Saturday, November 17, 2012

Global Shadow Banking - the Dracula Squid of all Vampire Squids rules the planet - too big , too unwieldy , too risky and too long past the point of control - guess the query of what the Fed might really do regarding TBTF is answered. Hedge funds closures - canary in the old mineshaft ? And is the Dallas Fed recent report a signal the Fed will finally get real with TBTF - in a serious way ?

http://www.zerohedge.com/news/2012-11-18/global-shadow-banking-system-rises-record-67-trillion-just-shy-100-global-gdp


Global Shadow Banking System Rises To $67 Trillion, Just Shy Of 100% Of Global GDP

Tyler Durden's picture




Earlier today, the Financial Stability Board (FSB), one of the few transnational financial "supervisors" which is about as relevant in the grand scheme of things as the BIS, whose Basel III capitalization requirements will never be adopted for the simple reason that banks can not afford, now or ever, to delever and dispose of assets to the degree required for them to regain "stability" (nearly $4 trillion in Europe alone as we explained months ago), issued a report on Shadow Banking. The report is about 3 years late (Zero Hedge has been following this topic since 2010), and is largely meaningless, coming to the same conclusion as all other historical regulatory observations into shadow banking have done in the recent past, namely that it is too big, too unwieldy, and too risky, but that little if anything can be done about it.
Specifically, the FSB finds that the size of the US shadow banking system is estimated to amount to $23 trillion (higher than our internal estimate of about $15 trillion due to the inclusion of various equity-linked products such as ETFs, which hardly fit the narrow definition of a "bank" with its three compulsory transformation vectors), is the largest in the world, followed by the Euro area with a $22 trillion shadow bank system (or 111% of total Euro GDP in 2011, down from 128% at its peak in 2007), and the UK in third, with $9 trillion. Combined total shadow banking, not to be confused with derivatives, which at least from a theoretical level can be said to offset each other (good luck with that when there is even one counterparty failure), is now $67 trillion, $6 trillion higher than previously thought, and virtually the same as global GDP of $70 trillion at the end of 2011.
Of note is that while the US shadow banking system has been shrinking (something our readers are aware of, and a fact which in our opinion implies there is nearly $4 trillion more in Fed monetization still to come, as Bernanke has no choice but to offset the credit destruction within shadow conduits, which in turn are deleveraging to the tune of nearly $150 billion per quarter), that of Europe has been increasing.
The result:
Aggregating Flow of Funds data from 20 jurisdictions (Argentina, Australia, Brazil, Canada, Chile, China, Hong Kong, India, Indonesia, Japan, Korea, Mexico, Russia, Saudi Arabia, Singapore, South Africa, Switzerland, Turkey, UK and the US) and the euro area data from the European Central Bank (ECB), assets in the shadow banking system in a broad sense (or NBFIs, as conservatively proxied by financial assets of OFIs15) grew rapidly before the crisis, rising from $26 trillion in 2002 to $62 trillion in 2007. The total declined slightly to $59 trillion in 2008 but increased subsequently to reach $67 trillion in 2011.

And while the the bulk of the shadow activity is contained within the 3 well-known jurisdictions (US, Europe, UK) whose credit creation capacity in the traditional banking system appears to have ground to a halt, especially in Europe where unencumbered collateral is virtually nil (thus forcing credit creation in the deposit-free, unregulated shadow space), the FSB also found previously unexplored shadow banks in some brand news venus including Switzerland, China and Hong Kong:
Expanding the coverage of the monitoring exercise has increased the global estimate for the size of the shadow banking system by some $5 to 6 trillion in aggregate, bringing the 2011 estimate from $60 trillion with last year’s narrow coverage to $67 trillion with this year’s broader coverage. The newly included jurisdictions contributing most to this increase were Switzerland ($1.3 trillion), Hong Kong ($1.3 trillion), Brazil ($1.0 trillion) and China ($0.4 trillion).
Not unexpectedly, the FSB focuses mostly on Europe, and provides the following color:
The size of the shadow banking system (or NBFIs), as conservatively proxied by assets of OFIs, was equivalent to 111% of GDP in aggregate for 20 jurisdictions and the euro area at end-2011 (Exhibit 2-3), after having peaked at 128% of GDP in 2007.
The summary is by now well-known to most who realize that the primary driver of marginal credit money creation (in Europe) and destruction (in the US) is none other than the world's shadow banking system. As per Bloomberg:

The size of the shadow banking system, which includes the activities of money market funds, monoline insurers and off- balance sheet investment vehicles, “can create systemic risks” and “amplify market reactions when market liquidity is scarce,” the Financial Stability Board said in a report, which utilized more data than last year’s probe into the sector.

