Who buys bonds with a negative yield?

Bloomberg today reports that German bond gains sent the two-year rate below zero for the first time since May 2013 before the European Central Bank announces its latest decision on monetary policy today. The two-year note rate was at minus 0.002 percent, and touched minus 0.004 percent, the least since May 24, 2013. A negative yield means investors who hold a security until it matures will receive less than they paid to buy it.

Another way to look at it is that Germany is not only able to borrow money from the market but they are earning a small amount of interest on top of it. This rare but realistic phenomenon is being driven by only one thing – fear. Investors in other parts of Europe are so worried about getting their money back that they are willing to pay a little for the peace of mind of knowing that they will get back their full capital later.

Now one may wonder why investors in Europe are willing to pay interest on German notes/bonds when they can buy the US, UK or Australian bonds and still earn some interest and the reason is foreign exchange risk. Investors don’t want to have to worry about changes in the value of the EUR/USD or about the cost of converting their currency back into euros in the future if it means paying a small amount of interest.

Central banks of countries like Denmark on the other hand cut their interest rate to zero because so much money have flowed into their countries and currencies that they have to actively try make their assets unattractive. The European Central Bank has already brought their deposit facility rate to zero, which means banks will earn nothing for parking their money overnight safely with the central bank. And at this point, negative deposit rates are no longer unimaginable.

Why did Argentina default now?

Argentina is famous for defaults on sovereign bonds. In the early 20th century, the South American country was one of the world’s richest, thanks to its production of beef, wheat and other farm goods, plus an educated workforce made up mostly of European immigrants and their descendants. But the constant crises, often attributable to government mismanagement and fluctuating commodities prices, have plunged millions into poverty.

To understand Argentina’s default in 2014, you need to go back to its 2001 default. That default, in turn, had its roots in Argentina’s earlier monetary policy. The country had abandoned the idea of an independent exchange rate instead of a fixed peg to the dollar. That dollar made foreigners more inclined to lend to Argentina and fueled a credit boom. But eventually fallout from the economic crisis in East Asia in 1997 made investors more skeptical. As their money left the country, Argentina fell into a deep depression.

After several years of economic decline, things came to a head in 2002 when the country finally abandoned its currency peg and defaulted on its outstanding debts. In the very short-term, that only seemed to increase the chaos. But the new currency policy led to strong bounce-back growth in 2003 and 2004 that continued on for several further years.

By 2005, Argentina was back on its feet and looking to normalize its relationships with the outside world. Part of that was trying to do a deal with the holders of those bonds it had stopped payment on. In January, Argentina made an offer. Holders of old debt could abandon their non-performing claims and in exchange get new bonds — less onerous than the old ones, but where interest would actually get paid.

About 75% of outstanding bonds were exchanged. Then in 2010, there was a new offer to the remaining holdouts that brought participation in the swap all the way up to 93%. In the meantime, the market value of the holdout bonds had sunk quite low. Hedge fund manager Paul Singer came to own a large share of the non-performing bonds via his distressed debt fund. And he began pursuing a variety of strategies — including seizures of Argentine assets abroad — to try to get his money. But his boldest strategy was litigation in a New York federal court.

Singer got District Court Judge Thomas Griesa to rule that under New York law, the arrangement whereby Argentina paid some of the people to whom it owed money but not the others was illegal. And violating the traditional principle that there’s no real way for courts to enforce a ruling against a sovereign debtor, Griesa ruled that there was a legal mechanism available to force payment. Most of the exchange bonds were paid via financial institutions that did considerable business in New York. Griesa could — and did — order those institutions to refuse to have anything to do with handling Argentina’s bond payments until Argentina began paying the holdouts the full original amount of money they owed.

The case was appealed up to the Supreme Court, which declined to hear it, and then there were several last-ditch efforts at a settlement. But yesterday it became clear that the parties are sticking to their guns. Argentina will not pay more to Singer than it pays to the people who accepted the terms of its debt swap, Singer will not accept that, and Griesa will not let Argentina pay its bondholders if it doesn’t have a deal with Singer.

Hence, default.

