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Roach Motel Or Investing for the Long-Term: You Decide What Best Describes Temasek’s Investment Strategy.

A “Roach Motel”, originally a term used to describe a cockroach trap, has become a metaphor used by hedge fund managers to describe an investment that is too large in relation to the size of the company’s equity capital or the liquidity of the stock to allow the manager to exit without taking an unacceptable loss. For better or worse, the manager is locked into the stake and the only exit is normally either through a sale of the company, which is fine as long as a price higher than the entry price is achieved, or else through bankruptcy and the loss of the entire investment.

Roach motels sprang to mind when I read this morning that Temasek Holdings is selling a 2.5% stake, or 400 million shares in SingTel with the option to sell another 100 million shares
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ARTICLE 14 – legal blogger writes on the constitutionality of that loan.

Everyone should read this blogger’s latest piece on the constitutionality of the IMF loan and his earlier blog to be found here:

I am very glad that at least one opposition politician, Kenneth Jeyaretnam, is actively pursuing this issue. Based on the response that he has gotten from the President, it is evident that the President’s consent was not sought. Kenneth Jeyaretnam has set out in detail the sequence of events leading up to the President’s response:

I don’t know who Subra is in real life but he describes himself as a lecturer in law  “A Singaporean firmly believing in Liberty, Freedom of Expression and a system of government based on checks and balances.” He not only proclaims a belief in these ideals  but unlike our politicians he clearly backs it up with action.

I’m not sure that I agree with his conclusion, after all it is no longer 1997 and the IMF loan is not between us and Indonesia but involves IMF with proscribed standards on transparency which we do not follow. IMF will not be able to act with the contempt that MOF does.

However he points out the method of discrediting my father back then with the PAP accusing him of  “misrepresenting” and  mocking or ridiculing him . This  is almost exactly the same as the method used by MICA in 2012 in their swift responses to my absolutely accurate letter in the WSJ.  Notice in that letter they accuse me of “misrepresenting” and then ridicule me by pointing out,  wholly unnecessarily, that the  political party I stood for in GE 2011 failed to gain any seats.  This was just a method to discredit me.

I seem to remember then that Subra  blogged on the MICA rebuttal and pointed out that I was correct and MICA was wrong. Of course MICA know I was right and they were wrong but that was not the point. I have written to WSJ putting my case and denying misrepresentation but I guess their lawyers are afraid and so they haven’t printed it.

For the record I will state that I stand by everything I wrote in that letter, MICA are wrong and if they disagree then let them sue me.  Does it matter? Yes.  The accusations to destroy my credibility added to by ridicule were a pre- emptive strike by the PAP as my response to the budget 2012 was already out there.   Also they can now show it to the IMF and say, ” This is a guy who gets everything wrong and is bitter and twisted about losing. See! We already had to rebuke hm once.”

I will come back to Subra’s conclusion later meanwhile it is worth noting that both Subra and I were blogging about this in April, we don’t know each other or communicate just as  Chris Balding and I were independently working on the same thing , “discrepancies”,  also without knowing or being aware of each other. What does this tell you? Coincidence?

My budget 2012 response is out there, still buried by the MSM, still not responded to by MOF. Thank goodness for cyberspace.

Subra says,

 Kenneth is a lone voice lost in the wilderness of the internet.  His questions are not being echoed in the mainstream media and the only persons that may be privy to this issue are those that take the effort to get information from the net. 

It is well worth taking the effort to get the information from the internet from those of us blocked out of the MSM, as this affects your rice bowl.

You’ll be dead before you can spend it! Singaporeans enter the 20th year of unnecessary, self -imposed austerity.

Watching the Euro-zone unravel has so far almost been like a moral fable for Singaporeans.   Be honest! Who out there isn’t feeling a sense of Schadenfreude? The original Greek or Irish problem on the periphery of Europe and investor flight from European sovereign debt has spread via Spain and Portugal, to Italy and even France, Austria, the Netherlands and Finland.

This moral fable could be said to illustrate the dangers of profligate governments who have bought electoral popularity with populist policies and high levels of welfare spending and are now paying the price.  As an economist I would say that the only certain moral to this story is, ‘beware the folly of entering a currency union without a fiscal union’.  The rest is open to debate.

