Tuesday, June 30, 2015

Greece's Domestic Banks - A Sector Under Siege

While the world focuses on the latest chapter of Greece's debt crisis, I thought I'd take brief look at Greece's most significant domestic banks and what has happened to their share prices over the past five years, an issue that is of particular importance given the recent actions taken to prevent a run on the nation's banking system.  Please note that I'm looking at five of Greece's largest banks that have a significant presence both within the Greek economy and overseas.  As well, I have added a few facts about each bank's financial situation from their 2014 and 2015 results to help us understand how besieged the nation's banking system has become.

1.) Alpha Bank: In the first quarter of 2015, Alpha Bank had operating income of 606.4 million Euros and after tax losses of 115.8 million Euros.  Full year after tax losses for 2014 were 329.7 million Euros.   The bank has assets of 73.013 billion Euros.  Provisions for loan losses rose from 397.3 million Euros in Q1 2014 to 428.25 million Euros in Q1 2015.

Here is the five year chart for Alpha Bank:

The stock has lost 95 percent of its value from its five year peak of 6.38 Euros in August 2010.

2.) Attica Bank:  In the first quarter of 2015, Attica Bank Group had operating income of 30.911 million Euros and after tax losses of 1.258 million Euros.  Full year after tax losses for 2014 were 49.944 million Euros.  The bank has total assets of 3.873 billion Euros.  Interestingly, at the end of 2014, Attica Bank recorded impairment losses of 110 million Euros, up 10.4 percent from 2013 and the cumulative allowance for impaired loans reached 546.3 million Euros.

Here is the five year chart for Attica Bank:

The stock has lost 95.5 percent of its value from its five year peak of 1.55 Euros in August 2010.

3.) Eurobank Ergasias:  This is the third largest bank in Greece by total assets.  In the first quarter of 2015, Eurobank had operating income of 252 million Euros and after tax losses of 165 million Euros.  Full year after tax losses for 2014 were 1383 million Euros.  The bank has total assets of 68.74 billion Euros.

Here is the five year chart for Eurobank Ergasias:

The stock has lost 99.8 percent of its value from its five year peak of 67.4 Euros in August 2010.

4.) National Bank of Greece:  This is the largest and oldest bank in Greece.  In the first quarter of 2015, the National Bank of Greece had total income of 880 million Euros and after tax losses of 149 million Euros.  Full year after tax earnings for 2014 were 106 million Euros after tax benefits of 1528 million Euros (i.e. there was a before tax loss of 1422 million Euros).   The bank group has total assets of 119.266 billion Euros.

Here is the five year chart for the National Bank of Greece:

The stock has lost 99.4 percent of its value from its five year peak of $161.50 in August 2010.

5.) Pireaus Bank:  In the first quarter of 2015, Pireaus Bank Group had a net loss of 69 million Euros with Piraeus Bank itself having a net profit of 23 million Euros.  Full year pre-tax earnings for 2014 were 322 million Euros with loan loss provisions for impaired loans hitting 481 million Euros.  Loans in arrears by more than 90 days reached a whopping 37.9 percent.  The bank group has total assets of 89.457 billion Euros.

Here is the five year chart for Piraeus Bank:

As you can see, the domestic banking sector in Greece has become another casualty of the nation's ongoing debt crisis.  Despite recent increases in capitalization through the issuance of shares and bonds, it is highly likely that the most recent chapter of the crisis will claim at least one of these banks.  On the other hand, if you are a risk-taker, this is a sector that really has nowhere to go but up (or bust).

Monday, June 29, 2015

Homegrown Terrorism - Comparing Jihadist and Non-Jihadist Attacks in America

An analysis by International Security looks at the deadly attacks that have taken place in the United States since September 11, 2001, comparing the number of people that have been killed by both jihadists and those non-Jihadists that hold extreme right-wing, left-wing and other "idiosyncratic" beliefs and whether the NSA's bulk surveillance programs have actually been effective at stopping homegrown terror by jihadists.  Here is a summary of their findings.  As you will note, some of these attacks have been international headline makers while others are far less well-known because only one or two people were killed.  

