Author: Ashton Wenborn

Green investing takes off

Posted on by Ashton Wenborn

While the primary goal of any investor is to make as much money as possible, a growing trend has emerged in recent years of a more conscientious approach to investing. In particular, renewable energy and environmentally friendly products are beginning to benefit greatly from investors who want to know that their money is going towards things that aren’t harming the world.

At the same time, these investments are proving to be far more resilient than previously thought, with recent studies showing that their returns can be as strong, if not more so, than traditional investments. As a result, financial institutions across the world are clamouring to get in on the sustainable investment bandwagon.

However, while some investment strategies within the green space can take a very narrow form – purely in European renewable energy, for example – there are a number of financial institutions spreading their investment strategies across a number of areas in a purely opportunistic way.

The types of businesses that investors are looking at seem to be ones that are enabling industrial sectors to use energy and resources more efficiently

One such firm is the newly launched London-based investment trust Menhaden Capital, which is targeting a whole swathe of clean energy related investments that it hopes will help improve the world, while delivering stable and generous returns. Having launched on the London Stock Exchange in July, Menhaden managed to raise an initial £80m to invest in a range of energy efficient businesses.

History in the making
World Finance spoke to Menhaden’s founder Ben Goldsmith about the reasons for establishing such a fund. Goldsmith’s background is one where an obsessive care for the environment is matched by a first rate financial pedigree. His father was billionaire financier Sir James Goldsmith, while his uncle was environmentalist and founder of the Ecologist magazine, Edward Goldsmith. His brother, Zac Goldsmith, is also a passionate environmentalist and a prominent British MP and potential future Mayor of London.

His 15-year career has been steeped in environmental investing, and he launched Menhaden after being inspired by one of his investment idols Jacob Rothschild, whose RIT Capital Partners pioneered a similar strategy to the one the new firm is taking now. “I have always respected Jacob Rothschild a great deal, and he invests through a vehicle called RIT Capital Partners, which is a London-listed investment trust. What that kind of vehicle does is allow you to match patient capital with an opportunistic investment style, while overlaying that with an asset class mix that can evolve over time, according to how you see the world”, said Goldsmith.

He added, “If you look at the history of RIT, there’s been times when he has had more than half of his total portfolio invested in public equity markets, and there have been times when that’s been less than 20 percent and he’s retrenched to fixed income, and both public and private credit. Being able to evolve your asset class mix over long periods of time is a huge advantage. Being able to invest off a patient capital balance sheet, without investment horizons, is a huge advantage. And also being able to be completely opportunistic in your approach.”

It is the fluid nature of the portfolio that has attracted Goldsmith, who has spent the last 13 years with investment group WHEB, which runs a selection of sustainability related investment strategies. Goldsmith decided to set up Menhaden after meeting a number of people who wanted a multi-asset approach to environmental investing. “I’ve spent 10 years fundraising for different funds that we manage at WHEB, and I’ve met lots of industrialists and investors across geographies. Very smart, successful and influential people, who see the opportunity from investing in an environmentally friendly way and wanted a product which would do this across multiple assets.”

Menhaden has appointed WHEB’s Listed Assets team to manage a concentrated portfolio of environmentally themed stocks, and has also invested in a couple of private equity funds run by WHEB Capital Partners.

The trust’s portfolio will be quite concentrated, with around 25 positions being taken. With the initial £80m it has raised, Menhaden are able to take a conviction-driven approach to their investment strategy. Around half of their positions will be in public equities, but they will also be investing their capital in yield assets like private wind, solar and hydroelectric businesses, which will typically operate within the most secure European jurisdictions. The final aspect to the portfolio will be special situations investments, likely in the form of private equity, which will be direct deals where Menhaden take the lead investor role and have a greater say in the running of the business.

Enthusiastic support
Many of the world’s key investors are taking the idea of sustainable and green investment seriously. Big institutions like Morgan Stanley and Bank of America have already bolstered their green initiatives, while many individual investors want to ensure that at least some of their portfolios are made up of sustainable holdings. For Menhaden, this is no different. While the company is very much in its early stages, it has still managed to secure backing form a number of prominent investors, including Belgian hedge fund manager Pierre Lagrange, Coller Capital’s founder Jeremy Coller, Lyndon Lea of Lion Capital, Easyjet founder Stelios Jaji-Ioannou, and New Look Group founder Tom Singh. There are also a number of industrial families tentatively backing the firm, such as the Mittal and Reuben families.

Goldsmith said, “Part of our mission for the next year or two is to build a portfolio that’s transparent, that people can really look into and understand. There’ll be no rocket science – it’ll be pretty concentrated, with around 25 positions. We want to show that we can generate great risk adjusted returns from this kind of a portfolio. Then we can diversify the shareholder base.”

The trust’s biggest backer, however, is the Italian insurance giant Assicurazioni Generali. It is these bigger institutions that are likely to really transform the market, once they start taking big stakes in sustainable investments. Once this happens, there is likely to be a tipping point for the industry.

The reason’s that bigger institutions are getting involved in sustainable investing may have initially been a public relations exercise in the aftermath of such a bad period for the financial services industry in recent years. However, now these large firms are realising that they can invest in ‘good’ stocks without compromising on strong returns. “I think the big move is that large institutional investors are trying to reduce the amount of negative impact that they do through their investments. The biggest trend in this direction is the rise of screened investing, where in some cases certain types of investments – such as fossil fuels – are screened out. Tilting portfolios for reduced environmental impact. That’s the big trend. Investors doing the right thing by saying, ‘actually, not only is reducing the environmental impact of our portfolio the right thing to do, but it also makes us more money.’

“The types of businesses that investors are looking at seem to be ones that are enabling industrial sectors to use energy and resources more efficiently”, added Goldsmith. By investing in businesses that are able to provide industries with a solution to their efficiency problems, those companies are helping to dramatically bring down costs. That in turn will make whole industries much more efficient and ultimately profitable.

Energy’s tipping point
One of the key themes affecting the global energy market is the dramatic fall in the price of oil over the last year (see Fig. 1). With OPEC leader Saudi Arabia keeping production at high levels, it has been speculated that the country recognises that the days of oil’s dominance are coming to an end and that renewables – led by solar – are set to take over. Around this backdrop of falling prices has been a steady increase in investment in both renewable energy and technologies designed to boost energy efficiency.

Goldsmith believes that this is only going to continue, and that unlike resources, an increase in demand will only bring down the price of these technologies. “I think it’s fascinating that even though resource prices – and in particular oil prices – have declined significantly, the wave of investment in both the efficient use of resources and alternatives to fossil fuels has only grown and been magnified. I think that’s because the whole trend towards efficiency and renewables has become unstoppable.

“The technology just gets cheaper and better. That’s the beauty of technology – the higher demand for the technology, the lower the price. Whereas with resources, typically the higher demand, the higher the price. I think we have reached a tipping point, and it’s partly about technology and innovation, and the rise of cheap, effective technology”, he continued.

From an investor’s point of view, price volatility is always something to be wary of. Resource prices have been increasingly unpredictable in recent years, and for businesses seeking to budget for the future, it makes more sense if they know what their energy costs are going to be. Therefore, renewable energy tends to be more attractive to them now, said Goldsmith. “Commodity prices are volatile, and while prices may have come down over the last few months, they’re also all over the place.

“So if you’re a CEO or a finance director who buys a lot of raw materials or energy, those volatile prices keep you awake at night. You can achieve stability and improve the resilience of your business against that volatility by becoming much more efficient and by investing in more predictable alternatives.”

While renewables are certainly seeing greater interest from investors, they are still relatively hampered by the reluctance of governments to offer the industry the sort of generous subsidies afforded to fossil fuels and nuclear. Indeed, in the US, renewable subsidies were scaled back after a number of bigger firms, like solar power business Solyndra, went bust. Across Europe, governments have chosen not to renew clean energy subsidies, as they’ve had to tighten their fiscal belts.

Ben Goldsmith, founder of Menhaden Capital
Ben Goldsmith, founder of Menhaden Capital

Levelling the playing field
By contrast, the oil, coal and nuclear industries still receive extremely generous subsidies in order to keep them running. According to Goldsmith, it is this discrepancy that needs to be addressed if there was really to be a level playing field in the global energy markets. “Everyone bangs on about subsidies for renewable energy, without acknowledging the fact that the nuclear industry has benefitted from vast and ever-increasing subsidies for 70 years now. 97 percent of the budget of the UK’s Department for Energy and Climate Change is spent cleaning up the mess created by the nuclear energy industry. And this also applies for fossil fuels, where there are vast tax breaks and subsidies. I think that we need a level playing field.”

Instead of offering long-term subsidies to such industries, governments should instead be focusing on allowing early-stage technologies to take off and invest in further innovation. “I’m instinctively opposed to long-term subsidy for any industry, and I believe subsidies should be there to support R&D and to kick-start new industries for a short period of time. In energy, I would support the phasing out of subsidies for renewables, but we’ve got to see a concurrent phasing out for subsidies for fossil fuels and nuclear too”, said Goldsmith. Remarkably, there seems to be a growing consensus on both ends of the political spectrum for subsidies to be scrapped and energy markets to have to fend for themselves. He mentions the establishment of the Green Tea Party in America, which is an offshoot of the right wing Tea Party group of the Republican Party that wants the state scaled back dramatically. “They’re big on this. They don’t believe government should be dishing out tax payers’ money to vast energy interests – fossil fuels or nuclear.”

This organisation has found common ground with another from the opposite end of the political spectrum, the left-leaning environmental lobbying group the Sierra Club. “On that topic, you have the Green Tea Party arm in arm with the left-leaning Sierra Club. They’re highly supportive of the decentralisation of power generation that solar brings, which is by its very nature distributed.”

Whereas more conservative members of the political establishment have traditionally not been enthusiastic backers of renewable energy in the US, Goldsmith feels that the industry is one that they should be inherently supportive of. “It’s a profoundly conservative idea that farmers, small communities, and individual homeowners can generate power from their rooftops and sell it to the grid. It’s in direct contrast to a centralised, government supported, monopolistic model that we have today.”

According to Goldsmith the energy industry is going to undergo profound changes. With those changes, there will be significant opportunities for investors to make considerable amounts of money. He points to the solar industry as being at the forefront of this energy revolution. “I think we’re going through a solar revolution and you can’t overstate just how exciting it is, the rise of solar power and the complete crash in the price of solar panels.

Crude oil price

“And it just keeps on falling. I recently met the CEO of Canadian Solar, who told me that he believed they could continue reducing the cost of solar panels at their manufacturing facility by 10 percent a year. The list of places where solar is the cheapest electricity option is growing every year, and I think that’s one of the most exciting trends in energy today. Solar is winning the day.”

He also believes that the electrification of the transport industry will come far sooner than many predict, and it is “years, not decades, away”. And there will continue to be a push by many industries to boost their efficiency in both energy and raw materials. For investors in this space, all of these trends are presenting plenty of opportunities.

For Goldsmith and Menhaden, the ambition is to be both ahead of the curve, and to become the “reference investor” for the sector. “We’d like to be the first people to get the call from a smart team looking to build, for example, a hydroelectric damn in Vietnam or a portfolio of solar assets in Central America, or creating a new private equity fund in San Francisco. We want to be the first phone call to make when people have a great idea. We want to back world-class people across this space, across the world.”

Synthetic rhino horns could alter black market

Posted on by Ashton Wenborn

In the early 20th century, there were more than 500,000 rhinos living throughout Africa and Asia, but due to excessive poaching their numbers have dwindled to alarmingly low levels. In fact, according to recent figures published by Save the Rhino, there are now just 29,000 rhinos left living in the wild.

Rhino numbers have plummeted in recent years because of increased demand for their highly coveted horn, which can fetch up to $100,000 per kg (the average horn weighs between one and three kgs each) in countries like Vietnam and China. Users of rhino horn believe it to have medicinal value, capable of curing a variety of ailments ranging from headaches and hallucinations to snakebites and demonic possession – though there is no evidence supporting such claims.

