Tuesday, January 27, 2009

Breaking the Bank

Between all the hoo-ha with Scottish Power, I had two most interesting conversations today. One was with a man who was looking to invest some money in Romania. He started by asking me how much a certain sum might earn over say 5 years. I told him my views. Then he said, well, just give me half now and you can keep the rest.
I explained that I thought he had misunderstood, and the idea was he was to invest money there, not take it out just yet.
" Ah," he said," But I'm only suggesting what the banks have been investing in over the last few years".
His point was that a theoretical payout ( supported by all sorts of graphs, cash flows and other rubbish) was being bought into by the banks in their support for various investors/companies/hedge funds etc, but in reality they were not investing in any real asset. In effect, it was about the same as putting the mortgage payment on red or black at roulette - not breaking the bank but effectively doubling the bets all the time..
For a long time it came up - and then it didn't. If you know your betting, if you start with one chip, lose it, then 2 etc, even if you win at some point, you only win one chip. This, in a simplistic way, is what the Banks did. If at some point you DON'T win, you are out a lot of money. Suppose it loses for say 6 rounds. Then you have lost 1+2+4+8+16+32 =63 chips, but if it then wins on the 7th, you are betting 64. You will win 64 = 1 more than you have lost up to that point. If it loses, you have lost 96. This is what Nick Leeson did for example - and what all the other banks have done too, and why it would appear such gigantic sums of money have been lost.

The other was with someone who has been trying to sell their house since May last year. They had one viewing in June, since then nothing. In December he took £25,000 off the price, reducing it to just below the £500,000 level.
Obviously, over Christmas and New Year there was nothing, but since January 12th he's had 5 viewings.

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