Mostly Economics

In this crisis, the focus of attention keeps shifting. It is like everyday you asking- Which is the next/most likely to write-down/report losses? It started with BNP Paribas in August 07 when it said it can’t value assets it created/traded. Since then we have had news over Societe Generale, UBS, Barings, Northern Rock etc. Then there has been news over special set of firms like monoline insurers, credit rating agencies etc.

Now, all this shifted to Lehman Brothers (LB) (see this excellent wiki profile as well). Lately there has been a lot of news coverage that Lehman has made huge losses and is expected to declare its first ever quarterly loss since it became a public company in 1993.This was leading to a lot of LB bashing in equity markets and in press.

To calm down fears, LB issued a press-release yesterday which expected the likely losses in Q2 2008. LB expects net losses at $ 2.8 billion. Above all, the expected revenue itself is negative at $ 0.7 billion ( in Q1 it was $ 3.5 billion). Reasons are:

Net revenues for the second quarter of fiscal 2008 reflect negative mark to market adjustments and principal trading losses, net of gains on certain debt liabilities. Additionally, the Firm incurred losses on hedges this quarter, as gains from some hedging activity were more than offset by other hedging losses.  

 I had earlier pointed to this ridiculous practice of mark to market gains on liabilities. If this was not cashed losses would have been worse. 

The Chairman and Chief Executive Officer Richard S. Fuld, Jr. said,

“I am very disappointed in this quarter’s results. Notwithstanding the solid underlying performance of our client franchise, we had our first-ever quarterly loss as a public company. However, with our strengthened balance sheet and the improvement in the financial markets since March, we are well-positioned to serve our clients and execute our strategy.”

We too are disappointed. The main losses have expectedly come from their Capital Markets Business Segment. Both I-banking and Investment Management have reported positive revenues. What is even more ridiculous is that despite all these losses compensation expenses have increased!!

Compensation expense was approximately $2.3 billion in the second quarter of 2008, compared to $1.8 billion in the first quarter of fiscal 2008.  

The actual results are going to be released on 16 June and we hope to get some clarification then. This report is much better than the reports released by UBS, Soc Gen etc which were for rocket scientists. But then this is just a statement of losses. Let us wait for reports on what led to these losses. I am sure it will be another shot in the arm for rocket science (finance).

The actual results are going to be released on 16 June and we hope to get some clarification then. This report is much better than the reports released by UBS, Soc Gen etc which were for rocket scientists. But then this is just a statement of losses. Let us wait for reports on what led to these losses. I am sure it will be another shot in the arm for rocket science (finance).

The actual results are going to be released on 16 June and we hope to get some clarification then. This report is much better than the reports released by UBS, Soc Gen etc which were for rocket scientists. But then this is just a statement of losses. Let us wait for reports on what led to these losses. I am sure it will be another shot in the arm for rocket science (finance).

Tyler Cowen in his superb blog points that Warren Buffet has placed a bet with a hedge fund manager that latter would not be able to beat S&P 500 after their extremely hefty fees are accounted for.

Basically Warren Buffet has placed a USD 1 millon bet with Protege Partners, LLC on longbets, an Internet based prediction market. The bet is:

“Over a ten-year period commencing on January 1, 2008, and ending on December 31, 2017, the S & P 500 will outperform a portfolio of funds of hedge funds, when performance is measured on a basis net of fees, costs and expenses.”  

The beneficiaries have also been mentioned:

if Buffett wins – USD 1 mn goes to Girls Incorporated of Omaha ,
Protege Partners, LLC wins – Friends of Absolute Return for Kids, Inc

Both sides provide their argument. Buffet says:

A number of smart people are involved in running hedge funds. But to a great extent their efforts are self-neutralizing, and their IQ will not overcome the costs they impose on investors. Investors, on average and over time, will do better with a low-cost index fund than with a group of funds of funds.

Protege Partners, LLC says:

There is a wide gap between the returns of the best hedge funds and the average ones. This differential affords sophisticated institutional investors, among them funds of funds, an opportunity to pick strategies and managers that these investors think will outperform the averages. Funds of funds with the ability to sort the wheat from the chaff will earn returns that amply compensate for the extra layer of fees their clients pay.

So far (10 June 2008), 81% of people believe Buffet would win. Let’s see what happens.

P.S.
One of the several discussants points to this CNN artlcle on the bet. It has more details like each party has paid about $ 320,000 and they have invested this in a Zero coupon bond which on maturity becomes $ 1 million. It also says Buffet assesses his own chance of winning at 60%. It also says Protege performance has been quite good so far.

I liked this quote from one of the Fund’s partners at the end of the article:

Fortunately for us, we’re betting against the S&P’s performance, not Buffett’s.

🙂