DFA Analysis Of Highly Leveraged Households Featured In Nine News Segment

Nine News tonight, using data from the DFA household research programme, highlighted the highly leveraged status of many households who have bought into the property market in the past couple of years.

Our research has shown that in some eastern suburbs within the Sydney area for example, many households would find even a small rise in mortgage interest rates would create significant financial headaches. The most exposed suburbs nationally are listed below.

Affluent-STressThe analysis is based on responses to our survey which asks whether households feel they could cope with covering the costs of an additional 1% on their mortgage. Given that many have mortgages of more than $500,000, even a small rise is enough to create problems, especially given static income. Note also that more affluent segments are more at risk.

Read more about our research in our recent blog posts.

OO Housing Finance Bounces Back – Refinance Anyone?

The latest ABS data to December 2015 shows that in the month, trend owner occupied lending grew 1.3%, seasonally adjusted, with $21.3 bn of loans being written.  Construction loans grew 1.4% ($1.9 bn), purchase of new dwellings grew 1.7% ($1.3bn) and purchase of established dwellings by 1.28% ($18.75bn). Refinance continued to grow, with 33% of loans written in the month churned, up 2.3% to $7.29bn.  Overall owner occupied lending, net of refinance grew just 0.8%.

OO-Trends-Dec-2015Looking at state trends, VIC led the way, up 1.5%, QLD at 1%, NSW at 0.7%, SA 0.6%, and WA down 0.3%. But startlingly, TAS reported a rise of 1.8% and NT a rise of 1.4%. The ACT was 1.6% higher. So, WA apart, owner occupied lending grew in every state.

State-Trend-Change-Dec-2015Total finance, including investment loans grew by just 0.025%, investment loans fell 2.36% to 11.4 bn. We see the clear focus of lending is to owner occupied borrowers, and a massive focus on churning loans. We also see a significant rise in the number of fixed rate deals, as households lock in low rates, with the number of deals up 17.2%, whilst secured revolving loans fell 9.8%. This reflects the cheap loan special offers which are currently in the market.

Trend-Flow-Dec-2015First time buyer OO loans grew in December, with a rise of 4.6% on the previous month to make up 15.1% of new loans. This is faster than for non-first time buyer loans, here the number of loans grew 3.1%. The average loan size fell a little in the month, reflecting tighter lending criteria. This is original data, not trend smoothed.

FTB-Orignal-Dec-2015Overlaying first time investors, from our surveys, overall first time buyers were more active, still wanting to get on the property ladder one way or the other. FTB investors grew by 6.5% in the month, after a couple of slow months before. Overall, about 14,000 first time buyer deals were done.

FTB-All-Dec-2015

European Bank Debt Under Pressure

According to Moody’s, Global risk aversion has spread to the European banking sector and the debt at the bottom of capital structures is selling off severely. Investors have quickly reassessed the virtues of contingent convertible (CoCo) securities, with which the risk of losing coupon payments is elevated under a diminishing outlook for profits and economic growth. As with other novel classes of financial securities that rapidly expanded, the future of the CoCo will be greatly influenced by its first substantial market stress test.

Weak earnings reports from major European banks ignited a sharp decline in the value of debt and equity across their sector in early February. This shakeout was particularly pronounced for CoCos, with the spread on such debt spiking to the Barclays index record high of 600 bp on February 9 from 497 bp at the end of January (Figure 1). The market value of such debt now trades at 93% of the par value or value at maturity after never having traded below par value until one week prior. Murkiness about the conditions under which these hybrid securities will convert to equity, combined with downwardly revised global growth forecasts, weighs on CoCos valuations.