Nevertheless, the rhino-poaching crisis has reached such levels as a result of increasing demand in Asia – driven by improved economic performance – that if the killing continues at the current rate, the number of deaths could overtake births as early as 2018. In fact, the problem has got so bad that biotech company Pembient has come up with a solution to the poaching crisis that is as controversial as it is clever – the manufacturing and distribution of synthetic rhino horn that is indistinguishable from the real thing. While it may sound like a brilliant solution to a seemingly impossible problem, the product has been met with scepticism from conservationists, who don’t believe it will reduce poaching of wild rhinos, but instead, drive up demand for the wild horn. But will this market-based solution manage to put a stop to poaching or exacerbate the situation further?

The illegal rhino horn trade

$60,000

Value per kg of rhino horn

20 years

Until remaining rhinos become extinct at current poaching levels

40

Rhino horns stolen from South African tourism organisations in 2014

$14.6m

Net worth of the 40 stolen rhino horns

Convincing conservationists
Cathy Dean, the International Director of UK-based charity Save the Rhino, is adamant that the proposed solution will do more harm than good. For her, the fundamental problem with the synthetic products produced by Pembient – which include a skin cream marketed to wealthy women in Vietnam and a beer manufactured in China – is that it will drive up demand for wild horn.

“These are entirely new uses of rhino horn that will reach an entirely new audience”, she said. “We all know that Vietnamese and Chinese societies are now very aspirational. The real fear is that users will eventually graduate to wanting the real thing and that a wider demographic of people are being reached by these synthetic products.” In recent years, a large driver of demand for rhino horn has been the creation of new uses that have nothing to do with traditional Chinese medicine, which have been dreamed up and marketed by international criminal syndicates.

In Vietnam, which represents a burgeoning market for illegal rhino horn, it is viewed as a hangover cure and has been promoted as an effective treatment for cancer. But as rhino horns are entirely composed of Keratin (a protein found in hair and finger nails), such claims are fictitious. “Frankly, I struggle to see the difference between new uses touted by criminal gangs in order to create a wider market and drive up the price and those peddled by synthetic rhino horn manufacturers’”, added Dean.

If conservationists think that Pembient’s plan is to drive down demand then they are mistaken, because as the Seattle-based start-up’s CEO, Matthew Markus, explained: “I don’t really care about demand one-way or the other – I care about price. I care about animals and I don’t want them killed for products”, he said. “We are trying to prevent the farming of wildlife.” It might seem strange, but he is also concerned about protecting Vietnamese and Chinese cultural practices too, including those centred around the consumption of rhino horn.

One issue he has with traditional conservation organisations is that they set out to destroy these traditional practices, which in his opinion are what define cultures and make people unique. “Whether it is stopping rhino horn, ivory, shark-fin soup, bear bile or dog meat, I think you need to find a way to not set it up as a zero sum game, so that both sides are happy with the solution offered”, said Markus. “We kill 25 million animals per day in the US and nobody really holds us accountable for that. There are no NGOs from India showing up on our shores saying that the government needs to stop selling cheeseburgers.”

Market disruption
If Pembient plans to use its product to drive down market value of rhino horn, then it is important that it has an effective strategy for doing so. Arguably the easiest approach is to flood the market, drowning it with an excess amount of inventory for sale, leading to a rapid decline in price for the product. Such a plan is a little too simplistic for Markus and his team, who have instead chosen to attack the market from three different angles.

At the top end of the market, the company wants to create a legitimate brand. Pembient wants to sell a luxury product that will have true labelling, so people will know it came from a lab. It hopes that its synthetic rhino horn will be used in a number of products, particularly high-end ones, such as beauty creams, liquors, beers, and even durable goods including jewellery.

“We hope that it will find its ways into products where water buffalo horn is used as a substitute to real rhino horn, which is inferior to our product”, said Markus. “We hope to change rhino horn from being a fetishised product to being a sort of ‘mass-tiche’ goods that is available to the masses and, therefore, diminish some of the allure surrounding the rhino horn among these higher end consumers, while making a profit at the same time.”

From a middle market perspective, the US-based biotech company is fully aware that from time to time its product will be stolen or simply bought and re-labelled, perhaps even marketed as wild horn. Such activity will help to introduce a level of uncertainty into the market, making consumers of the commodity question whether or not they are actually buying wild or synthetic horn.

“Individuals in the middle of the supply chain are more motivated by profit than anything else, so our product can be seen as a universal cutting agent”, asserted Pembient’s CEO. “In the drug trade, you can think of a cutting agent as something that is less valuable and less efficacious as the drug being cut. In our case, we are the same as the cutting agent and we cost a lot less.

“So anyone using our product as a cutting agent will use it more and more in order to boost their profit margin until they wonder why they are even bothering with the real thing anymore.” At the lower end of the market, Pembient is hoping to inject a level of quality uncertainty into the market, so that people begin to question whether wild or synthetic horn is being traded in the black market. Markus and his team hope that over time all these different angles of attack will lead to the collapse of the black market and with it an end to poaching.

“We are also looking at staging intervention on the ground in South Africa from the supply side”, explained Markus. “This may be as simple as leaving [synthetic 3D-printed] horns in the field, so that poachers may stumble across them and pick them up and sell them instead of actually hunting the animal.” Considering that Pembient doesn’t care about demand and is solely focused on driving down the market value for wild horn in order to put an end to poaching, not only is its business model important, so too are pricing policies.

Building synthetic rhino horn in the lab is neither simple nor cheap, however, compared to the real thing it is. Wild horn on the black market can cost anywhere between $30,000 and $100,000 per kg.

That is why Pembient is targeting a wholesale price in the region of $7,000 per kg (about an eighth of the black market value), which it believe will allow them to drive down the wild horn’s market value while simultaneously making enough profit to keep the company afloat. “Ideally, we would like to be an ingredients company and sell this product as an ingredient to other producers to include in their end product”, noted Markus.

Answering critics
One of the major issues raised by conservationists regarding the sale of synthetic rhino horn has centred on its similarities to the real thing, which it says will create a number of legal challenges, especially when it comes to the import and export of the product. But when Markus was asked about the state of the company’s relationship with Chinese and Vietnamese authorities, he explained that things were running rather smoothly.

“That has actually been pretty easy”, he chuckled. “We had exported stuff to China for various tests. Most of this is based around documentation. We are the first people to categorise the contents of a horn, so the laws around wildlife traffic are very different to say drugs in as much as the composition of matter is less important than providence.”

The news may upset conservationists like Dean from Save the Rhino, who had hoped that the product would face some real obstacles, as in her opinion, “any company [that] starts manufacturing and marketing synthetic rhino horn does so to the detriment of the conservation movement”.

Such criticisms are welcomed by Markus, as the company relies on a critical eye in order to build for the future and acknowledges that the product will continually need to be refined over time in order to fulfil its goals. “We are always going to try and get better and better and get closer to being bio identical to real rhino horn”, he said. “One of our interim goals is basically to make it cost more to test our product than the real thing is currently worth.

“The idea is to make it impossible for an end consumer or a distributor or anybody else in the chain to be able to determine the quality of the good vis-à-vis wild horn.” The quicker the team can refine the process and create a product that is truly indistinguishable from the genuine article the better, as there is a concern that as genetic testing kits become cheaper more people will have the ability to verify products quickly and cheaply. Markus even envisages a world where one day consumers will have an app that is capable of telling them if they have real rhino horn or not.

“There are a lot of fakes in the market right now, but these are inferior fakes, so when technology is widely available to help in the identification process, I believe the fakes will be eliminated at an even faster clip”, he explained. “We think there is a need for someone to step in and fill that gap, because when there are no more fakes in the market, the demand for wild horn will be that much greater.”

Luckily, the team have already developed a number of prototypes, but are holding back on taking the product to market for the time being, pushing the launch of their product back to 2016.

When asked about the delay, Markus explained that the company had been in contact with a number of academics and economists who were eager to measure the impact of their synthetic product on the market, along with how effective it is at reducing incidents of poaching. The data is particularly important to Pembient, not just from a market research perspective, but also because the company believes that many conservation efforts in the past have failed to collect adequate levels of data or carry out secondary analysis.

“A lot of the time, it seems to be anecdotal evidence or good intentions are put forward as being the primary driver for some of these conservation behaviours, especially if you look at the crushing or burning of ivory”, said Markus. “I’ve asked several people within the conservation community why this is done and if there is any research that shows the impact of this practice on the end consumer or market price, but they can’t point to any reasons why it is done other than for tradition or because it sends a strong message.”

However, conservationists have been very successfully in driving down demand for wild horn in the past and continue to make progress.

“Nobody expects to snap their fingers and have the issue resolved overnight”, said Dean. “If it were a simple problem, believe me it would have been solved. It is complex. It is difficult. It does need a range of measures working in tandem.” For now at least, only time will tell if the proliferation of synthetic horn into the market will make the impact that Markus is hoping to achieve. It is also a shame that greater collaboration between Pembient and traditional conservationist organisations appears unworkable at this stage.

But considering that there is polarising opinion over how best to reduce demand for wild horn globally, with legalisation of the wild horn trade in South Africa likely to come up when The Convention on International Trade in Endangered Species of Wild Fauna and Flora convenes in 2016, it is unlikely that a consensus will be reached about the manufacturing of synthetic products any time soon either. But no matter what side of the synthetic fence individuals find themselves on, everyone must acknowledge that such an innovative attempt at a solution is worthy of praise.

The end of standard work

Posted on by Ashton Wenborn

In 1983, the American economist and Nobel laureate Wassily Leontief made what was then a startling prediction that machines, he said, are likely to replace human labour much in the same way that the tractor replaced the horse.

Today, with some 200 million people worldwide out of work – 30 million more than in 2008 – Leontief’s words no longer seem as outlandish as they once did. Indeed, there can be little doubt that technology is in the process of completely transforming the global labour market.

To be sure, predictions like Leontief’s leave many economists sceptical, and for good reason. Historically, increases in productivity have rarely destroyed jobs. Each time that machines yielded gains in efficiency (including when tractors took over from horses), old jobs disappeared, but new jobs were created.

Uber and other digital platforms are redefining the interaction among consumers, workers,
and employers

Furthermore, economists are number crunchers, and recent data shows a slowdown – rather than an acceleration – in productivity gains. When it comes to the actual number of jobs available, there are reasons to question the doomsayers’ dire predictions. Yet there are also reasons to think that the nature of work is changing.

To begin with, as noted by the MIT economist David Autor, advances in the automation of labour transform some jobs more than others. Workers carrying out routine tasks like data processing are increasingly likely to be replaced by machines; but those pursuing more creative endeavours are more likely to experience increases in productivity. Meanwhile, workers providing in-person services might not see their jobs change much at all. In other words, robots might put an accountant out of work, boost a surgeon’s productivity, and leave a hairdresser’s job unaltered.

Man against machine
The resulting upheavals in the structure of the workforce can be at least as important as the actual number of jobs that are affected. Economists call the most likely outcome of this phenomenon ‘the polarisation of employment’. Automation creates service jobs at the bottom end of the wage scale and raises the quantity and profitability of jobs at its top end. But the middle of the labour market becomes hollowed out.

This type of polarisation has been going on in the US for decades, and it is taking place in Europe too – with important consequences for society. Since the end of World War II, the middle class has provided the backbone of democracy, civil engagement, and stability; those who did not belong to the middle class could realistically aspire to join it, or even believe that they were part of it, when that was not the case. As changes in the job market break down the middle class, a new era of class rivalry could be unleashed (if it has not been already).

In addition to the changes being wrought by automation, the job market is being transformed by digital platforms like Uber that facilitate exchanges between consumers and individual suppliers of services. A customer calling an Uber driver is purchasing not one service, but two: one from the company (the connection to a driver whose quality is assured through customer ratings) and the other from the driver (transport from one location to another).

Uber and other digital platforms are redefining the interaction among consumers, workers, and employers. They are also making the celebrated firm of the industrial age – an essential institution, which allowed for specialisation and saved on transactions costs – redundant.

Human capitalisation
Unlike at a firm, Uber’s relationship with its drivers does not rely on a traditional employment contract. Instead, the company’s software acts as a mediator between the driver and the consumer, in exchange for a fee. This seemingly small change could have far-reaching consequences. Rather than being regulated by a contract, the value of labour is being subjected to the same market forces buffeting any other commodity, as services vary in price depending on supply and demand. Labour becomes marked to market.

Other, less disruptive changes, such as the rise of human capital, could also be mentioned. An increasing number of young graduates shun seemingly attractive jobs in major companies, preferring to earn much less working for start-ups or creative industries. While this can be explained partly by the appeal of the corresponding lifestyle, it may also be a way to increase their overall lifetime income.