Argentina defaults on foreign currency debt triggering $1bn swaps

For the second time in 13 years, Argentina is in default on foreign-currency debt. But this time around the default was different. A federal judge in New York has ruled that Argentina must pay a small group of creditors in full — about $1.3 billion — even though it got 93 percent of its other bondholders to accept partial payment in a debt restructuring after its 2001 default.

Argentina has about $200 billion in foreign-currency debt, including $30 billion of restructured bonds, according to S&P.  The nation isn’t in a position to participate in a settlement with the hedge funds because doing so would require the country to similarly sweeten terms for the 93% of investors who went along with the country’s debt restructurings in 2005 and 2010. Those investors got about 30 cents on the dollar. The requirement, known as the RUFO clause, could trigger claims of more than $120 billion, dwarfing the country’s $29 billion of reserves, he said. The clause is set to expire at the end of 2014.

Argentina was supposed to pay $539 million in interest by July 30 on its bonds due in 2033. The deadline passed after two days of negotiations at a court-appointed mediator’s office in New York failed to produce a settlement with the hedge funds.

Standard & Poor’s declared default yesterday. Fitch Ratings lowered Argentina’s foreign debt rating to selective default, following S&P’s decision to do the same a day earlier. However, Moody’s Investors Service placed the country’s rating on negative outlook. Moody’s said in a statement that the “non-payment of debt obligations to creditors after a grace period has expired is a default.” As much as $29 billion of securities are subject to so-called cross-default clauses, allowing holders to demand immediate repayment. The amount is equal to the country’s foreign-currency reserves.

Argentina’s failure to pay interest on its bonds is a credit event that will trigger settlement of $1 billion of default insurance, according to the International Swaps & Derivatives Association. Argentina denies it is in default. It says it has the money to pay the vast majority of its creditors and has not done so only due to the court’s ruling.

ISDA’s determinations committee made the ruling in response to a question posed by Swiss bank UBS AG after the government missed a July 30 payment deadline on $539 million of interest. ISDA’s determinations committee was formed in 2009 and makes binding decisions for the market on whether contracts can be triggered. The 15-member group includes representatives from Bank of America Corp., Elliott Management, Morgan Stanley and JPMorgan Chase & Co.

There were 2,652 contracts covering $1 billion of Argentina bonds as of July 25, according to the Depository Trust & Clearing Corp. Following the credit event ruling the trades will be settled at an auction. The process sets a value for the defaulted bonds, and then swap sellers pay buyers face value in exchange for the underlying securities or the cash equivalent determined at the auction administered by Markit Group Ltd. and Creditex Group Inc.

The ruling was seen by traders as complicated because Argentina made the required payment to the trustee for the bond, Bank of New York Mellon Corp. The bank said yesterday that a U.S. judge’s ruling bars it from passing the money to bondholders without a resolution of the nation’s dispute with hedge funds led by Elliott Management Corp., which sued the nation for $1.3 billion. It may encourage other creditors to demand full payment, scuttling the debt deal and make future debt restructurings elsewhere impossible.

Geopolitical risk rising for global investors

Brian Bremner and Simon Kennedy quotes Raj Hindocha in Bloomberg: “Geopolitical risk is being underestimated and volatility suppressed, thanks in large part to the open monetary spigots at the U.S. Federal Reserve, European Central Bank and Bank of Japan.” Hindocha is a managing director with Deutsche Bank Research in London.

Since the start of the year, conflicts in Syria, Gaza and Iraq have escalated, China has become more assertive in pursuing territorial claims against Japan, Thailand reverted to military rule, Russia annexed Crimea and separatists in Ukraine downed a civilian airliner.

These crises have had little lasting impact on major financial markets in the U.S., Europe and in Asia. The investors and money managers could be in for a rude awakening later this year.

Though it’s nowhere near the levels of 2011, when the U.S. recovery sputtered and Europe was in the grip of a sovereign debt crisis, volatility is starting to make a comeback.

The Chicago Board Options Volatility Index — which rises in times of market stress — is up 8.56% so far in July and poised for its biggest monthly jump since January. The U.S. and Europe agreed to escalate their pressure on Russia with a new set of sanctions targeting the country’s financial, energy and defense sectors. Russia is planning to ban some imports from US and Europe.

