Alternative Investments

Cooking Dim Sum? These are the ingredients

noreply@blogger.com (Robert Koller-Vernot, CAIA) — Sun, 10 Jul 2011 08:21:00 +0000

Robert Koller offers in a guest post in FT Tilt legal insights for both would-be issuers of and investors in 'dim sum' bonds.

http://ftti.lt/22e

ECJ confirms „doctrine of substantial difference“ first introduced in the Koller case in a new judgement.

noreply@blogger.com (Robert Koller-Vernot, CAIA) — Sun, 06 Feb 2011 11:17:00 +0000

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The European Court of Justice confirmed in its judgement C-359/09 – Ebert (Nr. 33), the „doctrine of substantial difference“ first established in Robert Koller’s case C-118/09 expressly citing Robert’s case. An EEA national who seeks the recognition of a diploma in a host member state may only be subject to an examination in such host member state if

the host member state has implemented the provisions for an examination under Council Directive 89/48/EEC of 21 December 1988 on a general system for the recognition of higher-education diplomas awarded on completion of professional education and training of at least three years’ duration in its national law and
most importantly, only if the knowledge acquired by the applicant in the course of his professional experience is not capable of covering, in whole or in part, any substantial difference.

It is now confirmed in two judgements that only if there is a substantial difference in the knowledge acquired by the applicant in the course of his entire professional experience an examination may take place. This new doctrine sets out that national authorities cannot anymore use these examinations for protectionist purposes stating that any difference, as small as it could be, necessarily leads to an examination and thereby discriminating applicants who have acquired their knowledge either through alternative routes or even in the relevant host member state through practising there. This results in a further strengthening of the single market and a single educational space.

European Court of Justice strengthens freedom of education

noreply@blogger.com (Robert Koller-Vernot, CAIA) — Tue, 28 Dec 2010 21:33:00 +0000

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LANDMARK DECISION OF THE EUROPEAN COURT OF JUSTICE AWARDED TO ROBERT KOLLER, CAIA

The European Court of Justices reinforces the right of EU citizens to take their education inside the EU wherever they wish.

Executive Summary:

Robert Koller, an Austrian citizen, who completed law degrees in both Austria and Spain, has been awarded a landmark decision in a dispute lasting several years in relation to the Austrian legal profession. Having first qualified as a lawyer in Spain, he applied to take the foreign lawyers’ test in Austria and requested exemption therefrom based on the fact that he had studied law in Austria and that there was a relevant provision therefor in Austrian law.

However, his request for admittance to the aptitude test was denied in the first instance and also after appeal by the Oberste Berufungs- und Disziplinarkommission (Appeals and Disciplinary Board; “OBDK”). Nevertheless, the Austrian Constitutional Court confirmed Mr. Koller in a decision in which it annulled the ruling of the OBDK, calling it arbitrary. Despite the clear ruling of the Constitutional Court, the OBDK referred two questions to the European Court of Justice (“ECJ”).

The ECJ ruled in its judgement C-118/09 – Koller that:

Mr Koller’s qualifications as a whole fall within the scope of Directive 89/48/EEC on the mutual recognition of diplomas;
due to the fact that Mr Koller had in fact acquired an additional qualification over and above that obtained in Austria, no abuse or circumvention of Austrian rules had taken place;
any practical experience required in Austria to become a lawyer is irrelevant for the definition of the term diploma as used in the Directive;
therefore, Mr Koller must be admitted to the foreign lawyers’ aptitude test in Austria;
the host Member State, i.e. Austria, may require an aptitude test only in case of a substantial difference;
an aptitude test may only be prescribed following verification that the knowledge acquired by the applicant in the course of his entire professional experience is capable of covering such substantial difference, if any;
the host Member State shall not require any proof of completion of practical experience.

Mr Koller represented himself in all instances, including the Austrian Constitutional Court¹ and the European Court of Justice.

About Robert Koller:

Robert Koller (31) is admitted as a lawyer in Spain (abogado, since 2005) and Germany (Rechtsanwalt, since 2010) and currently works with an international law firm in Frankfurt am Main, Germany. He is specialised in capital markets and banking, funds and European law. Mr. Koller is also a Chartered Alternative Investment Analyst (CAIA), and is also the Co-Chair of the German CAIA chapter. Prior to moving to Germany, Mr. Koller had also worked as a lawyer with major firms in Spain and Gibraltar.

Long text:

In a dispute between Mr Koller and the Rechtsanwaltsprüfungskommission of the Oberlandesgericht Graz (Lawyers’ Examination Board at the Higher Regional Court, Graz, Austria) concerning the refusal to admit him to the foreign lawyers’ aptitude test for the profession of lawyer in Austria or to exempt him from that test, the OBDK referred two questions to the ECJ for a preliminary ruling on the interpretation of Council Directive 89/48/EEC of 21 December 1988 on a general system for the recognition of higher education diplomas awarded on completion of professional education and training of at least three years’ duration (the “Directive”).

