Prediction is tough. If on 1 st January 2008, you had predicted that, by the following December, half of the US banking system would be nationalized and Goldman Sachs would be a commercial bank (losing a couple of billion dollars in a quarter for the first time ever), you would have been whisked off to the funny farm pretty quickly.
2008 was a funny year - not funny ha-ha, but funny - Yuk!
2008 was the year of transition; the transition matrix to be precise. Using a Credit Transition Matrix, based on ratings from Standard & Poors etc., and with days, sometimes weeks, of historical data we were able to price a First to Default Credit Default Swap quicker than you could say 'default event'. But the Lehman settlement debacle showed that transition matrices had more holes than a cobweb and were just as dangerous if caught in the middle.
Trillion was the number of 2008. In mathematics, trillion belongs to the set of so-called 'scary numbers', figures so huge that their only purpose is to frighten people; like the size of the universe, or the cost of a cup of coffee in hyper-inflationary Germany. But no bailout in 2008 could be considered worthy of the name unless its eventual cost was predicted to be over $1 Trillion. In the first (of many) bailouts, it is reported that when asked how the figure of $700 billion was arrived at, an official of the US Treasury allegedly said, "No real reason, we just wanted a big number to catch everyone's attention". Too little, too late - a Trillion would have caught their attention. A billion has become chump-change - share-prices don't even move on the loss of a billion anymore. And with Bernie Madoff, fraud has become hyper-inflationary. As an operational risk event, this $50 billion loss is so far out in the tail that the remainder of the operational loss distribution is made irrelevant. At last - a single point distribution?
2008 was a sad year. After a long illness, banking regulators eventually succumbed to Narco-Kuklosis (also known as 'Asleep at the Wheel' syndrome). This incurable disease, which particularly affects citizens of the Swiss city of Basel, is very painful, causing the spinal column to disintegrate in the presence of investment bankers. And, unfortunately, the disorder will go uncured for some time, as FRINK (the Foundation for Research Into Narco-Kuklosis) has placed all of its endowments with Bernie Madoff for investment.
Hindsight is sexy, but Foresight is sexier.
In 2009, I foresee that:
- Early in the year, the new US Secretary of the Treasury, Timothy F. Geithner, will invite Raul Castro to Washington, to get lessons on how to nationalize banks properly.
- Bernie Madoff will plead guilty, but use the Systems Risk defense, 'I really should have upgraded from Lotus 1-2-3 to Excel a few years back'.
- Gazillion will be the new trillion.
- In mid-year, Standard & Poors will issue a new credit transition matrix, with 100% (probability of default) in every cell. They will argue, with some justification, that at least it is more accurate than the current one!
- S&P and Moodys will then retreat to a silent convent to reflect upon their past sins.
- And finally, regulators will regulate - No I take that one back, much too far fetched.
As I hear the psychiatric nurses hammering on the door, I predict that we will wake up on 1 st January 2009, and realize that 2008 was just a bad dream. We will delete 2008 from our Blackberries, like a one-night stand, and cross it off our Christmas card list.
Our New Year's resolution will be to get back to doing what we do best: buying stuff we don't need, with money we don't have, on credit from banks with no ethics, regulated by supervisors with no clue.
Don't worry, 2009 will be just fine - for insolvency practitioners.
