federal reserve

Gold, Long a Secure Investment, Loses Its Luster

April 10, 2013 by NewsMaker Leave a Comment

And in Pocatello, Idaho, the tiny golden treasure of Jon Norstog has dwindled, too. A $29,000 investment that Mr. Norstog made in 2011 is now worth about $17,000, a loss of 42 percent.

“I thought if worst came to worst and the government brought down the world economy, I would still have something that was worth something,” Mr. Norstog, 67, says of his foray into gold.

Gold, pride of Croesus and store of wealth since time immemorial, has turned out to be a very bad investment of late. A mere two years after its price raced to a nominal high, gold is sinking — fast. Its price has fallen 17 percent since late 2011. Wednesday was another bad day for gold: the price of bullion dropped $28 to $1,558 an ounce.

It is a remarkable turnabout for an investment that many have long regarded as one of the safest of all. The decline has been so swift that some Wall Street analysts are declaring the end of a golden age of gold. The stakes are high: the last time the metal went through a patch like this, in the 1980s, its price took 30 years to recover.

What went wrong? The answer, in part, lies in what went right. Analysts say gold is losing its allure after an astonishing 650 percent rally from August 1999 to August 2011. Fast-money hedge fund managers and ordinary savers alike flocked to gold, that haven of havens, when the world economy teetered on the brink in 2009. Now, the worst of the Great Recession has passed. Things are looking up for the economy and, as a result, down for gold. On top of that, concern that the loose monetary policy at Federal Reserve might set off inflation — a prospect that drove investors to gold — have so far proved to be unfounded.

And so Wall Street is growing increasingly bearish on gold, an investment banks and others had deftly marketed to the masses only a few years ago. On Wednesday, Goldman Sachs became the latest big bank to predict further declines, forecasting that the price of gold would sink to $1,390 within a year, down 11 percent from where it traded on Wednesday. Société Générale of France last week issued a report titled, “The End of the Gold Era,” which said the price should fall to $1,375 by the end of the year and could keep falling for years.

Granted, gold has gone through booms and busts before, including at least two from its peak in 1980, when it traded at $835, to its high in 2011. And anyone who bought gold in 1999 and held on has done far better than the average stock market investor. Even after the recent decline, gold is still up 515 percent.

But for a generation of investors, the golden decade created the illusion that the metal would keep rising forever. The financial industry seized on such hopes to market a growing range of gold investments, making the current downturn in gold felt more widely than previous ones. That triumph of marketing gold was apparent in an April 2011 poll by Gallup, which found that 34 percent of Americans thought that gold was the best long-term investment, more than another other investment category, including real estate and mutual funds.

It is hard to know just how much money ordinary Americans plowed into gold, given the array of investment vehicles, including government-minted coins, publicly traded commodity funds, mining company stocks and physical bullion. But $5 billion that flowed into gold-focused mutual funds in 2009 and 2010, according to Morningstar, helped the funds reach a peak value of $26.3 billion. Since hitting a peak in April 2011, those funds have lost half of their value.

“Gold is very much a psychological market,” said William O’Neill, a co-founder of the research firm Logic Advisors, which told its investors to get out of all gold positions in December after recommending the investment for years. “Unless there is some unforeseen development, I think the market is going lower.”

Gold’s abrupt reversal has also been painful for companies that were cashing in on the gold craze. In the last year, two gold-focused mutual funds were liquidated after years of new fund openings, Morningstar data shows. Perhaps the most famous company to come out of the 2011 gold rush, the retail trading company Goldline, has drastically cut back its advertising on cable television, lowering spending to $3.7 million from $17.8 million in 2010, according to Kantar Media.

Article source: http://www.nytimes.com/2013/04/11/business/gold-long-a-secure-investment-loses-its-luster.html?partner=rss&emc=rss

Filed Under: Global Business Tagged With: federal reserve, monetary policy, pocatello

Stock Indexes Edge Ahead

February 28, 2013 by NewsMaker Leave a Comment

Wall Street stocks traded higher Thursday as investors found a few reasons to keep pushing markets higher following a sharp two-day rally, despite a read on economic growth that was weaker than expected.