In a desperate attempt to stave off default and unlock emergency funding from the ECB and latterly the IMF, those beleaguered states have agreed to scale back their generous social welfare programmes, increase existing taxes and impose new taxes. All of this results in an externally imposed, endless round of “austerity” budgets. As I write it is not only the financial axe that is being wielded.  The Euro-zone governments are discussing a solution which will essentially involve a loss of political and economic sovereignty by the countries facing insolvency.  This prompted one friend to say that the Germans, by having the most competitive exchange rate when entering the Euro (coupled with a high level of productivity and skilled labour) have achieved a mastery over Europe where Hitler failed.

However, the solution being imposed on the weaker economies would be likely to condemn them to years of lost output and slow growth as compared with higher levels of output and employment in the stronger countries. Without a true political union, which is unlikely to be acceptable to the richer Euro-zone countries such as Germany, it is difficult to see how the currency union can survive longer term.

According to the popular logic of the anti-populists such policies as free health care, free education and old age pensions, lead to a lazy workforce that demands uncompetitive levels of wages.  Thankfully for us our wise government has never fallen for the easy route of giving the people what they want (or need or deserve). On the contrary they have ensured that Singaporeans have been kept on an austerity diet almost since independence.   Pity the struggling European economies but don’t forget to look in your own backyard when you shed a tear.

We have very little welfare spending (except the ‘ give-aways’ at election time when the government throws around money away in an untargeted manner) and one of the lowest expenditures as a proportion of GDP in the developed world on education and health.  Let me repeat that.  One of the lowest public expenditures as a proportion of GDP in the developed world on education and health.   As we know the expenditure in terms of private money coming from your own pocket is very high indeed with exam success being directly correlated to expenditure on tuition. In Singapore we are proud to have developed a world class system of ‘hire ‘education. As well as the private financial burden we have the devastating personal social costs of long term medication and care required for old age, cancer, chronic illness or disabilities both physical and mental.

Despite the government’s harping on how this has resulted in low taxes for median-income Singaporeans compared with Europeans, these income groups are not really any better off. Europeans generally receive free health care and completely free education -which is mostly compulsory up to the age of 16. (a vital child protection safeguard).  Singaporeans have to pay for medical care with Medisave and Medishield and are often forced to top this up or go without treatment because of gaps in coverage or inadequate savings.  We also work up to 50% longer hours to achieve living standards on a par with the less affluent Euro-zone countries.

The end result of this scrimping and saving is familiar to all. The Government has run huge and persistent surpluses as a proportion of GDP(between 5% and10% of GDP though in 2007 it was considerably higher than this) for over twenty years. This includes revenues and receipts from current and past reserves as well as revenues from land sales and capital receipts. I believe it is misleading to exclude these revenues and receipts from the Budget.  The Government further disguises its exceedingly comfortable fiscal position by using an accounting convention of subtracting both current and development expenditure from current revenues. It then adds back only (at most) 50% of the revenues from the Sovereign Wealth Funds, Temasek and GIC.  Our Opposition needs to demand a proper accounting

The high levels of government saving are partly responsible for a current account surplus of over 20% of GDP. Because the MAS intervenes to prevent the Singapore $ rising too far, this is reflected in the growing holdings of official reserves and the overseas assets held by our Sovereign Wealth Funds, Temasek and GIC.  It is true that Singapore has avoided a situation where the Government has had to issue foreign currency debt and in fact has a substantial net asset position (particularly when its ownership of 80% of the land is included!). The benefit is that we have avoided the problems of the Euro-zone where the deficit countries are being forced to cut back on spending and raise taxes.

But is this a good thing and does it make our government fiscally wise? In a way that is like saying that a starving man has avoided having a starvation diet imposed on him by voluntarily deciding to impose it on himself first.   Some of you will be acutely aware that those holding the food supplies make sure they themselves have a very rich diet. The wonder is that whilst they earn  millions of dollars for cabinet roles you agree to tighten your belts, take on extra work, move dad into the corridor, rent out your rooms and die slowly without the dignity of care and medication.  If you are still feeling smug bear this in mind. Even with cutbacks the countries embracing austerity programmes will still have almost free public health and education while Singaporeans do not.

