BP - THE UNTOLD STORY

Dear Jim,

The BP crisis in the Gulf of Mexico has rightfully been analysed from the ecological perspective. People’s lives and livelihoods are in grave danger. But that focus has equally masked something very serious from a financial perspective, in my opinion, that could lead to an acceleration of the crisis brought about by the Lehman implosion.

People are seriously underestimating how much liquidity in the global financial world is dependent on a solvent BP. BP extends credit – through trading and finance. They extend the amounts, quality and duration of credit a bank could only dream of. The Gold community should think about the financial muscle behind a company with 100+ years of proven oil and gas reserves. Think about that in comparison with what a bank, with few tangible assets, (truly, not allegedly) possesses (no wonder they all started trading for a living!). Then think about what happens if BP goes under. This is no bank. With proven reserves and wells in the ground, equity in fields all over the planet, in terms of credit quality and credit provision – nothing can match an oil major. God only knows how many assets around the planet are dependent on credit and finance extended from BP. It is likely to dwarf any banking entity in multiples.

And at the heart of it all are those dreadful OTC derivatives again! Banks try and lean on major oil companies because they have exactly the kind of credit-worthiness that they themselves lack. In fact, major oil companies, conversely, spend large amounts of time both denying Banks credit and trying to get Bank risk off of their books in their trading operations. Oil companies have always mistrusted bank creditworthiness and have largely considered the banking industry a bad financial joke. Banks plead with oil companies to let them trade beyond one year in duration. Banks even used to do losing trades with oil companies simply to get them on their trading register… a foot in the door so that they could subsequently beg for an extension in credit size and duration. For the banks, all trading was based on what the early derivatives giant, Bankers Trust, named their trading system: RAROC – or, Risk Adjusted Return on Credit. Trading is a function of credit bequeathed, mixed with the risk of the (trading) position. As trading and credit are intertwined, we might do well to remember what might happen to global liquidity and markets if BP suffers what many believe to be its deserved fate of bankruptcy. The Intercontinental Exchange (ICE) has already been and will be further undermined by BP’s distress. They are one of the only “hard asset” entities backing up this so-called exchange.

If BP does go bust (regardless of whether it is deserved), and even if it is just badly wounded and the US entity is allowed to fail, the long-term OTC derivatives in the oil, refined products and natural gas markets that get nullified could be catastrophic. These will kick-back into the banking system. BP is the primary player on the long-end of the energy curve. How exposed are Goldman sub J. Aron, Morgan Stanley and JPM? Probably hugely. Now credit has been cut to BP. Counter-parties will not accept their name beyond one year in duration. This is unheard of. A giant is on the ropes. If he falls, the very earth may shake as he hits the ground.

As we are beginning to see, the Western pension structure, financial trading and global credit are all inter-twined. BP is central to this, as a massive supplier of what many believe(d) to be AAA credit. So while we see banks roll over and die, and sovereign entities begin to falter… we now have a major oil company on the verge of going under. Another leg of the global economic “chair” is being viciously kicked out from under us. Ecological damage is not just an eco-event on its isolated own. It has been added to the list of man-made disasters jeopardizing the world economy. The price tag and resultant knock-on effects of a BP failure could easily be equal to that of a Lehman, if not more. It is surely, at the very least, Enron x10.

All the counter-party risk associated with the current BP situation means the term curve of the global oil trade has likely shut down. Here we have yet another credit-based event causing a lock-up in markets that will now impede trade and commerce. It looks like an exact replication of the 2008 credit market seizure could ensue all over again – and it could probably be a lot worse. The world is in a far more delicate state now.

Although never really discussed, the world is highly reliant on BPs provision of long-term credit to many core industries. Who makes good on all the outstanding paper that so many smaller oil, gas and electricity companies, airlines, shipping companies, local bus, railway and transportation networks that rely on BPs creditworthiness and performance for? It doesn’t take a genius to figure out how this could all unwind. If BP has to be bailed-out, like a bank, the system will have to print even more unimaginable amounts of money.

The market, intellectually lazy and slow to realization, as it often is, probably has not woken up to it yet – but the BP crisis could unleash damage similar to the banking crisis. A BP failure through bankruptcy could make Lehman look small in comparison, and shake the financial house of cards we live in even more severely. If the implicit danger of the possibilities imbedded in such an event doesn’t make an individual now turn towards Gold at full speed, it is likely that nothing will.

Respectfully yours,
CIGA Pedro

Source: http://jsmineset.com/2010/06/22/jims-mailbox-470/

Instituting price controls is replacing the intelligence of the market with that of politicians and beaurocrats. Knowing the latter, I would opt for the free market to be final arbiter of price. Recall the maize price control scheme of 2008 which later morphed into a maize scandal, a boycott by farmers and a maize shortage.

Politicians in their quest to be all things to all people never learn from history. There are always unintended consequences to meddling with the free markets. Price distortions, shortages and a black market are offshoots of controlled markets.

The world is in a secular bull market in commodities which is fuelling the appreciation of products of the earth. No parliament, beaurocrat, committee or state can stop it. The only way to offset international price increases is to strengthen the local currency.

"Parliament has approved a Bill to introduce price curbs meant to punish greedy traders, putting Kenya’s commitment to free market ideals to the test.

The approval of Mathira MP Ephraim Maina’s Price Controls (Essential Goods) Bill 2009 now leaves President Kibaki in a dilemma: — assenting to the Bill would please consumers, while risking price distortions and investor flight.

Enacting the Bill would also put Kenya at variance with its trading partners in the East Africa Community and the Common Market of East Africa, who have resisted attempts to regulate prices...."

Read more:

http://www.businessdaily.../-/u0u9viz/-/index.html

Kenya remains one of the few real estate hotspots around the world. Price advances of 50% are sure to lure in developers and speculators from regions that have witnessed severe declines. Have you noticed the high end luxurious dwellings being advertised in the local dailies?

"Real estate developers are taking advantage of the housing shortage in Nairobi to sell homes at 50 per cent more than the actual price, a National Housing Corporation official has said.

Mr James Ruitha, managing director, National Housing Corporation (NHC) blames the high prices on lengthy procurement procedures which are blocking private-public partnership projects meant to plug the 200,000 homes a year deficit.

“Many interested potential investors have shied away from investing in the real estate sector after coming to terms with the requirements of the Procurement Act,” said Mr Ruitha when he handed over Lang’ata Court Estate Phase II to buyers and launched a linked road to the Nairobi estate, last week...."

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http://www.businessdaily...8/-/iru4rv/-/index.html

Collateral damage from the European Debt Crisis.

"Concern is growing on how the Eurozone economy is going to affect Africa and Kenya, in particular, with predictions the crisis may extend from Greece and force Portugal, Spain and Ireland to either default or restructure debts.

Analysts said the crisis could assume dangerous proportions if the situation deteriorated in Spain, the biggest of the debt-ridden economies in Europe, because the European Union resources would not save it.

A cushion of $750 billion including $250 billion from the IMF has been set aside but there are doubts over adequacy...."

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http://www.businessdaily.../-/11jbslc/-/index.html

Lets try to turn this round,during inflationary period the currency loses value which leads to securities denominated in that currency lose value too.On long term debt the impact may be higher since the central banks turn to increase in interest rates to suppress the inflation
which depresses bond prices.

In real assets like properties are less affected by inflation because their nominal values rise along with inflation.