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Eurozone crisis – ratings downgrade of key players in the bailout and rising dangers for the UK

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Bob-Lyddon

Moody’s downgraded the ESM (European Stability Mechanism) and the EFSF (European Financial Stability Facility) last week, reflecting the deteriorating creditworthiness of the Eurozone Member State guarantors of the main Eurozone bailout mechanisms. The European Community and the European Investment Bank were not downgraded, however. This development represents a realisation of the dangers of the UK’s further entanglement, where the ongoing deterioration in the finances of Eurozone states causes increasing dependence on the backing of the few remaining AAA-rated EU Member States, Eurozone or not.Bob-Lyddon

The major player that is AAA-rated but outside the Eurozone is the UK.
The ESM was established in September but has not yet been “mobilised” i.e. drawn upon. The EFSF, by contrast, holds about EUR60bn of Greek government bonds and has issued a substantial volume of bonds to finance itself: the bonds so issued can easily be novated onto the name of the ESM – because the ESM legal structure is identical and its bonds are of exactly the same quality as those of the EFSF.

As well as replacing the EFSF, the ESM is supposed to take out the UK’s exposure (established via the European Community borrowing mechanism in 2010) on the European Financial Stabilisation Mechanism (EFSM). The debts incurred by the European Community to fund the EFSM cannot, however, be novated onto the ESM because the EC’s debts are better rated. The ESM would have to issue new debts itself to repay the EC and take over the EFSM’s loans (to Ireland and Portugal).

There have now to be serious questions about whether the UK’s liability really will be subsumed into the ESM in this way, at the point where the metal hits the meat.

Firstly, the combined loans of the EFSF now, plus what might be drawn in the coming months, plus the outstandings under the EFSM, will come close to the total of the ESM’s firepower. If that is the case, there will then be pressure to keep the EFSM going so as to retain headroom within the ESM to meet future needs.

Secondly, the EFSF may in the meantime experience a substantial firepower reduction if it has a write-off of part of its loans to Greece, reducing its assets but not its liabilities. Someone has to take another bath over Greece, and if it isn’t the EFSF and other “public creditors” that take it, they will have to force a second write-off onto private creditors. That move has already been termed a “betrayal”; it risks undermining the market’s trust in the Eurozone public authorities and consequently reducing the size of the market for the bonds of the ESM/EFSF – which reduces the firepower. The write-off has to come from somewhere and both options reduce the firepower available for wider Eurozone needs.

The upshot is that there is now a clear parting of the ways in the capital markets between the ratings of the three categories of borrower:

1. European Community – joint and several guarantee of all EU member states, with no percentages allocated as ceilings
2. European Investment Bank – guarantees of all EU member states, but with percentages allocated as ceilings
3. ESM and EFSF – guarantees of Eurozone member states only, and with percentages allocated as ceilings
The first consequence of the downgrade of ESM and EFSF further mobilisation of the European Investment Bank, increasing the risk attached to the UK’s contingent liability as guarantor on EIB, even if there is no further cash call.
But the bigger danger is that the downgrade derives from the increased the costs-of-borrowing for Member States through the ESM/EFSF compared to the EFSM, as well as the restriction on the amount of money that can be raised and its maturity. The temptation for the EU public authorities is obvious:

• The undrawn portion of the EFSM will now be drawn, rather than the EFSF being drawn
• There will be renewed discussion about how to use the other borrowing scheme through the European Community – the Balance of Payments Facility – for the Eurozone’s needs; the BoP Facility is supposed to be reserved for countries that are on the convergence path to the EUR, but ways of drawing it have been studied before… and any outstanding under the BoP will NOT be subsumed into the ESM
• It won’t be possible, when it comes to it, to subsume the EFSM outstandings into the ESM, because the market won’t take that much ESM debt to refinance it through a lower credit risk
• The total of EUR110 billion of borrowing facilities through the European Community – on which the UK’s risk is the whole lot – is the “bank of last resort” for the EUR
• Since the EUR is in the last chance saloon, that bank of last resort’s ATM is the one next to the bar
• To continue the analogy, the European authorities have appointed themselves as the card switching network behind the ATM – and they can allocate all debits back to the UK’s credit card

