The Week
The Week, 06/03/09
Blind man's bluff
A curious game of swings and roundabouts has begun in the gilts market. The official name is quantitative easing but perhaps it would be better known as blind man’s bluff.
One player, the Bank of England, wanders round in circles waving its arms furiously, totally disoriented and grabbing at anyone in reach. The other players, investors in government debt, dodge in and out, enjoying the thrill of risking being caught.
For those unfamiliar with the gilt market, a quick run over of the rules. The government borrows money by issuing bonds known as gilt-edged securities, or gilts for short. This funds the national debt, the cumulative shortfall between government revenue and spending.
Most gilts have a finite life, so at some set point in the future they will have to be renewed. Issues of new gilts thus normally cover the current shortfall plus replacing expiring gilts. These are not, however, normal times.
Given the present and future massive increase in government debt to pay for bailing out the banking system and fuelled by the decline in the tax take from company profits, VAT and income tax, more gilts will have to be issued.
Unfortunately there is only so much cash out there to buy the gilts, which makes it harder for the government to sell them. Thus it has this week struggled to issue £2.25 billion of 30-year gilts. In effect, issuing massive amounts of gilts pushes up the rate of return that must be offered to tempt buyers just as the Bank of England is desperately trying to slash interest rates.
However, help is at hand because the Bank is to buy back up to £75 billion worth of gilts and company bonds now, and another £75 billion later, printing new money to pay, which is also highly inflationary. No wonder it is called quantitative easing. Plenty of quantity but not much quality.
This buying and selling of massive quantities of government debt is a bizarre game that we must all hope will lead to recovery. It is likely that this week’s gilt auction fared badly because investors held back until they could see what the Bank of England proposed to do next. Now we know.
Perhaps to offset the inflationary effects of printing money, the Bank has again reduced base rate, this time to a measly half a percent. I fear this could mean that February’s inflation figure will be disappointing, as were those for preceding months.
The banks have a further opportunity to rebuild their profits by reducing the rates they pay to savers without making a corresponding reduction in lending rates. Saving is now hardly worthwhile for the pittance you get and anyone who can avoid borrowing is wise to do so.
The one exception is that if you want to buy a house or upgrade to a larger one and you can raise the cash then go for it. The housing market may not be at the bottom but it is probably the best investment at the moment and you have to live somewhere. Just don’t overstretch yourself.
Euro star
I have, over many years, poured scorn on Eurotunnel as an investment and I still wouldn’t risk my money in what remains a debt-laden group. It will hardly be helped if tourists and manufacturers find fewer reasons to cross the Channel while the credit crunch lasts.
But let us salute Jacques Gounon, the man who turfed out the discredited and moribund board and turned the whole thing round as chairman and chief executive. That he averted bankruptcy is a miracle in itself. How, then, are we to describe the payment of a dividend, especially after a year in which the tunnel was disrupted by a fire?
Eurotunnel faces many challenges but the opening of the high speed link into St Pancras makes passenger travel much more attractive. Gounon says the profit is solid. I wouldn’t believe anyone else, but after what he has achieved I’ll take his word for it.
Dead cats
The market has settled a little after Monday’s disaster but it is hard to see the small recovery as anything other than a dead cat bounce.
I remarked a week or two ago that the RBS results had been taken very calmly because the full horror had been released earlier. However, the Lloyds results were greeted with a further fall in banking and other shares despite a similar advance warning about HBOS losses. Hearing the same bad news twice is starting to have double the effect.
The government may have been granted some respite by the fury over Sir Fred Goodwin’s massive pension but the stock market is not able to bury bad news. The record quarterly loss from American insurance giant AIG was discouraging enough in itself but I feel that the poor performance at HSBC is more worrying still.
We knew months ago that AIG was in trouble, though perhaps we did not appreciate the full extent of its travails. HSBC, on the other hand, was the beacon of hope. This was the sensible bank that avoided the worst excesses of the sub-prime scandal and had operations spread around the world, evening out its risks.
HSBC probably is the most secure bank in the world, with the possible exception of Standard Chartered, but if it needs £12.5 billion through a rights issue then what does that say about the rest of the financial system?
One amusing footnote amid the gloom: Gunnar Orn Kristjansson, brought in to chair the board of Iceland’s largest nationalised bank New Kaupthing, has quit after two days saying that the job was more extensive than he realised.
Did he expect this to be a frolic in a geyser?
Moore’s the pity
My thanks to David Curry, a reader of this missive, for pointing out that I was unfairly critical of Paul Moore, the HBOS whistleblower, last week, in my remark that it was a pity he did not speak out sooner.
Moore, as has been widely publicised, did speak out within HBOS and was fired for his bravery and competence. What I meant to say was that it was a pity his public testimony was not made sooner. That was not his fault as he was not responsible for the timing of the Treasury Select Committee session at which he dropped his bombshell.
For the record, I have the greatest admiration for Moore and I have in previous editions of The Week suggested that someone should offer this man a top job as he would be a terrific asset to any business.
Rodney Hobson
Author, Shares Made Simple and Small Companies, Big Profits