Instead of renting their set of skills and competences for a pre-set price, these young graduates prefer to maximise the lifetime income stream they may derive from their human capital. Again, such behaviour undermines the employment contract as a basic social institution and makes a number of its associated features, such as annual income taxation, suboptimal.

Whatever we think of the new arrangements, we are unlikely to be able to stop them. Some might be tempted to resist – witness the recent clashes between taxi and Uber drivers in Paris and the lawsuits against the company in many countries. Uber’s arrangement may be fraudulent according to the existing legal framework, but that framework will eventually change. The transformative impacts of technology will ultimately make themselves felt.

Rather than try to stop the unstoppable, we should think about how to put this new reality at the service of our values and welfare. In addition to rethinking institutions and practices predicated on traditional employment contracts – such as social security contributions – we will need to begin to invent new institutions that harness this technology-driven transformation for our collective benefit. The backbone of tomorrow’s societies, after all, will be built not by robots or digital platforms, but by their citizens.

Jean Pisani-Ferry is an economist and public policy expert

© Project Syndicate 2015

Mobile banking goes from strength to strength

Posted on by Ashton Wenborn

The American public was introduced to the idea of all-hours banking when in the late 1960s pioneers from across the Atlantic brought the concept of the ATM to US shores. Put forward as a remedy to the issue of after-hours trading, or lack thereof, the automation of certain processes boosted productivity for early adopters and rendered certain posts redundant. For the first time, customers could conduct their financial dealings at any hour of their choosing in places apart from their local branch, and it was from here onwards that banking became accessible even to the farthest reaches of the US.

If ATMs changed banking for the better, then the internet has transformed it for good, bringing with it new and novel new ways of engaging with customers. All encompassing, multi-functional channels have altered the landscape, and developments in the years since mean that almost the entire spectrum of financial services is never more than a few clicks away. Long gone are the days when any person wanting to make a transaction had to abide by branch opening times, and mobile technology is today the latest technological innovation to revolutionise the American banking and payments industry.

Long gone are the days when any person wanting to make a transaction had to abide by branch
opening times

Mobile banking comes good
One study conducted by the Federal Reserve last December showed that in 2014, 91 percent of the adult US population used a mobile phone for mobile banking and payments (see Fig. 1 and 2). The penetration of mobile banking applications, meanwhile, has reached never seen before heights, and, going by Statistica figures, reached upwards of 42 percent in 2014, with 13.5 percent of Americans testament to having ‘often’ used mobile banking apps.

Experts have dubbed each of the last five years the ‘year of the mobile’, and those at the sharp end of financial services have been quick to make good on a mobile money revolution. Whether it be shopping, budgeting or banking, the ubiquity of mobile technology means that each of these activities is within easy reach. Demand for mobile payments is projected to tip $214bn within three years, according to PwC, and although American consumers are often slow to switch accounts, mobile banking is a key point of differentiation in what remains a hyper competitive market.

No matter the specifics, what’s true is that the way Americans make purchasing decisions has changed immeasurably. While much of the focus so far has fallen on mobile growth in developing nations, in a period where convenience is of the essence, American banks can ill afford to let the mobile opportunity pass them by. Research on the subject proves that m-banking has come a long way of late, although the reasons that keep the remaining 57.2 percent of the population from mobile banking – according to Statistica – must now take centre stage in order to realise its potential.

“The threat to banks from disintermediation or being disenfranchised is real as other players experiment with and create new channel distribution opportunities”, said Alastair Lukies, CEO and co-founder of Monetise in a Bank Performance Advisors report titled Perspectives and Research on Mobile Banking. “Previously, the branch, online bank, ATM or call centre were an easily controlled portfolio of supply chains managed by a bank as it connected directly to its consumer. This is no longer the case – at its core, banking is in flux.”

M-banking outside of banking
Sources at Gartner say that the global market for mobile payments will rack up $720bn in transactions by the time 2017 is up, from $235bn in 2013, and the US reigns currently as the choice destination for the sector’s leading names. American start-up Square, alongside the likes of Google, PayPal and Visa, have each devised their own mobile payment solutions, with a view to clawing a sizeable share of the market early on. Yet doing so is not without its challenges, and initial signs show that millions of consumers are still unwilling to use their mobile in place of plastic.

The emergence of Apple Pay late last year proves that those in industries apart from banking are intent on conquering the mobile payments space. Less than a year into its lifespan, the mobile payment system has been talked up time-and-again by Apple execs, and despite problems with regards to adoption, the digital wallet is fast gaining momentum.

All this serves as a timely reminder for banks that their hold over mobile payments is far from watertight, and for as long as they fail to address commonly held concerns or push the envelope, competitors – much like Apple – will pick up the slack. The issue is not that banking has been slow to muscle in on mobile, but rather that competitors have more clearly identified the issues troubling consumers.

Whereas competing services such as TransferWise, Simple and Square are singularly committed to mobile payments, mobile banking is only one part of a much wider spectrum of services. As a result, where the aforementioned have taken pains to put security front and centre, banks have by-and-large failed to address these same concerns with quite the same clarity – yet they should.

“Since significantly more data is easily accessible to a compromised mobile device, social engineering is becoming an increasingly sharp tool for cybercriminals to take control of mobile devices. As a result, financial institutions risk increased fraud in their mobile channel, and mobile users risk identity theft”, said Ken Jacobi, Senior Product Marketing Manager at security firm Webroot.

According to a recent study conducted by cognitive biometrics firm BioCatch, 61 percent of a 600-person sample indicated that hacking was their number one concern when it came to online and mobile banking. Likewise, 66 percent of respondents in a Capital One survey cited security challenges as the number one issue standing in the way of increased adoption, whereas the Federal Reserve showed that 59 percent of Americans shared concerns about security.

Irrespective of which study is most accurate, what’s clear is that the issue of security is standing in the way of adoption, and for as long as those in the banking community refuse to take further steps to arrest these fears, m-banking will stop short of its potential. With 93 percent of the unbanked population with access to a mobile phone, and almost three quarters of those internet-enabled, the profits lost – should banks decide not to act – could well number in the billions of dollars.

One IOActive study shows that of 40 banking apps taken from the world’s leading 60 banks, nine out of 10 had serious security vulnerabilities. The firm’s Senior Security Consultant Ariel Sanchez also found that, of the sample, 70 percent were without alternative authentication solutions and half used iOS’ UIWebView in an insecure manner.

“In general terms, I think the biggest security threats are related with ‘transport security’ of the mobile banking apps”, said Sanchez. “Vulnerabilities like plain text connections [non-SSL links], lack of SSL pinning protection and poor security of authentication processes are the biggest problems, since these allow an attacker to perform different kind of attacks like MiTM [Man in The Middle], phishing and client side injects that could potentially compromise the contents of user sessions including passwords, session identifiers, and any information exchanged between the server and its clients.”

All this means there are real and growing opportunities for technology firms, as banks look to partner with the best names in the business to bring innovations such as fingerprint and voice recognition technology to market. As far back as 2004, Bank of America trialled biometric security systems in select branches, and the introduction of similar such technologies to mobile represents something of logical next step for an industry in the midst of revolutionary change.

How to put it right
Mobile malware, susceptible Wi-Fi connections, third-party apps and unscrupulous user behaviour each threaten to compromise security, yet the scale of the issues are often misunderstood or misstated by consumers. The real problem for banks is not inadequate security in itself, but the perception that m-banking apps are without the requisite defences to keep private information confidential.

True, security is a concern for the banking public, though no more so than usability. Biometric technologies are as much about improving convenience as they are security, and it is for the former reason rather than the latter that many in the banking sector are looking to introduce measures that make mobile banking both safer and more immediately accessible.

“I think that there should be more discussion on usability vs security. And banks should also try to find a good balance between both”, said Sanchez. “The key is understanding that security is a business issue rather than an IT issue, because the risk of launching new mobile apps and services without very good security standards could result in a huge data security breach, which directly impacts the financial sector.”

Jacobi added: “Realistically, there is always going to be a balance between usability of mobile apps and security. Financial institutions have tended not to restrict account holder access, even from infected devices, to benefit from the satisfaction and loyalty that mobile banking fosters.”

The aim for those in the US banking sector, after all, is to bring more users to the fold. Security certainly factors into the equation when it comes to engaging with mobile banking, yet it is usability not safety that brings users to select one mobile app over another. With interpretations on the issue already skewed by a lopsided debate on the subject, the sector’s focus will continue to fall first on convenience and second on keeping confidential information secure.

Italy’s economy finally on the up thanks to EU deal

Posted on by Ashton Wenborn

Prime Minister Matteo Renzi has declared that “Italy is on the mend,” following a win with the EU Commission on more flexible deficit rules. The deal has secured an additional €17bn from the EU, which will contribute to spending and tax cuts that are planned for 2016.

“I say it without any problem and based on the figures: Italy has turned the corner. Full stop.” Renzi told daily newspaper, Il Foglio. “The economy is taking off and spending is growing. Something is changing.”

So far this year, Italy’s economy has shown indications that it is indeed on the path to recovery

Having greater tractability with the deficit rules will allow Italy manoeuvrability of approximately one percent of its GDP. Around €4bn of this will be spent on abolishing the widely unpopular tax on primary residences in 2016, which has already won the incumbent government greater popularity, according to recent polls.

In the second quarter of this year, Italy’s economy grew by 0.3 percent, greater than previous forecasts of 0.2 percent. Experts attribute this faster growth to a significant jump in industrial output, which had increased by 2.7 percent in comparison to the same period for 2014.  There has also been an increase in mortgage applications in 2015, as well as a decline in unemployment, a significant factor in Italy’s stagnating economy, which has the third highest level of youth unemployment in Europe, after Greece and Spain.

So far this year, Italy’s economy has shown indications that it is indeed on the path to recovery, with greater growth to be expected in the coming year if Renzi’s 2016 budget succeeds in encouraging more investment and spending. That being said, it is still too early to assess that Italy’s growth can continue at the current rate, particularly as its 44 percent youth unemployment rate is a formidable obstacle that has yet to be overcome.

Viva the printer! Why traditional publishing isn’t going anywhere

Posted on by Ashton Wenborn

For centuries, the printing industry flourished as consumers had increasingly more disposable income to spend on goods such as books and magazines. It was no coincidence that marketing became an integral aspect of business models, resulting in the proliferation of posters, leaflets, brochures, billboards and the like. While this was the case for the greater part of the 20th century, a throng of new challenges is permeating the print industry’s latest chapter.

Following the onset of the financial crisis and its subsequent long-term repercussions, advertising budgets were in many cases the first to face a trim. Magazines and newspapers, both large and small, have since contended with drastically reduced profit margins, while book publishers face their own myriad obstacles.

When the digital revolution first began making waves across the globe, the phrase ‘print is dead’ swept through the industry like a death sentence. Fresh content and breaking news became available at the touch of a button and if popular, reached the screens of millions within a matter of minutes. And as if the macroeconomic nuances were not enough to shake the industry (see Fig. 1), the internet has transformed consumer expectations, as well as the market itself. Nowadays, even with no training, anyone can conduct an effective marketing campaign. There are now countless possibilities for businesses to promote themselves at low or even zero cost, meaning that traditional platforms face considerable pressure to evolve, adapt or die.

Top five circulation of us dailies with paid tablet editions

115,890

Wall Street Journal

65,083

New York Times

38,502

New York Post

17,829

Wall Street Journal

115,890

San Francisco Chronicle

14,914

Houston Chronicle

Source: Alliance for audited media

Notes: Circulation average for six months to Sep 2014

Modern-day challenges
The printing industry plays a supporting role to every sector and market; all businesses, governmental bodies and educational enterprises require printed materials. As such, amid economic decline interlinked industries face proportionally bigger consequences than
their counterparts.

The result is far greater competition between printing firms, which is heightened further through globalised networks that can quickly locate the most cost-effective source.

“Companies are being forced to look at digital channels which can offer low unit cost communications. However, often these are not as effective and so a balance needs to be struck. More and more companies are realising the benefit of adapting multi-channel strategies, using a combination of traditional and digital print and e-delivery”, said Linda Bosch, Managing Director at MBA Group, a printing company that has evolved into a multi-channel communication business.