The authority to debit the UK’s card can be given under the Qualified Majority Voting system that is used in the Council of Ministers, thanks to the Lisbon Treaty. The UK has no automatic right of veto, because the borrowings, once created, must be met from the EU Budget. The UK would have the right to veto the EU Budget if it included the same amount as upfront funding of Member State requirements (e.g. through the Common Agricultural Policy). But creating a contingent liability on Member States through a separate fund sidesteps the veto. A deficit in the fund (caused by losses on loans to Member States) is then debited to the EU Budget over and above any approved annual Budget, and a Budget Deficit is underwritten by the Member States jointly and severally. Whereas the normal annual budget – payable in advance – is subject to percentages allocated as ceilings, the responsibility to cover a Budget Deficit is not.

Since the issue of the UK’s exposure to the Eurozone crisis was first raised in the first half of 2012, the UK government has done nothing to reinforce the flood defences: in fact it has met a EUR1 billion capital call from the EIB. Are they asleep at the sluice gates?

Bob Lyddon, General Secretary, IBOS Association
E: [email protected]
W: www.ibosassociation.com

IBOS stands for International Banking – One Solution. It is an association which fosters inter-bank cooperation. Currently active in 27 countries and rapidly expanding, its members include Santander, HSBC France, Intesa SanPaolo, KBC, Nordea and UniCredit Bank.

 

 

 

Investing

Northern Trust: Outsourcing Accelerates Through Pandemic as Investment Managers Seek to Improve Margins, Enhance Business Resilience, and Future-Proof Operations

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Northern Trust: Outsourcing Accelerates Through Pandemic as Investment Managers Seek to Improve Margins, Enhance Business Resilience, and Future-Proof Operations 1

White Paper Sees Increase in Managers Outsourcing Middle and Front Office Functions to Achieve Optimal Business Structures

According to a white paper published today by Northern Trust (Nasdaq: NTRS), investment managers of all sizes and strategies have been prompted to undertake a comprehensive review of their operating models as a result of the Covid-19 pandemic which has accelerated existing trends that are compounding cost pressures. This has led increasing numbers of managers to outsource in-house dealing and other functions, such as foreign exchange and transition management, hitherto seen as core.

While cost savings remain a core driver, and indeed are one outcome of outsourcing, costs are no longer the only focus. Far from being solely a defensive reaction to increased pressure on margins, the white paper (‘From Niche to Norm’) describes outsourcing as part of the target operating model, or moving toward the ‘Optimal State’ for many investment managers, and  explains how the focus “has expanded to the variety of other potential benefits offered – enhanced capabilities, improved governance and operational resilience.”

Gary Paulin, global head of Integrated Trading Solutions at Northern Trust Capital Markets said: “The pandemic has challenged a range of operational assumptions. Working from home has, for example, questioned the need for a portfolio manager to be in close proximity with the dealing desk. Previously considered essential, the pandemic has effectively forced firms to ‘outsource‘ their trading desks to remote working setups and the effectiveness of this process has disproved the requirement for proximity, in turn, easing the path to third-party outsourcing. Many investment managers are actively considering outsourcing to a hyper-scale, expert provider as a potential, cost efficient solution – one that maintains service quality and, hopefully, improves it whilst adding resiliency.”

Northern Trust’s white paper compares outsourced trading to software-as-a-service stating: “instead of carrying the cost and complexity of running an in-house solution, firms move to an outsourced one, free up capital to invest in strategic growth and move costs from a fixed to a variable basis in line with the direction of travel for revenues.” 

Guy Gibson, global head of Institutional Brokerage at Northern Trust Capital Markets said: “The opportunity to deploy capital to build new fund structures, develop new offerings, focus on distribution and enhance in-house research has been taken up by several of our clients to the benefit of their investment approach, and to the benefit of their investors.  Additionally, in the last two months alone, many firms have recognized that outsourcing to a well-capitalized, global platform has enabled them to take advantage of cost-contained growth opportunities in new markets.”