There is really no justification for the continual accumulation of reserves and government surpluses once these have reached a level sufficient to provide for a serious crisis. Our Government passed this level some years back but continues to insist on its necessity. Meanwhile CPF holders are being forced to take unilateral changes in the terms on which they can get their money back. This is despite the low returns on  CPF savings having been one of the major contributors to the growth in overseas assets. The present generation of Singaporeans has been robbed, supposedly to pay for a future generation of Singaporeans, despite accelerating technological change and productivity growth making all but certain that future generations will be much richer than the present one.

The big question is will we even benefit from our enormous overseas assets? I believe we are fooling ourselves if we think that by actually saving all this money we will get to spend it or that our children will.  GIC, Temasek and MAS have yet to come clean on how much it has invested in Euro-zone sovereign debt and how much it stands to lose should there be a debt default in the worst case or just a restructuring.  As I said before, there is no-one in Parliament willing or able to demand an account.

Presently the countries that have run large current account deficits for many years, such as the US and many members of the Euro-zone, are acutely aware that the counterpart of their deficits is excessive saving in the surplus countries, mainly China but also Japan, Korea, Germany and of course Singapore. They know this prevents them from being able to achieve satisfactory levels of growth, output and employment. The Euro-zone has already turned to China and asked the Chinese Government to buy more Euro-zone debt. This has allegedly infuriated many ordinary Chinese who complain about how poor they are compared with the average European. Their anger should be directed at their government which has held down consumption and domestic living standards to create a level of reserves far higher than necessary. This has allowed a situation in which they now find themselves held hostage to the debtor nations. It is likely that our Government faces the same pressures from the EU to invest in bailing out the insolvent members of the Euro-zone.

It would be far better if our reserves were spent on benefiting Singaporeans in the first place rather than hijacked by political considerations.  That is why I have consistently called for a reduction in our general budget surplus, measured as widely as possible, to a much lower figure, say under 1% of GDP over the course of an economic cycle. The funds could be invested in basic improvements to Singaporeans’ health and education as well as cutting taxes.

I have also called for the privatization of Temasek and GIC with the distribution of shares to Singaporeans. If they are owned directly by the people then it will be more difficult for them to be held hostage to foreign political pressures.

GIC, UBS and the Death Spiral of your CPF funds

Kweku Adoboli the alleged rogue trader at UBS and Nick Leeson, the infamous rogue trader who brought down Barings, both have a strong Singaporean connection. Nick Leeson worked in Singapore while Kweku Adoboli worked for the bank whose largest shareholder is the Singapore government.

Singapore, through GIC, became the largest effective shareholder in UBS when it purchased a 9% stake of mandatory convertible notes in December 2007.  The Singaporean government was responding to a call by UBS at the time for a bailout following the subprime crisis.  In fact our generous bailout caused UBS which stood for Union Bank of Switzerland, to be given the nickname, “The United Bank of Singapore “in its home country

Kweku Adoboli appears to have lost the Swiss bank an estimated minimum of $2.3 billion. But his losses only represent a fraction of the total losses that GIC has made in UBS so far.  UBS was trading at 50 Euros per share at the end of 2007 and just before the latest debacle it was trading around 11 Euros.  It had therefore already lost around 80% of its value before he added a further 2% loss to its 2007 market valuation. For GIC it appears this 80% loss probably amounts to S$7-8 billion assuming that the currency purchase was unhedged at the time. That may not seem like a huge amount in the context of GIC’s rumored total assets but we don’t know what percentage it represents of GIC’s equity. As the bonds issued to CPF by GIC have to be repaid it’s conceivable that GIC could end up with negative equity.

Anyway as the largest stakeholder in UBS any loss chalked up to them is going to send shock waves through GIC.  And as GIC’s assets are funded through borrowing in Singapore dollars from the CPF, your savings are directly linked to UBS’ fortunes. Furthermore this latest loss comes amid the start of a double dip recession. The rerun of the 2008 financial crisis looks potentially much more worrying this time around because governments appear to have given up on taking steps to offset it and can only repeat the mantra of fiscal austerity. With the latest announcement from the Fed ruling out a new round of quantitative easing, central bankers also appear to have given up on monetary policy.