CoCOIssuance of CoCos in Europe was prodded in recent years by the Basel III regulatory accord’s guidelines on bank capital and leverage. Yet while regulators are enamored by the flexibility provided by securities that convert from debt to equity in times of stress, investors must assess the distinct risks of such hybrids. Ranking above only common equity in claims on an institution’s assets, CoCos demand higher coupons compared to more traditional classes of debt. The amount of such hybrids outstanding issued by European banks and tracked by Barclays increased from €55 billion in mid-2014 to €108 billion today, yet only €7 billion of that increase has transpired since mid-2015. That slowing rate of growth for CoCos can largely be ascribed to generally unfavorable capital markets conditions late last year, but greater focus on banking sector fundamentals has further wounded the prospects for future issuance.

Recent rising concerns about the banking sector outlook have centered around Deutsche Bank AG, Germany’s largest lender by assets. Deutsche reported an annual loss of €6.1 billion, weighed down by impairments and legal charges. An extensive reorganization of the bank and losses on legacy assets provide challenges for future returns. Deutsche has a $1.5 billion CoCo issued in November 2014 that was quoted at a price as low as 71 cents on the dollar on February 9 after having been valued at over 97 cents per dollar at the end of last year. The negative sentiments expressed in this price decline prompted statements from the bank’s executives that pointed to ample resources for coupon payments on its hybrid securities over the next two years.

Holders of European banking sector debt can take comfort in the banks’ substantial increase in capital buffers since the financial crisis. In the second quarter of last year, large European banks had an aggregate tier 1 capital ratio (measuring equity as a percent of risk-weighted assets) of 13.1%, up significantly from 8.3% in 2007 before the crisis broke out. Banks have made radical adjustments to their balance sheets, with considerable reductions in assets bolstering their capital firewalls. This transformation has naturally reduced potential profits, with the return on equity (ROE) in mid-2015 for large European banks of 4.0% down sharply from 9.8% in 2007. Lower bank ROE can be seen as credit positive, in that it points to reduced leverage and investment in relatively less risky assets. Yet an especially weak ROE raises concerns about maintaining capital adequacy in the event of a slump, particularly among peripheral European banks still burdened with large amounts of problem loans.

What might upset Australia’s ‘rock solid’ banks?

From The Conversation.

Market volatility has affected banks internationally in the US, UK and Europe but even though Australian banks remain insulated from turbulence abroad it might not be all smooth sailing.

The MSCI index of global banks has fallen by 16% since the start of the year, while the S&P index for US banks has fallen by 20%. The chief executive of Deutsche Bank (one of the world’s largest banks) was forced to announce that his bank was “rock solid” after the share price had fallen more than 30% from the start of the year and rumours circulated of problems with contingent convertible (CoCo) bonds.

Bank stocks and the cost of CDS insurance Datastream

The fall in international bank stocks has coincided with a perception of rising risk levels within the banking sector. The iTRAXX CDS index indicates the cost of insuring debt for a selection of global banks – the index increases as the cost of insurance becomes more expensive, indicating the market perceives that the debt is riskier. So far this year the index has risen 65% – the sharpest increase since the European sovereign debt crisis of 2011-12.

Falling commodity prices are the current focus

The main source of concern for financial markets at the moment is related to the commodity markets. Past high commodity prices encouraged many firms to invest heavily building huge new mines, liquefied natural gas (LNG) plants, and expanding production in shale oil. This investment required large amounts of borrowing, and banks have provided this directly (loans) and indirectly (purchasing bonds).

In the last year, crude oil prices have fallen 54%, LNG prices have fallen 32%, and iron ore prices are down around 30% (according to Datastream). The result is that many of the projects, some of which are still to come online, are not profitable – some may never be profitable – and the debt may not be repaid.

Credit ratings agencies such as Moody’s suggests that much of the debt issued by U.S. energy companies will be downgraded to junk in the near future, while Standard & Poor’s stated that debt at Chesapeake Energy (one of the largest US shale producers) is unsustainable.

Attempts by the Chinese government at intervening in the currency markets have also created volatility for banks. This has served to create a sense of uncertainty within the financial markets – and when this is the case there is often a reduction in the willingness to invest in “risky assets” such as stocks. Unlike in 2008, heavily indebted governments will have much less ammunition to bail out banks that fail this time around.