Investors are taking the recovery in US, Europe and Japan more seriously than geopolitics, however if there’s a major escalation then the geopolitical risk premium will rush back into the market,

A bliss of solitude

This year again we are having a nine-day long Eid holiday in Iraq including the weekends. Last time we had such a long Eid holiday was in 2012. I went to India then. I am staying here this year. As it’s a long holiday, the compound is near empty. I am practically spending the time in solitude.

We all need periods of solitude, although temperamentally we probably differ in the amount of solitude we need. Some solitude is essential; it gives us time to explore and know ourselves. Solitude gives us a chance to regain perspective. It renews us for the challenges of life. It allows us to get (back) into the position of driving our own lives, rather than having them run by schedules and demands from without.

It’s the time of total unwinding. We need to maintain some semblance of balance and some sense that we are steering the ship of our life, otherwise we feel overloaded, overreact to minor annoyances and feel like we can never catch up. As far as I’m concerned, one of the best ways is by seeking, and enjoying, solitude. No routine or time schedule, no office work and I also don’t check my emails and there’s no urge to respond to emails & messages. It’s an opportunity to stop doing for others and to surprise and delight myself instead. I get up when I feel, I cook food as I like, I eat when I am hungry, I sleep when I feel so, I read books, I watch movies, I pray, I meditate and I talk to myself. It’s the time to let myself slow down.

As Thomas Moore, author of Care of the Soul, says, “We seem to have a complex about busyness in our culture. Most of us do have time in our days that we could devote to simple relaxation, but we convince ourselves that we don’t.” It seems there is always something that needs doing, always someone who needs our attention. “Unfortunately,” Moore says, “we don’t get a lot of support in this culture for doing nothing. If we aren’t accomplishing something, we feel that we’re wasting time.”

Many of us feel compelled to measure our success in terms of acquisition and accomplishment. Often when we find ourselves with an empty hour, we spend that time doing chores or attending to our relationships. We avoid ourselves because we’re afraid of what we might find: a forlorn, flawed someone who’s missing out on life’s party. But solitude and isolation do not go hand in hand. We can retreat from the world for a time without being renounced by it.

There is a world of difference between solitude and loneliness, though the two terms are often used interchangeably. Loneliness is marked by a sense of isolation. Solitude, on the other hand, is a state of being alone without being lonely and can lead to self-awareness. Solitude is something you choose. Loneliness is imposed on you by others. Solitude is a time that can be used for reflection, inner searching or growth or enjoyment of some kind. Deep reading requires solitude, so does experiencing the beauty of nature. Thinking and creativity usually do too. Solitude restores body and mind while loneliness depletes them.

“Loneliness is the poverty of self; solitude is richness of self.” ― May Sarton

An afternoon in Mansour Mall

It’s been long time that we went out in Baghdad. So, we decided today to go to Mansour Mall. It’s the social pearl of Baghdad. We arranged for our visit and went there at around 5:30 p.m. The mall generally remains busy, but today it was empty due to Ramadan.

We walked inside the mall at our ease and slowly reached the top floor that houses the food court besides children amusement facilities. It was empty then, with a few people sitting. This floor always remains very crowded. Most of the restaurants/ food joints refuse to serve before the iftar. We found an outlet that was serving. We had barbecued chicken breasts and cola there.

By the time we finished our snacks, the place was full with people and there was hardly any empty table. It was around 7:00 p.m. then. We walked down to the supermarket in the basement of the mall for purchasing some groceries. Then we went to the food court again for dinner. But that time it was overcrowded. We got a pizza packed and returned home to eat it in the comfort of our home while watching television.

Innovation and risk management

“A ship in harbor is safe, but that is not what ships are built for” – John A. Shedd, Salt from My Attic, 1928.

Effective risk management provides an environment for calculated risk taking and innovation. Good risk management contributes to institutional success. To be effective it requires strong leadership and organization-wide ownership.

Innovation is critical to strong business performance as organizations seek to enhance product and service offerings, lift efficiency, upgrade technologies and increase their resilience and adaptability.

Without innovation, organizations wither and customers and business owners suffer. Becoming ideas constrained is fatal, but there are risks in innovating. As Machiavelli said centuries ago, “Never was anything great achieved without danger.” Risk and reward are inextricably intertwined. Leaving the boat safe in its harbor will not yield progress.