In 2002, Mr Koller, an Austrian national, obtained from the University of Graz (Austria) the degree of Magister der Rechtswissenschaften, a diploma awarded on completion of a cycle of university law studies lasting at least eight semesters. In 2004, the Kingdom of Spain recognised the degree as equivalent to that of Licenciado en Derecho, as the applicant had followed courses inter alia at the Autonomous University of Madrid and passed additional examinations in accordance with the homologation procedure provided by Spanish legislation. In 2005, the Madrid Bar Association admitted Mr Koller as a lawyer (abogado). Consequently, Mr Koller applied for admission to the aptitude test for the profession of lawyer. At the same time, he applied for the waiver under Austrian law in respect of all subjects comprising the aptitude test. Both the Rechtsanwaltsprüfungskommission and the OBDK, by appeal, rejected the application for admission to the aptitude test. It based its reasoning, firstly, on the fact that in Spain, by contrast with the rules applicable in Austria, practical experience is not required in order to pursue the profession of lawyer. The OBDK concluded that Mr Koller’s application had been designed to circumvent the requirement for five years’ practical experience required by the Austrian rules. Secondly, the OBDK took the view that the degree of Licenciado en Derecho was not sufficient for admission to the aptitude test. In 2008, following an appeal by Mr Koller, the Verfassungsgerichtshof (Constitutional Court, Austria) set aside that decision of the OBDK on the ground, inter alia, that it was arbitrary and that there was no evidence of abuse on Mr Koller’s part. Accordingly, the OBDK had to rule again on Mr Koller’s application for admission to the aptitude test for the profession of lawyer. However, the OBDK decided to stay the proceedings and refer to the ECJ for a preliminary ruling.

In its first question, the OBDK asked, in essence, whether, with a view to gaining access to the regulated profession of lawyer in a Member State, subject to passing an aptitude test, the provisions of the Directive may be relied upon by a person who holds a degree issued in that Member State on completion of a cycle of post-secondary studies lasting more than three years, and who also holds an equivalent degree issued in another Member State after additional training of less than three years and enabling him, in that latter State, to have access to the regulated profession of lawyer. The ECJ noted that the concept of a “diploma”, as defined in the Directive, constitutes the cornerstone of the general system for the recognition of higher education diplomas. The Directive entitles any applicant who holds a “diploma”, within the meaning of the Directive, that enables him to pursue a regulated profession in one Member State to pursue the same profession in any other Member State. A “diploma” may also consist of a set of qualifications. That condition is satisfied in relation to qualifications such as those of Mr Koller, each of which was awarded by a competent authority, designated respectively in accordance with Austrian and Spanish legislation. The degree certificate that was awarded to Mr Koller by the University of Graz evidences expressly that the holder must have successfully completed a post-secondary course of at least three years’ duration at a university. Furthermore, Mr Koller has the professional qualifications required for access to the regulated profession of lawyer in Spain. Moreover, the Spanish qualification relied on by Mr. Koller attests his acquisition of an additional qualification over and above that obtained in Austria. The fact that that Spanish document does not attest to professional training of three years undertaken in Spain is irrelevant in that respect because it does not require that the post-secondary studies lasting at least three years have to be undertaken in a Member State other than the host Member State. Accordingly, the ECJ held that with a view to gaining access, subject to passing an aptitude test, to the regulated profession of lawyer in a Member State, the provisions of the Directive as amended may be relied upon by a person who holds a degree issued in that Member State on completion of a cycle of post-secondary studies lasting more than three years, and who also holds an equivalent degree issued in another Member State after additional training of less than three years and enabling him, in that latter State, to have access to the regulated profession of lawyer, which he was actually practising in the latter State on the date on which he applied for admission to the aptitude test.

In its second question, the OBDK asked, in essence, whether the Directive must be interpreted as precluding the competent authorities of the host Member State from refusing to authorise a person to take the aptitude test for the profession of lawyer without proof of completion of the period of practical experience required by the legislation of that Member State. The ECJ held that since the profession is one the exercise of which requires a precise knowledge of national law and an essential and constant element of which is the provision of advice and/or assistance concerning national law, the Directive does not prevent the host Member State from requiring that the applicant take an aptitude test, provided that the latter State first verifies whether the knowledge acquired by the applicant in the course of his professional experience is capable of covering, in whole or in part, any substantial difference. Given that the applicant is subject, in the host Member State, to an aptitude test whose very purpose is to ensure that he is capable of exercising the regulated profession in that Member State, the ECJ held that the latter cannot deny authorisation to a person to take such a test on the ground that he has not completed the period of practical experience required by the legislation of that Member State.

For the full text of the decision, please click here (German here).

Hedge fund contagion

noreply@blogger.com (Robert Koller-Vernot, CAIA) — Sat, 21 Nov 2009 01:20:00 +0000

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(Robert Koller, CAIA - www.HedgeFund-Lawyer.com)

The European Central Bank has just recently published under its working paper series a report on "Risk Spillover Among Hedge Funds - The Role of Redemptions and Fund Failures".

