Wednesday, 30 September 2009

Has Icarus Landed?

Icarus has landed

Those who have been following the tale of the Icarus Economies (see previous post) will be familiar with the view that the economies that have risen the highest and the fastest in recent years have been subject to some of the largest falls. The latest chart from The Economist (see article) suggests that Icarus has stopped falling and finally has landed. The question now is the degree to which Icarus has experienced a hard landing.

Looking at the chart, it would appear that the growth in industrial production in the three Baltic Economies has fallen from a band of 5%-10% pa to falls of 20%-30%. This is a large fall and suggests that Icarus has taken a hard landing. hat does that mean?

The significance of these falls will be felt in Europe. The Baltic economies are pegged to the Euro and supported by European institutions. In order to recover from this fall, reform is needed in the Baltic Economies. And yet, economic reform is politically unpalatable. If reform is not undertaken, then the Baltic Economies have the capacity to deteriorate further (Icarus keeps falling). If reform is undertaken, then there is the risk of the political destabilisation of the Baltic.

This would matter because the Baltic States are members of the EU (perhaps their entry in 2004 was a bit premature?), members of NATO (was this a sound expansion policy?) and have borders with Russia. This is where the problem might come in the future. An expansionist Russia looking to restore its sphere of influence in Eastern Europe would see the Baltic States as a prime object. The only way to counter this is to keep up the flow of Euros supporting the Baltic Economies. Is there the political will in the EU to do this?

Monday, 21 September 2009

Recession, What Recession?

We seem to be receiving conflicting messages about the recession at the moment. On the one hand, the number of unemployed rose by 24,400 in August (see BBC report). This represents a slight improvement in performance over July (an increase of 24,900), but is worse than a simple trend might suggest (an increase of 13,000). However, both July and August do contain the impact of school and university leavers, so perhaps they might be expected to yield results that are worse than trend.

On a different note, anecdotal evidence suggests to me that retail sales are rising and that people are spending money again. As a reward for good behaviour, I decided to award myself a new i-Pod 160 Gig ahead of a trip to Switzerland in October. I tried the shops in Ipswich town centre last Tuesday, but established that they can’t be found for love or money. On Friday I tried the out of town stores around Ipswich. Once again – you couldn’t buy one for love nor money. I was told at Currys Digital (part of the DSG group) that they were flying out of the store as soon as the stock came in. It was the same story at Comet. At £189 a unit ($US 264 or €208), people are prepared to buy large ticket electrical items.

This in itself is not enough to question the recession. After all, the i-Pod 160 Gig is a fashion item. Something that the fashionistas drool over. The shortage could be one of cool rather than anything else. It was the response that I received in HMV that made me question whether or not the recession continues. In HMV, I was served – or not as the case may be – by the rudest shop assistant I have encountered for a long time. No, they didn’t have any i-Pods. No, she didn’t know when the next delivery would be. No, she couldn’t care whether I bought one or not. No, she didn’t care if I took my money out of the store, never to return. No, she didn’t care if I told everyone I know how awful their ‘service’ is.

That led me to conclude that the recession is coming to an end. When a shop assistant isn’t fussed about making a sale and can’t be bothered to do anything about it suggests that either the store is about to go bust (I can’t see this happening) or the store doesn’t need my money (the recession is over). I think that it is the latter rather than the former.

Tuesday, 1 September 2009

Looking Forward To Pay Day

A couple of days ago, we commented upon the fact that the Swiss Government had been able to exit from the bailout that it had injected into the bank UBS (see report). This set me to wondering how much the UK taxpayer might expect to receive once the UK bailouts have unwound. We decided to focus upon RBS (the Royal Bank of Scotland) for a couple of reasons. First, it is the largest independent recipient of taxpayer funding, which rather puts it in the spotlight at the moment. Second, there appear to have been some major issues concerning risk management during the months leading up to the credit crunch that need to be resolved. And finally, the former CEO, Sir Fred Goodwin, has come to symbolise greed and excess in the UK.

Over 2008 and 2009, the UK taxpayer acquired an equity stake in RBS in the region of 68%, and at a cost of £20 billion. The stake was acquired at a variety of prices, but the average is held to be 50.5p per share. On Friday, the shares closed at 57.65p per share, which has an implicit valuation of £22.83 billion – a latent gain of about 14%. Of course, the government is unable to realise that gain at the moment. RBS is too weak to do without taxpayer support, which means that public involvement will continue for some time to come.

When the time comes to sell the holding, how much might the taxpayer expect for the holding. If we assume that the dividend is restored to the 2006 level of 30.2p per share, and if we assume that UK base rates are 5%, then the implicit value of the share using the CAPM model is 604.0p. If that is the case, then the UK holding in RBS would be valued at £239.2 billion. Of course, RBS may not pay a dividend as high as 30.2 per share, or base rates may be higher or lower than 5%, all of which will affect the final valuation of the UK stake in the bank. However, that is not the point. The point is that the potential for capital gains from the UK bailout of RBS is huge.

Now that’s a pay day that we can all look towards!