In afternoon trading, the Standard Poor’s 500-stock index rose 0.2 percent, the Dow Jones industrial average added 0.1 percent and the Nasdaq composite index advanced 0.3 percent

Wall Street has largely resisted expectations of a correction, with the Dow Jones industrial average within striking distance of an all-time high.

The Commerce Department said Thursday that the economy grew 0.1 percent in the fourth quarter, a weaker pace than expected, although a slightly better performance in trade led the government to scratch an earlier estimate of a contraction in gross domestic product.

Separately, the number of Americans filing new claims for unemployment benefits fell more than expected last week, suggesting the labor market recovery was gaining some traction.

“The G.D.P. revision is positive but nothing to write home about, especially since it missed estimates,” said Adam Sarhan, chief executive of Sarhan Capital in New York.

While markets suffered steep losses earlier in the week on concerns over European debt, they have since recovered, with the gains fueled by strong data and comments from Federal Reserve chairman, Ben S. Bernanke, that showed continued support for the Fed’s economic stimulus policy.

“Bulls are still leading the market with the pullback bought up quickly, but we’re in a wait-and-see period after the big move we’ve had,” Mr. Sarhan said.

So far in February, the S.P. 500 has gained 1.2 percent, the Dow is up 1.6 percent and the Nasdaq has added 0.6 percent.

Investors will also be keeping an eye on the debate in Washington over government budget cuts that will take effect starting Friday if lawmakers fail to reach an agreement on spending and taxes. President Obama and Republican Congressional leaders arranged to hold last-ditch talks to prevent the cuts, but expectations were low that any deal would be produced.

“Investors have come to the realization that sequestration isn’t the end of the world and that it will eventually be fixed,” said Oliver Pursche, president of Gary Goldberg Financial Services in Suffern, N.Y. “But going into March, the risk is that the economy slows down and disappoints investors.”

J.C. Penney shares slumped 20.9 percent after the department store reported a steep drop in sales on Wednesday. Groupon also slumped on weak revenue, with the stock off 24 percent.

Sears Holdings started the day higher, after its earnings and sales beat expectations, but then fell 3 percent.

European shares ended modestly higher, while Asian markets closed sharply ahead.

Article source: http://www.nytimes.com/2013/03/01/business/daily-stock-market-activity.html?partner=rss&emc=rss

Filed Under: Economy News Tagged With: dow jones industrial average, federal reserve, striking distance

Bucks Blog: New Mortgage Rules Left Out Down Payments

January 10, 2013 by NewsMaker Leave a Comment

Associated PressA home for sale in Denver.

New rules announced Thursday by the federal Consumer Financial Protection Bureau aim to shield borrowers from the risky sorts of mortgages that helped cause the recent financial crisis.

Under the rules, which take effect in January of next year, lenders cannot make so-called “no documentation” loans or offer deceptively low “teaser” interest rates, and they must take substantial steps to make sure that the borrower can afford to repay the loan.

The new rules, however, don’t address the contentious matter of whether borrowers should be required to make a minimum down payment when taking out a mortgage. The consumer agency focused instead on making sure that lenders conduct thorough vetting, or “underwriting,” to make sure consumers have the financial capacity to handle the mortgage payments.

But new down payment requirements are still possible, as part of yet more mortgage rules that are expected to be issued by a broader team of federal regulators. This group, including the Federal Reserve, the Federal Deposit Insurance Commission, the Department of Housing and Urban Development and the Federal Housing Finance Agency, is developing rules to help manage lender risk, by making sure lenders and borrowers, respectively, have the right incentives to make and repay sound home loans.

One way to give borrowers “skin in the game,” as the saying goes, is to demand a significant down payment. Proposals have been floated for requirements of 10 percent or as much as 20 percent. The idea is that if borrowers have a fair amount of their own money invested, they’ll be less likely to walk away from a loan.