This working paper gives some interesting insight on the interconnectedness of hedge funds and how prone they are to be "infected" by "diseases" suffered by their peers in the same investment style and in other styles. It also takes a look on the benefits of diversification and identifies some of the metrics to be watched in order to predict hedge fund failure. The study by Benjamin Klaus and Bronka Rzepkowski has reviewed funds from the TASS database from January 1994 to May 2008. The paper measures the spill-over risk by the increase in the failure probability of hedge funds, which stems from redemptions or failures experienced by other hedge funds in previous months.

Contagion risks reviewed

The authors have investigated two risks which might increase the probability of hedge fund failure which could spill-over to their peers:

Redemptions by investors: Redemptions are considered to have negative effects on the remaining investors as fund managers are required to hold more cash, which reduces returns and which in turn will make the remaining investors also redeeming their participations in the relevant fund causing its failure. The authors call this effect "self-fulfilling run".
Failures of other funds: Prime brokers may take failures of other funds into account when assessing their risks. This could lead to a different, i.e. increased, perception of the risk by the prime broker(s) and lead them to tighten financial conditions, such as leverage or interest rates, to their hedge fund clients. These tightened conditions could propagate stress through to other funds. The paper cites Brunnermeier and Pedersen when speaking about a "margin spiral" and a "loss spiral". The former arises if higher margins/interest rates make the funding more difficult and as a consequence cause even higher margins/interest rates. The latter appears when losses on a fund's positions occur and force the fund to sell more of its assets which would cause a further decline in price. Both spirals seem to reinforce each other therefore having a worse effect than each taken for it alone.

Factors that influence fund failures

The authors have identified various factors that seem to have a statistical relevant influence on the failure of hedge funds. These criteria, some of them not very surprisingly and unfortunately not very elaborated, are: fund performance, capital withdrawals, assets under management, risk, redemption restrictions, age of the fund and investment style. Further they cite the case that investment companies may choose to close or liquidate a fund if it is not performing as well as comparable peers. The most significant indicators for hedge fund failure probability are investments in derivatives, redemptions in funds from the same style category and failures of other funds within the same investment styles.

But the article also includes unspecific factors which help to reduce the failure of hedge funds: size, capital flows, high watermark provisions and the notice period for redemptions. Further, but not as much as the preceding factors, the following are considered to help to avoid failure of funds (unfortunately again very unspecific): contemporaneous and past returns, payout and lock-up periods.

In light of these findings, it is suggested that hedge funds should disclose information to regulatory authorities on size, capital flows, restriction periods, incentive fees and on investments in derivatives. This could well be taken as a guidance for the drafting of the envisaged and highly controversial Alternative Investment Fund Managers Directive (AIFM, original text and new proposal) by the institutions of the European Union, since the AIFM is asking for far more disclosure and has a very different view on what is important. Interestingly, the working paper does not mention explicitly leverage (one of the main concerns of the AIFM) as a metric contributing to an increased failure probability.

Conclusions

Coming back to the originally reviewed reasons for spill-over, redemptions and failures of other funds, the paper finds that redemptions have a larger impact on fund failures' probability than the failure of other hedge funds. Further, it discovers that the contagion effect from both sources is much higher for funds in the same investment style than for funds using different strategies.

Hedge funds pursuing different strategies are only affected by investors' redemptions. An increase in redemptions reduces the failure probability of funds operating in the style category not affected by the redemptions, i.e. it is actually beneficial. A reason could be the re-allocation of investor funds from one hedge fund strategy to another one, unaffected by redemptions.

Finally, the article confirms what is almost natural; hedge funds that hold portfolios diversified in relation to the assets they hold or the geographical market they invest in, are less prone to failure than less diversified funds. Diversified funds also seem to be immune to an increase in the probility of failure by redemptions in other funds.

www.HedgeFund-Lawyer.com

Chosen by the gods

noreply@blogger.com (Robert Koller-Vernot, CAIA) — Tue, 01 Sep 2009 22:24:00 +0000

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Someone told me yesterday that the Tobin tax would be a good thing in order to remove “stickiness” and “chaotic behaviour” out of the financial markets.

I don't see a Tobin tax as a good thing. Chaotic behaviour, as he called it, is good as it means evolution and opportunities. If you control everything (and that is meant in two ways: (a) the "stickiness referred to above and (b) transactions will be traceable in every detail), you will not have opportunities but only bureaucrats deciding what is best - I think in history we have plenty of examples that went wrong when bureaucrats were at the orders. Failing, and bubbles, crisis etc. are part of that, is good as it cleans up misalignments. You wouldn’t put a tax on sending emails just because it's chaotic and could for example influence markets.

The aim should be to go in the opposite direction and make other areas as fluid as financial transaction, e.g. world trade. Liberalising markets only stop to make sense when the world has become a huge internal market - until then markets should get even more interconnected and freer. Imbalances would build less often and would be more controllable - how often have you heard that within a country one (geographic) area has caused a country wide crisis because of imbalances?