“Appropriate monitoring and regulatory frameworks for the shadow banking system needs to be in place to mitigate the build-up of risks,” the FSB said in the report published on its website.
Sadly, shadow banking, like every other unsustainable aspect of the foundering "modern" financial system, will not be fixed, resolved, or in way improved or made sustainable until the entire system crashes.
What is notable, is that for the first time, the issue that is the lynchpin of virtually infinite shadow banking asset "creation" courtesy of rehypothecation, a topic that came to prominence with the MF Global collapse, and which allows infinite ownership chains on the same asset to be created as long as the counterparties are solvent, to fall under the spotlight, especially the legal loophole to create infinite rehypothecation chains with zero haircuts in the UK (hence geographic arbitrage as noted below). To wit:
Requirement on re-hypothecation

“Re-hypothecation” and “re-use” of securities are terms that are often used interchangeably; they do not have distinct legal interpretations. WS5 finds it useful to define “re-use” as any use of securities delivered in one transaction in order to collateralise another transaction; and “re-hypothecation” more narrowly as re-use of client assets.
Re-use of securities can be used to facilitate leverage. WS5 notes that if re-used assets are used as collateral for financing transactions, they would be subject to the proposals on minimum haircuts in section 3.1 intended to limit the build-up of excessive leverage, subject to decisions taken on the counterparty scope and collateral type (sections 3.1.4 (ii) and 3.1.4 (iii), respectively).

WS5 believes more safeguards are needed on re-hypothecation of client assets:
  • Financial intermediaries should provide sufficient disclosure to clients in relation to re-hypothecation of assets so that clients can understand their exposures in the event of a failure of the intermediary. This could include, daily, the cash value of: the maximum amount of assets that can be re-hypothecated, assets that have been re-hypothecated and assets that cannot be re-hypothecated, i.e. they are held in safe custody accounts.
  • Client assets may be re-hypothecated by an intermediary for the purpose of financing client long positions and covering short positions, but they should not be re-hypothecated for the purpose of financing the intermediary’s own-account activities.
  • Only entities subject to adequate regulation of liquidity risk should be allowed to engage in the re-hypothecation of client assets.
Harmonisation of client asset rules with respect to re-hypothecation is, in principle, desirable from a financial stability perspective in order to limit the potential for regulatory arbitrage across jurisdictions [ZH: ahem UK]. Such harmonised rules could set a limit on re-hypothecation in relation to client indebtedness.WS5 thinks that it was not in a position to agree on more detailed standards on re-hypothecation from the perspective of client asset protection. Client asset regimes are technically and legally complex and further work in this area will need to be taken forward by expert groups.
That the FSB has no idea how to regulate infinite rehypothecation should come as no surprise to anyone. After all, enforcing limits on creating "assets" out of thin are would limit the amount of millions Wall Street CEO can pay themselves in exchange for creating soon to be vaporized ledger entries, which they "do not recall" how those got there upon Congressional cross examination.
Finally, perhaps the most important section of all deal with what the FSB terms "Facilitation of credit creation."
Facilitation of credit creation

The provision of credit enhancements (e.g. guarantees) helps to facilitate bank and/or non-bank credit creation, may be an integral part of credit intermediation chains, and may create a risk of imperfect credit risk transfer. Non-bank financial entities that conduct these activities may aid in the creation of excessive leverage in the system. These entities may potentially aid in the creation of boom-bust cycles and systemic instability, through facilitating credit creation which may not be commensurate with the actual risk profile of the borrowers, as well as the build-up of excessive leverage. Credit rating agencies also facilitate credit creation but are outside the scope as they are not financial entities.
Examples may include:
  • Financial guarantee insurers that write insurance on financial products (e.g. structured finance products) and consequently facilitate potentially excessive risk taking or may lead to inappropriate risk pricing while lowering the cost of funding of the issuer relative to its risk profile. – For example, financial guarantee insurers may write insurance of structured securities issued by banks and other entities, including asset-backed securitisations, and often in the form of credit default swaps. Prior to the crisis, US financial guarantee insurers originated more than half of their new business by writing such insurance. While not all structured products issued in the years leading up to the financial crisis were insured, the insurance of structured products helped to create excessive leverage in the financial system. In this regard, the insurance contributed to the creation of large amounts of structured finance products by lowering the cost of issuance and providing capital relief for bank counterparties through a smaller capital charge for insured structures than for non-insured structures. Because of large losses on structured finance business, financial guarantee insurers have in some cases entered into settlement agreements with their counterparties under which, for the cancellation of the insurance policies, the counterparties accepted some compensation from the insurer in lieu of full recovery of losses. In other cases, financial guarantee insurers have been unable to pay losses on insured structured obligations when due. These events exacerbated the crisis in the market.

