Thursday 19 September 2019

Jim Bianco: 'Why ECB shows central bankers can make for bad capitalists'

ECB headquarters in Frankfurt
ECB headquarters in Frankfurt

Jim Bianco

The global synchronised economic recovery has turned into a global synchronised economic downturn.

The outlook seems to get bleaker by the day, and major central banks are hinting they may need to keep monetary policies loose. The European Central Bank has even suggested it could start buying corporate bonds again.

Let's hope it doesn't come to that, because it is becoming evident central bankers make for bad capitalists.

Consider Germany's Bayer AG, which agreed to buy Monsanto in May 2016 for $66bn (€58.8bn) in what was then the largest all-cash merger ever announced. The deal was controversial from the start as Bayer was going to need to raise billions. Traditionally, this means going on a roadshow and explaining its plan in great detail. Without evidence of a credible plan, capitalists will not part with their money.

Not the ECB. It just so happened that in June 2016 it began a new effort to stimulate the region's economy by buying corporate bonds under the Corporate Securities Purchase Programme (CSPP).

So how did the ECB decide which corporate bonds to buy? The CSPP set up the following simple rules to qualify:

* Incorporated in the eurozone and denominated in euros;

* Non-financial, including any parent company (the ECB was already in too deep with the banks);

* Investment grade with a maturity between six months and 31 years;

* No asset-backed or structured securities.

Nowhere in these rules were considerations such as coverage ratios, debt to equity percentages, use of cash or management plans. The ECB left those issues to the credit rating companies.

The last time investors delegated investment decisions to ratings firms was mortgage securities in the early to mid-2000s. This was before housing collapsed, leading to large defaults on mortgage securities and ushering in the worst financial crisis since the Great Depression.

Bayer's Monsanto purchase has been nothing but problematic. The company last week lost a second trial over claims the weedkiller Roundup, which came with the Monsanto deal, causes cancer. Its shares have fallen to their lowest since 2012.

The ECB has been very secretive about the CSPP programme. It only publishes a list of company debt securities it holds, but not amounts. Bayer is on the list, but the amount of debt the ECB bought to finance the Monsanto deal is unknown.

The ECB should have known better. In September 2015, before the CSPP began, it was buying car loans, asset-backed debt and securitised loans. This included the benchmark issuer of Volkswagen, which became embroiled in rigged emission tests in the US for its diesel cars. Or in January 2018, when the ECB was forced to sell its Steinhoff International Holdings debt after the company was downgraded to junk.

The ECB's cheap money, no-questions-asked programme also financed, maybe supported, other troubled firms, such as Arkema, Proximus and Glencore.

What does the ECB say about all this? It conducted a study last year which concluded evidence of adverse side-effects on corporate financing and market functioning as a result of CSPP is scarce.

Overall, the findings back the assessment of a successful implementation under changing market conditions without having a distorting market impact.

In other words, the ECB is falling into the trap of mistaking brains with a bull market. Buying bonds when things are good will show good results. The question is, are they creating easy money distortions so companies can engage is questionable behaviour?

The ongoing saga of Bayer's purchase of Monsanto thanks to the ECB suggests policy-makers need to look deeper at the true costs of this programme. If they do, they might not like what they see.



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