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Interview with Andrew Sentance, Business Analyst

9 Giugno 2010 - Autore: Redazione

Global Financial Crisis: a new model, new businesses and new ways of thinking for the next generation

Can you tell us something about your professional career?

I’ve worked for 10 years between Milan and London as a risk arbitrage and fundamental analyst. I started off on a desk that would analyse the returns on mergers and acquisitions, warrant arbitrage, capital increases, the sort of trades where the risks and returns were very small and you need to have a detailed understanding of how all the parts move. I then moved onto to more speculative analysis and started looking at undervalued companies. I would often see the shares of companies that did rights issues or mergers move a lot, so I started looking at the prospects beyond the 2 weeks when the rights were trading or after the merger had been completed. Over the years, I have found I have got quite a good eye for bank fraud. As well as the Lodi story below, when I was working in London, we were short Banca Italease from March, 2007 because what they were telling us about the derivatives transactions they were doing did not chime at all with what the accounts were saying.

When you worked for the Italian Banca Sella Group, you were dismissed after the publication of a report about Banca Popolare di Lodi.... can you explain better to us the incident?

This was a company that I’d followed for 18 months or so because it produced a lot of the sort of situations I was looking at for risk arbitrage clients. Buyouts for cash and shares, warrants that had unusual terms and that were mis-priced, capital increases as well, and a colleague and I were constantly amazed at the multiples that it was paying for other banks. It was crazy. I then got asked to produce a report for a manager internally who had a large position and when I met the investor relations of the bank they refused to answer any of the questions I had about the details of the balance sheet (this was in May, 2004). Anyway, I reported back to the manager that I couldn’t do a valuation of the bank because I could not get the numbers straight and produced a report that I sent out to the clients I had saying that the bank’s acquisition policy was terrible and the share was hugely over-priced. The head of the bank did not like this so I was told to not do anymore research, but it was also indicated that the bank was in a lot of trouble. So I went anyway and looked through not just the mergers and acquisitions they had done for signs of over-valuation, but also the loan book, off-balance sheet options, the shareholdings, real estate and came to the conclusion that the bank’s capital was negative. It turns out I was too positive as the loan book was far worse than anything I could see. However Fazio did not want the truth coming out about the state of Lodi’s accounts as he wanted them to take over Antonveneta and I was dismissed.

What strategies and solutions can help solving the global financial crisis?

People and banks need to go bankrupt and debt needs to come down to a more manageable level. Small institutions need to be allowed to fail, ie Greece and undercapitalised banks, otherwise they will just bring down the whole system. By which I mean the fiat currency system. Given that money only exists as a store of value and medium of exchange because of the trust and faith we put in the various governments around the world, if they carry on as they are at the moment, people will cease to have faith in their ability to maintain an orderly currency. We are already starting to see this in the reaction of gold, which is now hitting a new high in € terms.
What I think absolutely does not work is bailing out the system as was and expecting that we can rewind the clock to 5 years ago and start building more houses, more cars, increasing the amount of credit in the system and expect the world to grow out of its problems.
We need to accept that if we are to go forward with a new model, new businesses, new ways of thinking for the next generation, there needs to be pain and the mal-invested capital needs to be destroyed. This will cause immense ructions and distress, but it needs to happen otherwise we can’t move forward and people won’t be forced the consequences for their mistakes. It’s better to choose to do this now than to have it forced upon us at what will likely be an even worse moment down the line when the problem will have grown and the resources we have at our disposal to stop it are likely to be diminished in both relative and absolute terms.

Do you think Italy will be affected by the Hellenic crisis? Why?

Obviously, it will be. And it’s not a Hellenic crisis. It’s merely a further symptom of the fact that the world has too much debt and has been living too well for too long.
Italy will be a future casualty because it has a large debt to GDP ratio, a population in the South of Italy that does largely nothing, state salaries that are now more attractive than private sector ones, together with better job protection, causing a drop in productivity and public spending that is already high and forecast to get higher, particularly on pension spending. Plus the state can’t really do  much to raise income tax rates without driving the final existing legitimate tax payers underground or out of the country. In simple terms, you can’t expect a first world standard of living if you have a second world standard of government. Sooner or later you have to pay the price.
But this isn’t just a problem for Italy, it’s going to cause disruption in the United Kingdom, the United States and probably India, China, Saudi Arabia, everywhere. Because we live in a globalised economy, it is very difficult for the problems in one country to avoid being transmitted to another. The world is too interconnected for any one country to be autarchic.
We’re already seeing bond spreads widening with respect to Germany and France, which is a clear indication that the markets trust Italy less than Germany or France. It’s not doing as badly as Spain or Portugal, but there are clear signs of contagion.
But I don’t expect Germany to escape unscathed. Their export dependent model can’t work in a world where no-one wants to import. Sooner or later here too, they have to re-balance their economy and become more consumer led.

What’s your opinion about Islamic Finance? Could it represent an ethical model for traditional Finance?

It seems to suffer the same problems as the ratings agencies in that you can shop around the various imams until you get one who agrees with your point of view. But I never bothered studying it too hard as it’s just a different way of structuring what we already have. Ethics are ethics, they’re a part of who you are, you can’t legislate for them.

What will be the future perspectives after the crisis? What sectors will resist better?

The ones that have been ignored in the last bubbles. It seems pointless to buy a housebuilder or a car manufacturer when we still have overcapacity in those sectors, for example. Steel makers and miners are likely to suffer for the same reason.
So I’m looking at telecoms as a possible good defensive play, given their levels of cash flow, the fact that people seem to be using their phones more and more and that the sector is completely unloved as it has supposed guaranteed shrinking revenues as far as the eye can see. This may be the case, but the sector is highly focused on cutting costs and starts off with a big revenue and customer base. I also expect competition in the sector to die down as smaller players go bankrupt as a result of running out of funding which should provide some respite.
I’m starting to think that agriculture and having children are the best investments to make at the moment as they seem to be the 2 difficult things that no-one wants to do. We are forever hearing about environmental degradation, how farmland is being built over to provide houses and how the developing world needs an ever increasing amount of food. The logical step would be to start buying up land in Italy to take advantage of the ageing population and consequent deflation to buy their land as they die or move into cities to be taken of and start selling the products to the developing nations.
Similarly it seems that having a family to take care of you is a much wiser investment than relying on the state given the problems the developed world’s finances are in. Rather than having a pension, the current generation of workers would be much better off having a couple of children. Obviously they are in a bind because they are being relied upon to save not only for their own future but also pay for the excessively generous promises that were made to the current batch of pensioners.
In the developed world, I think that a large number of the current crop of large companies will find themselves in trouble over the next couple of years or so as deflation takes hold. Bonds of very highly rated companies which will be able to keep on turning a profit in any environment look a good investment and sovereign debt if anyone can find a sovereign that looks like it will be healthy enough to not risk blowing out like Greece at some point. Cash would also be a good investment if I could again find any currency which I thought would be immune from the problems we’re seeing. The Swiss Franc then might be a good place. And gold, at the risk of getting on that bandwagon about 2 years too late.
In the developing world, the current batch of interest rate hikes indicates that inflation will be more of a problem, so these countries’ currencies could counter-intuitively be a better bet than developed world debt.
The only thing that does seem certain is that if anyone is playing by the rules of the last 25 years they are likely to get burnt.



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