Saying Ta Ta to TATA

Oh! What a circus it has been. Will they? Won't they? Will they? Won't they? This has been the question on everybody's minds over the last 4 months. TATA is being forced out of West Bengal (well they better leave if the highly anticipated Nano is ever to see the light of day) and to add insult to injury, their deadline to meet the Nano roll out seems all but impossible...and the first year target of 3 lakh cars, well, lets not even go there. The ongoing impasse at Singur has also made Tata Motors' top vendors extremely uncomfortable, prompting many of them to either announce a pullout or a significant scaling down of operations in West Bengal. Bengal stands to lose not just the mother plant but 56 ancillary units and the jobs they would create as well. The agitation has also resulted in the scaling down of Nano targets for this calendar year.

The Players

• Mamta Banerjee- Who leads Trinamool Congress is leading the protesters and farmers and has demanded the return of 400 acres of land
• Ratan Tata - Chairman of Tata, who must be wondering what the hell he was smoking when he decided to set up shop in West Bengal
• Buddhadeb Bhattacharjee - The CM of West Bengal who has made a total mess of the situation and is helplessly seeing other industries pull back from his state
• The Farmers - who are blindly following anyone who will give them money for their land

Agitation and Political Drama
The Govt of WB acquired around 1000 acres of farmland in Singur so the Nano plant could be set up by Tata. The trouble started after the Left Front-led Government offered compensation in return but some villagers complained that they had not received their dues. Sensing political opportunity, Mamata Banerjee jumped in to score some political points and she started demanding the lands be returned, which she alleged was forcibly taken from "unwilling farmers" to build ancillary industries adjacent to the main plant. The government is countering that it is too late to give the land back, that the project is too important for the state economy, that giving hundreds of acres back would essentially close the Nano project at Singur. In all, around 400 acres of land is still being fiercely disputed out of the 1,000 acres acquired by the State Government. Violence was encouraged and the farmers unwittingly became pawns in the political drama that has been unfolding over months and which only seems to be getting nastier by the day. Demonstrations and indefinite protests were staged and Tata's employees were attacked as the whole country watched with surprise as to what was happening to one of India's biggest corporations.

Give us the Money - Strangely it looks like over the last 2 weeks, more and more farmers are just collecting cheques from the state govt and giving up their land. Then there are many more who are trying to re-negotiate their land prices and want more money. At the same time, Mamta Banerjee is throwing more tantrums and staging more protests. She has even set a one week deadline for the govt to resolve the issue and is calling for the govt to step down since it has failed. While the farmers want money, it looks like mamta wants as much political mileage as she can get while claiming to fight for the unwilling farmers. Unwilling farmers?? What unwilling farmers.

This is certainly a strange case as it looks like the left, which has historically been against changes, are in front championing investment and reform, while the opposition (read Congress and BJP), who have always complained against the leftists for being against reforms, are trying their best to stop the development of the project in the state. As I write this, it looks like TATA has been offered 1000 acres by Karnataka in addition to Maharastra aggressively courting them as well. In all, 12 states have rolled out the red carpet to TATA, while the govt and opposition are continuing to fight with each other demanding the other step down.

This critical issue can only be solved by politicians with a commitment to India’s development and not by opportunist politicians who are just raising slogans to score quick cheap points. We need good opposition just as much as we need good government. At this time, I don’t think we have either...at least in the state of West Bengal.

Around The World...Banning Short Sales

It is amazing how much controversy there is surrounding the ban on short sales. While the decision has drawn relief from some quarters, let there by no doubt that there are quite a few people who are unhappy with SEC's decision. While UK took the first step to ban short sales and added pressure on other markets to respond, the US followed suit shortly. And now it looks like the entire world is jumping on the bandwagon with Australia, Taiwan, Netherlands and Germany also confirming the ban of short sales in their respective exchanges.

I suspect that the ban was done to appease the common investor who has probably been wiped out in the ongoing financial tsunami and as the politicians realized they have to do something to make themselves look good. The Fed and SEC have clearly indicated with this decision, that they are and will go to any lengths to preserve the US financial system collapse including changing the rules midway through the game, with no public comment or participation if required. Note that the ban on short sales does not mean that stocks will only go up. China's market has fallen by more than 50% this year alone even though short selling is not allowed at all.