The UBS losses have even provoked GRC into making a rare public statement resulting in a front page headline in the Financial Times on September 20th.

 “Singapore fund hits at UBS ‘lapses’. “   

The FT article went on to further quote from GIC’s statement,

“[We] discussed the alleged fraudulent trading that led to the large financial loss for UBS. GIC expressed disappointment and concern at the lapses and urged UBS to take firm action to restore confidence in the bank”.

Fine words indeed but is it not a case of locking the stable door after the horse has bolted? Yes, GIC is now belatedly hitting out at UBS for its lack of controls and lapses but are they just creating a storm in a tea cup to cover up a disastrous investment decision? If GIC is angry with UBS then Singapore citizens should be furious with GIC. As CPF members we the Singaporean citizens should be demanding some answers and explanations from our government.

GIC’s attempt to avoid transparency over its decision to invest in UBS by pinning the losses on a rogue trader, an external event outside of their control, won’t pass muster anyway. In fact there were plenty of warning signs in the public arena that something was seriously amiss at UBS, long before Mr. Kweku Adoboli was uncovered.

In 2008/9 UBS was embroiled in a tax evasion scandal in the United States.  The misconduct was so severe that UBS was faced with the loss of their banking license in the US. There are few sanctions harsher than that. The scandal centered on UBS’s wealth management division where employees had been helping US customers to evade taxes. One UBS whistleblower employee even testified to practices such as smuggling diamonds in empty toothpaste tubes! UBS finally kept their license by settling out of court and agreeing to pay US$780 million to the US government in April 2009.

Not long after this in November 2009 the UK’s Financial Services weighed in against UBS.  The Authority fined UBS £8 million citing their “inadequate systems and controls” over 6 employees in the wealth management division who had been making unauthorized trades using customers’ money.  UBS was also forced to pay out US$42 million to compensate its customers for the losses.

Now in 2011 we are told that GIC expresses “disappointment and concern at lapses”. Seriously guys, where have you been?  As a minority stakeholder in a country that represses dissenting views I can do nothing more active than express disappointment.  But in 2007 and again in 2010 GIC was the largest single shareholder in UBS and as the largest shareholder they had considerable clout.  So the question should be why did GIC make no public effort to improve performance or risk controls over the last 4 years?  Why did GIC not go public with their concerns before now as an activist hedge fund or asset manager would have done?

It may be that as a public entity they were sensitive to charges of political interference and the kind of backlash they saw when they bought Shin Corp in Thailand. If this is the case it simply strengthens the argument against having a sovereign wealth fund in the first place.

The real question is what were GIC doing investing in a deal whose implicit risk they appear not to have understood and via an instrument they shouldn’t have touched with a barge pole? Certainly if reports on Bloomberg are true then they made the decision to invest with unnecessary haste and little due diligence.

Mandatory convertible bonds are instruments which have to be converted into shares of the underlying equity on maturity. They are aptly known as “death spiral” bonds in the investment industry.  This is because they represent an inevitable large dilution of the outstanding equity of the company issuing the bonds.  The coupon may seem juicy but it stems from the fact that the investor has sold a put on the shares to the issuer. If the option was stripped out and sold separately it would undoubtedly look cheap at the price GIC sold it, particularly as UBS had inside information about the true state of the bank.

Ironically UBS knows about the risks of death spiral” bonds. They themselves lost a lot of money in 1997 from buying mandatory convertible bonds issued by Japanese banks. In this case the banks’ equity prices promptly traded down towards the mandatory conversion price, set roughly 50% below where the equity was trading prior to the issue. Had UBS learnt something from that experience?  As far as I’m aware they only started to issue their own death spiral bonds after their fingers were burnt by the Japanese.

The only other major stakeholder in the UBS bonds at that time was an unnamed Middle Eastern investor in Abu Dhabi who bought a $2 billion stake. But then he probably had money to burn, literally, as he would be investing oil derived revenue and not the savings of his hard working citizens.