But an array of groups, including the Center for Responsible Lending as well as lenders and real estate industry groups, oppose rigid down payment requirements, on the ground that they may bar otherwise credit-worthy borrowers from getting mortgages. The center prefers a focus on underwriting, like the approach taken by the consumer agency with its new rules.

Kathleen Day, a spokeswoman for the center, says ideally the rules issued by the Federal Reserve and the other regulators will be the same as the consumer agency’s rules. (In a confusing bit of terminology, the consumer bureau’s rules refer to loans that meet its new standards as “qualified mortgages,” or Q.M., while the agencies addressing lender risk use the term “qualified residential mortgages,” or Q.R.M.)

A spokesman for the Federal Reserve was unable to give a date for when its rules will be finalized.

Do you think a minimum mortgage down payment is a good idea?

Article source: http://bucks.blogs.nytimes.com/2013/01/10/new-mortgage-rules-left-out-down-payments/?partner=rss&emc=rss

Filed Under: Your Money Tagged With: center for responsible lending, federal reserve, lenders

U.S. and 14 Lenders Said to Be Near Deal of Foreclosure Claims

January 7, 2013 by NewsMaker Leave a Comment

A $10 billion settlement to resolve claims of foreclosure abuses by 14 major lenders was expected to be announced as early as Monday, several people with knowledge of the discussions said on Sunday.

The settlement would come after weeks of negotiations between federal regulators and the banks, and covers abuses like flawed paperwork and botched loan modifications, said these people, who spoke on condition of anonymity because the deal had not been made public.

An estimated $3.75 billion of the $10 billion would be distributed in cash relief to Americans who went through foreclosure in 2009 and 2010, these people said. An additional $6 billion would be directed toward homeowners in danger of losing their homes after falling behind on their monthly payments.

All 14 banks, including JPMorgan Chase, Bank of America and Citigroup, were expected to sign on.

The agreement would come almost a year after a sweeping deal in February between state attorneys general and five large mortgage lenders.

The settlement almost fell apart over the weekend. Some officials at the Federal Reserve threatened to scuttle the deal unless the banks agreed to pay an additional $300 million for their role in the 2008 financial crisis, which upended the housing market and led to millions of foreclosures.

The Fed officials argued for additional aid for homeowners ensnared in a flawed foreclosure process, according to several people briefed on the negotiations who spoke on condition of anonymity. The $300 million demand was to come on top of the $10 billion payout, but was met with resistance from the banks, especially because it was raised late in the day on Friday, according to these people.

The Federal Reserve officials backed down, allowing the $10 billion pact to move forward ahead of bank earnings releases this month, these people said.

During the last week, officials from the Federal Reserve met with community groups and consumer advocates to gather comments about a settlement. It was those talks that induced the Fed to forgo the request for additional money, according to three people familiar with the matter. The thinking, these people said, was that broad relief was better than a lengthy review process that had not yielded much relief.

Representatives from the Federal Reserve and the Office of the Comptroller of the Currency, which led banking regulators in the negotiations, declined to provide further details on the settlement.

Still, some housing advocates said the settlement did not go far enough in providing relief. Bruce Marks, chief executive of the Neighborhood Assistance Corporation of America, expressed cautious optimism about the deal, but added that the “devil is in the details.”

It is still unclear how the monetary relief will be distributed among homeowners, but one immediate result of the settlement is the end of a troubled review of millions of loan files.

As part of a consent order in April 2011, the comptroller’s office and the Federal Reserve established the Independent Foreclosure Review, which mandated that banks hire independent consultants to audit loan files and look for illegal fees, bungled loan modifications and instances where borrowers lost their homes even though they were current on their payments. Only 323,000 homeowners submitted claims for their files to be reviewed.

Within the comptroller’s office, senior officials raised concerns that the reviews had grown bloated and inefficient, especially after each loan took more than 20 hours to review, up from original estimates of eight hours a file.