Facilitation of credit creation

The provision of credit enhancements (e.g. guarantees) helps to facilitate bank and/or non-bank credit creation, may be an integral part of credit intermediation chains, and may create a risk of imperfect credit risk transfer. Non-bank financial entities that conduct these activities may aid in the creation of excessive leverage in the system. These entities may potentially aid in the creation of boom-bust cycles and systemic instability, through facilitating credit creation which may not be commensurate with the actual risk profile of the borrowers, as well as the build-up of excessive leverage. Credit rating agencies also facilitate credit creation but are outside the scope as they are not financial entities.

Examples may include:
  • Financial guarantee insurers that write insurance on financial products (e.g. structured finance products) and consequently facilitate potentially excessive risk taking or may lead to inappropriate risk pricing while lowering the cost of funding of the issuer relative to its risk profile. – For example, financial guarantee insurers may write insurance of structured securities issued by banks and other entities, including asset-backed securitisations, and often in the form of credit default swaps. Prior to the crisis, US financial guarantee insurers originated more than half of their new business by writing such insurance. While not all structured products issued in the years leading up to the financial crisis were insured, the insurance of structured products helped to create excessive leverage in the financial system. In this regard, the insurance contributed to the creation of large amounts of structured finance products by lowering the cost of issuance and providing capital relief for bank counterparties through a smaller capital charge for insured structures than for non-insured structures. Because of large losses on structured finance business, financial guarantee insurers have in some cases entered into settlement agreements with their counterparties under which, for the cancellation of the insurance policies, the counterparties accepted some compensation from the insurer in lieu of full recovery of losses. In other cases, financial guarantee insurers have been unable to pay losses on insured structured obligations when due. These events exacerbated the crisis in the market.
  • Financial guarantee companies whose funding is heavily dependent on wholesale funding markets or short-term commitment lines from banks – Financial guarantee companies may provide credit enhancements to loans (e.g. credit card loans, corporate loans) provided by banks as well as non-bank financial entities. Such financial guarantee companies may be prone to “runs” if their funding is heavily dependent on wholesale funding such as ABCPs, CPs, and repos or short-term bank commitment lines. Such run risk can be exacerbated if they are leveraged or involved in complex financial transactions.
  • Mortgage insurers that provide credit enhancements to mortgages and consequently facilitate potentially excessive risk taking or inappropriate pricing while lowering the cost of funding of the borrowers relative to their risk profiles – Mortgage insurance is a first loss insurance coverage for lenders and investors on the credit risk of borrower default on residential mortgages. Mortgage insurers can play an important role in providing an additional layer of scrutiny on bank and mortgage company lending decisions. However, such credit enhancements may aid in creating systemic disruption if risks taken are excessive and/or inappropriately reflected in the funding costs of the banks and mortgage companies.
Why is this section so imporant? Because recall that in a Keynesian system, credit creation = money creation = growth. Without "facile" credit creation, there is no growth period. The problem, however, is that the world is approaching its peak credit capacity across the various verticals: sovereign, financial, corporate non-financial, shadow, and of course, household. The reality is that unless some existing debt is not eliminated to make space for future "credit creation", there simply can not be growth, and the problem is that wiping out credit, means the equity tranches below it are worthless. And that is the Catch 22, because wiping out equity somewhere in the world, would have dramatic implications not only on the wealth of the 0.0001% but on credit and faith in a system, which only operates due to the inherent "credit" (hence the name) and "faith" in it. Without those, ultra-modern finance crumbles like a house of cards.
In other words, while the FSB, like any other prudent regulator, is diligently warning about the dangers associated with unprecedented leverage across shadow, and all other systems, in reality what it is saying is that the only way to resolve a record debt problem is... with more debt.
And so we are back to square zero, only this time we are a few trillions dollars closer to complete systemic debt saturation.
* * *
For more on the topic of Shadow Banking, we suggest the following reading material:












http://blogs.wsj.com/deals/2012/11/16/hedge-fund-libra-advisors-to-return-investors-money/