In any event the bail out by GIC didn’t change UBS’ fortunes. The losses were so severe that by 2008 they looked set to go bust until this time the Swiss government stepped in with an emergency rights issue in October of that year. Had they not done so GIC would have lost all their money. In 2009 the Swiss government sold its own stake, at a healthy profit I might add. Yes, the Swiss government was prudent enough to get out at the height of the market but GIC held on! I fear that MM Lee thinks he is Warren Buffet who famously holds positions for 30 years.

We can only speculate as to why MM Lee felt that we needed to use our pensions to bail out a foreign bank especially at a time when the industry was already reeling from the subprime crisis. At the time, as Chairman of GIC, he was quoted in a Bloomberg interview in April 2008 saying

“The franchise of the banks, the expertise that they have, under proper leadership, they will be able to recover and rise again. Will there be another Swiss bank like UBS for wealth management? I doubt it, we doubt it, that is why we invested in it.”

Clearly the salesmen’s patter got the better of the Chairman of GIC, Mr. Lee Kuan Yew, and of the investment committee at GIC when they took the decision to invest in December 2007. Or the GIC decision makers were so blinded by the thought of the enormous returns they were going to make that they were unable to look at the downside risks.

But GIC did have the benefit of hindsight and experience when they made their statement on  September 20th which continues with a chilling echo of MM Lees naïve views of 2008,  “GIC’s view of UBS’s fundamental strength as a well capitalized bank with a strong private wealth management franchise remains unchanged,”

 When GIC talks about a strong wealth management franchise they are singling UBS out as a brand consistently capable of making money through wealth management. I agree that smuggling diamonds out in toothpaste tubes is a strong way to generate wealth for your clients and if it weren’t illegal, I too would love a piece of that franchise.

It would be an interesting academic exercise to see what lessons both Temasek and GIC have learnt from the previous crisis, if the consequences were not so serious for Singaporeans. Judging by GIC’s statement above we must presume they have learnt very little.

The UBS debacle is an illustration of how the concentration of the power to make such large investment decisions in the hands of a few individuals is so dangerous. Particularly as there appears to be no accountability for those investment decisions later as there would be if Temasek or GIC were in the private sector. Let’s not forget that it is our money the managers are playing with. If this were a hedge fund or conventional asset manager that had performed poorly, then we, the ultimate owners of these assets, could take them away and give them to another manager. Unfortunately we do not have that option.

Tony Tan our (35%) elected President was deputy Chairman of GIC at that time so clearly there is a potential conflict of interest here and we should expect no efforts at improving transparency or oversight from that quarter. This is the reason why I have called for Temasek and GIC to be privatized and listed so that we can gain some much needed transparency and can become the majority shareholders in our own assets.

So to answer MM Lee’s questions, “Will there be another bank like UBS for wealth management?” Will there never be employees making unauthorized trades with clients’ money?  Will there never be another rogue trader? I doubt it, we doubt it, that is why Singaporeans need greater control over their investments.

Should we worry about inflation?

Recently there has been much concern over rising inflation in Singapore. Looking at the Consumer Price Index (CPI) the average figure for the year 2009-2010 was 2.8% (shown in blue). More alarming the CPI figure in December 2010 was up by 4.6% (shown in red) from December 2009. So inflation is clearly rising and furthermore the rate is accelerating. How much should you be concerned and is inflation the biggest problem we are facing in our economy?

Housing, transport and food were the main contributors to the rise in CPI. As they form a larger proportion of household expenditure for those on median incomes and below, the true rate of inflation for these income groups is much higher. As always the effects will be magnified even more for the bottom 20% of the income distribution. What really matters therefore is where you are on the income distribution.

The government line would be that this was beyond their control. They will say that inflation has been rampant  everywhere in Asia and particularly in China and India (at least 5% and 10%p.a. respectively). No doubt the incumbents will blame poor harvests and extreme weather for the surge in food costs coupled with the leap in oil prices back above US$100 that has occurred as the world economy recovers.