The mounting costs of the reviews, up to $250 an hour, began to worry the banking regulators, according to several of the people with knowledge of the matter. So far, the foreclosure review program has cost the banks an estimated $1.5 billion, according to these people.

Banking regulators grew concerned that the reviews were not producing meaningful instances of banks wrongfully seizing the homes of borrowers who were current on their payments, according to these people.

Told last week of the plans to stop the foreclosure reviews, some consumer advocates expressed concern that the full extent of the damage to homeowners would never be known. Some of the advocates have questioned whether the banks were getting off too easily because they selected and paid the consultants charged with examining their loans.

Article source: http://www.nytimes.com/2013/01/07/business/lenders-said-to-be-near-deal-of-foreclosure-claims.html?partner=rss&emc=rss

Filed Under: Global Business Tagged With: chase, fed officials, federal reserve

At Meeting, Debate Over Length of Fed Program

January 3, 2013 by NewsMaker Leave a Comment

WASHINGTON – Federal Reserve officials spoke at a December meeting about ending a new round of asset purchases by the middle of 2013, less than a year after the start of its latest effort to drive down unemployment.

The members of the Fed’s policy-making committee did not settle on a timetable. Some argued that purchases should continue until the end of the year, and others said it was too soon to make a judgment, according to a brief account of the meeting that the Fed published Thursday after a customary three-week lag.

But the support for an early end date reflected uneasiness among Fed officials about the effectiveness of asset purchases in stimulating the economy and about the potential costs, including the disruption of financial markets.

The Fed remains committed to continuing other measures well beyond next year. The central bank announced after the December meeting that it planned to hold short-term interest rates near zero at least until the unemployment rate fell below 6.5 percent, provided inflation remained under control, and it estimated that the rate would cross that threshold no sooner than mid-2015.

In addition to purchasing assets in the coming months, the Fed plans to maintain for the time being the vast portfolio of Treasury securities and mortgage-backed securities that it has acquired since 2008.

“Members generally agreed that the economic outlook was little changed since the previous meeting and judged that without sufficient policy accommodation, economic growth might not be strong enough to generate sustained improvement in labor market conditions,” the account of the meeting said.

The Fed’s current program of asset purchases began in September with the announcement that it would buy $40 billion in mortgage bonds each month until the outlook for the labor market “improved substantially.”

In December, the Fed said it would also expand its holdings of Treasuries by $45 billion each month, replacing a program in which it acquired that amount of long-term Treasuries each month by selling the same amount of short-term Treasuries, so that the total size of its portfolio remained unchanged.

In tying the purchases to economic conditions, rather than a fixed timetable, the Fed sought to underscore its commitment to reducing unemployment, which has persisted at high levels for more than four years.

But in deciding not to announce a threshold, as it did for interest rates, the Fed also has created a measure of uncertainty about its intentions.

The account of the meeting showed that this decision reflects a basic reality: the Fed is not sure about its intentions and wants to remain flexible.

“A few members expressed the view that ongoing asset purchases would likely be warranted until about the end of 2013,” the account said, “while a few others emphasized the need for considerable policy accommodation but did not state a specific time frame or total for purchases.

“Several others thought that it would probably be appropriate to slow or to stop purchases well before the end of 2013, citing concerns about financial stability or the size of the balance sheet,” it continued, concluding, “One member viewed any additional purchases as unwarranted.”

The value of this description is somewhat reduced because four of the 12 members of the Federal Open Market Committee ended their terms in December. The minutes of the meeting do not make clear which positions the retiring members held, let alone the views of the four Fed officials who will replace them on the committee at the January meeting.

Article source: http://www.nytimes.com/2013/01/04/business/economy/at-meeting-debate-over-length-of-fed-program.html?partner=rss&emc=rss

Filed Under: Economy News Tagged With: economic outlook, federal reserve, treasury securities

Economic Growth Revised Up to 3.1%

December 20, 2012 by NewsMaker Leave a Comment

The Commerce Department’s third and final estimate Thursday of growth for July through September was increased from its previous estimate of a 2.7 percent annual growth rate.