I think after going for bankers’ boni, low tax jurisdictions and rescuing unviable banks with tax payers' money, this is just the next step hiding up errors committed until now and as in the case of low tax countries, the world will be bullied into a new adventure. In the end who will have initiative? The bankers who cannot make a fortune anymore? The traders that have to pay tax for what they do (on top of income, corporate and wealth taxes)? If governments had spent money wisely before, we wouldn't need to search for other sources of income. I would be really curious how many billions a year are spent only in subsidies for coal mines as opposed to "green" energy.

Where will be the end? How much more taxes do we have to pay to make up for failed enterprises and projects which are kept artificially alive? Are jobs really the reason or could we create more jobs, by using this money otherwise, i.e. by using it ourselves? Who decides who may fail and who not? If anyone finds a clear and objective rule in bail-outs and failures that happened in the past 24 months, I would be very surprised. In the end it is a new power game – someone has to control and decide. Since we are civilized people now, the power hungry do not gain power by making warfare or by having police states (save for certain exceptions). They decide who is allowed to live or die (economically). So we have a whole new kind of power structure, which has to be exported everywhere in order to work. The positive aspect is that bail outs make wars superfluous. We just decide whether we let Iceland down or not. But in the end – and I am no friend of conspiracy theories – this does not lead us anywhere else than being subject to even fewer people deciding our (economic) fates. Very often we have not even voted for them (Trichet, Bernanke, Barroso, etc.).

What we need right now is not more regulation, more taxes and more bail-outs, we need the opposite and clear and objective rules to play by. Elites could set these rules but under public control. I always use to say that laws 200 years ago were drafted by single persons and of much higher quality than nowadays – just look at the civil codes that came up around 1804 to 1811. They are generally the least amended laws of countries in contrast to, let’s say, any tax law. However, they were subject to public control (admittedly, some with a certain time lag). We only need rules on fair play and that if someone fails he has to leave the game and start over. This needs someone who enforces the fair play, but that is all. We don’t need gods to tell us how to move our chess figures in the play or overriding the rules of the game in order to save your king or queen or even some peasants.

It is a new road to serfdom that is starting to show and it is now urgent to stop this trend.

http://www.stoptobin.com/

A new central planning era

noreply@blogger.com (Robert Koller-Vernot, CAIA) — Tue, 28 Jul 2009 21:26:00 +0000

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In the end it's all about risk taking not avoiding - if you want to make a profit you have to take risks. If you hedge against all of it is a cero sum game, just think of playing always the same amount on red and black on a roulette table. Banks should be able to go bust as any other business, because the next time it's not the banks but the countries that go bust with them ; cfr. Iceland.

Risk taking is also luck. A "real" producing company has to take risks when deciding which products to sell/develop/market etc. If it goes wrong their risk assessment was wrong and the company goes bust and no one cares. Why should we care in the case of banks? Because of the savers who deposited their money there? I don't think so because then we should also care about the pension plan savers who invested in the shares of such banks, but nobody does.

I am really getting tired of hearing about VaR, Sharpe, stress tests and regulators taking business decisions. We are on the way to serfdom and we are creating a central planning monster of new creation. Guys, the USSR has not gone for such a long time- what happened to the collective memory?

Let people take risks again, if it goes wrong it goes wrong. Full stop. Let risk assessment and luck/chance/chaos decide who lives and who dies. We do not need a central authority to decide who is worthwhile living and who is better dead. What we are trying to do now is to force the models we have developed and that have been proved wrong to function. Now we will have a regulator who will act as a rational investor, i.e. what the crowd did not manage to produce we will now put in the hands of very few. Who guarantees that those people have the right criteria and are always rationale, do not act politically or will not manipulate markets? What about corruption?

We are now paying trillions of any currency for what? So that some banks survive because otherwise the “system” would break down. Who defines the system and why is it important to us. Systems evolve, are alive and develop. Why would we want to keep a certain status quo? Let the world its evolution. It is well known in genetics that reducing the diversity and controlling the system will lead to more problems. Our trillions didn’t even help to let people who got into mortgages that they couldn’t pay in their houses. They had to go, but the trillions are still lost. Wouldn’t it have been better to pay in 2005 or so 500 million for social housing programs giving away flats for free so that those people had a roof above their heads? Bubbles wouldn’t have grown as much as they did and perhaps we wouldn’t have had a financial crisis? I would say that this would have solved only part of the problem. As long as there is a bunch of people saying how the economy has to go, how much surplus you create, how interest rates are fixed and decide what is the adequate price of money, how much one currency costs for exchange of another and who is too big to fail, we will not prevent future crisis.