Longer term, the change in the regulatory environment is affecting the risk-taking ability of banks, and reducing profitability (even viability) of many areas. Increased capital requirements, particularly in areas that regulators deem to be too risky, mean that many banks are exiting equity, fixed income, and currency trading – divisions that have previously generated substantial profits for banks.

Of course, there is also ongoing regulatory investigation into a variety of cases of apparent financial market manipulation such as the recent LIBOR, and Foreign Exchange, fixing scandals that saw heavy fines imposed on US and European banks. This has even spread to Australia, where ANZ appears to be under investigation by ASIC for possible interest rate rigging.

Meanwhile in Australia

In Australia, banks have performed very well over the course of the last five years. At one point in 2012 Australian banks were worth more than the whole of the European banking sector! Record levels of profitability in Australian banks have supported large dividend payments to shareholders and helped push share prices to all-time highs in 2015.

Earlier this week, CBA announced another rise in earnings for the first half of the year – to A$4.8 billion. Much of this profitability is a result of increasing interest margins. As the Reserve Bank of Australia cash rate has fallen, banks have been quick to cut the rates offered to savers, but slow to pass on the rate decrease to borrowers (if they have done so at all). Even a small increase in this margin can boost profits if total assets are measured in the hundreds of billions of dollars.

Interest margins rba.gov.au

However, this profitability may not last as margins are under pressure on two counts. First, tighter lending standards, particularly for investors, have slowed lending in the housing market. The housing market appears to be slowing and this may increase bad debts in the future.

Australian banks are not totally immune to the impact of falling commodity prices, and CBA with ownership of Bankwest may be particularly exposed to a slowdown in Western Australia.

On the other side of the coin, funding is becoming more expensive for banks at the same time that increased capital requirements require them to hold more. Funding through international sources is particularly scarce (the CDS index indicates this is becoming more expensive), and this matters because Australian banks require a substantial amount of offshore funding.

Author: Lee Smales, Senior Lecturer, Finance, Curtin University

Macquarie buys up mortgages in $1bn deal

From Mortgage Professional Australia.

Macquarie Group agreed to buy the rest of ING Direct’s unbranded mortgages portfolio in a $1 billion deal with the Dutch lender, The Australian reports.

This will take its mortgage book well above the pre-GFC peak of $25 billion.

In 2013, Macquarie bought a $1.5bn book of non-branded mortgages from ING Direct, then acquired a $1.6bn portfolio in 2014 and in 2015 followed with another $1.5bn deal.

Macquarie chief executive, Nicholas Moore pledged to restore the bank’s pre-GFC grip on the sector back in 2014.

The string of acquisitions from ING means this target has been far exceeded, prompting questions about where the bank’s aspirations in the market now lie.

From Global Savings Glut to Financing Infrastructure

A new IMF working paper investigates the emerging global landscape for public-private co-investments in infrastructure. The creation of the Asian Infrastructure Investment Bank and other so-called “infrastructure investment platforms” are an attempt to tap into the pool of both public and private long-term savings in order to channel the latter into much needed infrastructure projects. This paper puts these new initiatives into perspective by critically reviewing the literature and experience with public private partnerships in infrastructure. It concludes by identifying the main challenges policymakers and other actors will need to confront going forward and to turn infrastructure into an asset class of its own.