A further development, which has echoes of the journey the technology industry has already undertaken, is the move towards ‘whole office’ solutions, which represent the next potential wave in outsourcing.

According to Paulin; “recently we have observed a growing number of managers wanting to outsource to a single, hyper-scale professional service provider who can do everything, everywhere. This aligns with Northern Trust’s strategy to deliver platform solutions for the whole office, serving our clients’ needs across the entire investment lifecycle.”

The white paper can be downloaded here.

Integrated Trading Solutions is Northern Trust’s outsourced trading capability that combines worldwide locations and trading expertise in equities and fixed income and derivatives with access to global markets, high-quality liquidity and an integrated middle and back office service as well as other services, such as FX. It helps asset owners and asset managers to meaningfully lower costs, reduce risk, manage regulatory compliance and enhance transparency and operational efficiency.

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How are investors traversing the UK’s transition out of lockdown?

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How are investors traversing the UK’s transition out of lockdown? 2

By Giles Coghlan, Chief Currency Analyst, HYCM

Just when we thought we had overcome the initial health challenges posed by COVID-19, the UK Government has once again introduced lockdown measures in certain regions to curb a rise in new cases. This is happening at a time when the government is trying to bring about the country’s post-pandemic recovery and prevent a prolonged economic downturn.

This is the reality of the “new normal” – a constant battle to both contain the spread of the virus but also avoid extended economic stagnation.

Of course, no matter how many policies are introduced to spur on investment, traders and investors are likely to act with caution for the foreseeable future. There are simply too many unknowns to content with at the moment.

To try and measure investor sentiment towards different asset classes at present, HYCM recently commissioned research to uncover which assets investors are planning to invest in over the coming 12 months. After surveying over 900 UK-based investors, our figures show just how COVID-19 has affected different investor portfolios. I have analysed the key findings below.

Cash retreat

At present, it seems that by far the most common asset class for investors is cash savings, with 78% of investors identifying as having some form of savings in a bank account. Other popular assets were stocks and shares (48%) and property (38%). While not surprising, when viewed in the context of investor’s future plans for investment, it becomes evident that security, above all else, is what investors are currently seeking.

A third of those surveyed (32%) said that they intended to put more of their wealth into their savings account, the most common strategy by far among those surveyed. This was followed by stocks and shares (21%), property (17%), and fixed interest securities (17%).

When asked about what impact COVID-19 has had on their portfolios throughout 2020, 43% stated that their portfolio had decreased in value as a consequence of the pandemic. This has evidently had an effect on investors’ mindsets, with 73% stating that they were not planning on making any major investment decisions for the rest of the year.

Looking at the road ahead

So, it seems that many investors are adopting a wait-and-see approach; hoping that the promise of a V-shaped recovery comes to fruition. The issue, however, is that this exact type of hesitancy when it comes to investing may well slow the pace of economic recovery. Financial markets need stimulus in order to help facilitate a post-pandemic economic resurgence, but if said financial stimulation only arrives once the recovery has already begun, the economy risks extended stagnation.

It seems, then, that there are two possible set outcomes on the path ahead. The first is a steady decline in COVID-19 cases, then an economic downturn as the markets correct themselves, followed by a return to relative economic stability. The second potential outcome is a second spike of COVID-19 cases which incurs a second nationwide lockdown – delaying an economic revival for the foreseeable future. At present, the former of these two scenarios is seemingly playing out with economic growth and GDP steadily increasing; but recent COVID-19 case upticks show that it’s still too soon to be certain of either scenario.

A cautious approach, therefore, will evidently remain the most common investment strategy looking ahead. But investors must remember that, even in the most uncertain times, there are always opportunities for returns on investment. Merely transforming a varied portfolio into cash savings risks a long-term decline in value.

High Risk Investment Warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 73% of retail investor accounts lose money when trading CFDs with this provider. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money. For more information please refer to HYCM’s Risk Disclosure.