If we let the economy, the financial system, etc. evolve as it was a living organism without too much intervention from the outside it will evolve to a better state in order to survive and to be better adapted as in biological evolution. If we mess around we will only provoke greater tail events, more black swans. Just think about all the experiments mankind did and where in order to solve one problem it created an even bigger one (to stay in Australia, think about cane toads in Australia). In order to avoid further cane toad syndromes, we should retreat not advance. We should focus on who really needs protection and just protect those helpless and not everyone. The often cited grandmother being sold Lehman structured notes is not worth protecting at the cost of suffocating any possibility of evolution in the system. If there are leaner ways to protect her then do it otherwise leave it. You don’t hand out machine guns to any granny just in case she is robbed, not even if she lives in a dangerous area or often frequents such areas. You might increase police presence in such areas but you will not create a 1984 state.
Let common sense take over again. The current hysteria is nothing else then the other side of the coin. First we had the irrational investor now we have the irrational regulator/legislator. And this makes it only worse. The next 1 in 100,000,000,000 years event is just around the corner and nobody will be able to explain how two such events could have occurred in such a short time if it is statistically impossible.

The more freedom we give the “system” the more we will benefit. It will grow stable and create new niches and from such niches new ones will evolve – just like zooming into a fractal. There will be crisis and big ones, but they will not be caused by us, but by bad luck and until the end of time no one will be able to control chance. Even if you trough a coin a million times, the distribution of its outcomes will not be normal, although close. It just depends on your scale for the graph.

Bill Gates wants to fund anti hurricane machine with Cat-Bonds

noreply@blogger.com (Robert Koller-Vernot, CAIA) — Mon, 13 Jul 2009 13:30:00 +0000

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Apparently Bill gates and some other important brains want to stop hurricanes by mixing hot and cold water. The problem is that it would need many, many, many ships to do so. But Bill Gates and his colleagues have found a solution: they want to fund the costs through the sale of catastrophe insurance policies - and they want to patent it.

As posted on this blog previously we have already published such a concept for financing infrastructure with cat-bonds see here http://kollerro.blogspot.com/2008/11/cat-bonds-and-ppp-interesting-financing.html.

We hope the patent office will keep this in mind.

Here is the link to the story http://www.techflash.com/microsoft/50385622.html.

Travel companies should start looking into swine-flu ART

noreply@blogger.com (Robert Koller-Vernot, CAIA) — Sun, 03 May 2009 21:01:00 +0000

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Insurance companies already have a track record transferring extreme mortality risks to the capital markets. This is normally done by issuing a special kind of catastrophe bonds, called extreme mortality bond. These bonds pay a higher coupon in exchange for insuring the risk of a catastrophic increase in deaths due to a pandemic or plague. Should a certain threshold of deaths above the average materialise, interest and/or capital will be foregone for investors and paid out to the insurance company. According to an October 2008 report by Guy Carpenter, there are around USD1.5 billion of such bonds outstanding. However this is only a drop in a bucket since estimates are that in case of a full-fledged pandemic it could cost US life insurance alone between USD31 billion and USD133 billion, says Reuters.

Despite the outbreak of swine-flu the outstanding cat bonds have not shown any great price reaction. The main reason for this might be that in order to be triggered millions of people have to die which currently - thank God - does not look very likely. Additionally the outstanding mortality bonds cover only the United States, Britain, Canada, France, Germany and Japan.

So the possibility of insurance companies being hit by a pandemic seems very low since a lot of people would have to die first. But what about the travel companies, that feel the pain immediately? Shares in companies like Lufthansa (LHA), Thomas Cook (TCG), Accor (AC), Iberia (IB) and others suffered immediately from booking cancellations, health warnings and possible travel restrictions. These companies are not hedged against pandemics and other catastrophes such as terrorism except for the normal insurance policies. Cat bonds and other insurance linked securities might be cost efficient, long-term new hedging universe still to be tapped by such companies. Travel companies would benefit by issuing cat bonds from long-term insurance without the need to renegotiate every year the terms. Cat bonds issued by tourism enterprises could be triggered by events like travel restrictions, sudden fall in passenger numbers, orders to ground aircrafts such as during 9/11 and other similar incidents.

Another advantage of using cat bonds in general is that since being also some kind of securitisation and alternative risk transfer (ART) they have learned from the errors made by other securitisation vehicles, such as CDOs, RMBS etc. The latest cat bond structures have implemented increased transparency provisions and other safeguards (for more information see article “How state guaranteed bonds can help to free up capital in insurance companies” at HedgeFund-Lawyer.com) in order to allow investors an adequate assessment of risk. In addition to this, insurance for the travel industry is a sector well studied by legions of actuaries which would increase the acceptance of travel companies cat bonds by the capital markets.

http://www.hedgefund-lawyer.com/

Next sovereign debt crisis around the corner!?

noreply@blogger.com (Robert Koller-Vernot, CAIA) — Sun, 03 May 2009 20:03:00 +0000

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According to a study by the OECD sovereign debt crisis are announced by high fees charged by the investment banks placing the sovereign bonds. So in the view of latest sovereign issues, especially from Eastern Europe which had enormous fees charged, and that for example Deutsche Bank's Q1 profits were mainly driven by bond issuance (although both, sovereign and corporate), is the next crisis underway and if so where?