While the technology has developed, most notably from traditional press to inkjet printing that has enabled faster and cheaper production, the rate of global competition is too fierce to allow persistent price undercutting. Many have buckled, while others have compromised on quality. “It has put pressure on printers to be in tune with the world of IT and data management, and continuously keep abreast of new advancements”, Bosch told World Finance.

“This is not a small challenge for an industry that is multiple decades old. The investment in new technology and the ability to adapt to an ever-changing and challenged market has resulted in fewer traditional printers being available. It is practically unheard of for someone to set up business as a printer in today’s world.”

The primary function of printers has always been, and always will be, communication. Whether a message, story, a campaign, or an idea. Whereas historically this has been done via the printed word – the internet has brought forth new platforms for communication. As such, successful industry players are broadening their product offerings and portfolios considerably; not only do they provide the service of printing brochures, posters and books, they now offer creative solutions, consultancy services, project management and digital development. From website design to data management, traditional printers have placed themselves at the forefront of the communications industry.

They have become the one-stop shop for organisations, thereby allowing a multi-faceted, omni-channel communications approach. “Today, the various digital channels have brought the print industry opportunities, as opposed to threats. Printed communications are being integrated with digital mediums to provide a consistent brand experience centred on individual customers. It is like a partnership – you need both physical print and electronic communications to work together for them to be the most effective”, Bosch told World Finance.

The evolution of print
People are more in tune with marketing and advertising than ever before, and have a deeper understanding of what can be done, of what is already out there and the importance of standing out from the crowd. “Customers are a lot wiser nowadays, they are more aware of marketing techniques and increasingly expect their documents and communications to be unique to them as individuals”, said Jon Barratt, Marketing Manager at MBA Group.

This has made it necessary for printing firms to transition from a customer-driven to a customer-centric approach, meaning that not only must they provide for their clients’ communications needs, they have to know what these are before the customer knows themselves. As communication specialists, these firms have to stay ahead of the game in terms of the on going development of the digital world.

Most organisations are choosing to incorporate digital marketing in their strategies and are taking strides to broaden their online presence as they should – they would be foolish not to. The digital age is not a passing phase; it will continue to infiltrate more aspects of our lives and areas of business (see side bar). That being said, there is still a place for print – it has qualities that online counterparts can never have, by their very nature. “There is the tactility of print – one thing that digital has never really succeeded in replicating is the sensory experience, either replicating or providing an equally good alternative”, said Rob Orchard, Director of The Slow Journalism Company and Editorial Director of Delayed Gratification magazine.

Then there is permanence. Nowadays, content on the internet vanishes as fast as it appears. A swift scroll and its gone. Among the endless barrage of posts – in any format they happen to come in – it is increasingly difficult to see the wood from the trees, namely the valuable, interesting and informative from the time-wasters. Managing to catch consumer attention in a split second and then keeping it fixed is an unenviable task for marketing managers and individuals alike.

“If you want to stay on top of what’s happening, you could very easily spend every working hour of every day because there are live blogs updating from 10 different cities across the world at any one point. There are updates coming through from your favourite news resources straight to your phone, on Twitter, Facebook and RSS feeds. There’s a feeling of unmanageability, a feeling of this white noise of news media coming at you. And I think that print is a fantastic antidote for that because it is self contained, it’s limited and there is something quite comforting and calming about that”, said Orchard.

A book or a magazine has the lure of time. It’s content is unchanging and always accessible (unless physically discarded). It can sit on a shelf or in a study for months or years, tirelessly waiting to be devoured for the first or 100th time. “There is a permanence to print that digital doesn’t readily offer. I was told by a college student that ‘digital means impatient’, which I think refers to the impermanence of digital; once it’s off the screen, it’s out of sight in their minds”, said Gerald Richards, CEO of 826 National, a writing and publishing NGO based in the US. Consumers naturally spend more time reading the printed word than they do with digital content – taking their time to digest and understand, returning to the piece when necessary – simply, it holds their attention and is considered worthy of more time.

Publishers understand this crucial difference all too well and have adapted to it. As such, many publications now provide much more complex and involved offerings – writers have the opportunity to deeply explore a topic, rather than rapidly assimilate information about an event for online, while also catering to the SEO beast.

“Our slogan, which is on the spine of every magazine is, ‘last to breaking news’. It’s this idea of we’re not going to bring you the breaking story from Athens right now, but in three months time we are going to return to it with the benefit of hindsight and we’re going to give you an in depth look of how the situation has evolved over that period, which is going to give you a perspective that nobody else is in a beautiful print product”, added Orchard. And for writers, there is still something exciting about producing for print, for the same reasons as there have always been and even more so now because anyone can post online and publish their work to an audience.

US NEWSPAPER AD REVENUE

 

Co-habitation possible
“The print industry is going through a continuous transformation. There is no end destination – it is a never ending journey that requires continuous energy to embrace new technology and ensure that we keep in tune with our client’s needs and their customer’s wants”, Bosch explained. There is so much that print can offer, both to those who produce it and those who consume it, and it is still a vital tool in advertising.

In the practical sense, it offers information that is permanent and finite, and does not need electricity to be read. While the aesthetic value of printed materials means that they can decorate a home, an office or even a city. “There’s actually loads of ways that print is superior to digital and I think that the pendulum has really swung back a lot”, said Orchard.

Digital media on the other hand offers something very exciting – something that was never before possible. It gives every individual and organisation, no matter who they are, where they are, or how influential they are, a voice – one that can captivate millions and spread like wildfire across the entire world. It allows information and news to travel faster than ever before, enabling people to share and learn more than they could ever dream of prior to the internet. It’s a tool that can save lives and has changed the world.

The two worlds can live together symbiotically. Consumers enjoy, benefit and learn from both, while organisations can employ each for different reasons. Print and digital mediums can complement one another – technology doesn’t have to be a threat, but an opportunity. Each medium has its own merits and benefits, as well as its flaws; but where one fails, the other has in abundance.

Controlling high-frequency traders: can it be done?

Posted on by Ashton Wenborn

Black box trading, or high-frequency trading (HFT) as it is also known, is a divisive topic. Some see these automated systems as the future of the financial markets. Others, like Joe Saluzzi, an expert on algorithmic trading, sees the machines and the people behind them as parasites, which are not only destroying the stability of global financial markets from within, but also themselves.

“There is a host-parasite relationship”, he argued during an interview on the Peak Prosperity Podcast. “The host is the traditional order or the retail or institutional order. They will always lose. There is no doubt about it. The parasites are circling around that host all day long trying to find where they are going to take advantage of them – whether it is a VWAP order [Volume-Weighted Average Price] or something like that.”

The rhetoric might make these systems sound sinister, but they do possess a number of attributes that render the average investor a mere pawn in the market. One is their sheer scale, with HFT controlling a mammoth share of the market. In the US alone, it is estimated that HFT accounts for anywhere in the region of 50 to 70 percent of all equities volumes. Another is speed, with modern algorithmic trading systems capable of sending order executions in 740 nanoseconds (0.00074 milliseconds), which when compared to the average human reaction time of 0.30 seconds, it becomes clear that regular investors simply don’t stand a chance.

Many would argue that HFT is simply the new edge and that may be true. One industry insider, however, claims to have extensive experience with these black boxes and argues that for all the power it wields, HFT is extremely partial to ‘blowing up’. The real question, therefore, is: if HFT is inherently unstable, why are regulators not doing more to reign it in and why are investment managers like Leda Braga so bullish about the algorithmic trading strategies?

2007

China
Chinese collapse
Chinese stocks lost $140bn of value in the country’s biggest fall for a decade

2008

US
Failed bailout
The rejection of a $700bn government bailout saw the Dow drop 429 points in 6 minutes

2010

US
Flash crash
The Dow fell nearly 1,000 points in 30 mins, only to partially recover by the end of the day

Source: Reuters, Government of Canada, Globe and Mail Archives

Explaining the explosions
The author of Black Box Trading: Why They All ‘Blow-Up’ goes under the alias Dominique Dassault, and claims to have 26 years of institutional capital markets experience. Her blog post provides a fascinating insight into what is really going on inside these black boxes, and seemingly under the nose of regulators.

In the post, Dassault recalls a conversation that she had with a leading quantitative portfolio manager, who explained how despite their “obvious attributes”, speculative algo-trading systems are very difficult to control. He asserted that, while these algos may work effectively for a time, eventually, and seemingly inexplicably, they eventually ‘blow-up’. Meaning the most important part of HFT is not the stability of the model, but knowing when the model was about to fail, so you can pull the plug in time.

If this is true it seems strange that hedge funds and investment banks are even interested in HFT considering its tendency to tank. But when Dassault asked why money managers use HFT, he gave a rather candid response: “We are all doing this because we can all make a lot of money before they ‘blow-up’. And after they do ‘blow-up’ nobody can take the money back from us.”

He then informed her why these models eventually implode. “Because despite what we all want to believe about our own intellectual unique-ness, at its core, we are all doing the same thing. And when that occurs a lot of trades get too crowded… and when we all want to liquidate [these similar trades] at the same time… that’s when it gets very ugly.” Dassault noted that she was naïve to think otherwise. The key thing to take from all this is that the fallibility of humans will inevitably be incorporated into the algorithms they design and this poses a serious problem for regulators, as it is extremely hard to mitigate the risk that HFT presents.

In the past, when markets got a little too hectic, traders could always stop and take stock, giving the market time to self-correct and find its footing. Investors could always just stop buying or selling and just wait for the market to settle down a little.

But nowadays, with so much of the volume provided by machines, when markets get a little too chaotic, they tend to stay that way for longer, because HFT doesn’t tend to take a time out. When there are big swings in the market, this is where black box systems come into their own, adding to the unpredictability of financial markets in the process.

It is for this reason that a number of participants argue that a adequate level of human interaction in the market must be maintained, as without it the investing public would lose confidence that the market was a true representation of value. Instead, viewing it as a game of chance similar to a slot machine at a casino. In the world of black box trading, the only thing its designers can do when things go wrong is to pull the plug. “Pulling the plug, to me, was a tacit admission that the black box designers did not truly believe in their systems”, said Dassault. “If they did, then why pull the plug?”

In a highly volatile market, if HFT is left to run, the results can be tremendously varied and unpredictable. And while it may not always disrupt the market in a negative manner, it does have the power to cause flash crashes, which impacts overall investor confidence in the market and could even play a role in the next crash.

“When markets are dominated by algos, there is scope for positive feedback because they tend to copy one another – like humans but on a larger and faster timescale”, said David Orrell, an applied mathematician and author of Economyths. “This is especially dangerous when the firms employ a lot of leverage. But the problem isn’t just things like flash crashes, it is also a public perception that the markets are gamed.”

Crash course
In order to maintain investor confidence and market stability, regulators in the US and globally have investigated HFT to ensure that it isn’t abusing the market. Sadly, much of the action taken by regulator is reactive rather than preemptive.

“Sorry to say this, but I view the SEC as generally unimpressive”, said Dassault. “They are similar to the police. Typically, they show up after an event to clean up the mess. They seem to be very slow in their movements… they’ll [spend] five years trying to ‘figure out’ the flash crash, but they’ll never have a complete answer.” The event Dassault is referring to is of course the May 2010 flash crash, which saw the Dow Jones Index fall by 1,000 points in a matter of seconds. Many market participants and commentators simply stood in shock, quite unsure of what to do next, when, all of sudden, and almost as quickly as the market fell, it found its footing again – leaving onlookers stunned.

Initially, HFT was blamed for the crash, but nobody really knew for certain. Others thought that it was the result of what many in the industry call a ‘fat finger’ mistake. Needless to say, a joint investigation by the SEC and CFTC was launched, which six-months later was able to pinpoint the cause of the crash: the sale of 76,000 E-mini S&P 500 futures contracts by a large institutional investor, a move that was then mimicked by other algos in the market, driving the index down with it. It took five years before regulators managed to identify who they think the culprit of the crash was. Dubbed the “Hound of Hounslow” by the press, British-born investor Navinder Singh Sarao, was recently implicated by US prosecutors who accused him of triggering » the crash by manipulating markets on a massive scale. The fact that it took such a long time to catch up with the alleged market manipulator highlights just how in the dark regulators really are.