Good risk management is imperative for managing successful change. It involves anticipating and diminishing threats; protecting sources of value; and enabling value-creating risks to be taken in a calculated way, with reduced likelihood of failure or loss. Done well, it enables an organization to seize opportunities to create and protect value for all its stakeholders.

Good risk management enables an organization to move forward, because the downside risks of change are contained, and risk management provides a forward-looking orientation. It allows organizations to focus their competencies on value creating activity. Done well, it informs strategy, investment prioritization and business decision-making. It drives organizational direction and positioning.

A second key benefit is that it reduces the likelihood and costs of adverse events that may damage organizational reputation, financial or business viability, and distract the organization from achieving its goals.

Good risk management fosters both adaptability and resilience, two crucial aspects of enduring organizational performance.

Types of risk

Generally, three categories of risks are identified: strategic, operational and project risks.

Strategic risks describe the impact on the business of possible changes in the wider environment, such as political, international, demographic, social, etc., and the dangers of business strategies not being adequately aligned to their operating environment. They also entail risks to the accomplishment of key business goals through loss of focus, inappropriate investment or resourcing, and reputational and communication risks.

Mitigations of strategic risks tend to be strategic choices and business model approaches; investment prioritization decisions during planning processes, often resulting in project initiations; and communications and stakeholder management. Strategic risks are often perennial, yet may be volatile due to changes in the external environment.

Operational risks relate to the achievement of business plans and “business as usual” results. They entail risks of failure to business operating systems, quality or service failures, integrity and conduct risks, security, operator error, incident or business continuity threats, etc.

Operational risks are managed and mitigated through measures such as process design, process controls, policies and discretion limits, back-up and redundancy measures, quality assurance processes and review/feedback cycles, alignment of skills and resources with requirements, and investment in research and development and capital equipment.

Operational risks, be they security, business continuity or service delivery, are most effectively managed through a risk management approach that is integrated into the business and culture of the organization.

Project risks are sometimes treated as a subset of operational risks and are linked to the achievement of project outcomes. They relate to benefits not being achieved, perhaps because of delivery failure, key assumptions not being met, scope being poorly defined, delays in project completion, cost escalation, disruption from extraneous events etc.

Typical risk controls for projects include: the establishment of a project risk register with risks identified, evaluated and controls determined, project planning, resourcing, and monitoring mechanisms, and governance arrangements.

Risks often eventuate during change processes because existing processes were not fully understood and the number of unknowns is allowed to be greater than it should through inadequate planning, trialling and risk management.

Components of risk management

There are a number of core components in any risk management regime. We identify the key elements as follows:

  • Risk identification – risk awareness is a valuable trait that is sharpened with practice, but various disciplines are valuable to ensure risks are anticipated effectively. Risk identification is something every employee should do. The risks identified will be influenced by role and perspective. Senior management must focus on identifying strategic risks, while applying their assessment to operational and project risks identified by others.
  • Risk assessment – evaluation of likelihood and potential impact. Risks are pervasive but not all risks matter. It is critical to evaluate the significance of risks for the business and for a specific time horizon. Even if unimportant now, they may be significant later. Likelihood can change, as may impact. Risk severity shapes the nature and extent of management action.
  • Risk tolerance – what residual risk would be acceptable? Generally, risk cannot be eliminated but can be reduced. Management must decide what level of risk reduction is required and what adverse outcomes might be accepted. Sometimes risk appetite statements may be developed.
  • Risk planning and mitigation actions are identified and established to achieve the desired residual risk level. Preventative and remedial actions should be considered. Risks may be prevented or rendered unlikely through various control measures, and impacts alleviated through appropriate plans and actions.
  • Risk management is assigned – risks and their management require ownership within the business. When accountability is unclear, risks are less likely to be managed and more likely to materialize. Ownership should be assigned to the role or person who is best placed to manage the risk, acknowledging that impacts may be widespread. Even if the consequence for the organization would be severe, it is best to allocate and manage the risk in the business area that has greatest scope for risk control.
  • Monitoring and review of risks – regular risk review is required, to evaluate any changes in the risk or control environment. Likelihood and impact vary as political, social and technological factors evolve, and in response to changes in the business and the mitigations put in place. Incidents occur and provide insight into risk assessment. The monitoring-feedback loop is a critical part of keeping risk management in focus.
  • Reporting and escalation procedures – as risk severity changes, incidents occur, and risks materialize into issues, it is important that reporting and escalation processes exist. These enable broader perspectives and judgement to be applied in the evaluation and management of risks. A risk management committee may be established as one way of reinforcing the review processes.