By banning short selling world over, it looks like what the governments are clearly worried about is the fine line between "freedom" and "manipulation". I personally think that there is nothing wrong with borrowing stock to short, but given the sensitiveness in the global market, the worry is that even a small/negative sentiment can cause a big shift in markets which in turn can cause greater panic worldwide. Note that there can be 2 kinds of short selling. Normal short selling occurs when investors borrow shares and sell them, hoping the stock will fall and they can buy back the shares at a lower price. Naked short selling occurs when an investor sells a stock without first borrowing the shares, and that practice allows investors to flood the market with sell orders, potentially driving down share prices.

Why the ban maybe difficult to enforce

• First off, this is only a temporary ban. Let’s wait and watch if the ban is made permanent. If it is, it will significantly change the rules of the game
• Over the past few years the options market has grown to reach the ordinary investor. There is nothing that short selling provides which cannot be done through put options, albeit at slightly higher cost, due to the options premiums and the bid/ask price spread.
• Volumes in credit-default swaps and other derivatives trades and options are likely to rise in the wake of the short-sale restrictions - This is likely to cause a bigger headache as these complex derivatives are not subject to full disclosure and they are not publicly traded
• This will cause the traders to start focusing on non-financial stocks which can still be shorted via ETF's etc.
• Hedge Funds will be unable to hedge large positions and will likely take some hits. (Not sure what the impact will be to the broader markets once hedge funds start to fail)

Disclose Positions?
Apparently just banning short sales was not enough. After the announcement, pressure mounted for the SEC to do even more as its counterpart in London increased its regulatory responses. By evening the SEC came up with a new surprise – It required investment managers to publicly report their short positions weekly. Though I believe the SEC has every right to obtain and review information about short positions for market surveillance purposes, but forcing public disclosure will have serious consequences for the market. Companies will most definitely retaliate against short sellers. Portfolio and fund managers will lose their ability to manage assets without revealing their strategy. Once someone is short selling a security, other traders will simply do the same thing adding more pressure and this may trigger panicky selling if an investor sees that noted short sellers have shorted the stock.

These are extraordinary times and agreed that we need to support the govt’s efforts to ensure that fraud and manipulation have no place in this market. But the confusion and scapegoating that has ensued may well do more harm than good. Short selling or even naked short selling cannot destroy a company that has any real underlying value to it. Bear, Lehman and the other financials didn’t getting pounded because of short selling. They got pounded because the leverage game was over. I think because of the temporary ban, there is going to be a big rally - albeit an artificial one - which will end by still not revealing the true intrinsic value of the stocks.

And Then There Were None

As the Fed is rushing to pass the 700 billion bailout in Congress, the last remaining 2 investment banks Goldman Sachs and Morgan Stanley have been transformed into bank holding companies. This completes the decimation of the good old investment banking model and re-writes wall street as we know it.

Well, what this mean for Goldman and Morgan - they will be able to begin taking deposits like traditional banks which will increase their cash balances. In return they will be subject to far greater regulations and look more like commercial banks. They will also need to hold higher capital reserves and take less risks. And in return to subjecting themselves to more regulation, they will get full access to the Fed's lending facilities and discount windows which should help them avoid a Lehman like situation.

As bank holding companies, the two banks will have to reduce the amount of money they can borrow relative to their capital. That will make them more financially sound but will also significantly limit their profits. They are both highly leveraged compared to traditional banks. Today, Goldman Sachs has $1 of capital for every $22 of assets; Morgan Stanley has $1 for every $30. This will have to come down for both. By contrast, Bank of America's has less than $11 for every $1 of capital.

So, now that the stocks of GS and MS will trade like banks, are they really worth $130 and $27, respectively? I doubt it. But we might not know what the market really thinks about all this until the ban on short-selling is lifted.

Here we go..From 5 to 2 in 6 months!!

A perfect Storm.. Return of the Black Monday...Wall Street Hurricane.. Financial Tsunami..

These are some of the terms that are being coined to describe the unprecedented chain of events that have occurred over the last 24 hours. Lehman Brothers has collapsed and Merrill Lynch has agreed to be taken over by Bank of America. The events of Sunday September 14th and the day before were extraordinary. The weekend began with hopes that a deal could be struck to save Lehman. However, as the weekend progressed, it looks like the fed drew a line in the sand citing moral hazard and BOA and Barclays balked at the idea of having to takeover Lehman with no Fed backstops.

