eat this, GIC Special Situations Group!

Swiss bank UBS reports huge loss after subprime debacle

22 hours ago

ZURICH (AFP) — Swiss banking giant UBS plunged to its first-ever full-year net loss on Thursday after losing 18 billion dollars in the US subprime mortgage crisis.

Bank chairman Marcel Rohner said the losses were “unacceptable”.

UBS revealed a net loss of 4.4 billion Swiss francs (4.0 billion dollars, 2.7 billion euros) in 2007, compared to a profit of 12.3 billion Swiss francs in 2006.

“We are obliged to confirm these unacceptable results,” Rohner told a telephone conference on the figures.

“While most of our businesses continued to be very profitable, the sudden and serious deterioration in the US housing market, in combination with our large exposure in sub-prime mortgage-related securities and derivatives, has driven us into loss for the year,” he said.

Analysts said the losses were in line with expectations as UBS had already said two weeks ago it would post a full year loss of around four billion francs.

Helvea analyst Peter Thorne warned that UBS is less attractive to investors than its rival Credit Suisse, which on Tuesday announced full year profits of 8.5 billion Swiss francs after limiting its subprime exposure.

UBS’s balance sheet “remains a worry for investors,” the London-based analyst said.

“Our preference for betting on a recovery in financials is with Credit Suisse where exposures are lower and known, and management has for more credibility,” Thorne added.

In the fourth quarter alone, UBS lost 12.45 billion Swiss francs against a profit of 3.4 billion francs in the same period a year earlier.

“Last year was one of the most difficult in our history,” Rohner said.

In the fourth quarter, writedowns linked to the US housing market amounted to 13.7 billion dollars.

For the year as a whole, its exposure was 18.1 billion dollars, making UBS the third-worst hit bank after Wall Street giants Merrill Lynch, with 19.4 billion dollars, and Citigroup 21.1 billion dollars.

UBS said it expected 2008 to be “another difficult year” given plunging stock market values and growing fears of a recession in the United States.

However, the bank’s chief financial officer Marco Suter said there were unlikely to be any more “big surprises” with regard to subprime writedowns.

“We are not expecting any new major surprises and we are continuing to reduce (subprime exposure) in January and February,” he told reporters.

“We were clearly over-exposed in the high-risk US housing sector and ill prepared” for the financial crisis, Suter admitted.

UBS acknowledged that part of its market risk control framework proved inadequate as the subprime crisis gathered pace in the second half of 2007 but said it has taken steps to improve its oversight systems.

In December, UBS turned to Singapore’s state invesment arm (GIC) and an unnamed Middle Eastern investor to help restore its balance sheet.

GIC said it would inject 11 billion Swiss francs into UBS, giving it a stake of around nine percent and thus making it the largest single shareholder, while the Middle Eastern investor was to put up two billion Swiss francs.

Some shareholders have voiced unhappiness with the plans to raise funds from foreign, state-controlled investment bodies, fearing the terms of the deal could put existing investors at a disadvantage.

UBS’ share price has taken a pummelling in recent weeks and Thursday was no exception.

The bank’s shares were down 7.76 percent at 37.68 Swiss francs in late afternoon trade on the Zurich stock exchange, bucking an otherwise positive market trend.