Institutional investors such as pension funds, insurance companies and mutual funds, and other investors such as sovereign wealth funds hold around $100 trillion in assets under management. One gets a clearer grasp of the enormous size of this global wealth by comparing it to US nominal GDP $18 trillion in 2015.
Global-AssetsAgainst this backdrop of a largely untapped pool of global savings, estimates suggest that the world needs to increase its investment in infrastructure by nearly 60 percent until 2030. There is a huge infrastructure investment gap in a large number of countries. The average infrastructure investment gap amounts to between $1 to 1.5 trillion per year. Infrastructure investment needs are mostly earmarked for upgrading depreciating brownfield infrastructure projects in the EU and in the US and for greenfield investments in low-income and emerging markets. The future growth in the demand for infrastructure will come increasingly from emerging economies.
There is growing recognition globally that development banks can play an important role in facilitating the preparation and financing of infrastructure projects by private long-term investors. A number of infrastructure platform initiatives have been launched very recently, most of them still at a prototype development stage. We discuss four different models that are currently at various stages of development. These platforms are all different attempts to tap into the vast pool of global long-term savings by better meeting long-term investor needs to attract them to infrastructure assets and by relaxing operating and governance constraints traditional development banks have been facing.
A first obvious lesson from an analysis of these platforms, is that the ability of development banks to leverage public money –committed capital from government contributions—by attracting private investors as co-investors in infrastructure projects is increasing the efficiency of development banks around the world. It is not just the fact that development banks are able to invest in larger-scale infrastructure projects and thus obtain a greater bang for the public buck, but also that these private investors together with development banks can achieve more efficient PPP concession contracts. Development banks are not just lead investors providing some loss absorbing capital to private investors. They also give access to their expertise and unique human capital to private investors, who would otherwise not have the capabilities to do the highly technical, time-consuming, due diligence to identify and prepare infrastructure projects. In addition, they offer a valuable taming influence on opportunistic government administrations that might be tempted to hold up a private PPP concession operator. Private investors in turn keep development banks in check and ensure that infrastructure projects are economically sound and not principally politically motivated. No wonder that this platform model is increasingly being embraced by development banks around the world.
The paper has documented that new platforms of investments have emerged. Notwithstanding, they are confronted with serious structural limitations. These platforms will certainly help on two important fronts namely on financing and origination of infrastructure projects, which this paper has focused on. Formally integrating these dimensions in models of PPP are important avenues for academic research.
Besides financing and origination, there are other important challenges to complete the broader task that lie ahead, such as in making infrastructure investment an asset class of its own. Two important directions are needed to further the agenda. First, the lack of standardization of underlying infrastructure projects is an important impediment to the scaling up of investment into infrastructure-based assets. Large physical infrastructure projects are indeed complex and can differ widely from one country to the next. In that respect, making use of securitization techniques such as collateralized bond obligations (or CBOs) or collateralized loan obligations (or CLOs) allow for better price discovery which will enhance the efficiency of the market and allow a more effective pooling of risk. It would also allow to “bulk up” the bond offering by addressing the problem of insufficient large sized bond issues. Overall, securitization will provide many advantages such as diversification for investors, lower cost of capital by allowing senior tranches to be issued with higher credit ratings, as well as higher liquidity. At the same time, securitization also creates debt instruments of variable credit risks to match the different risk appetites of investors. Second, there are important complementarities between actors participating in the “value chain” created by platforms including host countries, financial investors, guarantors and financial intermediaries. For all these reasons, the EIB has recently launched a renewable energy platform for institutional investors (REPIN) to offer repackaged renewable energy assets in standardized, liquid forms to institutional investors15. Although interest from institutional investors has been limited so far, the new carbon footprint disclosures and regulations of institutional investors that are expected be implemented after the Paris COP 21 climate summit, could nudge more pension and sovereign wealth funds to take on these securities.
Finally, host countries may put forth viable long term infrastructure projects but without the provision of guarantees to address construction, demand, exchange rate risks or without the securitization of underlying assets by financial intermediaries, those projects will not be funded, thus leaving everyone worse off. There is obviously also a need for enhanced coordination and cooperation across the various platforms in existence and for the creation of a global infrastructure investment platform. Part of the coordination should lead to risks being assumed by those best placed to hold them. Governments are the natural holders of political, regulatory and governance risks. The private sector for obvious incentive reasons should take on most of the construction risk, and demand risk should probably be shared, depending on the sector and type of project.
Note: IMF Working Papers describe research in progress by the author(s) and are published to elicit comments and to encourage debate.The views expressed in IMF Working Papers are those of the author(s) and do not necessarily represent the views of the IMF, its Executive Board,or IMF management.