There is of course a need for sound methodology that allows for effective, repeatable, and consistent assessment and reporting of all risks. Standardized reporting provides a department-level risk profile snapshot and an aggregated whole-of-organization view. At the whole-of-organization level a risk trend and treatment summary maybe compiled specifying how every reported risk is being managed. This will provide the helicopter view in terms of where resources, spending and focus is being applied to manage specific risks. Importantly, this provides a level of comfort that we are knowledgeable about our risks and can consider opportunities and areas for innovation for the future.

Incident management is a key part. It may be called Proactive Problem Management or PPM in its short form, and see it as a continuous improvement mechanism. While the initial focus is on escalating and risk managing the incident, considerable value is derived from the phase that immediately follows; this being to understand root cause and insights from them. This typically drives various action plans to further strengthen processes and frameworks.

Monthly PPM summary reporting may promote discussions at the broader institutional level around matters such as opportunity to innovate and change the way we do things, risk culture and awareness, general robustness of process, and any trends or hot spots for follow-up. Staff are expected, encouraged and thanked for raising incidents in an open and transparent manner.

In summary:

  • Risks are more likely to eventuate when preparedness is inadequate.
  • The adverse consequences when risks eventuate are generally worse when risk management is limited.
  • Being risk aware and risk prepared (risk smart for short) supports innovation, rather than impeding it, as many fear. In many cases, opportunity and risk are shadows of one another. Both elements must be kept be in focus. When someone identifies an opportunity, we ask what risks exist, so that the gains will not be lost. When risks are raised, we ask what opportunity is there to move forward.
  • Risk management is a whole of organization task or responsibility. It needs to be demanded and modeled by executive management, owned and applied by business managers, and supported and monitored by a specialist risk management function. Accountability for risks should be assigned but everyone is responsible for risk management. Leadership is crucial in setting the risk/innovation tone and leading the organizational dialogue.
  • Risk management tends to atrophy if one is not careful. Successful risk management tends to undermine its own apparent value. A higher risk appetite can be sustained and greater risks may be taken, or complacency can set in because risks have been successfully, but almost unknowingly, averted. It is important to develop the culture, disciplines, processes, and learning mechanisms that keep risk management fresh, e.g. quasi-incidents can be useful reminders perhaps via BCP exercises, security penetration testing, and external review etc. Risk management committees have a place in maintaining the focus.
  • Engagement and conversations are vital. Risks need to be talked about. This builds awareness and action. Developing a culture in which risks and risk-taking can be discussed, managed and accepted is a key leadership challenge.

Source: Address by Mr Geoff Bascand, Deputy Governor and Head of Operations of the Reserve Bank of New Zealand, and Mr Steve Gordon, Head of Risk Assessment and Assurance of the Reserve Bank of New Zealand, to the New Zealand Institute of Chartered Accountants, Wellington, 24 June 2014.

Germany humiliates Brazil

For Brazil, the World Cup is over. They were demolished, destroyed by Germans, just not defeated. They were ripped to shreds, picked up and dumped in the trash can right in front of everyone who loved them. Then, as a final measure, the can was set on fire.

Brazil’s footballing legacy is lost now. The legacy artfully crafted by a battery of legends year after year – Garrincha, Didi, Domingos Da Guia, Pele, Socrates, Zico, Ronaldo, Roberto Carlos, Rivaldo, Ronaldinho, Kaka, et al. All were very stylish, and classy and a treat to watch. They were the masters of this game. In fact, they defined and represent the Brazilian football. Yes, I am a fan of Brazilian football.

Unfortunately, Brazil lost its Brazilian touch. Of the current team, perhaps only Neymar can lay claim to that legacy. Brazil was often seen going physical to get win in the tournament instead of depending on their mastery, trickery.