And what about if sovereigns,a s pointed out in a previous post, do not find enough buyers.

What role do government guaranteed bonds play, do we have to include their fee spreads in the equation?

Very disturbing outlook.

http://www.hedgefund-lawyer.com/

CDS, CDOs and arsonists

noreply@blogger.com (Robert Koller-Vernot, CAIA) — Sun, 03 May 2009 15:01:00 +0000

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The CDS-market is basically an insurance market. Insurance has to calculate risk probabilities on a basis that can be objectively reproduced. However, an insurance company would not underwrite a policy for an event that may be influenced by the policy holder or at least would not concentrate large parts of its business in such policies as long as it cannot be diversified away, as for example in car insurance (most claims are accidents and only a few might have a fraudulent background) or there are strong incentives not to manipulate the payout (such as in life insurance).

Another way to insure risks that may be influenced is to underwrite charging high premiums, as happens with director’s liability or terrorism policies. This may dissuade people in defrauding their insurance because the gain achieved through fraud must be proportionally much higher.
CDS, on the other hand, may be manipulated quite easily over OTC markets and also by a third party which is the respective company subject of the CDS protection. Premiums are not high enough to be dissuasive and diversification is also limited.

Yet a step further is insurance on CDOs either through a CDS or monoline. CDOs pose an additional problem for insurance protection due to a basic flaw in their structure. They are not so complex instruments as is always said, but their problem lies within the fact that no one knows exactly what is packaged into them. One does not know whether one has sufficiently diversified away any risk, because policies are underwritten by others, i.e. one just gets the repackaged mortgages or loans and has to believe. Though, insurance, or investments in general, should not be a matter of faith but of verifiable statistics.

Regulation of risk management should therefore start where it is supposed to start: not with capital requirements based on complex valuation and risk management tools, but with the obligation to see whether risk management is actually possible for certain areas. Would you be able to manage the risk of underwriting fire insurance policies to an arsonist?

Good examples of a new generation o transparent investments are the cat-bond structures that have been issued this year. Collateral is marked-to-market daily and there are to-up obligations for swap counterparties. Something that should lead the way in other areas of securitisation.

http://www.hedgefund-lawyer.com/

How state guaranteed bonds can help to free up capital in insurance companies

noreply@blogger.com (Robert Koller-Vernot, CAIA) — Mon, 20 Apr 2009 00:52:00 +0000

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In this short article, I will explore the latest developments in the cat bond market and how such changes may help on the one hand troubled banks to sell their debt and insurance companies to free up capital.

The full article can be found here.

http://www.hedgefund-lawyer.com/

OECD recommends Cat Bonds

noreply@blogger.com (Robert Koller-Vernot, CAIA) — Sun, 19 Apr 2009 19:41:00 +0000

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The OECD has recently recommended that member states should protect their infrastructure better. In a report released the organisation suggests that it would be beneficial to use cat bonds to protect infrastructure. This is only a little step away from the suggestion made some time ago on this blog when we proposed to finance infrastructure projects through the issuance of cat bonds (see article here).

http://www.hedgefund-lawyer.com/

Cat-Bonds and PPP: An interesting financing idea in times of recession

noreply@blogger.com (Robert Koller-Vernot, CAIA) — Mon, 03 Nov 2008 03:05:00 +0000

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This week I have prepared a small article which should serve as an introduction into cat-bonds, how they work and what advantages they have in portfolio construction.

I also explore the possibility merging two familiar concepts, cat-bonds and Public Private Partnership (PPP). By doing so, infrastructure could be financed in a way that would help balance sheets to show lesser a burden than with "normal" debt financing.

The full article can be found here.

http://www.hedgefund-lawyer.com/

Porsche, the index and a fundamental flaw

noreply@blogger.com (Robert Koller-Vernot, CAIA) — Mon, 03 Nov 2008 03:04:00 +0000

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We have all read and heard about the short squeeze in Volkswagen caused by Porsche, some even felt the pain. I think Porsche did a great job, considering that its methods were accepted by the relevant regulators. Nevertheless, it would be a cleaner solution to spin-off the options business from the car business and make a hedge fund out of it.

What is really disturbing about the whole story is the fact that Volkswagen-shares drove several stock indices - and as a consequence index-funds - crazy. And, although the press is of another opinion, this was not just particular to Germany and its blue chip index DAX. The question is whether market capitalization indices are not fundamentally flawed by not taking into account stock held outside the free float (for a description of the DAX see here). In a situation as with Volkswagen, where only a little less than 6% of the shares were available for trade, supply and demand over such a small portion of the capital determines the market capitalization. I agree that VW is an extreme example, but in an up-market where buy and hold strategies prevail, the free float logically also will be lower, which probably might lead to similar phenomena, i.e. bubbles, although they might not be so obvious. Cutting the exposure of an index to a certain limit of a specific stock does not remedy the illness: the price of such stock is still determined by very few market players and therefore is a distorted reality. One has to distinguish between the market price of a stock, which is relevant for persons that want to actually trade such stock, and the value of a stock. An index should not be prisoner of the market price without taking into account stock outside the free float. Not-selling is also a view worth considering, especially if one or more investors own a substantial part of a company's capital. The lower the free float the less the market price should influence the index and the more the views of holders of locked-in shares should be taken into account. An index build with such a dynamic rule would mirror far better economic realities as it would take into account the views of actual buyers and sellers on the share price as well as of holders of locked-in shares.