CBA Profit Up 2% HY to Dec 2015

In CBA’s results, announced today, we see a well managed portfolio, with no surprises on either capital or dividends. They had the benefits of higher home loan pricing, and deposit rate management helping to offset some pressure in returns from the Institutional Banking arm. CBA’s early moves into digital banking continue to pay off, with 40% of retail banking sales now via mobile devices. Exposure to the resources sector is controlled, and the bank is well capitalised (on  a relative and absolute basis), with a lift in key ratios. Earning per share decreased a little.

Statutory net profit after tax (NPAT) for the half year ended 31 December 2015 was $4,618 million, a 2 per cent increase on the prior comparative period (‘pcp’). Cash net profit after tax increased 4 per cent to $4,804 million, 6 per cent higher on the prior half. Return on equity was 16.6% and earnings per share was 273.6 cents, a decrease of 1% on the prior comparative period.

The Board declared an interim dividend of $1.98 per share, unchanged from the 2015 interim dividend. The dividend payout ratio is 70.8 per cent of cash NPAT. The interim dividend, which will be fully franked, will be paid on 31 March 2016. The ex-dividend date is 16 February 2016. The Dividend Reinvestment Plan (DRP) will continue to operate, but no discount will be applied to shares issued under the plan for this dividend. The Group is also considering the issue of a Tier 1 capital instrument to replace PERLS III should markets be receptive.

In summary, operating income growth was solid across most businesses, relative to both the prior comparative period and prior half but operating expenses increased due to underlying inflationary pressures, the impact of foreign exchange, increased investment spend and higher amortisation, though partly offset by the incremental benefit generated from productivity initiatives. Also loan impairment expense increased mainly due to higher provisioning in Institutional Banking and Markets, Retail Banking Services, and IFS.

Group transaction balances grew 21 per cent and above-system growth was achieved in household deposits (up 10.6 per cent) and business lending (up 6.8 per cent, excluding Bankwest). A balanced approach to margin over volume in home lending produced growth of 6.5 per cent, slightly below system. ASB saw 12 per cent growth in business and rural balances.

Other banking income increased 4 per cent, due to higher profits from associates and solid growth in fees and commissions, partly offset by derivative valuation adjustments.

Growth in insurance and funds management income of 17 per cent and 6 per cent, respectively, led to a 10 per cent increase in underlying profit after tax for the Wealth Management division.

Operating expenses increased 6% to $5,216 million, including a 1% impact from the lower Australian dollar. This reflects higher staff costs from inflation-related salary increases, increased investment spend and higher amortisation. This was partly offset by the continued realisation of incremental benefits from productivity initiatives

Ongoing investment spend, inflation and unfavourable foreign exchange movements resulted in a 6.1 per cent increase in total operating expenses. On an underlying basis, expenses grew 3.8 per cent as a result of cost discipline in business units. Total investment spend increased 14 per cent, with the majority earmarked for productivity and growth initiatives.

Net interest income increased 6 per cent to $8,364 million, reflecting 9 per cent growth in average interest earning assets driven by solid volume growth and revenue momentum across the business. This increase includes a 1% benefit from the lower Australian dollar. Net interest margin excluding Treasury and Markets decreased five basis points on the prior comparative period to 2.06%.

CBA-Feb-2106-1However, overall, 2.06% is the same as Jun 15 Half.  This was helped by higher home lending margins, due to investor and variable rate pricing; and stable deposit margins, driven by a benefit from a change in deposit mix, offset by the lower cash rate environment. In addition, better margins from lending to business, and lower business deposit rates contributed.  However, at BankWest, net interest margin decreased on the prior half, due to lower business lending margins and the lower cash rate impact on deposit margins, partly offset by increased home loan margins resulting from repricing.

