Asian markets are open already, but European and later US investors, will get some more geopolitics for breakfast.
South Korea is down just over 1% as I write this, mostly over tensions with North Korea, military exercises, etc. When money gets tight, tensions run high. I think this is only the beginning of world flare-ups. Shanghai, is down 3%, with property and bank shares leading the charge. How many times can I write about property and finance companies being a sham in China before investors realize they will not get paid for the risk of Chinese investments. If you’re not local and tapped into the bureaucracy, stay away at these valuations!
In the meantime, the euro is ticking lower and I am guessing that it breaks the 1.30 handle before everyone goes away for Christmas. Which brings me to another thought of the evening…
Everyone is expecting a slow, boring week, and the volumes will probably reflect that. But what if they’re wrong? For those who fly, you’ll understand the following analogy: the most dangerous times in a flight are the take-off and landing. The next two weeks are the landing for 2010. Thinner volume, ridiculously low-priced VIX, 6-sigma currency vol, rising bond yields, etc. all lead me to want to buy insurance. I’m already so underweight equities, and short so many asset classes, that I’m not adding to anything, but new funds would definitely be searching for insurance at these levels.
I’m not the first to bring up the issue, but it doesn’t take away from its importance. When buying life insurance, the idea of insurable risk seems logical. An insurance company will only write a contract to a person with some interest in the life being insured (family member, business partner, etc.). Additionally, the company will only write the contract up to the amount of financial loss that might be incurred by that party. In this way, the market is actually limited by 1. the connections determined to include “interest” and 2. the amount of financial loss that might be incurred.
Without this limitation, insurance companies would write contracts for unlimited amounts (because they would want the premiums) and with no concern for connections (sell to as many people ON as many people as possible). The implications would be a market that has unlimited moral hazard (buyers of insurance would want to kill those on whom they have policies) and a market that is dependent on the insurance companies actually being able to pay of the unlimited policies. Sounds ridiculous in the life insurance market…and it is. It is no longer insurance, but rather, speculation.
The problem is that this is the way the CDS market works. Anyone can buy an insurance policy on the “life” of a company, without regard for insurable interest. Because there is no connection between contracts and insurable interest, the value outstanding of CDSs dwarfs the underlying companies. As long as companies don’t “die”, or die slowly, everyone is happy. The insurance companies that write the contracts (might be insurance companies like AIG, might be investment banks or others) are happy because they are collecting premiums. The buyers are making a speculative bet on the underlying (in reality they are also speculating on the viability of the contract writer), so they are satisfied as long as they feel they’ll be paid if the deed happens.
Unfortunately for the markets as a whole, the risk to the insurance companies continually grows at the same time as they seem more profitable. In the end, the speculation ends as expected: some companies fail, the insurance company can’t pay, leads to the buyer failing, and on and on. That is what we had with AIG/Bear/Lehman etc. and the government stepped in to pay the insurance companies liabilities. A shame, since the liabilities probably shouldn’t have been there at those sizes to begin with.
So what is the next step — I wouldn’t want to own CDS contracts right now, nor would I want to invest in anyone writing these contracts. Both parties will fail. In my estimation, the reform that will be coming will include some insurable interest clauses for generating new contracts. If regulators are smart, they will use a “principle-based” approach, rather than their traditional bias for “rule-based” approaches. In a principle based approach, intenet and context impact how decisions should be made. In a rule-based approach regulators specify what can and cannot be done. The problem with the latter is that once you specify, it leaves loopholes so that companies can work around it much easier. The danger is that any regulation might also limit all derivative markets in unexpected ways, but that is the risk we’ll have to take.
http://seekingalpha.com/article/99455-time-to-rethink-the-doctrine-of-insurable-interest-in-light-of-cds
Feb. 11 (Bloomberg) — Marsh & McLennan Cos., the second- biggest insurance broker, said carriers around the world are demanding higher rates on some lines of business coverage after losing money on investments backing policies.
“Insurance is showing price increases,” Chief Executive Officer Brian Duperreault said today in a telephone interview from New York. “More in reinsurance, but there are some signs in primary as well.”
U.S. business insurers are seeking to reverse four years of rate decreases after losses on corporate bonds and mortgage- backed securities weighed on financial results. Natural disasters in the U.S., including Midwest tornados and the worst hurricane season since 2005, also contributed to profit declines and losses across the industry last year.
http://www.bloomberg.com/apps/news?pid=20601087&sid=aeVZVn8kZhI0&refer=home
Struggling insurer Hartford Financial Services Group Inc. announced it
has applied to convert to savings-and-loan status and said it will buy
Federal Trust Corp. for $10 million.
The move, which also involves Hartford applying to be part of the
Treasury Department’s $250 billion capital-injection effort, marks the
company’s biggest attempt to stem the crisis of confidence afflicting
it and other life insurers.
…
Hartford estimated it would be eligible for a $1.1 billion to $3.4
billion investment from Treasury if its application is accepted.
http://online.wsj.com/article/SB122669572686429263.html
Aflac Chief Amos Says He Won’t Bid for AIG Units
Nov. 14 (Bloomberg) — Aflac Inc. Chief Executive Officer Dan Amos
said he lost interest in purchasing insurance units from American
International Group Inc. because of declines in his company’s share
price and the higher cost of borrowing funds.
“Right now I think cash is king and liquidity is more important than
acquisitions,” Amos said today in an interview. “You don’t want to
borrow in this environment.” Columbus, Georgia-based Aflac, the
world’s largest seller of supplemental health insurance, previously
expressed interest in purchasing AIG units in Japan.
http://www.bloomberg.com/apps/news?pid=20601087&sid=attrsQ5N6slI&refer=home
The Treasury Department and the Federal Reserve were near a deal to
abandon the initial bailout plan and invest another $40 billion in the
company … When the restructured deal is complete, taxpayers will
have invested and lent a total of $150 billion to A.I.G., the most the
government has ever directed to a single private enterprise. … The
revised deal, which may be announced as early as Monday morning
http://www.nytimes.com/2008/11/10/business/economy/10aig.html?_r=1&oref=slogin
PHILADELPHIA -(Dow Jones)- Cigna Corp. (CI), citing significant
competitive and economic pressures, posted a sharp drop in
third-quarter profit, trimmed its enrollment and earnings forecast for
this year and projected further enrollment declines for 2009.
Cigna shares recently traded down 14.7%, or $2.91, to $16.94. The
trough today of $16.90 represented the stock’s lowest level in nearly
five years. 52wk hi is 56.98.
Posted by email from thehardtrade2′s posterous
General, Politics | Yaron Sadan | 
December 19, 2010 10:50 pm | 
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