“As with most financial crashes, the exact cause is uncertain and has been blamed on a number of factors, but algorithms certainly played a part since they dominate most normal trading”, explained Orrell. Many just turned themselves off as prices began to fall.” It would be nice to think that the SEC-CFTC learnt something meaningful from the crash, but when they published their summary report, outlining their recommendations regarding regulatory responses, it showed just how in the dark both regulators are about the dominance of HFT in the market.

Yet, the main thing that regulators took away from the 2010 flash crash was that when the market is particularly volatile, the automated execution of a massive sell side order has the potential to cause large swings in price. Regulators were able to see how automated execution programmes like the one allegedly used by Sarou, along with HFT can almost instantly remove liquidity from markets.

The next flash highlighted just how sophisticated HFT has become. On April 23 2013, a tweet was published on an Associated Press Twitter account that claimed a massive explosion had gone off at the White House. Almost immediately, the Dow Jones reacted once again, but this time by just one percent, yet as before, quickly righted itself within a few minutes.

Uncertain results
Regulators are still unsure of what caused the mini flash crash, but some commentators believe that it is another example of HFT fuelling instability in the markets. If the crash was the result of HFT, then it proves just how sophisticated black box trading has become, capable of responding to news keywords at lighting speed. But responding fast, especially to false information, it is not necessarily something worthy of praise, as such drastic action merely helps to turn declines into crashes. A more recent example of a flash crash took place on October 15 2014 when prices of US Treasuries spiked up by over seven standard deviations, but were back to normal within 12 minutes. This time the US treasury jumped on board and collaborated with the SEC and CFTC to investigate the cause of the crash.

In the report, the regulators explained how ‘the market for US Treasury securities, futures, and other closely related financial markets, experienced an unusually high level of volatility and a very rapid round-trip in prices.’ What makes this crash stand out, however, is that the US Treasury market is accustomed to low-levels of market volatility. In the end, the report concluded that a combination of HFT, economic uncertainty, and larger trading volumes contributed to the crash – nothing new here then. But the regulators did pick up on a new risk that HFT brings to the market. It is known as ‘spoofing’, which is the name given to the process of competing algos bluffing trades back and fourth in an attempt to get the other to make a move in the market that can be capitalised on.

Once again, regulators were unable to reach a decision on how best to regulate the market and account for the disruptive nature of HFT: “The trend toward increasingly automated and algorithmic trading on trading platforms is being addressed by various regulatory efforts underway by the SEC, the CFTC and others”, claimed the report. “To further these steps, the public and private sectors must continue to work together to address the outstanding risks, including operational risks and risks that may harm liquidity provision or price discovery.”

After the 2010 crash, the SEC implemented market circuit breakers designed to stop trading for a short period of time in the event that the market began to run away from investors in an attempt to stop flash crashes occurring. But many see it as merely a band-aid for a much deeper laceration in the market. “I view them as an obtuse solution to a problem the [SEC] do not fully understand”, added Dassault. “Their view is that if a stock is too volatile it must halt trading. [But] this simply defers the ultimate price destination.”

Regulatory challenges
Technology has always driven innovation in financial markets. It has allowed for greater transparency, better communication, and lowered costs of doing business. Not only that, but during a time of increased regulation, technology has helped the industry to not just develop and grow, but thrive.

The fallibility of humans will inevitably be incorporated into the algorithms they design and this poses a serious problem for regulators

It is just one reason why regulators have been reluctant to implement strict rules around HFT, as despite its obvious flaws and the periodic risk it poses to the stability of the market, it – and the quants that program it – also bring many advantages. Yet, not everyone is so sure that the pros and cons level out. Orrell argues that quants do indeed add value to the market by calculating prices for financial instruments such as derivatives, which are used by a diverse range of firms and individuals.

But he also thinks that things get dangerous when they start developing complex new products and trading strategies that no one else can understand. “There are too many incentives in place for them to play down the risks when there are profits to be made”, he said. “Also the strategies often involve a lot of leverage, which is destabilising.

“Note the risks are asymmetric because there is a lot to be made in bonuses etc., but little chance of losing [directly] themselves because they can just walk away from the job if their bets go wrong.” The prevailing argument in certain circles is that HFT provides extra liquidity and reduced margins, but according to Orrell, most of the assets they deal in are pretty liquid to begin with, and the margin is complicated because it depends on whether traders can execute before the price shifts.

While he acknowledges that these issues are not very relevant for buy-and-hold investors. He believes that in the grand scheme of things, HFT manages to extract money from the market, which is why, despite its proclivity to ‘blow-up’; it remains a popular market strategy.

The challenge that regulators face is two fold. On one hand, they must try to identify where black box trading systems present genuine risks to the market and come up with suitable legislation to reduce said risk. While on the other, they must try to keep pace with the market, no matter how quickly HFT makes it move. Only then will they have the necessary powers to challenge trading activity that harms investor confidence and other market participants.

Keeping pace
Seeing the mountain that must be climbed is one thing, but actually conquering it is another entirely, and there are many with serious doubts about regulators’ ability to keep pace with automated trading systems. “The bottom line is the regulators are overmatched and they need to do something now”, contended Saluzzi. “And the option of getting up to speed probably is not in their budget right now.”

Regulators have always struggled to match the speed of the market, as these overseers, by their very nature, are reactive, but just because the SEC lacks the money necessary to build systems capable of monitoring HFT, the algorithmic trading expert offers up an interesting alternative.

As he sees it, the most contentious form of behaviour exhibited by black box trading platforms is ‘spoofing’ – the action of placing an order to buy, but immediately retracting the bid without filling the order, which is a form of market manipulation, as it tends to drive up securities price. He suggests limiting their ability to do so, by implementing a minimum life on orders.

“If I said to you, ‘We want a 50 millisecond minimum order time life, would that be a problem?’ I’d think it would not be a problem. Because, guess what? I just blink my eyes and it took me 200 milliseconds to do that. So 50 milliseconds really shouldn’t be that big of an issue. And there have actually been reports, studies by academics that have said, ‘Any order less than 50 milliseconds really does not contribute to any liquidity.’ So do not give me that you are going to be hurting liquidity.”

This could very well be an option and is one that has been floating around for some time, but coming from someone who refers to black box trading as parasitic in nature, means that they are probably not the best person to put forward the proposal. It is also wrong to demonise algorithmic trading. After all, HFT is just the new edge in a world dominated by technology and machines. Rather than worrying about whether or not it creates more or less stability for the financial markets, it is more important to have a backup plan if the market turns sour like it did in 2008.

One simple solution that has been proposed, but which has faced much push back from the members of the financial industry is the implementation of financial transaction tax (FTT). According to a 2009 report by The Centre for Economic and Policy Research, a 0.5 percent levy on all stock transactions would be capable of raising $110bn a year – even if trading fell back by 50 percent as a result of the tax. And while an FTT rate of 0.5 percent is relatively high, legislative action like this would help make up for regulatory incompetence and offer the market and wider society protection against black box blow-ups and other negative market forces.

How to navigate investor-state disputes settlement in Iran

Posted on by Ashton Wenborn

Iran qualifies in many respects to be a good location for foreign investment and doing business. Some of the features of the country which make it a heaven for foreign investors (FIs) include: strategic location, market potentials and proximity, labour privileges, developed infrastructure, low utility and production cost, abundant natural resources, climate conditions and fiscal incentives.

Despite the attractiveness of investment in Iran, in recent years the country was not in a satisfactory situation in respect of foreign investment. The main reason was the international sanctions imposed on Iran over the country’s nuclear issue. However, in recent years – with the new government coming into tenure – the country started negotiations with the P5+1 to solve the long-lasting dispute and to remove the sanctions accordingly. As a result of the negotiations, a preliminary agreement – officially titled the Joint Plan of Action – was made between Iran and the P5+1 group of countries in Geneva, Switzerland, on November 24 2013.

Despite the attractiveness of investment in Iran, in recent years the country was not in a satisfactory situation in respect of foreign investment

After the Geneva interim agreement, many experts predicted that foreign investors would return back to Iran for investment. In recognition of this fact, Sidar Global Advisors reported that, due to the deal, Iran oil sales went up – as well as interest in foreign investment. As predicted beforehand, after the interim agreement many FIs commenced their negotiations with regard to their aimed investment projects in order to be able to start investment in Iran after the final nuclear deal and consequent removal of sanctions.

Finally, On July 14 2015, after years of negotiations and discussions about Iran’s nuclear programme, Iran and its counter parts (China, France, Germany, Russia, the UK and the US) reached an agreement to adopt the Joint Comprehensive Plan of Action (JCPOA).

One of the main consequences of the JCPOA is lifting of the sanctions and allowing for foreign investment. However, potential FIs need to know what have been provided for settlement of disputes arising from foreign investments in Iranian laws and regulations.

On the one hand, many foreign investments made in the past led to disputes due to sanctions. On the other, new foreign investments that are increasing in the light of recent agreement depend on the knowledge of how to resolve the dispute – whereby enabling FIs to predict the future of their investment in case of dispute.

Among different types of foreign investment disputes, disputes between the host government and the FI are the most common. This type of dispute arises from violation of the mutual obligations by one of the parties within the framework of foreign investment.

Investor-state disputes settlement
In order to increase foreign investment in Iran, new foreign investment law, titled ‘Law of Foreign Investment Promotion and Protection’ (FIPPA) – which is currently enforceable – has been approved in 2002. FIPPA is applied to foreign investments that are carried out within its scope. In drafting FIPPA the importance of resolving disputes arising from investments is addressed. As a result, article 19 of FIPPA has been allocated to the settlement of disputes between the FIs and the government.

Article 19 of FIPPA provides that: “Disputes arising between the Government and the foreign investors with regard to their respective mutual obligation within the context of investments under this act, if not settled through negotiations, shall be referred to domestic courts, unless the law ratifying the bilateral investment agreement with the respective government of the foreign investor provides for another method for settlement of disputes.”

With respect to the article 19 of FIPPA, the following points are noticeable:

1) Article 19 of FIPPA includes all types of disputes between the government and the FI arising from investments (i.e. disputes arising out of fair compensation in case of expropriation).

2) Negotiation has been specified by the Iranian legislator as a primary means for settlement of disputes between the government and the FIs in order to be in the same line with international practice. However, the legislator didn’t specify a time period for the negotiation, which may entail conflicts in practice. A period of time should be specified for the negotiation – so if the negotiation doesn’t lead to an agreement within the specified time, the dispute could be settled through other methods (like court and arbitration).

Lacking a time limitation may create problems in practice – however, invoking to good faith rule may be a solution. Parties could continue negotiation as long as they perform such negotiation in good faith, and when one party fails to negotiate in good faith, the other party could refer the dispute to the said authorities.

3) If the parties have not reached an agreement by the negotiation, the dispute will be settled by Iranian domestic courts, unless there is a bilateral investment agreement between the home state of the FI and Iran stipulating another method (like arbitration) for settlement of disputes. Article 19 of FIPPA refers only to the bilateral investment agreements (BITs) and has not mentioned multilateral investment agreements (MIAs); however this cannot affect credibility of the other methods foreseen in the MIAs and does not preclude resorting to MIAs. The reason is MIAs have international credibility and their violation leads to international responsibility of the breaching party.

Finally, it should be noted – as article 19 of FIPPA is one the most important provisions with regard to investor-state disputes settlement in the mainland of Iran – in entering into investment contracts with Iran, FIs should also consider other related laws and regulations such as foreign investment treaties between Iran and their home countries, Article 139 of The Constitution law and Free trade and special economic zones laws and regulations.

Ali Darzi is a legal and contracts specialist at Shahid Bahonar Copper Industries Company

For further information, email a.darzi@yahoo.com

M&A activity surges to record levels

Posted on by Ashton Wenborn

With stock markets hitting severe turbulence in August, many observers expected a level of restraint by big firms around the world. However, according to research by mergers analyst Dealogic, August represented the busiest on record for M&A deals in US history, continuing a trend of strong activity throughout this year.

Activity for this year has already surpassed $3trn, according to
Thomson Reuters

Activity for this year has already surpassed $3trn, according to Thomson Reuters – which is the highest amount since pre-crisis levels in 2007. According to the Financial Times, recent M&A deals include US private equity giant Blackstone’s $6bn deal to acquire hotel group Strategic Hotels, as well as Japanese conglomerate Mitsui Sumitomo’s $5.3bn offer for British insurance firm Amlin. In the UK alone, deals surged to over £260bn, including the recent £6bn merger between betting companies Paddy Power and Betfair.

