Finance has for a long time been the UK’s biggest sector, ever since we wasted all the oil we had on a gigantic social welfare system, and closed down our factories.

That ends today. Excluding HSBC which isn’t really ‘British’, there were only 7 big British banks in existance 18 months ago. Most of them have histories extending back 100-300 years. One of them, RBS, was described as ‘the biggest bank in the world’ by assets, and was top 10 rated by Forbes last year. We now have, after 3 weeks of remarkable change:

• 1 dead / bought out (Alliance and Leicester).
  
• 2 nationalised (Northern Rock, Bradford and Bingely)
  
• As of today, 3 more nationalised or part-nationalised (Royal Bank of Scotland, Halifax Bank of Scotland, and Lloyds).
  
• The last one is on the brink of nationalisation if a rights issue fails (Barclays)
  

Unbelievable. The People’s Republic of China has a banking sector with a better grasp of capitalism.

This is the UK’s biggest industry and it has just died in 3 weeks. How did it die? The government leaked information through BBC journalists, particularly a BBC reporter called Robert Peston. There’s no conspiracy theory here folks, go look at his blog - you’ll find government plans to support the banks being released outside of the UK’s official market news service. Needless to say, the consequences for the banks were dire, particularly since many of the details leaked through journalists were inaccurate (about resignations, about the necessity of a bailout, the size of a bailout)…

Consequently, the government has effectively taken over a number of highly profitable banks for next to nothing. And we now have an incompetent government running our biggest industry.

Their first move? “Let the LENDING BEGIN!”. They immediately forced the banks to return to 2007 lending levels. See the RNS statements from the UK banks for the gory details - you can’t make this kind of stuff up. This is madness. In a world that is being destroyed by debt, their solution is to steal the public’s pension and savings assets and at the same time, try to get the public deeper into debt buying overpriced piles of bricks. I suppose it’s no big coincidence that so many members of the UK’s ruling Labour party seem to own a portfolio of rented housing…

It’s OK though. The UK can become rich and prosperous again if we just keep building more houses and selling them to each other at higher and higher prices until everyone is a millionaire. Hurray! :-(

Suffice to say it’s been the most interesting two weeks in finance, of my whole life.

We’ve lost the world’s biggest insurer, and basically all the world’s biggest investment banks are dead or eaten by competitors. Most of this happened in just 10 days.

In the UK, we had about 8 big banks of varying sizes, so far 2 are dead (NRK/BB), 2 have been forced into takeovers (AL, HBOS). That just leaves LLOY, BARC, RBS, and HSBC. It’s exciting stuff.

Meanwhile in the USA, idiot citizens are phoning in to their representatives, trying to stop politicians passing a $700bn financial stability package. This is tremendously short-sighted. What do you think will happen if the banks become paralysed or bankrupt? Hundreds of thousands of businesses will be screwed. Hundreds of millions of individuals will potentially be screwed as the housing market begins a new and steeper nosedive, as their pension funds collapse, and as jobs disappear. John Mauldin has it right - pinch your nose and do the deal, because it’s the least bad of many bad options right now.

Meanwhile, Taiwan has tried to keep it’s housing market and stockmarket afloat by making money cheaper to borrow again, i.e. dropping interest rates. But this is foolish - the banks are paralysed by not knowing what losses they’ve taken and what losses their counterparties are taking. So, it doesn’t matter how low you put interest rates, the banks simply won’t lend. This is a liquidity crunch now, far more than an affordability crunch (though the housing market here is pretty bad in that regard too!)

Check out the Taipei Times. Wow, the media is catching up to the fact that houses are absurdly expensive in Taiwan, particularly Taipei, and it only took them two years to realise that.

““Taiwan’s housing prices are still overpriced,” Chiang Li-wen, manager of Taiwan Cooperative Bank’s (合作金庫銀行) personal banking unit, said by telephone.”

“Taiwan’s top five banks, including Taiwan Cooperative Bank, issued a total of NT$31.97 billion (US$1 billion) in new mortgage loans last month, the lowest since NT$21.19 billion in loans made in February, the central bank said in a statement this week.”

