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SULTANS OF SWAP: BP Potentially More Devastating than Lehman!
The article does not display well in Firefox or derivatives (I don't know how it displays in IE). Displays ok in Google Chrome -- seems to have internal coding problems. But it is an excellent article.
It is the latest in the series - Sultans of Swap - Explaining $605 Trillion of Derivatives!
The article does not display well in Firefox or derivatives (I don't know how it displays in IE). Displays ok in Google Chrome -- seems to have internal coding problems. But it is an excellent article.
It is the latest in the series - Sultans of Swap - Explaining $605 Trillion of Derivatives!
As horrific as the gulf environmental catastrophe is, an even more intractable and cataclysmic disaster may be looming. The yet unknowable costs associated with clean-up, litigation and compensation damages due to arguably the world’s worst environmental tragedy, may be in the process of triggering a credit event by British Petroleum (BP) that will be equally devastating to global over-the-counter (OTC) derivatives. The potential contagion may eventually show that Lehman Bros. and Bear Stearns were simply early warning signals of the devastation lurking and continuing to grow unchecked in the $615T OTC Derivatives market.
What is yet unknowable is what the reality is of BP’s off-balance sheet obligations and leverage positions. How many Special Purpose Entities (SPEs) is it operating? Remember, during the Enron debacle Andrew Fastow, the Enron CFO, asserted in testimony nearly 10 years ago that GE had 2500 such entities already in existence. BP has even more physical assets than Enron and GE. Furthermore, no one knows the true size of BP’s OTC derivative contracts such as Interest Rate Swaps and Currency Swaps. Only the major international banks have visibility to what the collateral obligations associated with these instruments are, their credit trigger events and who the counter parties are. They are obviously not talking, but as I will explain, they are aggressively repositioning trillions of dollars in global currency, swap, derivative, options, debt and equity portfolios.
Once again, as we saw with Lehman Bros and Bear Stearns we have no visibility to the murky world of off balance sheet, off shore and unregulated OTC contracts, where BP’s financial risk is presently being determined. At a time when understanding a corporation’s risk position is critically important, investors are in the dark. When markets are uncertain, bad things are certain to follow. The new financial regulations under the Dodd-Frank legislation does absolutely nothing to address this. This was the central issue in truly understanding and corralling TBTF risk. It has not been addressed and the markets will likely make the tax payer pay for this regulatory failure once again.
Massive BP Risk lay in the $615T OTC Market that only the major international banks have any visibility to…. and they are not talking!
THE LEVERAGE ASSOCIATED WITH “AAA” ASSETS
I could not have stated it any clearer than Jim Sinclair at jsmineset.com: “People are seriously underestimating how much liquidity in the global financial world is dependent on a solvent BP. BP extends credit – through trading and finance. They extend the amounts, quality and duration of credit a bank could only dream of. You should think about the financial muscle behind a company with 100+ years of proven oil and gas reserves. Think about that in comparison to a bank with few tangible assets. Then think about what happens if BP goes under. This is no bank. With proven reserves and wells in the ground, equity in fields all over the planet, in terms of credit quality and credit provision – nothing can match an oil major. God only knows how many assets around the planet are dependent on credit and finance extended from BP. It is likely to dwarf any banking entity in multiples…. The price tag and resultant knock-on effects of a BP failure could easily be equal to that of a Lehman, if not more. It is surely, at the very least, Enron x10.”
From a historical context, some may not be aware that the infamous House of Rothschild at the height of their banking power moved into Energy & Oil. Also, John D. Rockefeller quickly realized his globally expanding Standard Oil was more a bank, consolidating his financial empire under a banking structure which resulted in the Chase Manhattan Bank (the basis of Citigroup). As long as an energy giant can manage its cash flows throughout the volatility of price fluctuations, it becomes a money and credit generating machine. It can borrow with AAA yields anywhere on the curve and lend to less credit worthy entities at attractive spreads. These lending differentials help fuel the $430T Interest Rate Swap OTC market. BP has been able to spin off $20B of earnings for the last 5 years and $15B in cash last year. All of this suddenly comes to an end if its credit rating is significantly impaired. But what could possibly cause this to happen? It would take a black swan event. An outlier. A fat tail.
Sound familiar? Heard this discussion before?
The Gulf Oil Disaster may be the fat tail to end all fat tails and shows the exposure behind the entire risk models of the vast majority of derivatives algorithm models. To suggest that BP would need to take impairments north of $20B would have seemed out of the realm of possibilities less than 90 days ago. Now, if it is contained to only $20B, it would be considered a blessing. Fitch dropped BP’s credit rating an unprecedented 6 notches on June 15th from AA to BBB which followed June 3rd's AA+ to AA cut. This is what happens when a fat tail occurs and it has only just begun.
CONTAGION HAS BEGUN
Though few are talking openly, it doesn’t mean large amounts of money aren’t aggressively repositioning. This repositioning is effectively de-leveraging and is consequentially a liquidity drain. This comes as US M3 has gone negative and M2, M1 are rapidly declining. BP is going to face a massive liquidity crunch which has all the earmarks of triggering an already tenuous and worsening international liquidity situation.