Growth in the third quarter was more than twice the 1.3 percent growth in the second quarter. But disruptions from Hurricane Sandy and uncertainty weighing on consumers and businesses from the budget negotiations in Washington are likely to restrain growth in the fourth quarter, according to analysts’ forecasts. Many analysts predict an annual growth rate of just 1.5 percent for this quarter.

Robert Kavcic, an economist at BMO Capital Markets in Toronto, said the revision of third-quarter growth did not change his view that the economy is slowing in the current quarter to an annual growth rate below 2 percent. Mr. Kavcic said a temporary increase in military spending and business stockpiling in the third quarter probably is being reversed this quarter.

And many economists are not expecting much improvement in the first quarter of 2013. The latest forecast by 48 economists for the National Association for Business Economics is for an annual growth rate of just 1.8 percent in January through March. Such growth is considered too weak to significantly reduce the unemployment rate, which was 7.7 percent in November.

But if Congress and the White House reach agreement to avoid tax increases and spending cuts, growth could accelerate next year, many economists, including the Federal Reserve chairman, Ben S. Bernanke, have said.

The Fed said last week it would keep an important interest rate at a record low as long as unemployment exceeds 6.5 percent. It forecast that unemployment would stay that high until late 2015.

The government’s final estimate of a 3.1 percent growth rate for third-quarter gross domestic product is a sharp improvement over its initial estimate of 2 percent — a figure that it later increased to 2.7 percent based on a buildup in business stockpiles.

The further increase this month reflected stronger consumer spending, which accounts for about 70 percent of economic activity. The government said consumer spending grew at an annual rate of 1.6 percent in the third quarter. Its previous estimate was 1.4 percent.

The Commerce Department also raised its estimate of spending by state and local governments to show a gain of 0.3 percent — the first quarterly increase in three years. State and local governments had been cutting payrolls and other spending in the aftermath of the recession. Total government spending grew at an annual rate of 3.9 percent in the third quarter, reflecting a surge in military spending.

The economy was also helped by trade in the third quarter. Exports grew at a faster pace than previously estimated.

The National Association for Business Economics forecasting panel has said it expects G.D.P. to grow 2.1 percent in 2013, little changed from the expected 2.2 percent expansion this year.

Article source: http://www.nytimes.com/2012/12/21/business/economy/economy-grew-3-1-in-3rd-quarter-according-to-revision.html?partner=rss&emc=rss

Filed Under: Economy News Tagged With: federal reserve, federal reserve chairman, fourth quarter

DealBook: Standard Chartered Agrees to Settle Iran Money Transfer Claims

December 10, 2012 by NewsMaker Leave a Comment

Facundo Arrizabalaga/European Pressphoto AgencyA Standard Chartered bank branch in London.

The British bank Standard Chartered reached a deal with federal and state prosecutors on Monday over accusations that it had illegally funneled money for Iranian banks and corporations.

The 150-year-old bank will pay $327 million to settle claims by the Justice Department, the Manhattan district attorney’s office, the Federal Reserve Bank of New York and the Treasury Department. The settlement deals included a deferred prosecution agreement with the Justice Department, which accused the bank of “concealing” its ties to sanctioned countries like Iran and Sudan.

“You can’t do it, it’s against the law and today Standard Chartered is being held to account,” Lanny A. Breuer, head of the Justice Department’s criminal division, said in an interview.

The agreement allows the bank to move beyond a turbulent period.

In August, the New York State Department of Financial Services, headed by Benjamin M. Lawsky, broke from regulators and moved to accuse Standard Chartered of scheming for nearly a decade to hide 60,000 transactions worth $250 billion. Standard Chartered agreed to pay $340 million over the matter a month later.

United States authorities have been cracking down on banks that flouted federal law to transfer money on behalf of sanctioned nations. Investigations into Standard Chartered began in 2009, according to several law enforcement officials.