Here is what happened in Japan 18 years ago when the banks realised they had huge losses on their books (just like Taiwan), at a time of ridiculously high house prices (just like Taiwan), and couldn’t lend any more (just like Taiwan). Notice the interest rate graph - dropping interest rates doesn’t save you in a liquidity crunch.

House price declines in Japan, last 18 years. From this article.

Interest rates in Japan, last 18 years. From this article.

Note: RBS and HSBA are the UK’s two biggest banks.
RBS is up 44.2% after the first hour of trading.

Also, a quick comment about Taiwan. The US is reporting some $80 billion NTD of losses for Taiwanese investors and banks. Taiwanese newspapers this week only mentioned about $2-3 billion NTD when reporting on companies that have been hit. If you are reading the Taiwanese press and thinking ‘it’s probably nothing’, you may get badly burned. If you think you are OK because your bank hasn’t been mentioned yet - consider the possibility it is because they are still trying to add up their losses. “No news is not good news” when it comes to admitting losses, unfortunately.

Addendum: check out this beauty of a graph!

Actions, however, speak louder than words.

Action 1: They are pouring taxpayer money into the stockmarket to stop it sinking so fast.
Action 2: They are handing out free/cheap money to the banks to keep them alive (top of article - 3.6 billion US dollars handed out in cheap money on Tuesday alone).
Action 3: They are reducing Taiwanese bank reserve deposit requirements (if the banks have spare money and are not at risk from the USA, why is this needed???)
Action 4: They are telling you not to panic. As they talk to the public following an emergency meeting. Think about it.

If you keep all your money in one place just now, you are MAD. Actually that’s true at any time, but especially true just now.

Check out this list of Taiwanese banks who took giant losses just from the failure of a single US bank.

If you want to see something really amazing, though, look at this. The line represents how ‘risky’ the banks see the world. (It’s the inter-bank lending rate, LIBOR, on which US home loan payments are based).

113 ETF funds collapsed.

The Russian stockmarket is down 17% and trading was halted.

Markets all across Asia were down 5-7% even from the start.

The Shanghai stockmarket is now down 66% since October last year.

HBOS (biggest home loans bank in the UK) dropped by 40% at one point. Huge UK and US banks have been downgraded to near-junk status or have collapsed in the last two days - or been forced into buyouts/mergers. Washington mutual, bradford and bingely, HBOS…

In the UK, all the online stockbrokers stopped working; lots of internet banking accounts stopped working ( I think it is because people are panicking and trying to withdraw money).

The Dow Jones index dropped 500 points; Standards and poor (S&P) had it’s biggest drop since 1989, even worse than 9/11!

The FTSE just closed at a 3 year low.

If you know what PER is, consider the UK’s biggest home loan lender (2/5 of the whole country) is on a PER of 1.3 just now, a fraction of their book value. Most of the other big banks are down an amazing amount.

International banks almost completely stopped lending or trusting each other all day. LIBOR rates had the highest jump ever in history I believe.

Prices on companies worth 10’s of billions of dollars were jumping and dropping by 10%, 20% easily on markets all over the world.

Oil dropped to under $90/barrel. Everyone was going crazy each time it went UP by ONE dollar in a day. Now it drops 5 dollars DOWN in just hours, and the news ignores it! You can hardly find it in the media!

Even the friends I have who are professional traders for large banks had no idea what would be happening next.

It’s so exciting!

Tomorrow might see the world’s biggest bankruptcy ever if AIG cannot persuade Warren Buffett (the world’s richest man) to hand them lots of cash. Apparently Lehman Brothers also tried the ‘oh, please, go on!’ line with Warren and he politely declined.

These are amazing times! If you are interested in finance, now is the time to learn about it! We have front row seats to enjoy a wonderful performance!

What makes me laugh most, though, is this: All of these huge 10%-40% drops in multi-billion pound companies - and indeed - 20% drops in ENTIRE ECONOMIES - were taking place in MINUTES! And yet people tell me their houses can never go down in value; and they laugh when I talk of big drops occurring within a year to house prices.

