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Europe 2020 Project Bonds Consultation

by Carrie Mon Feb 28th, 2011 at 12:28:21 PM EST

Another European Commission consultation for us to take a stab at:

EUROPA - Press Releases: Commission launches consultation on "Europe 2020 Project Bonds" to fund infrastructure

The European Commission today launches a public consultation on the "Europe 2020 Project Bond Initiative" which aims at boosting the funding of projects with long-term revenue potential in line with the Europe 2020 policy priorities. This follows the announcement made by President José Manuel Barroso in his State of the Union Address1. Its objective is to help the private project companies to attract capital market funding from investors such as pension funds and insurance companies. The Europe 2020 Project Bond initiative has been identified in the Annual Growth Survey as a priority measure to enhance growth.
What, there's not going to be any more state involvement in funding infrastructure projects?
In the launch of this initiative, European Commissioner for Economic and Monetary Affairs Olli Rehn said: "Financial instruments should play a larger role in the funding of public-interest projects. Today public budgets are in need of consolidation. But at the same time, we need to promote sustainable growth in Europe. EU budget resources must be used more effectively so that such projects attract capital market financing. This is why we are joining forces with the European Investment Bank in this Project Bond Initiative."
No, apparently not. Austerity rules.
European Investment Bank President Philippe Maystadt said: "Infrastructure finance in Europe has suffered since the financial crisis and banks face new constraints on long term lending. Project bonds could be a way to attract capital from other investors, such as pension funds and insurance companies, and be a useful addition to traditional financing options."
I think this might be an excellent opportunity to pitch Chris Cook's ideas about energy pools, etc. The attractiveness of such investments to pension funds has always been a part of his pitch.

In the transport area, the assessment of the investment plans of the Member States reveals that around € 21.5 billion per year is needed in the post-2013 period to remove significant bottlenecks, construct missing cross-border links, and interconnect transport modes.

The stakeholders' consultation paper has been prepared under the guidance of President Barroso and in close collaboration with Vice-President Siim Kallas (responsible for Transport), as well as Vice-President Neelie Kroes (Digital Agenda) and Commissioners Günther Oettinger (Energy) and Janusz Lewandowski (Budget).

Huge infrastructure investment needs in the this decade

Over the next decade, record investment volumes in Europe's transport, energy, information and communication networks will be needed in order to underpin the Europe 2020 flagship actions. Developing smart, upgraded and fully interconnected infrastructures will foster the completion of the internal market. Preliminary estimates point to investment needs of €1.5 to 2 trillion for Trans-European Transport Networks, the energy sector and information and communication technologies. These needs, combined with the fact that government budgets face severe constraints, make it crucial to foster the participation of the private sector in the financing of infrastructure projects.

And why is the ECB not creating the money for this?
Europe 2020 Project Bond Initiative

The Project Bond Initiative should provide EU support to private "project promoters" issuing bonds to finance in particular infrastructure projects. This should help them attracting capital market financing from institutional investors. The key role of the Commission and the EIB will be to absorb part of the risk of a project. Technically, the instrument will improve the rating of the senior debt issued by the the project entities. This will ensure that such debt can be placed as bonds with institutional investors. As the EU participation will be capped, there will be no unlimited or contingent liabilities for the EU budget.

Yup, the public sector is being phased out of financing infrastrure
The Initiative could be available to projects that are assessed to be economically and technically feasible, cost-effective and that have a prospect of financial viability.
Assessed by whom?
Options for the increased use of financial instruments for EU policy goals, as well as for their streamlining within the next multiannual financial framework for the period after 2014, were presented in the EU Budget Review. 2
All hail financial engineering!
What is next?

The consultation is open for comments from today. The deadline for contributions is 2 May 2011. On 11 April, the Commission, together with the EIB, will organise a conference on the Project Bond Initiative which will feed into the consultation process. Following the completion of an impact assessment, the Commission will bring forward a proposal for the implementation of the Europe 2020 project Bond Initiative.

The Neoliberal mental capture of the European Union institutions is complete.

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Carrie (migeru at eurotrib dot com) on Mon Feb 28th, 2011 at 12:29:05 PM EST
For instance: FT.com / Markets - Bad habits of credit bubble make comeback
If there is something new in all this, it is that regulators are now excited about the potential of financial innovation to reduce systemic risk.

Contingent capital obligations, or cocos, are the latest wheeze designed to restore bank capital in a tax efficient way. The attraction from the regulatory point of view is that cocos convert from debt into equity on a pre-arranged basis if the bank runs into trouble. Earlier scepticism in the banking and investment community appears to have waned. Last week's $2bn issue of contingent convertible capital by Credit Suisse was subscribed eleven times, with an interest rate of 7.875 per cent. There were congratulations all round.

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Carrie (migeru at eurotrib dot com) on Mon Feb 28th, 2011 at 12:33:12 PM EST
[ Parent ]
Stupid question, so do you like cocos or not? I rather like the idea and haven't yet found the caveat. However, if banks are coming around to it, it there must be something wrong with it ;-)

In general I would much prefer all bondholders ( not deposit holders!) to have a pre-agreed haircut in the terms of the bond of lets say 10% if things go wrong...

by crankykarsten (cranky (where?) gmx dot organisation) on Mon Feb 28th, 2011 at 04:07:03 PM EST
[ Parent ]
I don't think they're a bad idea per se, however since they convert from debt to equity when the bank runs into trouble and not in any way controlled by the issuer or the holder, if the bank comes near being "in trouble" the cocos become toxic to hold, illiquid and their price plummets.