Executives at Standard Chartered have spent months trying to work out a settlement and resolve the investigation. Lawyers for the bank, in numerous conversations with federal and state prosecutors, maintained vociferously that a large majority of the transactions with Iran were permitted under a federal law that previously allowed foreign banks to transfer money for Iranian clients to another foreign institution through their American subsidiaries.

Since January 2009, the Justice Department, Treasury and the Manhattan prosecutor have charged five foreign banks in an effort to crack down on the illegal movement of tainted money across the globe. In June, ING Bank reached a $619 million settlement to resolve claims that it had transferred billions of dollars in the United States for Cuba and Iran.

“Investigations of financial institutions, businesses and individuals who violate U.S. sanctions by misusing banks in New York are vitally important to national security and the integrity of our banking system,” Cyrus R. Vance Jr., the Manhattan district attorney, said in a statement.

As part of the agreement announced on Monday, Standard Chartered admitted to processing more than $200 million for Iranian and Sudanese clients through its American subsidiaries. To avoid having those transactions detected by Treasury Department computer filters, Standard Chartered deliberately removed identifying information, according to the authorities.

Until 2008, foreign banks like Standard Chartered were permitted to transfer money for Iranian clients through their American branches to separate offshore institutions. These so-called U-turn transactions required banks to provide scant information about the original client to their American operations as long as they had checked for questionable activities. The Iranian loophole was closed in 2008 after American authorities suspected that Iranian banks were funneling money to support nuclear weapons development.

While the overwhelming majority of payments processed by Standard Chartered for Iran and Sudan were technically legal, they should have been disclosed, the Manhattan district attorney said on Monday. Mr. Lawsky of the New York financial services department had based his case against Standard Chartered, in large part, on similar claims that the bank had thwarted efforts to spot sanctions violations by cloaking the identities of Iranian clients and lying to regulators.

Article source: http://dealbook.nytimes.com/2012/12/10/standard-chartered-agrees-to-settle-iran-money-transfer-claims/?partner=rss&emc=rss

Filed Under: Global Business Tagged With: federal reserve, law enforcement officials, treasury department

DealBook: Citigroup Awards $6.65 Million to Pandit

November 10, 2012 by NewsMaker Leave a Comment

Mark Lennihan/Associated PressVikram Pandit, the former chief of Citigroup.

The board of Citigroup has awarded $6.65 million to Vikram S. Pandit after unexpectedly ousting the chief executive last month.

Mr. Pandit will receive the money as part of an “incentive” package for his work during 2012. He will also continue to collect his deferred cash and stock awards from the previous year, compensation that the bank currently valued at more than $8.8 million.

In a surprise move, Mr. Pandit resigned in October, a departure that was orchestrated for months by the bank’s board. Its powerful chairman, Michael E. O’Neill, maneuvered behind the scenes to curry support with other directors and replace Mr. Pandit. Michael L. Corbat was named the new chief executive.

As part of the shake-up, the board also forced out John Havens, the chief operating officer. Mr. Havens will receive $6.8 million in incentive pay for 2012, with previous deferred stock and cash awards valued at $8.725 million.

Since Mr. Pandit and Mr. Havens abruptly left the company, they will both forfeit the remainder of their retention packages, which were outlined last year. For Mr. Pandit, the lost compensation amounts to roughly $24 million, according to a person with knowledge of the matter who could not speak publicly.

Mr. Pandit led the bank during a turbulent chapter in its history. After taking over in 2007, he navigated the bank through the financial crisis, securing a $45 billion lifeline from the federal government. The bank’s health was so dire that Mr. Pandit opted to take a token $1 annual salary.

While the bank has returned to profitability, Citigroup has struggled with a stagnant stock price and lackluster earnings. It suffered an especially tough blow in March when the Federal Reserve rejected the bank’s plans to raise its dividend.

Since Mr. Pandit resigned, the mood among some senior executives has been grim, according to several people close to the bank. The executives felt that the board’s actions last month were particularly brutal and humiliating to Mr. Pandit, considering his role in reviving the bank.