However as usual this is to only tell half the story. That is why we must re-examine the contents of our rice bowl. Is it the surging economies of China, India and the rest of Asia cracking the porcelain of your bowl? Or is it domestic inflation caused by policy decisions of our own government? It is relatively simple to measure the contribution of external factors to inflation by looking at the index of import prices. Last year the Singapore dollar rose by 9% against the US$ (shown in red). This meant imports priced in US$ became cheaper when converted to S$. As a result the import price index in 2010 was up only 0.7% compared with 2009 (shown in blue). You need no further demonstration that it is in fact domestic factors which have played the major role in inflation. Further supporting this, in 2009, the import price index fell by 8% yet the CPI was still positive.

Therefore most of our inflation is being generated domestically.

In Singapore this government’s policies have allowed companies to bring in a virtually limitless supply of cheap labour from the rest of Asia thus ensuring that there is continuous downward pressure on real wages. This, together with low corporate taxes and generous subsidies for new foreign investment has been a recipe for rapid growth. However productivity growth over the last fifteen years has not kept pace. In fact it can only be described as abysmal.

In 1994 Paul Krugman, the Nobel Prize laureate, pointed out that there was little qualitative difference between the Singapore model and the Stalinist one of the 1930s Soviet Union and predicted that as Singapore ran out of labour inputs ( declining birth trend) its growth rate would fall sharply.

Our government mistakenly thought that had found an escape route from this trap. By opening the floodgates to foreign labour while having no floor on wages, it seems they thought the economy could grow indefinitely. At the same time Singapore’s population could expand without limit. In fact MM Lee recently came out to warn us all that if we wanted slower population growth through immigration we would have to accept lower GDP growth rates. Clearly the only solution the incumbents have for producing GDP growth is by increasing the importation of labour through immigration.

The result has been a big fall in the proportion of GDP going to wages and relentless upward pressure on the factor of production in (virtually) inelastic supply, namely land. This has suited the government just fine as it owns nearly 80% of the land and thus benefits from the rise in land prices.

Of course rising food prices globally play a big part in the rise in food costs locally. But the competition for land is undoubtedly playing a significant role in the rising cost of meals at food courts, hawker centres, supermarkets and wet markets as rents rise. I hear these complaints from stall holders continuously as I go about my walkabouts several times a week.

Another domestic factor contributing to rising inflation is government and GLC policies that favour the creation of  oligopolies such as integrated food court operators. Make no mistake! GLCs are not in the private sector, they have virtual monopolies and no real competition to their power to pass on costs by putting up prices. The government’s ownership of most of the transport system, from the MRT to taxis, and the lack of an effective regulator, also means that the transport companies have been able to more than pass on the rise in energy costs stemming from higher oil prices. The result is further pressure on your wallet.

Here’s one for the students of economic history. Back in 1926 before he published his general theory, Keynes warned against a type of inflation that transfers income from workers to profits. Are we seeing that inflation here and now? The economy is overheating but the benefits are going to profits and not to working Singaporeans.

Certainly we can see this effect in the CPI index. The HDB resale price index has risen some 340% in the last twenty years while median nominal household income has risen by only just over 100%. Even though The Department of Statistics uses an archaic method of calculating housing costs the effects are still apparent.

With such an elastic supply of foreign labour it is no surprise that average nominal incomes have lagged behind inflation over the last three years and median real household incomes have essentially remained unchanged for nearly thirteen years. And despite years of strong economic growth consumption has fallen to just over 40% of GDP.

The incumbents will try to divert you with a bit of hype about fertility rates. (The downward trend in birth rates is for another article.) But this is merely an attempt to shift the blame on to you for not having enough babies so that our minsters to continue to support the current immigration policy.

Don’t let them scare you with those simple GDP figures either. I had already dispensed with that bogey in my previous articles. What we need from our GDP is quality not quantity. We need policies that achieve economic growth by raising the productivity of our inputs (workers) and not by just increasing the inputs themselves (importing foreign workers).

The lack of a raise in real median incomes, our appalling productivity figures and the strain on scarce resources like land should be more of a worry to you than inflation. Only by shifting focus and reducing the strain are we likely to get a slow-down in inflation accompanied by rising real wages. Your rice bowl will be all the happier for it.


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