Last night, it was Germany who was perfecting the Brazilian football and scoring at their ease. They scored 5 goals before the game was 30 minutes old! This included 3 goals in just 3 minutes. Brazil had never let in so many goals in a World Cup game or so many in a half. The goals rained in so thick and fast that Brazil could never withstand the German onslaught. It’s a pity that absence of two players Silva and Neymar could make such huge difference to the nation, which had won the World Cup more than any other nation! It was the worst defeat for  Brazil and that too in front of home crowd. It equaled the margin of its previous worst ever defeat — a 6-0 loss to Uruguay way back in 1920. Brazilians not only lost the match on their home ground, they lost their identity too. This is utterly unbelievable!

The other highlights of the game were record breaking 16th World Cup goal by Klose (record was held by Ronaldo – 15 goals in 19 games) when he scored the 2nd German goal at 23rd minute of the game (16 goals in 23 games) and the 1st German goal, which was Muller’s 10th World Cup goal at 11th minute. He became the 13th player to score goals in double figure in World Cup matches and he was wearing his jersey no. 13! He also became the 3rd player (after Cubillas and Klose) in history to score 5-plus goals in two different World Cups.

My heartiest congratulations to Klose and Muller and the German team! I wish that the Germans win the 2014 World Cup.

There was another record created during the match. Twitter Data has released figures of the German blitzkrieg of the Brazilians on the pitch, which garnered 35.6 million tweets, with a new Tweets Per Minute (TPM) record also being set with Sami Khedira’s goal in the 29th minute triggering a landslide 580,166 TPM.

Yields on Iraqi bonds starts retreat after jump

Iraqi bonds plunged the most in two years after fighters from ISIS, a breakaway al-Qaeda group took control of Mosul.

PriceThe yield on Iraq’s $2.7 billion of bonds due in January 2028 climbed 60 basis points to 7.03% on June 11 after ISIS militants seized the country’s second-largest city, Mosul. It’s the biggest jump in a year on a closing basis. The spread over 10 year US treasuries jumped by 59 basis points to 438 basis points. The yield again climbed 24 basis points on June 16 to 7.50%. It increased to 7.77% on June 19 with the premium over US treasuries shooting up to 506 basis points.

IQ 2028 BondsThe bond yield, however, started a retreat as nation’s army sought to check rapid advance of militants who seized some major cities. The yield declined  by 28 basis points on June 24 to 7.42%. It further declined to 7.26% on June 27, which is 472 basis points higher than US treasuries. The spread over US treasuries was 653 basis points on June 26 last year, the day before the UN decision to ease the sanctions.

The Iraqi bonds have been the best performers in the Middle East and Africa region for the past six months, with 15%, JPMorgan Chase & Co. indexes show.

The International Monetary Fund forecast economic growth at 5.8% this year, up from 3.7% in 2013. Foreign-currency reserves rose 33% in the fourth quarter of 2013 from a year earlier to $88 billion as oil output surpassed Iran.

The issue size of the bond is less than 2.7% of Iraq’s oil export revenue and is just 3% of Iraq’s foreign currency reserve.

A mountain named Mt. Sinha

The United States has named a mountain in Antarctica in honour of an eminent Indian-American scientist Akhouri Sinha, adjunct professor in the Department of Genetics, Cell Biology and Development at the University of Minnesota, whose pioneering biological research expedition during 1971-72 has provided critical data about animal populations.

Sinha was a member of a team that catalogued population studies of seals, whales and birds in the pack ice of the Bellingshausen and Amundsen Seas using USCGC Southwind and its two helicopters during 1971-72.

Mount Sinha is a mountain (990 m) at the southeast extremity of Erickson Bluffs in the south part of McDonald Heights. It overlooks lower Kirkpatrick Glacier from the north in Marie Byrd Land.

It was mapped by United States Geological Survey (USGS) from surveys and U.S. Navy air photos. Advisory Committee on Antarctic Names (US-ACAN) named the mountain for Sinha.

Sinha graduated with a B.Sc. degree from the Allahabad University in 1954 and M.Sc. degree in Zoology from the Patna University in 1956.

It’s a great honour, indeed.