One area experiencing considerable consolidation is the technology sector. According to Dealogic, global M&A activity hit $1.9bn earlier this month for 2015 so far, which is up 23 percent on the same period in 2014. This represents the highest level since the tech bubble of 2000. Deals include eBay’s spinning off of Paypal for $49.2bn, which completed in July. Avago Technologies has also bid $36.6bn for Broadcom, which is pending approval.

While high levels of M&A could be seen as a reflection of confidence within many markets, they may also represent a desire to consolidate industries in the face of uncertain economic conditions in the coming months.

Speaking to the Financial Times, Chris Ventresca, JP Morgan’s global co-head of M&A, said that many of these mergers could be to create larger firms more resistant to market volatility. “While market volatility generally dampens M&A activity, for some deals it may make sellers more willing to transact to protect value for their shareholders or consider merging to create a larger, more stable pro forma company.”

A history of foreign exchange

Posted on by Ashton Wenborn

1875

Before 1875, a double standard for silver and gold was used for international payments, causing difficulties when their value rose and fell as a result of supply and demand. To eradicate this, the gold standard was informally created, guaranteeing the two-way conversion of currency into a set amount of gold. The world’s major economies pegged a specific amount of respective currencies to an ounce of gold – the difference in price became their exchange rates.

1900

Following the rejection of the proposed international bimetallic standard by the British, the US finally embraced the gold standard on an official basis. US President William McKinley signed the Gold Standard Act and established that gold was the only reserve accepted for redeeming coinage and paper currency, thereby bringing an end to bimetallism. After this, every dollar issued by the US was equivalent to the value of 23.22 grains of gold.

1933

The gold system started to break down during the Second World War when European powers printed more money than they had in gold reserves to fund military projects. The financial crisis of 1933, during which large volumes of gold flowed out of the US Federal Reserve, led to the US stating it could no longer fulfil convert currency into gold. The Gold Standard ended when US President Franklin Roosevelt made the private ownership of gold illegal, except in the case of jewellery.

1944

Over 700 delegates met at the UN Monetary and Financial Conference in New Hampshire to fill the vacuum left behind by the Gold Standard. A mechanism for fixed exchange rates was established with the appointment of the US dollar as the international reserve currency. It was decided that international agencies would be created in order to monitor economic activity across the globe. Representatives of 45 countries signed the agreement and the Bretton Woods System was born.

1945

The Second World War ended in September, allowing the Bretton Woods System full reign. Fixed at $35 per ounce, the US dollar quickly gained traction as an international reserve currency. While the world had begun the painstaking process of economic recovery, the International Bank for Reconstruction and Development was founded to offer financial assistance. Problems resurfaced as surpluses in US trade soon led to a shortage in dollars overseas.

1947

The IMF became operational, acting as a supranational body to promote global monetary cooperation and provide loans to developing nations. The General Agreement on Tariffs and Trade was also signed with the aim of stimulating international trade. Yet, trouble in the system began as military spending, foreign aid and international investment in the 1960s meant that the US no longer held the reserves necessary to cover the volume of dollars in circulation around the world.

1971

US President Richard Nixon announced his new economic programme, known as the ‘Nixon Shock’. The US refused to exchange US dollars for gold, marking the end of the Bretton Woods system. After months of negotiations, the Smithsonian Agreement was ratified and had established a new set of fixed exchange rates based on the devalued dollar. Despite being heralded for its significance in financial history, the Smithsonian Agreement began to break down a year later.

1976

Following the collapse of the Smithsonian exchange rate system, IMF members met in Jamaica to agree on a new international monetary framework. The Jamaica Agreement abolished gold as a reserve asset and formalised the floating exchange rate system that survives to this day. Countries around the world have since chosen their own method of fixed or floating, allowing either central banks or demand to determine exchange rates.

As Russia’s legal problems mount up, is it judgement day for Putin?

Posted on by Ashton Wenborn

To read the international press, one would think that the last two years have been good ones for Russian President Vladimir Putin. His campaign in Ukraine has largely achieved its main goals; Russia has wrested control of Crimea and destabilised large portions of the rest of the country. Plunging oil prices may have wreaked havoc on Russia’s finances, but so far Putin’s popularity seems unaffected.

But a long stream of little-remarked-upon legal defeats could have a dramatic impact on Putin’s fortunes. In 2014, for example, the European Court of Human Rights (ECHR) delivered 129 judgments against Russia, and in January, the Council of Europe deprived Russia of its voting rights for its violations of international law. As rulings pile up, they are starting to pose a threat to Russia’s international standing, its financial health, and Putin himself.

129

ECHR judgements against Russia in 2014

Judgment days
The rulings have not been merely symbolic. In July 2014, the Permanent Court for Arbitration in The Hague ordered Russia to pay $50bn to former shareholders of the oil company Yukos for having illegally bankrupted the firm and distributed its assets to Rosneft, a state-owned producer. At its peak in 2003, Yukos was valued at $30bn. The judgment is the largest ever awarded by the arbitration court, and it cannot be appealed. France and Belgium have begun seizing Russian assets to enforce the judgment.

In a separate case, in June 2014 the ECHR ordered Russia to pay Yukos’s shareholders more than $2bn “in respect of pecuniary damage”. This judgment was also the largest in that court’s history. Russia, which is in the midst of a liquidity crisis, will struggle to raise such huge sums; failure to comply, however, would jeopardise future foreign investments.

The Yukos case could be a sign of things to come. In April, the European Commission issued a Statement of Objections to Russian gas giant Gazprom, charging it with violating Europe’s antitrust laws by partitioning Central and Eastern European gas markets, forbidding cross-border resale, and closing its pipelines to third parties. Gazprom faces a fine of 10 percent of its revenues, which totalled $177bn in its last fiscal year. Already struggling with low gas prices, increased competition, and now falling production Gazprom will be hard pressed to come up with the necessary funds without sacrificing urgent infrastructure projects.

Criminal conduct
Russia is also coming under increased pressure regarding alleged criminal conduct. Indeed, it recently vetoed a Security Council resolution, sought by Malaysia, Ukraine, the Netherlands, Australia, and Belgium, to establish a criminal tribunal to prosecute those responsible for the downing of Malaysia Airlines Flight 17 in July 2014 over rebel-occupied territory in Eastern Ukraine.

Evidence gathered by the five countries points to a missile fired from a Russian BUK system operated by a Russian crew.

Were Russian guilt for the downing of Malaysia Airlines Flight 17 to be established, Putin’s depiction of his country as a bystander in the Ukrainian conflict would be exposed as a lie. In any case, Russia’s veto in the Security Council is a tacit admission of guilt, opening the door for the Netherlands – which lost the most citizens in the attack – to push for additional sanctions.

Meanwhile, in July 2014, the UK reinstated a legal inquiry into the November 2006 polonium poisoning of Alexander Litvinenko, a former Russian state security officer who had become a UK citizen. Public hearings were held in London to identify “where responsibility for the death lies”. The inquiry devoted particular attention to a Russian law passed in March 2006 allowing the state to kill those, such as Litvinenko, deemed to jeopardise national security.

A ruling by a British court that the Russian government ordered or abetted the murder of Litvinenko would have far-reaching consequences. The verdict would lend credibility to other charges of criminality, such as the bombing of four Russian apartment blocks in 1999 and the murders of several investigative journalists. It would also strengthen the European Parliament’s call for an independent international investigation of the murder of the Russian opposition political leader, former-Deputy Prime Minister Boris Nemtsov, and bolster his family’s petition for an international investigation.

The annexation of Crimea
Finally, while Russia has established de facto control of Crimea, it is likely to find itself increasingly embroiled in legal challenges to its presence there. No credible government or international organisation accepts Russia’s description of the annexation as a legal democratic act by the Crimean people. The United Nations, the G-7, the EU, and the US all characterise it as an illegal act. In May, German Chancellor Angela Merkel described it – in Putin’s presence – as “criminal and illegal under international law”.

In June, Ukraine presented Russia with a 17-volume calculation of its losses from the annexation of Crimea, totalling nearly $90bn. Additional losses could be billed for the Russian-supported war in Southeast Ukraine, which has led to 6,000 deaths and large-scale damage to infrastructure. Russia is certain to find itself mired in years of legal battles in venues like the ECHR and the International Centre for the Settlement of Investment Disputes. These endless legal challenges will scare off investment in Crimea, requiring Russia to subsidise its occupation for years to come.

Putin has overplayed his hand. In addition to its exposure to liability for damage caused during the conflict in Ukraine, Russia faces legal penalties totalling roughly four percent of its GDP – roughly what it spends on education. Putin may have been able to bring his country’s legal system under his control, but he remains vulnerable to international rulings. With Russia too enmeshed in the international legal and financial system to cut ties and become a rogue state, its president is increasingly likely to face the consequences of his actions.

Did Gazprom gazump the competition?

The dominant gas supplier in several countries across Central and Eastern Europe, Gazprom is under investigation by the EU Commission for what it describes as “hindering competition” in the gas markets of Bulgaria, the Czech Republic, Estonia, Hungary, Latvia, Lithuania, Poland and Slovakia. In particular, the commission details the following:

“Gazprom imposes territorial restrictions in its supply agreements with wholesalers and with some industrial customers in above countries. These restrictions include export bans and clauses requiring the purchased gas to be used in a specific territory (destination clauses). Gazprom has also used other measures that prevented the cross-border flow of gas, such as obliging wholesalers to obtain Gazprom’s agreement to export gas and refusing under certain circumstances to change the location to which the gas should be delivered. The Commission considers these measures prevent the free trade of gas within the European Economic Area.”

“These territorial restrictions may result in higher gas prices and allow Gazprom to pursue an unfair pricing policy in five Member States (Bulgaria, Estonia, Latvia, Lithuania and Poland), charging prices to wholesalers that are significantly higher compared to Gazprom’s costs or to benchmark prices. These unfair prices result partly from Gazprom’s price formulae that index gas prices in supply contracts to a basket of oil product prices and have unduly favoured Gazprom over its customers.”

“Gazprom may be leveraging its dominant market position by making gas supplies to Bulgaria and Poland conditional on obtaining unrelated commitments from wholesalers concerning gas transport infrastructure. For example, gas supplies were made dependent on investments in a pipeline project promoted by Gazprom or accepting Gazprom reinforcing its control over a pipeline.”

Source: European Commission

Paul Gregory is Professor of Economics at the University of Houston

© Project Syndicate 2015

China considers new stability plans

Posted on by Ashton Wenborn

Chinese equities have faced a turbulent summer. Wild fluctuations in prices set off alarm bells in global markets, as well as forcing the Chinese government to step in, in an attempt to enforce stability. Through banning selling by major shareholders, to state agencies and state owned enterprises buying up falling stock, government efforts racked up a bill of $236bn. China now, however, has come up with a more permanent solution to its stock market swings, with plans for instituting a “circuit breaker” mechanism.

The Chinese equity market is particularly prone to panic buys and sells

The mechanism would see a temporary halt on trading whenever market price sees either a five percent bull or bear. According to the draft plans, this could only happen once a day. Further, a market index swing, up or down, of seven percent or greater would see trading closed for the rest of the day. According to state-owned news agency Xinhua, “China’s stock exchanges on Monday began soliciting public opinion on an index circuit breaker system,” and will continue to do so until September 21.

Commenting on the system, Yang Delong, Chief Strategy Analyst at the Southern Fund, said: “the A-share market has seen violent plunges recently, and with the circuit breaker mechanism investors would have a cooling period before taking irrational actions”.

The Chinese equity market is particularly prone to panic buys and sells due to being dominated by individual sellers that are more jittery and often do not consider the fundamentals of certain company stock due to a mistrust in the public financial reports of firms. Such a “circuit breaker” then, could provide much needed stability.

The Chinese government is also using tax incentives to encourage longer-term investment strategies. Any investor who holds on to a share for more than a year is to be exempt from the five percent dividend tax. Selling a month or sooner after purchase will incur a 20 percent dividend tax, while holding a share from between a month to a year will see a rate of 10 percent.