CBA-2016-NIMLoan impairment expense increased 3 per cent on the prior half to $564 million, and the loan loss ratio remained stable at 17bpts.

CBA-2016-3Various elements contributed to this  including higher collective provisions and a lower level of writebacks in Institutional Banking and Markets; an increase in IFS as a result of provisions in the
commercial lending portfolio; partly offset by reduced expense in Retail Banking Services driven by seasonally lower arrears across all portfolios; increased write-backs and lower collective provisions in Business and Private Banking; and decreased expense in New Zealand resulting from lower home loan impairment expense, and an increased level of write-backs in the business lending portfolio.

Consumer arrears were well controlled, though whilst the arrears for the home loan and credit card portfolios are relatively low, personal loan arrears remained elevated, driven primarily by Western Australia and Queensland.

CBA-2016-4Commercial troublesome assets increased 2% during the half to $3,123 million. Gross impaired assets were lower on the prior half at $2,788 million. Gross impaired assets as a proportion of GLAAs of 0.41% decreased 3 basis points on the prior half, reflecting the improving quality of the corporate portfolios.

There was no change to the economic overlay.

The Group’s balance sheet and conservative positions on capital, funding and liquidity have been strengthened in the first half. Growth in customer deposits of 9 per cent to $500 billion increased deposit funding to 64 per cent of total funding, up 1 per cent. The Group’s liquidity coverage ratio increased to 123 per cent as at 31 December 2015, up from 120 per cent at the end of the prior half, with the Group continuing to benefit from a strong position in more stable deposits.

Basel III Common Equity Tier 1 (CET1) capital increased 100bpts to 10.2 per cent on an APRA basis (14.3 per cent on an internationally comparable basis), reflecting organic capital growth and the proceeds of the rights issue.

CBA-2016-5They say this puts the Group in the top quartile of banks globally for capital adequacy.

CBA-2016-6Customer satisfaction rankings continued to improve.

They reported a strong uptake of digital and mobile services in the half with  Tap & Pay card numbers  more than doubling on the prior half, Cardless Cash transactions grew 96 per cent, and the value of transactions via the CommBank app was up 27 per cent. The volume of transfers via mobile now exceeds BPAY volumes through Netbank. They are also seeing customers increasingly turn to mobile for product purchases with mobile now accounting for 40 per cent of Retail Banking Services sales.

CBA-2016-7In the half, CBA made additional future-focused investments in technology and skills. This included $10 million to help Australian researchers build the world’s first silicon-based quantum computer,  committed $1.6 million to develop a centre of expertise for cyber security education with the University of New South Wales. They also launched a series of blockchain workshops for industry and regulators, and are collaborating with other international banks on blockchain trials.

Looking in detail at home lending in Australia, CBA provided some interesting insights. For example,  looking at the core Australian Bank portfolio, 45% of new home loans are originated via brokers. 38% of new loans are interest only, and the current serviceability buffer has been lifted by 75 basis points in the past year. Those customers paying in advance, including offsets, was 76%.

CAB-2016-8They also show that 90+ arrears are growing fastest in WA.

CBA-2016-9On the other hand, portfolio is much stronger in NSW and VIC.

Finally, they reported exposures to Mining, Oil and Gas at $18.9bn – or 1.8% of Group TCE. They argue much of the portfolio is investment grade. Within the portfolio, impaired assets have risen from 0.8% in Jun 15 to 1.9% in December 15.

Market manipulation – ASIC better get it right, first time

From The Conversation.

Greg Medcraft, chairman of the corporate regulator ASIC, is a distinguished banker who worked for 27 years in the obscure world of asset securitisation with the large French bank Societe Generale. He helped to set up the American Securitisation Forum (ASF) and is also chairman of the international securities industry body, IOSCO, which bills itself as “the global standard setter for securities markets regulation”.

Mr Medcraft then is probably as well placed as anyone in Australia to understand the complexities of the financial markets that gave rise to the interest rate benchmark manipulation scandals, which are grouped under the general term LIBOR but include other benchmarks such as EURIBOR, TIBOR and the local variant, BBSW (Bank Bill Swap Rate).