By the way: the figures in the media of losses in hedge funds of up to US$30bn because of the short squeeze in VW seem far overreaching. Actual losses seem to be more in the area of US$4bn, which is still painful but - taken as a single event - not a killer-event (see FT).

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The CDS nightmare that was no nightmare

noreply@blogger.com (Robert Koller-Vernot, CAIA) — Mon, 03 Nov 2008 03:03:00 +0000

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This week, Robert Pickel, chief executive officer of the International Swaps and Derivatives Association, explained in an article in the FT how counterparties to CDS trades on Lehman Brothers cash-settled their transactions. The media was announcing payout figures of up to US$ 400bn, however, after paying 91 cents on the dollar and after netting, the real pay-out reached somewhat between US$ 6-8bn. Most of it has apparently been collateralized. So. luckily, the world did not go under because of the bad derivatives and the evil hedge funds. Effectively, CDS markets helped to avoid further losses during the short selling bans, since a lot of funds used CDS as proxies for shorting stock.

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Butterflies that whip the financial markets

noreply@blogger.com (Robert Koller-Vernot, CAIA) — Mon, 03 Nov 2008 03:02:00 +0000

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I found this interesting video on YouTube, where Benoit Mandelbrot, founder of the chaos theory, and Nicholas Taleb, author of the Black Swan, discuss the probabilities of the improbable. Basing their discussions on the fact that each time a highly improbable event does not occur it becomes even more improbable and therefore causing a wrong feeling of security, they stress that such events are not normally distributed and still can occur any time. Some recent examples found during the last days in the press:

the mathematical impossibility of negative swap spreads [www]
the link between Mrs Watanabe's mood swings and the price level of exotic currencies, distant equity markets and sundry commodities [www]
the "Great Moderation" argument that brought back volatility [www]

So are we now posed to abandon historical series and calculate probabilities based on previous performance? Should we start to look increasingly for self similarity in financial markets? Or should we just get rid of butterflies?

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Starving out the locusts

noreply@blogger.com (Robert Koller-Vernot, CAIA) — Mon, 03 Nov 2008 03:02:00 +0000

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On the regulatory side the guys from AIMA seem to be unstoppable, first they published the HedgeFund Matrix, now the new AIMA website went live and they also issued the latest capital adequacy guidance to UK hedge fund managers (see press release). Great job and very useful stuff.

Some managers in Hong Kong should have had a closer look at AIMA's best practice guidelines - it might have avoided them being rebuked by the Honk Kong SFC.

A little further west, the FSA (!) said that there is no need for more hedge fund regulation. CEO Hector Sants stated "Hedge fund managers in general are weathering the market turmoil pretty well in the circumstances, certainly versus other components of the financial services industry". Is this the confession that the unregulated industry did far better than the regulated one? Perhaps in the UK the regulator finally got it right.

However, there is always Germany: according to the FT Deutschland the German socialist party wants to tax private equity funds. Hedge funds should according to the SPD only be able to act in Germany when registered in an EU country and should disclose their ownership and asset structure. The party also wants to prevent insurance companies and pensions funds to invest in hedge funds. For them the solution to the financial crisis seems to be to starve out what they call "locusts". However, Germans saving for theîr pensions might think that someone else should be dubbed locusts.

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Too much sovereign debt

noreply@blogger.com (Robert Koller-Vernot, CAIA) — Mon, 03 Nov 2008 03:01:00 +0000

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States are having a hard time to raise the debt they need to bail out their banks. Spain, Belgium and Austria have not been able to sell their debt and have called off the relevant auctions (see FT). Also Finland seemed to have had difficulties (FT). The main question is who will buy the billions of new debt to be issued this and next year and from which countries. Spreads between German bunds and Italian and Greek debt are on a record high. In order for such countries to sell their debt, rates must be very attractive. Corporate issuers will suffer from this increased competition (including state guaranteed bank bonds) of more than EUR 2,600bn.

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Passporting 4.0

noreply@blogger.com (Robert Koller-Vernot, CAIA) — Mon, 03 Nov 2008 03:00:00 +0000

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CESR, the European securities committee, submitted its final advice to the European Commission on the UCITS Management Company Passport. And, surprisingly, CESR suggests introducing it with the next UCITS revision called UICTS IV. The Eurpopean Parliament is now posed to re-introduce this passport to the proposed new legislation despite the fierce resistance of Luxembourg and Ireland.