A version of this article appeared in print on 11/10/2012, on page B3 of the NewYork edition with the headline: Ousted Citi Chief to Receive $6 Million in ‘Incentive’ Pay.

Article source: http://dealbook.nytimes.com/2012/11/09/citigroup-awards-6-65-million-to-pandit/?partner=rss&emc=rss

Filed Under: Business News Tagged With: annual salary, federal reserve, previous year

DealBook: Libor Scandal Shows Many Flaws in Rate-Setting

July 20, 2012 by NewsMaker Leave a Comment

It is an open secret in the banking world: the interest rates for many mortgages and loans are based on a benchmark that is largely guesswork.

The flaws in the rate-setting process, which is used to determine the pricing for trillions of dollars of financial products, have been exposed by the latest banking scandal. Regulators around the world are investigating whether big banks gamed the rates for their own benefit before and after the financial crisis.

But even if banks do not deliberately manipulate the rates, the benchmark remains vulnerable.

Banks derive the rates from estimates rather than real market data. So the benchmark, a measure of how much banks charge each other for loans, does not necessarily represent actual borrowing costs. This weakness has only been exacerbated in recent years, as banks have mostly stopped lending to each other.

The Federal Reserve chairman, Ben S. Bernanke, told Congress this week that he did not have “full confidence” in the process, calling it “structurally flawed.”

The troubles center on a key benchmark known as the London interbank offered rate, or Libor. This rate and its variants are used to determine the prices for mortgages and other loans, and play a critical role in the multitrillion dollar market for financial contracts called derivatives.

The Libors are set every weekday around 11 a.m., a process overseen by the British Bankers’ Association. At that time, a group of big banks report how much interest they would pay to borrow money from other institutions over different periods and in different currencies. After removing the outliers, the remaining numbers are averaged to come up with the various rates. On Thursday, the three-month Libor, in American dollars, stood at 0.4531 percent.

But the precise rates have little basis in reality.

Since the crisis, many banks have been content to park their cash with central banks, rather than lending it out to other institutions. That means there are few interbank transactions on which to base their Libors, according to bankers who operate in this market.

“Libor was intended for an international lending market that has long since past,” said Pete Hahn, a finance professor at the Cass Business School in London. “The whole concept of interbank lending died after Lehman Brothers collapsed.”

Now, regulators and investors are questioning whether the benchmark should play any role in determining borrowing costs. Top central bankers will meet in September to discuss potential reforms.

“Why continue with something you know has a substantial amount of wiggle room?” said Alexander T. Arapoglou, a professor at University of North Carolina’s business school. “It is just opinions that people could disagree with or manipulate.”

The benchmark was supposed to solve a problem for bankers. For years, institutions haggled over the rates charged for different types of loans. To create consistency, the British Bankers’ Association developed the Libor standard. At the time, the interbank market functioned relatively well.

As the financial sector ballooned in the last two decades, Libor became increasingly more important. The rates currently cover 10 different currencies, and underpin more than $360 trillion of financial products worldwide.

Even so, the process remains unregulated, with oversight falling largely to the bankers’ association. In response to concerns during the crisis, the association conducted a review of Libor and put changes in place in late 2008.

A spokesman for the trade body declined to comment.

After Barclays agreed to pay $450 million to settle a rate-manipulation case with authorities in June, the trade organization began its own investigation into Libor. The British Bankers’ Association is also assessing ways to improve the process, along with central bankers and other authorities.

But it is very difficult to improve Libor if a robust market does not exist.

The industry does not track comprehensive totals for interbank loans. One measure, published by the Federal Reserve, shows that such lending has declined to levels not seen since the 1970s, although the figures do not capture the entire market.

Bankers indicate that such lending has almost completely evaporated. In the current environment, financial institutions will lend money to each other only for a short time, say one month or less. That means banks are largely making estimates for key benchmarks like the three-month and the one-year Libor.

Those two borrowing periods are critical. Vast amounts of derivatives are pinned to the three-month Libor, while the rates on many adjustable-rate mortgages are based on the one-year Libor.