Around Sunday evening the chatter began that Lehman would not survive and late Sunday came the stunning news on the Lehman website that it had filed for Chapter 11. Though founded in 1800's, Lehman is not 158 years old as many people believe. Lehman is a 14 year old investment bank with a 158 year old name. Though the bank has access to a Fed lending facility which was introduced after Bear’s takeover by JP Morgan Chase, the collapse of its share price left it unable to raise new equity. At the end of August, Lehman had $600 billion of assets financed with just $30 billion of equity. Even a 5% decline in assets would wipe out the value of the company, which investors saw as a real risk due to the company's billions of dollars of mortgage securities. S&P lowered its long-term counterparty credit rating on Lehman to 'SD' (selective default, meaning payments may not be made on some financial obligations), from 'A'. The rating actions followed Lehman Brothers Holdings Inc., the parent/holding company of the Lehman Brothers group, filing for Chapter 11. At this time, it is not clear whether Lehman will default on its holding company senior and subordinated debt obligations. It is also uncertain whether the proceedings will ultimately include some of Lehman's affiliates in the U.S. and in other countries or whether regulators will take over those entities. Where bankruptcy protection leaves Lehman employees remains unclear. Although some are thought likely to pack their stuff up and ship out Monday, the fact is that the broker-dealer and investment management units are not included in the filing. Lehman has also filed motions to continue paying its employees in the meantime, though large scale layoff's are expected anytime.

The government's refusal to help with a bail-out of Lehman will strip many firms of the benefit of being thought too big to fail and with these developments the crisis is entering a new and extremely dangerous phase. The biggest worry now is the effect on derivatives markets particularly the credit-default swaps. Lehman is a top-ten counterparty in CDSs and holds contracts with a notional value of almost $800 billion. With Lehman left dangling, official attention is now turning to putting more safeguards in place to soften the coming shock to markets and the economy. The first step has been to encourage Lehman’s counterparties to get together and try to net out as many contracts as possible. It also has over 100,000 creditors. The inability to find a buyer is a huge blow to Lehman’s 25,000 employees, who own a third of the company’s now-worthless stock; On Sunday the Fed also expanded the list of collateral it will accept for loans at its discount window, to include even equities; and dealers may lend any investment-grade security, not just triple-A rated, to the Fed in exchange for Treasury bonds.

Merrill’s rush to sell itself was motivated by fear that it might be next to be caught in the stampede. Despite selling a most of its rotten assets recently, the market continued to question its viability. Its shares fell by 36% last week, and hedge funds had started to move their business elsewhere. John Thain went right ahead and struck a deal before markets reopened. Despite what people say, I think it’s a smart move as Mr Thain has not only managed to shelter his firm from the storm but he has also secured a price well above its closing price last Friday, $29 per share compared with $17 close. How he managed that in such an ugly market is not yet clear. Ken Lewis, BofA’s boss, is no fan of investment banking after he was stung by losses and openly declared he is pulling back. Having failed to build his own investment banking unit, he coveted Merrill’s formidable retail brokerage and got it all. It will be a logistical challenge all the more so since BofA is in the middle of digesting Countrywide, a big mortgage lender. Commercial-bank takeovers of investment banks have a horrible history because of the stark cultural differences. And it is not clear if BofA has a clear picture of Merrill’s remaining troubled assets.

The takeover of Merrill leaves just two large independent investment banks in America, Morgan Stanley and Goldman Sachs. Both seem to be in better shape but this weekend’s events has undoubtedly cast a shadow over the standalone model.

Even if markets can be stabilized this week, the pain is far from over—and could yet spread. The foreign markets are in the red and the Dow has crashed more than 500 points as I write this – its worst performance in 7 years. Worldwide credit-related losses by financial institutions now top $500 billion, of which only $350 billion of equity has been replenished. This $150 billion gap, leveraged 14.5 times (the average gearing for the industry), translates to a $2 trillion reduction in liquidity. Hence the severe shortage of credit and predictions of worse to come.

As spectacular as this weekend was, more drama is on the way as a Category 5 hurricane is testing the strength of the Financial levees.