Let's start with a screen capture showing the number of deadly attacks by both groups since September 11, 2001:

There have been nearly twice as many deadly attacks by homegrown, non-Jihadist extremists as there have been by jihadists over the past 14 years.  If you click on the link above, you can read details of each attack.  I'll provide you with this one for the June 8th, 2014 Las Vegas police ambush which ended up with the deaths of two police officers and a civilian :

"On June 8th, 2014 Jerad Miller and Amanda Miller, a married couple, allegedly killed two police officers in an ambush at a pizza restaurant in Las Vegas proceeding to kill another person in a Walmart parking lot as they left the scene before committing suicide.  Law enforcement are believed to have discovered a manifesto written by the shooters, though its content is unknown.  The shooters reportedly yelled revolution during the shooting and left a swastika on the body of one policeman.  They had also previously spoken of targeting law enforcement officers and expressed militant views according to their neighbours.  Second Assistant Sherriff Kevin McMahill stated, "We believe that they equate government and law enforcement ... with Nazis" as quoted by CNN.  The police are still investigating the incident."

Now, let's look at how many jihadist and non-jihadist extremists have been charged since 2001, noting that the data includes individuals that died without being charged but who were credibly reported as being engaged in violent extremist activities:

In total, between 2001 and June 2015, 460 extremists of both types were charged or killed.  A total of 277 individuals were charged with jihadist extremist activities and 183 individuals were charged with non-jihadist extremist activities.  Of the jihadists charged, 19 were female and 258 were male compared to 21 female and 162 male non-jihadists.  The average age of jihadists was 29 and the average age of non-jihadists was 34.  Of the 277 jihadists that were charged or killed, 53 were Arab or Middle Eastern, 45 were South Asian, 41 were Somali and 32 were Caucasian.  Of the 183 non-jihadists that were charged, 166 were Caucasian, 2 were African American and 1 was Hispanic. 

Now, let's look at how effective the National Security Agency has been at battling jihadist extremist activities with its bulk data gathering operations.  Of the 277 jihadist individuals that were charged or killed since 2001:

    162 were foiled by traditional investigative measures
    82 were prosecuted under circumstances that are unclear
    15 were implicated in plots that were not prevented
    4 were implicated by NSA bulk collection (Section 214)
    11 were implicated by NSA bulk collection (Section 702)
    3 were implicated by NSA bulk collection (unknown)

As you can see, analysis of the bulk data collected by the NSA was far outweighed by the use of traditional investigative methods as a means of charging individuals with extremist jihadist activities.

It is interesting to look at hard numbers, comparing both jihadist and non-jihadist homegrown terrorist activities.  While we have been thoroughly schooled on the dangers of the jihadist movement since September 11, 2001, we hear far less about homegrown, non-jihadist terrorists whose activities over the past 14 years have claimed far more victims than we might think.  It is also interesting to see how nearly 60 percent of jihadist plots were foiled using traditional investigative techniques and how few were foiled by the NSA's bulk invasion of our privacy.

Friday, June 26, 2015

Reverse Repurchase Agreements - The Federal Reserve's Next Experiment

Back in 2014, Sheila Bair wrote a commentary for the Wall Street Journal, outlining one of the Federal Reserve's very little discussed programs, largely because the rather arcane concept is beyond us mere mortals.  It is through the use of reverse repo agreements that the Federal Reserve has given itself another tool in its already significant arsenal of experimental monetary policies.

Let's start by looking at the concept of a repo.  The repo or repurchase market, deals with the selling and buying of short-term securities.  A repo is a a contract where one party agrees to sell securities to another party (the counterparty) for cash for a short period of time (as little as a day) and agrees to purchase the same securities at a higher price in the future.  It can most easily be thought of as a short-term loan with one party borrowing cash from another and providing securities as collateral.  On the other hand, a reverse repo is the same contract but looks at the transaction from a lender's perspective rather than the borrower's.  Looking at the transaction from the lender's perspective, the lender provides cash, purchases the securities for collateral and then sells them back to receive cash in the future.  Most importantly, from the Federal Reserve's perspective, a repo is viewed as an asset whereas a reverse repo is viewed as a liability.  From a bank's perspective, a repo is a liability through which money is borrowed and a reverse repo is an asset through which money is lent.  

In the case of the Federal Reserve, it has a long history of using repos (i.e lending money), most particularly to provide liquidity during the 1987 stock market crisis, prior to the Y2K "crisis" and during the early days of the 2007 - 2009 financial crisis when repos were used to the tune of $134 billion, again, to provide liquidity.  In the past, the Fed has also used reverse repos (i.e. borrowing money), mainly with foreign central banks, however, during the financial crisis, the Fed began to use reverse repos by borrowing from primary dealers (aka the U.S. banking system) with the amount rising to $25 billion by the end of 2008.  From FRED, here is a graphic showing the current size of the reverse repo agreements held by the Federal Reserve:

As you can see, the reverse repo liability on the Fed's balance sheet is significant at $261.5 billion in mid-June 2015.