I found the charts (right) published by Credit Derivatives Research to be very telling of the abrupt shift that has occurred. Their charts show that the April 21st Macondo well explosion has triggered a significant inflection in the risk, counterparty and high yield areas. A comparison with Government and High Grade Debt has a different profile (see end of this report for the charts) which reflects the European banking concerns associated with the southern European economies (PIIGS). It is important to differentiate these as separate drivers. Both come as the percentage of corporate bonds considered in distress is at the highest in six months - a sign investors expect the economy to slow and defaults to rise. This spells deleveraging.
WHAT WE KNOW ABOUT BP DERIVATIVES:
.
.
.
.
.
What is yet unknowable is what the reality is of BP’s off-balance sheet obligations and leverage positions. How many Special Purpose Entities (SPEs) is it operating? Remember, during the Enron debacle Andrew Fastow, the Enron CFO, asserted in testimony nearly 10 years ago that GE had 2500 such entities already in existence. BP has even more physical assets than Enron and GE. Furthermore, no one knows the true size of BP’s OTC derivative contracts such as Interest Rate Swaps and Currency Swaps. Only the major international banks have visibility to what the collateral obligations associated with these instruments are, their credit trigger events and who the counter parties are. They are obviously not talking, but as I will explain, they are aggressively repositioning trillions of dollars in global currency, swap, derivative, options, debt and equity portfolios.
Once again, as we saw with Lehman Bros and Bear Stearns we have no visibility to the murky world of off balance sheet, off shore and unregulated OTC contracts, where BP’s financial risk is presently being determined. At a time when understanding a corporation’s risk position is critically important, investors are in the dark. When markets are uncertain, bad things are certain to follow. The new financial regulations under the Dodd-Frank legislation does absolutely nothing to address this. This was the central issue in truly understanding and corralling TBTF risk. It has not been addressed and the markets will likely make the tax payer pay for this regulatory failure once again.
Massive BP Risk lay in the $615T OTC Market that only the major international banks have any visibility to…. and they are not talking!
THE LEVERAGE ASSOCIATED WITH “AAA” ASSETS
I could not have stated it any clearer than Jim Sinclair at jsmineset.com: “People are seriously underestimating how much liquidity in the global financial world is dependent on a solvent BP. BP extends credit – through trading and finance. They extend the amounts, quality and duration of credit a bank could only dream of. You should think about the financial muscle behind a company with 100+ years of proven oil and gas reserves. Think about that in comparison to a bank with few tangible assets. Then think about what happens if BP goes under. This is no bank. With proven reserves and wells in the ground, equity in fields all over the planet, in terms of credit quality and credit provision – nothing can match an oil major. God only knows how many assets around the planet are dependent on credit and finance extended from BP. It is likely to dwarf any banking entity in multiples…. The price tag and resultant knock-on effects of a BP failure could easily be equal to that of a Lehman, if not more. It is surely, at the very least, Enron x10.”
From a historical context, some may not be aware that the infamous House of Rothschild at the height of their banking power moved into Energy & Oil. Also, John D. Rockefeller quickly realized his globally expanding Standard Oil was more a bank, consolidating his financial empire under a banking structure which resulted in the Chase Manhattan Bank (the basis of Citigroup). As long as an energy giant can manage its cash flows throughout the volatility of price fluctuations, it becomes a money and credit generating machine. It can borrow with AAA yields anywhere on the curve and lend to less credit worthy entities at attractive spreads. These lending differentials help fuel the $430T Interest Rate Swap OTC market. BP has been able to spin off $20B of earnings for the last 5 years and $15B in cash last year. All of this suddenly comes to an end if its credit rating is significantly impaired. But what could possibly cause this to happen? It would take a black swan event. An outlier. A fat tail.
Sound familiar? Heard this discussion before?
The Gulf Oil Disaster may be the fat tail to end all fat tails and shows the exposure behind the entire risk models of the vast majority of derivatives algorithm models. To suggest that BP would need to take impairments north of $20B would have seemed out of the realm of possibilities less than 90 days ago. Now, if it is contained to only $20B, it would be considered a blessing. Fitch dropped BP’s credit rating an unprecedented 6 notches on June 15th from AA to BBB which followed June 3rd's AA+ to AA cut. This is what happens when a fat tail occurs and it has only just begun.
CONTAGION HAS BEGUN
Though few are talking openly, it doesn’t mean large amounts of money aren’t aggressively repositioning. This repositioning is effectively de-leveraging and is consequentially a liquidity drain. This comes as US M3 has gone negative and M2, M1 are rapidly declining. BP is going to face a massive liquidity crunch which has all the earmarks of triggering an already tenuous and worsening international liquidity situation.
I found the charts (right) published by Credit Derivatives Research to be very telling of the abrupt shift that has occurred. Their charts show that the April 21st Macondo well explosion has triggered a significant inflection in the risk, counterparty and high yield areas. A comparison with Government and High Grade Debt has a different profile (see end of this report for the charts) which reflects the European banking concerns associated with the southern European economies (PIIGS). It is important to differentiate these as separate drivers. Both come as the percentage of corporate bonds considered in distress is at the highest in six months - a sign investors expect the economy to slow and defaults to rise. This spells deleveraging.
WHAT WE KNOW ABOUT BP DERIVATIVES:
.
.
.
.
.
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