The fallout from these scandals rolls on but according to reporting by Adele Ferguson (a one-woman regulator) it will soon be the turn of BBSW to take the spotlight.

The reasons that manipulation of interest rate benchmarks took place are complicated, caused by an explosion of financial trading in the last 20 years, especially in so-called Interest Rate Swaps (IRS), and the failure of regulators to handle the flood of new types of securities.

[For an academic explanation of the phenomenon, see here and here and for a general overview see here.]

The initial reaction to the revelations that Australian banks just might be involved with manipulating BBSW was outrage, especially from AFMA, the investment bankers’ industry body. This stance was however undermined when, in January 2014, ASIC accepted an “enforceable undertaking” from BNP Paribas (BNP) in relation to potential misconduct involving BBSW.

Since then, however, there has been little information about other possible instances of BBSW manipulation other than ASIC’s investigations were ongoing and ongoing and ongoing.

It is strongly rumoured that ANZ will be in the firing line when ASIC eventually decides to take regulatory action, long after other jurisdictions have done so. This is, in part to do with the salacious revelations emerging from a civil case brought by ANZ traders against the bank for wrongful dismissal related to possible manipulation of BBSW.

ASIC is in the spotlight and it really has to put up or shut up.

Many of the big birds have already flown. With the recent departure of Mike Smith from ANZ, all of the CEOs of the big Australian banks who were in charge when the BBSW investigation was started have gone. ASIC’s inquires have taken so long that the chances of getting any “clawback” of bonuses if serious misconduct is proven have disappeared.

Unfortunately, Mr Medcraft is an accountant rather than a lawyer and ASIC faces a real legal quandary – whether to prosecute the individuals involved, the banks they worked for, or both. All of these paths are fraught with possible dangers.

Going after individuals is difficult. Although the UK Serious Fraud Office had a win against Tom Hayes, the Libor Mastermind, it had a spectacular loss against six brokers who had been accused of supporting Hayes. The failure to convict the brokers resulted in the ridiculous situation where Hayes was convicted but his alleged co-conspirators walked free.

A UK legal expert, Alison McHaffie noted that

“Apart from being acutely embarrassing to the SFO, these verdicts show how difficult it is to demonstrate criminal activity by individuals for this type of market misconduct

It is always easier to bring regulatory action rather than criminal prosecution.”

Which brings us to the second option, going after the banks.

If the reports are correct, ASIC may be considering prosecuting ANZ, although it is difficult to see under which statute. In the past, Mr Medcraft has pointed to Section 12.2 of the Commonwealth Criminal Code, which he argued would allow

“companies to be charged with being an accessory to a crime if the company’s culture encouraged or tolerated breaches of law.”

But that was in the days when “culture” was flavour of the moment.

It would be a brave (and probably foolhardy) regulator who would take on a single bank alone, hoping to prove conclusively in court that the bank’s culture was responsible for fraud and misconduct. That is only a bonanza for lawyers for the next decade.

So what to do?

History has shown that a single regulator can do very little on their own, especially one whose mandate is so diffuse and its staff so overstretched.

Overseas experience has shown that when multiple regulators get together, share information, skills and most importantly purpose they can succeed in jointly fining multiple banks. Singly, regulators can get picked off – as a pack they can be successful.

In the Australian context, what this means is that, while ASIC might be the spearhead, the real firepower should be provided by the Council of Financial Regulators, comprising ASIC, APRA and the RBA. When ASIC finally decides to prosecute someone for manipulating the market, the other members of the CFR should not only come out in unequivocal support of ASIC but also announce how they will use their powers to support ASIC, such as, for example in the case of APRA, additional operational risk capital charges for misconduct.

The curtain is about to go up on the second act of the BBSW tragedy (or is it farce), and we await the entry of the villain(s) with keen expectancy. But will the show close on its first night, with no prospect of a revival?