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The devil, the hedge fund and the bankers

noreply@blogger.com (Robert Koller-Vernot, CAIA) — Mon, 20 Oct 2008 23:45:00 +0000

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The blame game goes on. Italy's finance minister, Giulio Tremonti, wants to abolish hedge funds. At all. With no exception. Why? Because they are " absolutely crazy bodies" and a " hellish $2,000bn industry" (see story in the FT). I would have expected this perhaps from the Pope – at the end of the day the Germans never liked the "locusts". However, the evil attack got countered by several industry associations. Thank god. Perhaps, Mr. Tremonti should have read Andre Lahde's letter to his investors. The hedge fund manager announced the end of his career and blamed his success on the " stupid bankers of American aristocracy". Now, who's the devil? By the way, I don't support Lahde's idea of solving America's energy (and other) problems with hemp. I'll leave it up to your judgment.

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New best practice guidelines for hedgies

noreply@blogger.com (Robert Koller-Vernot, CAIA) — Mon, 20 Oct 2008 00:30:00 +0000

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Although difficult times, the hedge fund community is answering the blame game with increased activity in issuing best practice guidelines. On the one hand AIMA published the HedgeFund Matrix, a ground breaking project in a step towards harmonized hedge fund practices. This very handy tool helps you to search and read through various of AIMA's and other organizations best practice guides (you can also download the entire guides). I really recommend reading (and implementing) it to anyone in the hedge-fund world. Following these principles will keep you out a lot of unintended troubles (e.g. you probably wouldn't have been doing this. IOSCO published a consultation for regulation of fund of hedge funds. And finally, our best friends, the SWF, also agreed on some principles, although very generic. The Generally Accepted Principles and Practices (GAPP)—Santiago Principles got even their own homepage from the IMF. I am curious who will control the compliance with the Santiago Principles.

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More conspiracy

noreply@blogger.com (Robert Koller-Vernot, CAIA) — Mon, 20 Oct 2008 00:20:00 +0000

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Is China to blame for the global bubbles because it didn't let its currency float freely? The argument goes that if the currency had appreciated with the growing exports, China wouldn't have had the possibility to invest its vast currency reserves, which grew due to the fixed exchange rate, overseas. This has lead to bubbles in different asset classes and to lowering yields in the pension markets. But, please read it yourselves. Alternatively, I can offer you the theory explaining the decline of the gold price. Well, central banks sold roughly 8 tons of gold lately. Ok, I agree, 8 tons is not worth mentioning. It's gold loans from central banks that move markets. I hope they kept some gold and didn't sell everything, because some regulator (perhaps they themselves) could forbid naked shorting of physical gold! Again, very devilish. Finally, I came across the new Bundesbank. Well, not exactly, but it is also a money printing machine and comes in a very fashionable Societas Europeae packaging. No clue? We are talking about Porsche SE's fruit machine, as an analyst from Bernstein called it (comes with an explanatory graph).

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Lehman aftermath

noreply@blogger.com (Robert Koller-Vernot, CAIA) — Mon, 20 Oct 2008 00:10:00 +0000

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London is poised to lose substantial business in primer brokerage after the disaster of hedge fund money stuck in UK Lehman entities under administration, reports the FT. Funds are already transferring money to US prime brokers. However, with global banks, you never know where your money ends up (see Re-hypothecation hypotheses). It is, therefore, vital to have such eventualities in the contracts with your prime broker. In Europe there are several ways how to structure it properly – provided always that you react quickly enough in the worst case scenario.

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Offshore deposit protection schemes

noreply@blogger.com (Robert Koller-Vernot, CAIA) — Mon, 20 Oct 2008 00:00:00 +0000

The offshore world is moving in order to calm investors. Jersey moved to establish a protection scheme – although only for residents, Switzerland is to match the EU-Scheme and Gibraltar, as a member of the EU, is to increase the amount protected by its scheme in accordance with new EU-obligations for member states. And the Isle of Man is increasing its own scheme to GBP 50,000. Probably, the best place to put money offshore is in branches of EU or Swiss banks, which are covered by their home member state guarantee schemes.

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To end with, obituaries

noreply@blogger.com (Robert Koller-Vernot, CAIA) — Sun, 19 Oct 2008 23:55:00 +0000

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Last week, we saw the death of the first four letter acronym. The first ever Constant Proportion Debt Obligations (AKA: AAA superbonds, holy grails of structured finance, hydras, unsinkable instruments) have hit their cash-out triggers. ABN's SURF CPDO bonds died painfully in their sleep (see the FT). We hope the epidemic does not affect the three letter guys. By the way, the guys who gave the CPDO triple A and similar things are told to be not to reliable. At least so think Roman Frydman, Michael Goldberg and Edmund Phelps. But the impact of this is worse. Another cadaver left by the credit crunch. We now know, according to the authors aforementioned, that it's not true that markets are efficient!

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