Now, let's look at what the Federal Reserve is doing now.  The Fed's program, called the Overnight Reverse Repurchase (reverse repo) Facility aka ON RRP which is operated by the central bank's open-market operations, sells part of its gigantic multi-trillion dollar Treasury assets (its balance sheet aka the System Open Market Account or SOMA) to a selection of financial institutions (the counterparty) with the understanding that it will repurchase the same assets the next day in return for paying the institutions a tiny return of 0.01 percent to 0.05 percent.  This means that the Fed's counterparties (aka Wall Street banks, government-sponsored enterprises and money market funds) get a risk-free place to park their money and earn a bit of interest on the deal.  This process helps set interest rates because no counterparty would be interested in lending money to a higher risk enterprise at a lower rate since the Federal Reserve is considered to be the lowest risk party.  As an added bonus, as you will see, the Fed gets to use this program as a new (and previously untried) tool for raising interest rates since the interest paid on the funds sets a new interest floor rate.

The Federal Reserve Bank of New York instituted the ON RRP program in September 2013 as a short-term test program to see whether it would make an effective tool when monetary policy "normalizes".  In January 2015, the FRBNY announced that it was continuing the program until January 29, 2016.  Counterparties will be allowed to submit one bid up to $30 billion in size for each operation with a minimum bid size of $1 million, noting that the maximum has risen from $500 million in September 2013.  The total amount awarded in any operation is set at $300 billion.  When bidding, the counterparties must also specific the rate of interest that must be at or below the specified offering rate.  As well, the specified interest rate can be negative.

Here is a list of financial institutions that are authorized reverse repo counterparties:

Here is a list of government-sponsored enterprises that are also authorized counterparties:

Here is a list of money market funds that are also authorized counterparties:

As you can see, by allowing money market funds to participate in ON RRP, the Fed has given large, nonbank financial institutions the ability to place money in overnight deposits with the Federal Reserve, a privilege that was formerly used only by the banking sector.

How can the Federal Reserve use ON RRP to impact interest rates?  Quite simply, if the Federal Reserve decides to raise the overnight rate paid to counterparties it means that counterparties will, in turn, raise the rate of interest that they will lend money to other, less safe borrowers.  With the Federal Reserve telegraphing higher interest rates later this year, it is becoming increasingly apparent that they may not have the tools necessary to push rates back up to historical norms, instead, having to rely on ON RRP to become its primary monetary tool.

How could the ON RRP become problematic?  This could happen in several ways:

1.) If the markets suddenly became volatile to the downside as was seen during the months prior to and during the early part of the Great Recession, borrowers in the short-term market will have to compete with the Federal Reserve to borrow money since they are viewed as being higher risk than the Fed.  This could result in a significant liquidity problem.

2.) Banks could see an outflow of deposits, particularly those deposits that are uninsured.

3.) Interest rates on Treasuries could rise significantly if investors feel that the Federal Reserve is a safer haven than the U.S. Treasury.

4.) Money market funds that normally buy commercial paper issued by non-financial firms as assets for their funds.  If there are increasing signs of market turmoil, money market funds may prefer to lend to the Fed through the use of reverse repos because this mechanism is viewed as a no-risk process, putting additional stress on the ability of Corporate America to borrow money.

If (when) there is another financial crisis, the Federal Reserve could find itself between a rock and a hard place.  At the same time as it is borrowing money through reverse repos, the Fed may have to provide funds to to stabilize the market.  Rather than reversing its quantitative easing policies  by reducing the size of its bloated balance sheet and shrinking the massive level of excess banking sector reserves held at the Federal Reserve, the Fed has decided to look at yet another experimental way of influencing short-term lending markets and through that mechanism, push interest rates higher.  This suggests that even the Fed is coming to the realization that its monetary policies since 2008 have been less than a spectacular success, necessitating even more intervention in what remains of the so-called "free market economy".

Wednesday, June 24, 2015

The Tangled Web of Walmart and its Subsidiaries

A recent report by Americans For Tax Fairness looks at how Walmart, the world's largest corporation, uses a vast network of subsidiaries and branches in overseas tax havens with two purposes:

1.) to minimize taxes owed on its foreign operations.

2.) most importantly, to avoid United States taxes on those foreign earnings.

In most cases, American corporations set up subsidiaries in tax havens where they have little or no business operations and very few employees (if any at all).  These subsidiaries allow corporations to maintain financial secrecy and are typically used by both technology and pharmaceutical companies.