Libra Advisors LLC, a $2 billion hedge-fund firm, plans to return outside investors’ money, citing difficult markets made riskier by “unconventional monetary policies.”
The New York-based firm, founded in 1990 by Ranjan Tandon, has struggled recently. It posted losses in 2011 and is down this year, a person familiar with Libra said. The person said Libra will return investors’ money by year end and eventually become a family office.
In a Nov. 9 letter to investors, Mr. Tandon said that new regulations and expected tax increases also factored in his decision to return clients’ money. Complying with a raft of new rules and trading restrictions stemming from the Dodd-Frank financial legislation, he wrote, “will take time away from what I enjoy most, investing.”
Libra, which trades stocks, currencies and commodities, plans to waive its management fee for investors who have lost money as of Dec. 31, the letter said.
“After due reflection, I have decided to retire from managing client funds and will redeem all external capital,” Mr. Tandon wrote. “I regret any losses that you have incurred, especially losses borne by investors that began investing with Libra more recently.”

and.....
http://www.cnbc.com/id/49662130/More_Hedge_Funds_Close_Up_Shop_as_Returns_Fizzle
Generating strong returns is getting so tough for hedge fund managers, supposedly the high-earning masters of any market, that some are shutting up shop and more look poised to follow.


Businessman failure
LWA | Image Bank | Getty Images

Years of choppy markets whipsawed by political risk have crippled performance and left many firms with little in the way of income earned by hefty fees.
Now, with an investor base increasingly ready to pull out, several are calling it quits.
Edoma Partners, one of the most talked about hedge fund launches since the financial crisis, said on Thursday it was closing just two years after it started, hit by poor performance and a flurry of investor redemptions.
Pierre Henri-Flamand, the ex-Goldman Sachs [GS  115.84    0.40  (+0.35%)   ]trader turned founder, blamed "unprecedented market conditions".
Other, more veteran managers, have also decided to exit.
Greg Coffey, one of the industry's best known figures, decided to retire early and liquidate one of his funds at Moore Capital, sources said earlier this month.
That followed Driss Ben-Brahim's decision to retire from GLG, the hedge fund he joined in 2008 and now owned by Man Group.
"It's been too long that hedge funds haven't delivered what they promised," said one investor, asking not to be named.


The average hedge fund has made its clients 4.86 percent this year, data from industry tracker Hedge Fund Research shows, far below the 12 or so percent investors would have got if they bought a fund tracking the S&P 500.
As many as 73 Asia-focused hedge funds shut down this year to end-September, although Europe has seen fewer closures.
Hedge funds market themselves for an ability to protect their clients' cash against market falls, and to make money in all trading environments.
Yet over the past three years, which includes several major equity market sell-offs, the average fund is up less than 4 percent while the S&P 500 is more than 30 percent ahead.
And without returns, managers do not get the lucrative performance fees — often a 20 percent cut — they crave.
"Maybe there is some fatigue at some levels. A number of classically driven fundamental managers have been frustrated by macro dominated markets for several years...," Fred Ingham, Head of International Hedge Fund Investments at Neuberger Berman, said, although he added that there were positive signs this may now be changing.
Hedge funds use management fees, an annual charge set at 1.5 or 2 percent of assets, to pay for salaries, rent in the upmarket districts of New York or London and their trading platforms.
If assets shrink, that business model can quickly come into question.
"The space is under pressure. If you are down 7 percent over two years, without a strong financial backing, it will be hard to hire and to make returns," Olivier Kintgen, chief investment officer at Europanel Research and Alternative Asset Management, said.
In an environment of rock-bottom rates, the hedge fund fee structure can also look outdated. Handing the manager 20 percent of double-digit gains is one thing, but losing a fifth of 4 or 5 percent made this year is harder to stomach.
According to hedge fund administrator SS&C GlobeOp's [SSNC  21.54    -0.06  (-0.28%)   ] forward redemption indicator, client demands to pull money out of hedge funds rose to their highest level this year in September.
The monthly snapshot of clients giving notice to withdraw their cash as a percentage of SS&C GlobeOp's assets under administration measured 3.76 percent in September, up from 3.11 percent a year ago.
However, this is far below the all-time high in late 2008, when the GlobeOp Forward Redemption Indicator touched 19.27 percent.
Investors stress that with some managers still performing well, they are more likely to reallocate money within the industry to rivals rather that withdraw completely.
Others say that despite the poor performance and falling fees, for many hedge fund traders there is no option but to try and eke out better returns.
"I think a lot of managers will try and hang on. What's the alternative? There aren't many jobs in banks for them to go into," the hedge fund investor said.




And as we see hedge funds close up shop and return money , is the Fed really serious 

about dealing with TBTF yet ?