“We just aren’t borrowing that much in this market right now,” said Daryl N. Bible, the chief financial officer of BBT, a bank based in Winston-Salem, N.C.

Since interbank lending has stagnated, institutions are largely looking to other types of borrowing to come up with Libors, including certificates of deposits and loans from money market funds. But this is an inexact science that can distort the Libor market.

For example, banks often submit the same rates several days in a row, despite changing market and economic conditions.

In June, JPMorgan Chase reported the same one-year Libor every single day, according to data from Thomson Reuters, which is responsible for collecting the benchmark information. The bank’s rate: 1 percent.

By contrast, UBS calculated the figure to three decimal places and regularly changed its rates. At the beginning of June, the Swiss bank reported a one-year rate of 1.037 percent. It dropped to 0.972 percent at the end of the month.

Neither bank responded to a request for comment.

There can also be wide discrepancies among similar benchmarks, which may reflect the artificial nature of the process. While the recent three-month Libor stood at 0.4531 percent, the parallel euro interbank offered rate in American dollars amounted to 0.91643 percent.

During periods of turmoil, the process gets murkier. Some traders indicate that banks at times of stress report rates that would be almost impossible to achieve.

When the European debt crisis heated up this summer, French banks were viewed as vulnerable, meaning they would have had a hard time borrowing at reasonable rates. But the country’s banks continued to report Libors, and they remained largely flat.

“When the French banks saw their stock price going down 10 percent a day, could they have borrowed at Libor? There isn’t a chance,” said a senior executive at a large Wall Street firm who spoke on the condition of anonymity because of the ongoing investigations.

In some ways, the flaws with Libor make it a convenient tool for Wall Street. If banks had to carefully reference a real, sometimes volatile, market, they might find it harder to set rates regularly.

Allowing banks to submit guesstimates makes it relatively simple to come up with a daily number. The practices suits the vast derivatives markets, which need a daily rate to price products like interest-rate swaps.

“It is true that current Libor methodology is very convenient for the derivatives world,” said Darrell Duffie, professor of finance at Stanford. “Convenience should not trump accuracy.”

As the Libor scandal has unfolded, the industry is grappling with how to fix the process. One suggestion is to choose banks’ Libor submissions randomly when setting the overall rate, making it harder to manipulate. Authorities have also proposed having independent auditors oversee the process.

The race to replace Libor has also heated up. One suggestion is to use rates from another market that banks frequently use to lend to each other. These loans are backed with high-quality financial assets that lenders can keep if borrowers fail to repay. The limited volume of Libor-related loans do not have such collateral.

The Wall Street firm Cantor Fitzgerald is also developing an index of different short-term lending markets. The idea is that the benchmark, a more diversified reflection of borrowing, could be used as a substitute for Libor.

“To be reliable, indices have to be transaction-based and transparent,” said Gary S. Gensler, the chairman of the Commodity Futures Trading Commission, the regulator that led the inquiry into Barclays.

Mark Scott contributed reporting

Article source: http://dealbook.nytimes.com/2012/07/19/libor-scandal-shows-many-flaws-in-rate-setting/?partner=rss&emc=rss

Filed Under: Global Business Tagged With: critical role, federal reserve, mortgages and loans

DealBook: New York Fed Was Warned About Rate Inaccuracies in 2007

July 13, 2012 by NewsMaker Leave a Comment

1:51 p.m. | Updated

A Barclays employee notified the Federal Reserve Bank of New York in April of 2008 that the firm was underestimating its borrowing costs, following potential warning signs as early as 2007 that other banks were undermining the integrity of a key interest rate.

In 2008, the employee said that the move was prompted by a desire to “fit in with the rest of the crowd” and added, “we know that we’re not posting um, an honest Libor,” according to documents that the agency released on Friday. The Barclays employee said that he believed such practices were widespread among major banks.

In response, the New York Fed began examining the matter and passed their findings to other financial authorities, according to the documents.