Yanis the dynamis: a look at Varoufakis’ time in power

Posted on by Ashton Wenborn

On July 5 2015, after months of tense negotiations between Greek government officials and European leaders, the Greek population voted in a historic referendum. Asked whether or not to accept certain austerity conditions and unlock bailout funds, the people of Greece overwhelmingly voted no. This, at the time, was lauded as a big victory for the Syriza Government, which called for the referendum in the first place and urged a ‘no’ vote. However, one man in the government – though pleased with the outcome – reacted in an unexpected way. The morning after the result was announced, Yanis Varoufakis announced his resignation as Minister of Finance.

Upon entering government, Varoufakis immediately became a media sensation, riding his motorcycle to meetings and appearing next to European leaders sporting an unbuttoned shirt and boots. As Suzanne Moore wrote in The Guardian, “Clearly, in the world of Eurocracy, to not wear a tie is radical. Or rude. Or both. Sometimes he wore a leather jacket. Or a Barbour, or a shirt that was perhaps a little bit too tight. He signalled simply that he was not another ‘suit’, and made the rest of them look stuffy, uptight and clonish.”

Varoufakis seemed to revel in the role he had created for himself, happy in his status as the arch-enemy of Brussels and Berlin

Varoufakis seemed to revel in the role he had created for himself, happy in his status as the arch enemy of Brussels and Berlin. In a post on his personal blog, the former minister hailed the referendum result as “a unique moment when a small European nation rose up against debt-bondage”, urging that “the splendid ‘no’ vote” be used by the Syriza-led government to secure “an agreement that involves debt restructuring, less austerity, redistribution in favour of the needy, and real reforms.”

He went on, however, to claim that this would best be achieved without him in the role of Finance Minister, adding that he had been made aware that his absence from any further negotiations would strengthen the country’s bargaining position. So, in the hope of Greece securing the best possible outcome from future talks, he, along with Prime Minister Alexis Tsapris, felt it best for him to resign immediately. “We of the left know how to act collectively, with no care for the privileges of office”, he said.

From activist to academic
Before irking the most powerful men and women in Europe, Varoufakis was a relatively obscure economist. Born to a politically active family, his father was a communist veteran of Greece’s civil war, and later an activist in the centre-left Panhellenic Socialist Movement (PASOK). At a young age, Varoufakis helped set up the youth group of PASOK, and as a teenager he developed an interest in the Irish Republican Army, supporting the Troops Out Movement, which advocated an end to British military presence in Northern Ireland.

After gaining a PhD from the University of Essex, Varoufakis went on to hold a number of teaching positions at universities around the world, before returning to his native Greece and taking up a position at the University of Athens. In the early 2000s, he made his first foray into politics, acting as advisor to George Papandreou’s PASOK government, ironically the same government that created much of the mess Varoufakis would later take on the role of trying to fix.

In late 2011, he was headhunted by Gabe Newell, CEO of Valve Software, where they were having trouble scaling up virtual economies on their platforms. This led to him being hired in 2012 as the economist-in-residence at Valve, where he researched for Steam and its virtual economy, which he detailed in a blog.

Speaking to The New Economy while at Valve in 2013, Varoufakis’ disdain for conventional economics and its practitioners, for which he would later become world famous, was already clear: “After the crash of 2008, we have no excuse to continue living in hope that economic models can be as useful to the social theorist as mathematical physics is in helping explain the universe. Economics resembles a religion with meaningless equations and fruitless statistical models.” He would later express his view on the current state of economics further in his 2013 book The Global Minotaur: America, the True Origins of the Financial Crisis and the Future of the World Economy. Prior to this, he had penned a number of other books, but the larger part of his work was academic, concerning the finer details of game theory economics, which had little readership outside of academic circles.

The Global Minotaur, which takes a long view of how the 2008 economic crisis developed over the centuries, takes aim at US hegemony and economic policies, and was printed by Zed Books, a publisher known for its left-wing output. This helped propel Varoufakis to the forefront of left-wing thinking in Europe. The premise of the book is that the US economy is reliant upon the primacy of the global economic dollar surplus. While the US enjoyed the position of the global surplus economy since becoming a debtor nation in the 1970s, a huge part of the world’s capital flows were being sucked in, leading to financialisation and the creation of various Wall Street bubbles.

Dealing with negative press
Although he never actually joined Syriza, he became one of the most familiar faces of the government it formed. In his first few days in government, the British press was ablaze with intrigue about the man meeting top UK cabinet ministers. Though generally calm and self-effacing in the spotlight, he did attract criticism for posing with his wife in a luxurious photoshoot in a French magazine – something he later regretted.

His biggest critics, however, were those he was tasked to negotiate with. Sticking to his guns over his core belief in the need for Greek debt relief, various finance ministers and other European leaders openly expressed their disdain for the motorbike-riding renegade.

Varoufakis seemed to revel in the role he had created for himself, happy in his status as the arch enemy of Brussels and Berlin. He often took to Twitter to voice his disdain for European officials; after one conference he not so subtly quoted Franklin Roosevelt, saying: “They are unanimous in their hatred of me… and I welcome their hatred.” His relationship with the German Finance Minister was particularly rocky, saying once: “We didn’t even agree to disagree.” In his resignation blog post, he boasted that he would “wear the creditors’ loathing with pride”. He maintained his maverick status to the end, giving his resignation conference in casual attire, later to be photographed in a bar drinking beer with friends.

Despite the shortness of his time in power, his personality, politics and charisma mean he will be remembered for as long as the crisis in Greece continues. With a CV consisting of various academic posts, employment by one of the largest gaming companies in the world, and a starring role in attempting to remedy the biggest crisis the EU has ever faced, Varoufakis is sure to have plenty of options for his next move. Few, however, would bet on a predictable turn.

Saudi Hollandi Bank promotes the growth of the Kingdom’s economy

Posted on by Ashton Wenborn

In recent years, the Saudi Arabian economy has begun a period of transformation. Both the government and the private sector are realigning their sights on untapped markets and industries as part of an effort to diversify the country’s oil-based economy. The result has been a fast-paced development of the state’s infrastructure and the creation of new opportunities for corporations of all shapes and size. In turn, this economic shift has had a drastic impact on the Saudi banking industry, which is in a state of expansion.

As such, banking in the country continues to go from strength to strength, being driven forward by growing confidence and recent innovations in technology. Moreover, the Saudi Government is firmly committed to driving the financial industry forward through the implementation of a new regulatory framework and support.

Even with the strides already taken in Saudi banking, there is still a great deal of the market that has not yet been reached. This is especially true because Saudi banks are still underbranched at present, particularly in the country’s most remote areas. Leading the trend in offering an expanding network and meeting evolving customer demands is Saudi Hollandi Bank (SHB), the longest-established provider of financial products in Saudi Arabia. With a focus encompassing the entire spectrum, from big organisations to individuals, SHB is at the forefront of understanding customers and providing adept solutions. World Finance spoke with the company’s CEO, Dr Bernd van Linder, about the expansion of Saudi Arabia’s financial industry and how the bank is preparing for a new economic era in the Kingdom.

Saudi Hollandi Bank

1926

Founded

1,637

Employees

56

Branches

SAR 1.82bn

Net income

SAR 65.15bn

Loans and advances

SAR 96.62bn

Total assets

Notes: Figures from year ending 2014

Tell us briefly about the recent growth of the Saudi Arabian banking industry
The Saudi Arabian economy reported 3.59 percent growth in the first quarter of this year. Combined with strong producer and consumer confidence, this growth underpins a resilient and expanding banking sector. The government’s investment in infrastructure projects and its strategy of diversifying the Kingdom’s oil-based economy is creating more opportunities for private and public sector companies as well as for individuals and their families. The Saudi banks have an important role to play here, supporting large project financing, large, small- and medium-sized enterprises (SMEs), and the growing wealth of the Kingdom’s population.

We are seeing particular growth in areas where the government is focusing its energy in supporting smaller businesses and entrepreneurs, such as SMEs, and in the encouragement of home ownership by individuals. Working in partnership with the government to provide banking services to small companies, while offering additional finance to Saudi families on top of government provided housing loans, means that the banking sector is broadening its services and deepening its impact.

How significant is personal banking for the industry’s ongoing development?
When you consider that the Kingdom is still underbranched compared to other countries, particularly in remote areas away from the major cities, the opportunity is very significant. Because of this, banks have expended their physical presence. For our part, we have grown our branch network by 20 percent over the last year and almost doubled our ATM network over the last two years. We expect this type of growth to be common across the industry in the coming years.

However, it is not just about physical presence in the retail market. The key will be to successfully integrate branch services seamlessly with other channels. Customers should expect to be able to initiate a transaction using one channel and finish it on another, without having to restart or duplicate their activities. Of course, branches will continue to play an important role in the future, but as one part of the overall customer experience rather than as the sole or even the main point of interaction.

All of this is being driven by customer demand and a growing sophistication in customer expectations, encouraged and enabled by technology. As a whole, the industry has seen significant growth in retail banking over the last year and we expect to see that trend continue.

What are the major opportunities and challenges in this area?
Clearly, with the government’s commitment to continue to invest in the economy and its support for private enterprise and families alike, we expect there to be opportunities across the whole spectrum of corporate and retail client segments. Although growth is likely to be strong in all segments, we expect it to be particularly material in the segment of SMEs. We also see an opportunity to help customers in this sector from the perspective of advice, as well as finance. Many entrepreneurs are growing their businesses fast without any previous experience so we are providing structured advisory assistance to them in addition to providing the full range of banking services.

But there are challenges. Competitive pressures are always present and margins are tightening, and we see this intensifying as every bank is recognising the potential of this market. And as technology evolves and customer expectations become more defined and sophisticated, there will be pressure on the banking industry to address these issues quickly and design new services and channels efficiently and securely.

How is SHB preparing for future changes?
We are already known as a force in corporate banking, and we will continue to expand our business with large corporates, but mindful of the trends I mentioned earlier, we have also made significant investment in our support for SMEs and individuals.

We are growing our presence in both of these areas and are proud to have already been recognised for our work through a number of awards. By focusing on providing the solutions we know these customers need to grow their own businesses or manage their personal financial assets, we aim to become the bank the Kingdom always chooses.

What is it that differentiates SHB from others in the industry?
Founded in 1926, SHB was the first bank to operate in the Kingdom and acted as the de facto central bank for some time. So a major differentiator for us is the length of our involvement supporting the Kingdom, its companies, individuals and communities. This brings with it deep knowledge and understanding of the fundamentals that drive every customer segment. We know our customers; we know their requirements, and we are able to provide solutions to meet those requirements. Our customers in turn know that Saudi Hollandi is a bank that will stand by them through economic cycles.

But we don’t rest on our laurels. We know that customers want to access the products and services they need quickly, easily and securely. So we listen to them and create ways to deepen our relationships using a mix of the latest technology, specialised customer service and streamlined processes. From extensive internet banking and our smartphone app, to more ATM services and business banking centres, our corporate, institutional, SME and individual customers can connect to us in even more convenient ways.

This is helping to build real customer loyalty and we are always looking for ways to deepen and reward this. To make our retail offerings more attractive, for example, we have a unique bank-wide rewards programme, which gives customers value at each touch point, earning points when they apply for any product or use an alternative delivery channel, such as internet banking or our mobile app. We want to give our customers something back to thank them for their usage of our products and channels.

Customer deposits, sar billions

2010

41.60

2011

44.68

2012

53.19

2013

61.87

2014

76.81

How does the country’s banking industry compare with other nations in the region?
The sheer scale of the Saudi economy, and the country itself, marks it out from its near neighbours and so poses many more opportunities for growth as well as different challenges in terms of physical reach and service provision. The government has worked hard to establish an effective and robust regulatory regime and today the two main bodies – Saudi Arabian Monetary Agency (SAMA) and the Capital Market Authority (CMA) – are recognised internationally for their strong guidance and support. In fact, today the Kingdom’s banks and financial institutions are at the leading edge of compliance with global banking standards.

This has ensured that the sector has grown steadily and carefully; an approach that is being reflected in the opening of local financial markets to international investors. An exciting development for local institutions and their stakeholders.

Broadly speaking, the Kingdom is relatively underbranched, when compared to similar markets in the region or outside. But we, like others, are addressing this, as I mentioned earlier. Otherwise, the challenges that banks face around the world, not just here in the Gulf, are common to all. Competition, quality of service, channel expansion; just a few of the challenges that banks and their customers worry about.