Author: Pat McConnell, Honorary Fellow, Macquarie University Applied Finance Centre, Macquarie University

What Is Behind the Weakness in Global Investment?

A newly released Bank of Canada Staff Discussion Paper explores why the recovery in private business investment globally remains extremely weak more than seven years after the financial crisis.

The global financial crisis resulted in a broad-based collapse of business investment, with the level of investment falling well over 10 per cent in most member countries of the Organisation for Economic Co-operation and Development (OECD).

Investment---CanadaAn uneven recovery followed, led by oil-exporting regions, which benefited from a rebound in energy prices. The post-crisis recovery in business investment has been underwhelming. Annual investment growth in OECD countries averaged a mere 2.2 per cent between 2010 and 2014, compared to around 3.5 per cent in the decade leading up to the financial crisis.

The bulk of this weakness was unexpected, and has resulted in investment consistently underperforming relative to forecasts of both public and private forecasters. Over the past few years, several institutions, including the OECD, the International Monetary Fund (IMF), the Bank for International Settlements and the Banque de France, have investigated this “investment puzzle” to identify some of the factors that standard models might fail to capture.

This paper contributes to the ongoing policy debate on the factors behind this weakness by analyzing the role of growth prospects and uncertainty in explaining developments in non-residential private business investment in large advanced economies since the crisis. Augmenting the traditional models of investment with measures of growth expectations for output and uncertainty about global demand improves considerably the ability to explain investment growth.

Our results suggest that the main driver behind the weakness in global investment in recent years is primarily a pessimistic outlook on the part of firms regarding the strength of future demand. Lower levels of uncertainty have supported investment growth modestly over 2013–14. Similarly, diminishing credit constraints, lower borrowing costs and relatively stronger corporate profits have also supported the recovery in business investment from 2010 onward.

Our findings have two important implications for the global outlook for investment. First, the expected improvements in global growth should support a recovery in investment; however, a slowdown in growth in emerging-market economies or further growth disappointment in advanced economies could restrain this recovery. Second, the ongoing recovery in investment remains vulnerable to uncertainty shocks.

Note: Bank of Canada staff discussion papers are completed staff research studies on a wide variety of subjects relevant to central bank policy, produced independently from the Bank’s Governing Council. This research may support or challenge prevailing policy orthodoxy. Therefore, the views expressed in this paper are solely those of the authors and may differ from official Bank of Canada views. No responsibility for them should be attributed to the Bank.

Federal Reserve Board announced a $131m penalty against HSBC North America

The Federal Reserve Board on Friday announced a $131 million penalty against HSBC North America Holdings, Inc. and HSBC Finance Corporation for deficiencies in residential mortgage loan servicing and foreclosure processing. The penalty is being assessed in conjunction with an agreement involving similar deficiencies that HSBC announced Friday with the U.S. Department of Justice, other federal agencies, and the state attorneys general.

The penalty assessed by the Board is the maximum amount allowed under the law, taking into account the circumstances of HSBC’s unsafe and unsound practices and foreclosure activities. The penalty may be satisfied by providing borrower assistance or remediation in conjunction with the Department of Justice settlement, or by providing funding for nonprofit housing counseling organizations. If HSBC does not satisfy the full penalty amount within two years, the remaining amount must be paid to the U.S. Department of Treasury. The Board will closely monitor compliance by HSBC with the requirements of the order.

The terms of the monetary assessment against HSBC are similar to those that were part of the penalties issued by the Board in February 2012 and July 2014 against six other mortgage servicing organizations that reached similar agreements with the U.S. Department of Justice and the state attorneys general.

The Board previously issued an enforcement action in April 2011 requiring HSBC to correct its servicing and foreclosure-related deficiencies. That action was among 14 corrective actions issued against Board-supervised mortgage servicers or their parent holding companies for unsafe and unsound practices in residential mortgage loan servicing and foreclosure processing.