As though their houses are somehow more diversified and better value than a large bank with sources of income from many businesses, all over the world. As though their little pile of bricks and mud is ‘better’ than an entire G10 country. Insane.

Map of the UK.

Today’s Lesson: The capital cities of the United Kingdom!

London, the capital of the UK, was built near the demographic center of the UK, so that it could represent Northern Ireland, Scotland and England equally without having a huge political or economic bias towards one area of the country. It’s a very logical place for it to be, and so other countries (such as Australia and the United States) have copied this design.

Cambridge, the capital of England, is home to one of the oldest and most famous universities in the world. It’s hardly surprising that the people of Britain wanted to protect such a valuable place of learning from any natural disaster that might occur. So many hundreds of years ago, the city of Cambridge was built beneath the sea, inside a giant glass bubble. This way, if mankind should ever destroy itself, or civilisation collapse, the sum of human knowledge built over the centuries would be preserved. It also won’t shock you to learn that Cambridge has an incredible marine biology department, being surrounded on all sides by the seabed. Scientists need only walk up to the glass wall to be able to observe an incredible variety of underwater creatures. Cambridge University is currently planning on building a new floating campus to allow the university to expand its student intake.

Edinburgh is the world’s most unusual capital city. Built on an outcrop of rocks in the outer hebrides, and surrounded by vast herds of sheep, this capital city has confused tourists since time immemorial. Why on earth was it built in such a remote location? With a modern population of just 3000, it’s not even clear if Edinburgh will continue to exist in the future, as islanders gradually move away towards Glasgow, in the north of Scotland, seeking jobs. If you should ever visit Edinburgh by aeroplane, be sure to watch out through the windows as you land, for farmers clearing their sheep from the runways before the weekly plane full of tourists arrives. There is a city tour bus operating on a circular route of some 200 meters length. Don’t miss it!

Not many people know this, but Ireland and Northern Ireland are the only two countries in the world that don’t actually have any capital cities! Instead, everyone lives in (roughly) equally spaced-apart houses along three giant streets that stretch the length of the island. In recent years, small villages have been allowed to form, so that people can find the pubs more easily. It’s hard to become lost while on holiday here - just remember which of the three streets you’re currently on, and keep driving until you find a village. Be careful though! There’s a small error in this map. Northern Ireland, through a quirk of history, is in fact located in the very southwest of Ireland, near Dublin.

Wales is famous for the fact that it doesn’t really exist. In fact, “Wales” is just a traditional joke played on tourists by people in the west of England.

Next week: Canada, the 51st state… (of Australia).

http://www.swaprates.co.uk

If it says ‘UK 1 year 6.2%‘ (as it currently does) then that means, the billions of pounds slushing around in the futures market has been (on average) bet upon the outcome of ‘we think interest rates will be 6.2% in June 2008′. The site provides US, EU and UK rates over a number of different timespans.

It’s not completely accurate - for 2 reasons. Firstly it’s just the average of what bankers are estimating and staking their money on, and they are ultimately only human. Secondly, there is a little bit of ‘margin’ built into the system. You are rewarded, in other words, for being prepared to lend based on your guess of a future rate. So 6.2% probably really means about 6.1% to 6.15%.

You can see how the market’s views are changing too, using the visualisations on this site. Just now, people are getting pessimistic about international rates - fast! They are beginning to think that rates will rise much further than has been talked about in the newspapers.

Changing subject: I always wonder why people depend on the newspapers for expectations of future interest rates/mortgage rates. Remember that the majority of newspapers are in the business of telling people whatever they want to hear. If their finance writers were actually any good with money, why would they still be working for a newspaper, rather than sunbathing on a nice tropical island?

Picture liberated from inmannews.com.

In summary: Futures markets are in the business of accurately estimating future economic data; they have billions of pounds on the line. I would therefore encourage you to pay rather more attention to this swap rates site, and rather less to the front pages of tabloids, if you are curious about what may happen to mortgage costs or cash savings in the future.

I hope you find this useful.