Thursday, 12 February 2009

Parallel Learning – Investment Vehicles – The Cognitive Interlink between Classic Cars and Financial Instruments.

In the current gloom, with Mervyn King's comments delaying the BoE's timeline for re-bound growth expectation, the odd moment of blue sky provides anticipation of Spring. Whilst the industry holds its breath during the liquidity stall, rapidly pares back overhead & hoards cash if possible, the recent £2.3bn UK Auto-Aid announcement gives some hope in the longer term.

In the meantime, by way of a welcomed momentary distraction, today (12.02.09) heralds the Preview Evening of this Summer's Salon Prive. Held in Fulham, London, the event highlights a veritable cornucopia of rare and classic automotive masterpieces, from the carrozzeria and specialist car-makers of what presently seem a glamorous bygone age.

Given the social mix of the event spanning many facets of the financial and automotive sectors, there'll be 2 prime topics for conversation that centre around the term “SIV”:

a) the present efforts to 'find bottom' in the financial markets by actually identifying a market value for the toxic asset SIVs (Structured Investment Vehicles) brought back onto banks' balance sheets.

b) the New-Year 'barn-find' discovery of a very rare SIV (Special Interest Vehicle) in the form of a 1937 Bugatti Type 57S Atalante (perhaps only second in provenance to the iconic Royale) and valued at £3m.

Observers might think that the two happen to simply share an acronym, but if we explore further, there is very useful parallel learning to be gained - re-directing the regenerative norms of the classic car field to the problematic financial instruments which have become the bain of Big-Bank CEO's, Auditors, Regulators and critically Governments world-wide.

It centres on the notion and perspective of value...the core of economics and trading; and how they alter given differing sets of conditions.

Economic philosophising - the Vienna School particularly - may well be in vogue at present, from the re-delivery of George Soros' Theory of Reflexivity to Richard Bronk's call for the use of greater imagination in economic modelling. But instead of seeking to co-align 'homo-economus' with 'homo-sociologicus' and 'homo-romanticus', investment-auto-motives simply provides a very pertinent and useful analogy, from the world of classic-cars and auto-engineering to the world of high-finance and financial-engineering; with Joseph Schumpeter and the ideology of 'creative-destruction' the philosophical bridge:

Firstly, it must be stated that the analogy looks at the broad classic car market as opposed to the very very niche concours d'elegance of level as proffered by Salon Prive or its American & worldwide counterparts such as Pebble Beach et al. (Many of these vehicles could be considered beyond a AAA rating given their rarity and condition, which as with distinguished art, arguably sets their investment value beyond even the grade of certain once solid national sovereign debt (eg Spain, Greece).

Thus we turn to the general classic car market comprising of numerous and variable quality vehicles that succinctly align to that hot corner of the financial derivatives market populated by broad spectrum of variable quality asset-backed securities and bond types. Items 'chopped and shopped' to create the now eponymous range of 'exotic financials' now regarded 'toxic'. Most visibly the CDS (Credit Default Swap) and its variants CDS (squared), CDS (tripled) etc.

The Structured Investment Vehicle was essentially a process of ever-stretching (and so ever-diluting) the strong fundamentals of certain low-exposure. low-risk ABS products by mixing them with weaker and weaker ABS products. Though at the time it would have been argued otherwise, and its heart it was effectively creating the perception of soundness and value, largely exploiting the then buoyant market confidence; done so through the heavily tranched modelling process that used thin quality veneers and the accordant kudos from association.

In essence an object lesson of the manipulation of aesthetics and object lesson in the manipulation of perception..

And of course aesthetics and provenance are the central elements of the classic car world. Whether for a scant & demure 1959 Mini or or a grandiose 1928 Springfield Rolls-Royce Phantom 1 Brewster Coupe; a fine gloss of paint, gleaming bright-work and the respective implied previous ownership of Alec Issigonis and Warren Buffett and the cars take-on an extra-ordinary significance and so value too.

But of course the majority of classic cars do not hold such standing, instead having an innate value generated by the interplay of fundamental utilitarian worth (whether 'prestine', 'solid', a 'runner', 'donor' for components or 'scrap') and the level of collectivist or individual's enthusiasm for the said car and of course the sale environment (whether a breakers yard or Bonhams). At its core the value relationship comes down to an array of complex value judgements – and they of course change given prevailing circumstances which themselves change and can be created by accordant agents some wholly independent others with concomitant interests...the make-up of any market.

So as is the norm, SIV products whether classic cars or financial instruments will accord to prevailing market perception, they can be the 'belle de jour' or 'passe'.

Of course complex markets often include 'market-makers' that act as intermediaries and instigators, and such agents seek to maximise market dynamicism and return potential and by subtly orientating the market through 'perceptional massage'. And that means optimising current conditions and creating new conditions.

In the investment banking arena that is the very remit of the creative cerebrally manufacture new value-creation products that accord to regulatory principles/boundaries and can generate significant return. That was the brief behind the presently extinct financial exotica...or are they actually simply dormant?

Good capitalism depends on new value, and now that these mixed-bag value items are being parked into nationally/ privately held 'bad-banks' or similar 'toxic-dumps' the question must be asked whether these instruments can be disassembled? Once in that (national, PE or PIPE backed) 'breakers-yard' the requirement is to sift through the component parts of the 'SIV mountain' to identify the good/usable/valuable from the (at least in the near-mid term) completely valueless.

That is the issue that both Governmental Chancellors and Private Equity firms are grappling with at present. Yes the exotic instruments constitutes a complex array of entangled risk-levels but many will quietly whisper that 'where there's muck there's brass”.

Just as the vehicle-breaker became the vehicle-dismantler and now is titled 'vehicle-recycler', seperating re-useable from scrap components, so there must be a case for the creation of such an entity within the financial world to investigate and identify the component parts of Structured Investment Vehicles that hold presently invisible yet hidden value.

Yes, the ABS's & CDS's of the recent past may have with time become less and less visibly worthy, but just as a newly refprmed and ultimately valuable car can be built from the sum of the parts of many other scrap vehicles, it will be 'creative-destruction' and 'perceptional norms' that once again give rise to a new phoenix - just as it did 20 years ago for the original sound set of Gen1 SIVs?

This evening at Salon Prive people will look over just a few examples of automotive beauty and value; a few examples that underlie many more. The point is that those rolling sculptures owe their existence to the recycling of donor-parts and the creativity of responsible craftsmen.

Because barn-find Bugattis are very much the exception to the rule...a notion that will not be lost on Governments, Private Equity and Investment Banking Luminaries.