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Hatton Gardens 5 top tips for investing in Diamonds

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Hatton Gardens 5 top tips for investing in Diamonds 3

By Ben Stinson, Head of eCommerce at Diamonds Factory

Investing in diamonds can be extremely rewarding, but only if you know what to look for. For investors who lack experience, finding your diamond in the rough can be quite daunting.

For even the most beginner of diamond investors, the essentials are fairly obvious. For instance, you need to ask yourself will the diamond hold its value over time? What’s the overall condition of the stone and the jewellery? Is there history behind the item in question?

Although common sense plays a big part in investing, people often need insider tips and tricks to go from beginner to expert. Tony French, the in-house Diamond Consultant, at Diamonds Factory shares his professional knowledge on the 5 most important things to look for when investing in diamonds.

1: Using cut, weight and colour to determine value

Firstly, consider the shape, colour, and weight of your diamond, as this can play a pivotal role in guaranteeing growth in the value of your item. Granted, investing trends change with time, but a round cut of your diamond will almost always be the most sought after. The cut of your diamond is incredibly important, as it can influence the sparkle and therefore, the overall value. It’s a similar story for the intensity of some colours, such as Pink, Red, Blue, Green etc. Concerning weight, the heavier (bigger) stones will generally increase in value by a bigger percentage. Collectively these factors also contribute to the supply and demand aspect, which will determine their high price, and will ensure your item is re-sellable.

2: Provenance

Looking for significant value? Well, aim to own jewellery or diamonds that come from an important public figure. If you’re lucky enough to own a piece that has significant history, or was owned by a celebrity or person of interest, it’s an absolute must to have concrete evidence of this. Immediately, this proof will increase an item’s overall value, and there’s a good chance the stardom of your item might drum up interest amongst diehard fans, increasing the value even further…

Equally, it’s possible to proactively bring provenance to unique diamonds of yours. For instance, you can offer to loan bespoke, or unusual pieces for film, theatre, or TV performances – then it can be advertised as worn by xyz.

3: Find the source

Ben Stinson

Ben Stinson

Establishing your diamond’s source is one of the most important things you can do when investing in diamonds. If you’re starting out, try to purchase diamonds that have NOT been owned by too many people, as the overall value of the diamond will reflect multiple ownership. Alternatively, I’d always recommend buying from suppliers like ourselves or other suppliers and retailers, who buy directly from the people who have had them certified.

Primarily, this will allow you to have a greater degree of transparency, which is crucial when buying such a valuable item. Next, you should immediately see an increase in value of your diamonds, as identifying a source will allow traceability and therefore, market context.

4: Certification

Linked closely with my previous point, is the requirement to ensure that your diamonds are certified by a credible lab, and you have the evidence to prove so (a written document with specific grading details about your diamonds) – this will remove any doubts of impropriety.

It’s essential to remember that not all labs are the same, and many labs are better than others. Both the AGS (American Gem Society) and GIA (Gemological Institute of America) have great reputations and are world renowned. I’d recommend doing your own research into the labs, and when you’ve found the pieces that you’d like to invest in, then make an informed decision based upon your findings. Ultimately, proving certification will make your stones easier to insure, and deep down, you can have peace of mind knowing you have got what you have paid for.

Don’t forget to keep this paperwork in a safe location as well – you’d be surprised how many people we’ve met who have lost, or forget where they’ve placed it.

5:  Patience is a virtue…

If the market is strong, it might be tempting to look for an immediate sale once you’ve purchased a high value item. However, I suggest holding onto your diamonds for some time before even thinking about selling. More often than not, an item is more likely to increase in value over a few years than a few days – try and wait a little longer!

Equally, I would encourage having your diamonds, or jewellery professionally valued regularly. If you don’t have the knowledge to make a rough judgement on how much your pieces are worth, a consultant or expert can provide both a valuation, and contextualise that amount in the wider market. From there, you should be empowered with the knowledge to decide whether to keep or sell.

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