So they don't improve systemic risk, IMHO. I think it's scary that regulators are "excited" about financial innovation since "financial innovation" is a euphemism for "regulatory arbitrage". I cannot fathom regulators being excited about regulatory arbitrage.

The problem here is with the paradigm. Mainstream economists now believe that the risk management problem has been solved. All you have to do is

  1. model the risk
  2. quantify it in an index
  3. create a derivative market around the index
And, voilà, the risk is now "managed".

It is true you have turned the risk into market risk, but markets are not the paragon of stability, less so the more "efficient" they are.

Therefore, this "paradigm" doesn't solve the risk management problem. If anything, because it becomes harder to figure out who's holding the bag until the bag blows the holder to bits, they make the risk management problem harder.

Cocos look to be basically a sort of embedded knockout option on the bank's solvency, a "soft" CDS.

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11

by Carrie (migeru at eurotrib dot com) on Mon Feb 28th, 2011 at 04:20:14 PM EST
[ Parent ]
And that is why a pre-agreed haircut would be advantageous since the price volatility would be within the 90-100 corridor whereas in a full debt equity swap it is essentially 0-100(+ if you think the bank comes out stronger!)

However, you make a good point about the toxicity and illiquidity. If it is other banks holding this, or being used as collateral to a bank this instrument does not improve systemic stability.

by crankykarsten (cranky (where?) gmx dot organisation) on Mon Feb 28th, 2011 at 04:27:13 PM EST
[ Parent ]
The only way to reduce systemic instability is to curtail leverage and have a relatively quick insolvency resolution framework.

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Carrie (migeru at eurotrib dot com) on Mon Feb 28th, 2011 at 04:29:20 PM EST
[ Parent ]
And what if things go wrong after things go wrong?

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Carrie (migeru at eurotrib dot com) on Mon Feb 28th, 2011 at 04:30:09 PM EST
[ Parent ]
If things go seriously wrong even after you apply a 20 % haircut, somebody needs to go to prison and not come out again for a few years. Banks have balance sheets that use nine or ten figures, and typically have legal gearing caps in the neighbourhood of 15 to 1, or around 7 % equity. If you have to give haircuts that are significantly in excess of twenty-seven per cent of nine or ten figures, then the risk managers of that bank - at the very least - have been engaging in wilful negligence for some time.

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Mon Feb 28th, 2011 at 05:37:36 PM EST
[ Parent ]
Stupid question, so do you like cocos or not?

FT Alphaville » An explanatory CoCo death spiral

There's been talk of this before -- specifcally, the idea that once a bank hits its CoCo trigger and has to convert the bonds into equity, CoCo investors will have to sell the resulting shares. UBS banking analysts Alastair Ryan and John-Paul Crutchley have an example of such a spiral in a 16-page research piece on CoCos out this week


They're talking about the possibility of CoCo investors selling their convertible bonds or shorting the bank's shares to act as a hedge against the CoCo trigger. CoCos and shares come at the bottom of a bank's capital structure -- which means they'd be the first to `react' to the risk of bankruptcy -- at which point you'd have that spiral effect.


The risk of existing CoCos being triggered is remote  -- a tail risk event.

Oh. Wait.

And we're told regulators are excited about the potential for CoCos to enhance financial stability!?

So, in what may be my last act of "advising", I'll advise you to cut the jargon. -- My old PhD advisor, to me, 26/2/11
by Carrie (migeru at eurotrib dot com) on Wed Mar 9th, 2011 at 04:46:37 AM EST
[ Parent ]

Will UK competition be sacrificed at the altar of low-carbon power?

Once again Britain is blazing a trail for innovative energy market reforms. During the 1980s and 1990s, it led the world in bringing competition into markets for natural gas and electricity. But that was during an era when climate change was not a policy priority. Today it is. So the government has been formulating policy proposals that would decarbonise electricity generation while maintaining supply security and keeping the market competitive.

This will not be an easy feat. Power companies have voiced support for the proposals. But there are some who argue that they would propel the electricity market towards a 'single-buyer' model - the kind of model that policy-makers have spent decades trying to get us away from.

Wind power
by Jerome a Paris (etg@eurotrib.com) on Mon Feb 28th, 2011 at 01:16:13 PM EST
Bond markets are terrible at taking construction risk - so governments will likely be asked to keep that risk (ie pay the bondholders if the project is not built on spec or on time).

Finance is available for infrastructure if the regulatory framework is stable - so the price of governments changing their minds too often will, once again, be bondholders asking to be paid back...

Wind power

by Jerome a Paris (etg@eurotrib.com) on Mon Feb 28th, 2011 at 01:18:40 PM EST
And durng the operational phase in some infrastructure projects the government still bears substantial risk, e.g. Ridership risk in transportation projects. This all sounds like public private partnerships which are essentially either cooking the books of government or giving private investors the upside while giving the. Public the downside. Now, why does that sound familiar????
by crankykarsten (cranky (where?) gmx dot organisation) on Mon Feb 28th, 2011 at 04:03:17 PM EST
[ Parent ]
Aren't we europeans "lovely people"?

Gee... sarcasm mood.

A pleasure

I therefore claim to show, not how men think in myths, but how myths operate in men's minds without their being aware of the fact. Levi-Strauss, Claude

by kcurie on Tue Mar 1st, 2011 at 04:48:52 AM EST
[ Parent ]

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