What role has technology played in the industry’s development?
Since the earliest days of electronic payments and transfers, technological advancements have driven changes in the banking industry at a rapid pace and the banks that have adapted to these quickly have been able to maintain the loyalty of their customers. That trend is still true today. We are now in an age where formal and informal information flows are instantaneous and customers expect to be able to react using the channels they find most convenient. From simple deposit placing, to bill payment, to asset management, our customers expect to be able to transact online and via apps as well as in our branches. So we make continual investments in our current platforms as well as in the work we do to build the channels of the future.

Technology has noticeably transformed the retail banking market and it is a key success factor in preparing and launching any new product for our customers. Used well, and of course marketed and explained well, technology can make banking straightforward and easy and it is a cornerstone of our connectivity to customers of every size and ambition. Consequently, its latest applications are at the core of the training programmes we run for our bankers and their teams.

Can you expand on the importance of multi-channel solutions in the banking industry?
Even though we believe that physical branches continue to play an important role in customer interaction, primarily at the time of customer acquisition, and we expect the number of bank branches in the Kingdom to continue to grow over the coming years, the key will be to have these branches integrate seamlessly with other channels.

Customers want options, so we have to provide them. It is as simple as that. And today technology allows us to develop channels to allow them to access their bank in ever more easy ways.

What examples can you give where technology has helped grow your business?
A great example is our new bank-wide rewards programme. Customers accrue points through their usage of our products and services and use technology for online redemption of these points with vouchers from partner organisations. This also allows us to monitor customer behaviours and trends, which is useful feedback for future tailoring of our services.

Also, recently we launched a completely revamped internet banking system for our corporate customers, which offers many new administration, transaction and global trade services. And we similarly made advances in personal banking to simplify transaction flows and further widen services such as e-statements for loans and mortgages and for registration with credit cards.

One very popular service has been our mobile banking app, which enables customers to perform their essential daily banking transactions on the go. This has already attracted nearly 20 percent of our customers and we expect that percentage to continue to grow during the year. We are also working on the next generation of our mobile app with different designs for smartphones and tablets that include a number of exciting innovations.

How significant has the opening of the stock market to foreign investors been for the banking industry and the economy?
This move has been much anticipated both in the Kingdom and abroad and comes at a time of a strong economy and a growing financial sector. The opportunity is clear – the Saudi stock market capitalisation is larger than all the other GCC stock markets combined and is likely to prove an attractive option for investors wishing to gain direct access to the Kingdom’s growth story. For example, the local insurance market is the second-fastest growing in the GCC and has good potential for further gains due to its low penetration levels, according to Moody’s Investors Service.

The opening of the Saudi market will widen the foreign investor base, which is currently less than one percent of total holdings. Given the size and depth of the market, it is expected that the Kingdom will be included in the main emerging markets benchmark indices in the future, attracting further interest.

This exciting development is being handled with care and caution by the well-regarded regulators and very clear rules have been put in place to ensure that investors with longer-term interest are prevalent.

3.59%

Growth of the Saudi Arabian economy, Q1 2015

What are some of the current opportunities for foreign investors in Saudi Arabia?
Encouraged by robust GDP growth and macroeconomic stability, both producer and consumer confidence are well above the regional average. Growing private credit and increased public expenditures (see Fig. 1) on infrastructure and other projects provide a broad basis for robust opportunities in Saudi Arabia, and these are translating into particularly strong and sustained growth in domestic demand.

The Kingdom itself has never been more committed to supporting economic growth. As wealth reaches previously less developed areas of the country, attractive opportunities are emerging to cater to pent-up demands in sectors such as healthcare, power and water, and consumer goods.

As the region’s largest economy (see Fig. 2) and the world’s 19th largest exporter, the sheer size of the markets that Saudi-based companies serve is a competitive advantage, allowing Saudi businesses to benefit from economies of scale. With excellent access to Saudi and other MENA markets, as well as the advanced and emerging economies of nearby Europe and Asia, market exposure for Saudi-based companies is not only vast but also highly diversified.

How important has regulation been in facilitating this growth?
The regulators have played a key role in ensuring that the Kingdom’s growth is controlled and well-managed. This applies, for example, to the way in which banks provide the services the Kingdom needs and the very high levels of capital strength with which they are expected to comply.

How would you say Saudi Arabia’s corporate governance standards stack up against those in neighbouring nations?
In Saudi Arabia, corporate governance standards are already high and effort is now being applied to intensify compliance with the opening of the markets to foreign investment. The CMA is continually focused on ensuring compliance, strengthened controls and improved transparency. As a result, listed corporates and banks are exercising great diligence in managing their affairs.

According to the Hawkamah Institute for Corporate Governance, its ESG index, which measures the environmental, social and governance attributes of publicly traded companies in the MENA region, has shown good results for Saudi Arabia. Another attractive trait for international investors.

What are SHB’s ambitions for the future?
We aim to be the bank the Kingdom always chooses and will continue to work hard to that end. There are three key drivers of our approach: efficiency and capital strength, investment in our core businesses and a single-minded focus on our customers. Together with the strong internal culture that helps customers realise every opportunity, these cornerstones will ensure that we continue to grow and to broaden our market presence.

BOD Financial Group harnesses opportunities in Latin America

Posted on by Ashton Wenborn

A slow and uneven recovery throughout much of Latin America has intensified the challenges for financial services, and with the global commodities boom having faded and FDI struggling, the responsibility has gone on to local names to harness growth opportunities from within. Nowhere else is this challenge more pronounced than in the banking sector, which has been tasked with managing the region’s changed economic circumstances and serving a community for whom opportunities come less easily as they perhaps have done in the past.

Recently, the banking system has undergone a series of extraordinary changes, though the challenges facing the industry at present ask that they understand the changing nature of risk and get to grips with a marketplace no longer flush with hot prospects. In meeting the challenges and opportunities of the day, certain names have taken the lead and done much to push the latest developments.

[BOD Financial Group], which is among the six largest issuers of American Express cards in the world, has globally grown exponentially, rising 430 places in the Global 2000 list published
by Forbes

BOD Financial Group, for example, is proof that a sound financial footing and a commitment to the community are essential. However, this commitment is one that must come from the top and extend to all areas of the business, if only to make a real and measurable difference, and unfortunately such an attitude is rare.

The history of BOD Financial Group is closely linked to Victor Vargas, its President and an experienced Latin American businessman. A career highlight has been to transform the previously regional bank into the fourth largest financial institution in Venezuela. In addition, over the course of these past two decades Vargas has managed to build BOD into the 34th biggest financial institution in Latin America, according to The Biggest 250 Banks in Latin America report, published by América Economía earlier this year.

The bank, which is among the six largest issuers of American Express cards in the world, has globally grown exponentially, rising 430 places in the Global 2000 list published by Forbes, according to which BOD is the 1,407th most valuable company in the world. Currently, the business generated by the group exceeds $25bn and provides work for over 14,000 people across Latin America.

A history of growth
Victor Vargas’ career as a banker began at a young age. He was appointed President of Banco Barinas, a regional business that grew to become the Cordillera Group, at the age of 28. In 1991, he decided to sell the company in order to begin a new stage in his business career with the creation of the Cartera de Inversiones Venezolanas holding company (CIV) and enter into new markets.

He founded pioneering companies in a wide variety of industries, including Fabrica de Carrocerías Cordillera (FACORCA), which was franchised by British automobile manufacturer Rover to assemble the Mini Cooper in Venezuela and distribute it across South America; Alfa Gerencia Inmobiliaria and Grupo Asesor Inmobiliario (GAINCA) in the real estate sector; and Aficheras Nacionales (STYLE) in advertising. The holding also continues through financial investments with the creation of BOI Bank in Antigua and Barbuda, and National Leasing in Panama – which have both been operating institutions for 25 years.

In 2000 BOD merged with Banco Noroco and Valencia Entidad de Ahorro y Préstamo, (which subsequently became Norvalbank). In December 2002 Norvalbank, Banco de Monagas and Fondo de Activos Líquidos BOD merged, which marked a significant step, as BOD then became a universal bank. Four years later, in September 2006, Vargas acquired CorpBanca from the Chilean Corp Group, and in the process became American Express’ operator in Venezuela – extending the services of both banks across the entire country. In 2007, BOD and CorpBanca integrated their technological platforms, allowing clients to carry out banking transactions at both banks. The merger was finalised in 2013, five years after the process began.

Another major acquisition process began in 2008 as BOD opened negotiations with Spanish group Banco Santander over the acquisition of what was then its Venezuelan subsidiary Banco de Venezuela, the country’s first bank with over 100 years of history. After BOD had transferred $150m to Santander as part of the acquisition process, the late President Hugo Chávez decided to nationalise the bank, side-lining Vargas from negotiations. To this day Banco Santander and BOD are still trying to resolve the issue in court.

Vargas’ strategic vision led to the creation of Grupo Financiero BOD, a step taken as a response to the growth of the holding company and the need to further strengthen its financial arm. Grupo Financiero BOD is made up of BOD (Venezuela); Allbank (Panama); BOI Bank (Antigua and Barbuda); BONV (Curacao); and Bancamérica (Dominican Republic). For capital markets institutions it is made up of BOD Valores Casa de Bolsa (Venezuela); Corp Casa de Bolsa (Venezuela); Plus Capital Markets (Panama); Plus Capital Markets (Dominican Republic); BOD Fondos Mutuales (Venezuela); and Element Capital (Venezuela-Panama). The group also includes a number of insurers, including La Occidental; Global Care; Salud Care y Planinsa (all Venezuela, as well as Pymefactoring RD (Venezuela-Dominican Republic) and National Leasing (Panama).

With a career spanning over 32 years, Vargas is today one of Venezuela’s most successful entrepreneurs, not simply for the large number of companies he has acquired but also for his commitment to the country and his contribution to the development of the national economy. The Spanish magazine Ejecutivos recently named him ‘Empresario Latinoamericano de Referencia’, which means a Standout Latin American Businessman.

Social engagement
Alongside his professional work, Vargas has supported a number of business, cultural and educational projects, and in the process has contributed to the growth and development of Venezuela. Through the BOD Foundation that was created in 2002, he has invested close to $20m in CSR programmes, which has helped to support thousands of entrepreneurs, improve education, spread cultural awareness and bring the bank’s social work to disadvantaged communities. The BOD Entrepreneur Centre has organised training and financing projects, with over 300 credit operations at a total value of over $15m, helping entrepreneurs develop their businesses.

As part of a commitment to social engagement, for over 20 years Vargas and BOD have supported cultural initiatives. Their commitment to culture grew in 2006 with the acquisition of CorpBanca, an institution that operated a historic cultural centre in the Venezuelan capital, Caracas. Thanks to Vargas’ strategic and managerial vision, the BOD Cultural Centre turns 25 this year and is considered a reference point in both Venezuela and abroad. In 2014, it welcomed 116,420 attendees to 920 theatrical events, 28,834 spectators to 98 concerts, 43,060 participants to 112 corporate events and 12,157 visitors to 4 art exhibitions. In total, 204,071 people attended 1,137 events.

BOD’s educational work features the BOD Prize for Educative Talent and along with the Fundación Enclave runs an annual Musica para todos programme, which provides free music lessons to 6,500 children in public schools. Investment in the development of the programme reached $500,000 in 2014.

“As an entrepreneur myself, supporting entrepreneurship in all its forms is one of my greatest passions. Since the start of my professional career as a lawyer until now I can say with pride that over the course of the past 32 years I have built financial companies with a proven national and international profile”, said Vargas.

The upcoming challenges for Vargas and BOD are to focus on Grupo Financiero BOD’s international growth. The group is already present in five countries: Venezuela, Panama, Dominican Republic, Curacao and Antigua. Since Vargas acquired the company in 1994, BOD has maintained its position at the forefront of the Venezuelan financial sector. The bank’s objectives up until 2016 are focused on offering its clients personal assistance with projects, and on positioning BOD as a reference in terms of quality.

The plan underscores BOD’s present and future objectives of becoming a multichannel bank by 2016, one that its clients can access from different channels and within which its various internal channels interact among themselves. The foundation of this methodology is twofold: a clear understanding of the client through effective Client Relations Management and an efficient business model. The success of a financial company is not solely based on affronting business challenges or market developments. It must be based on solid principles of proximity and commitment to its community and, as part of the country, producing benefits for its citizens.