According to the report, Walmart has a vast and very complex network of 78 subsidiaries in 15 overseas tax havens as shown on this graphic:

Walmart has been able to keep the existence of these offshore tax havens relatively unknown to the general public; none of the 78 subsidiaries that go by such creative names as Azure Holdings, Bounteous Company Limited, Main Street 824 (Proprietary) Limited Sarl and MCLM III are disclosed in Walmart's annual 10-K filings with the United States Securities and Exchange Commission.  This means that these entities remain invisible to anyone seeking information on corporate tax avoidance.  It is interesting to see how large some of these subsidiaries are; MCLM III holds $31.6 billion in assets, 15 percent of Walmart's total assets.  The exact content of these assets is currently unknown but the company paid $1.8 billion in dividends to the parent company in fiscal year 2013 and 2014.

Here is a listing of the foreign tax havens used by Walmart, the number of Walmart subsidiaries in each, Walmart's total assets held in each jurisdiction (where available) and the number of Walmart stores in each:

You will notice that there is not a single Walmart store located in any of the nations on this list and that Walmart has $64.2 billion in assets held in Luxembourg where it has zero stores.  While Spain is not generally considered to be a tax haven, it appears that it was used by Walmart to avoid taxes on its operations in Argentina.

Here is a listing of some of the countries in which Walmart owns stores (outside of the United States) and the location of the tax haven parent company for each of the operating company location along with the name of the tax haven parent company:

What this is telling us is that Walmart has transferred ownership of these foreign operating companies to its subsidiaries located in tax havens.  It is important to note that publicly available information does not allow the authors of this report to determine whether or not Walmart's Canadian and Mexican operations are owned through subsidiaries located in tax havens.

As you can well imagine, Walmart's web of subsidiaries is very complex because the subsidiaries located in tax havens are integrated into the company through entities that are organized as limited liability companies (LLCs) or limited partnerships (LPs).  Both LLCs and LPs which can be either corporations or individuals located anywhere in the world are used as conduits for moving earnings from one country to another.  For example, an LLC that is located in the United States can receive dividend income from a foreign subsidiary and distribute those dividends to a foreign owner without incurring tax in the United States as long as the LLC's income is not gleaned from business activity that occurs in the U.S.  

Here is an example of how Walmart uses LLCs located in the United States, Canada and the United Kingdom and how they are integrated into the aforementioned tax havens:

As you may have noted, low-tax Luxembourg seems to be preferred tax haven for Walmart.  According to Deloitte, the headline corporate tax rates in Luxembourg range from 20 percent if taxable income is less than 15 million euros and rises to 21 percent if taxable income exceeds 15 million euros (plus an Employment Fund surcharge of 7 percent).  This is significantly lower than the American headline corporate tax rate of 35 percent that Corporate America likes to complain about endlessly.  Since 2009, Walmart has formed 20 new subsidiaries in Luxembourg including five in 2015 alone.  This has allowed Walmart to move in excess of $45 billion in assets into its Luxembourg subsidiaries since 2011.  

How does Walmart extract these funds from Luxembourg?  Documents suggest that Walmart is using short-term, low-interest loans from Luxembourg.  This is a similar tactic that was used by Hewlett-Packard.  The current Internal Revenue code allows these loans to take place as long as they are repaid within 30 days, otherwise they are deemed dividends that are subject to U.S. taxes.  During the first six months of 2014, Walmart took $2.4 billion in loans from its Luxembourg subsidiaries at interest rates of between 0.25 and 0.28 percent.  This allowed Walmart to borrow money (from itself) at ultra-low rates at the same time as it avoids paying U.S. taxes on the funds.  

Walmart is far from the only big American corporation availing themselves of this tax loophole.  The offshore profits of Corporate America has grown from $562 billion in 2004 to $2.1 trillion in 2015.  This offshore hoarding began in 2004 when Congress approved a tax break for repatriated earnings that allowed U.S. companies to bring home their accumulated earnings at a 5.6 percent tax rate.  The recent proposals from the Obama Administration that would see a one-time 14 percent tax on the trillions of dollars of unrepatriated foreign earnings of American multinationals suggest that Corporate America has been busy lobbying for changes that would allow them to bring their earnings back to the U.S. without significant penalty.  Just in case you wondered, here is how much Walmart has spent on lobbying in Washington since 1998:

Most of us have spent at least some of our hard-earned money at Walmart at one time or another whether we liked it or not.  Walmart's relatively slim profits of $16.18 billion on $485.7 billion in sales for the 2015 tax year show us that reducing its tax burden is an important part of its ongoing strategy.  Through the use of tax havens, the massive corporate behemoth take can advantage of options that are not available to its smaller, locally owned and operated competitors to improve its bottom line and further enrich its key shareholders who are already among America's wealthiest.