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If You Read Only One 192-Page Report on the Financial System Today, Make It This One

Oops

The Financial Stability Oversight Council, the Treasury-Fed-SEC-FDIC-etc.-etc. joint venture designated by Dodd-Frank to prevent another financial crisis, released its first annual report last night and can we just say that we love it?

The purpose of the report is to convery recommendations about where the regulators see systemic risk. Some are expected (bank capital and liquidity issues, derivatives clearing, high frequency trading, housing market stabilization), but there are also some things that have fallen out of headlines, like:

Rates carry trade. There’s been a lot of talk about the Fed’s zero-ish rates being a giveaway to banks who borrow short from the Fed, buy Treasuries, and clip the yield difference. This never made a lot of sense to us as a giveaway, but the FSOC does seem worried that the basic mechanics of it pose a systemic risk if long rates ever go up:

In light of a sustained, historically low interest rate environment, market participants should work to ensure that they have robust processes for measuring and, where necessary, mitigating their exposure to a range of interest rate scenarios. Preparedness to face unexpected rate changes or yield curve shifts will enable market participants to make a stable transition to a new rate environment, minimizing potential disruption to the system.

Credit underwriting. And not in subprime mortgages! Who knew, but the FSOC is no fan of covenant-light loans:

[T]here have been some indicators that credit underwriting standards might have overly eased in certain products, such as leveraged loans, reflecting the dynamics of competition among arranging bankers. Greater market discipline can be supported through robust due diligence practices and processes for monitoring and responding to developments in credit underwriting standards, including deal features that may allow borrowers to take on excessive risk.

Tri-party repo. The FSOC is actually pretty jazzed about the tri-party repo market that securities dealers use to fund their inventory, which makes sense as the inability to roll intraday funding was a big contributor to Lehman’s demise:

Given the vital importance and size of tri-party repo financing and the broad array of financial institutions active in this market, the regulatory community should exert its supervisory authority over the industry’s reform efforts … Chief among these priorities are enhancing dealer liquidity risk management practices, alleviating the propensity of cash investors to withdraw funding and exit the market when risk surfaces, and implementing mechanisms to manage a potential dealer default.

Money market fund stability. The FSOC is worried about runs on money market funds that might break the buck and wants, among other things, floating money market NAVs and “deterrents to redemption, paired with capital buffers, to mitigate investor runs.” So, gates on money market funds?

So that’s all good stuff for Congress to consider when they sort out the imaginary crisis they’re working on now.

But what we really like are the next two sections of the report, “Macroeconomic Environment” and “Financial Developments,” which are as good a summary as you’re going to get of the last five years in our financial system – clearly written, as brief as possible, and utterly comprehensive. We expect this report to provide as much material for reflection in the days to come as say an oversharey Gary Cohn profile. Best of all are the charts, which touch on every aspect of our financial system and even come with Excel backup (see here). If you’re a capital markets banking analyst and you’re not revising your “economic conditions” pitchbook pages based on this thing, you’re in the wrong line of work.

Here are just a couple of story lines to get you started:

1. You deserve a raise. Even accounting for the crisis, the financial sector contributes an increasing share of GDP even as it accounts for a decreasing share of payrolls (note differing timeframes/scales):

2. Banks vs. capital markets

There’s a theory that a key competitive advantage of U.S.-style capitalism is that our companies get so much of their financing from public capital markets rather than banks. Here’s what the FSOC has to say about that:

U.S. companies are overwhelmingly financed by capital markets and the share is growing over time:

Even our banks are increasingly financed by capital-markets-type financing (CP, repo) rather than traditional deposits:

Compared to other advanced economies, our biggest banks are relatively tiny, perhaps precisely because we rely so much on markets:

3. No one is entirely immune from crap i-bank-style graphics

Interconnectivity!

FSOC Annual Report (pdf)

Also: Watchdog Sees Financial Weak Spots [WSJ]

U.S. Systemic risk council recommendations [Reuters]

68 comments
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68 Responses to “If You Read Only One 192-Page Report on the Financial System Today, Make It This One”

  1. Yawn says:

    You lost me at If

  2. Anonymous says:

    Nice plug for ZH….AGAIN

  3. Brian1284 says:

    Can someone with a CFA sum this post up inu00a0couple sentences?

  4. Not again says:

    I don’t even have to look at the byline to see who wrote the story any more. u00a0Chart = Levine.

  5. Gues says:

    Matt,nnYou got me. Only after the first scroll down I realized I was going to read the repor itself.

  6. Duck says:

    Thanks Tyler, I mean Matt.

  7. Dr. Feel Good says:

    Does Matt suck or does Matt suck? Seriously how does this guy go through Harvard and Yale law school being this boring? I guess there might be a circular reference in my logicu00a0somewhere.

  8. Dr. Feel Good says:

    Does Matt suck or does Matt suck? Seriously how does this guy go through Harvard and Yale law school being this boring? I guess there might be a circular reference in my logicu00a0somewhere.

  9. Dr. Feel Good says:

    Does Matt suck or does Matt suck? Seriously how does this guy go through Harvard and Yale law school being this boring? I guess there might be a circular reference in my logicu00a0somewhere.

  10. Randall says:

    Don’t make it sound like sarcasm if it’s not. The jokes never came and now I just wasted DB time reading something I should have read for work anyway.

  11. Randall says:

    Don’t make it sound like sarcasm if it’s not. The jokes never came and now I just wasted DB time reading something I should have read for work anyway.

  12. Randall says:

    Don’t make it sound like sarcasm if it’s not. The jokes never came and now I just wasted DB time reading something I should have read for work anyway.

  13. DBCommentarius says:

    Matt- marketing 101. Do people come to DB to read materials like these? I understand you have to earn your keep by producing things that generate traffic but this is entirely too serious for a tabloid. What’s next, another slideshow factory like Business Insider?

  14. DBCommentarius says:

    Matt- marketing 101. Do people come to DB to read materials like these? I understand you have to earn your keep by producing things that generate traffic but this is entirely too serious for a tabloid. What’s next, another slideshow factory like Business Insider?

  15. DBCommentarius says:

    Matt- marketing 101. Do people come to DB to read materials like these? I understand you have to earn your keep by producing things that generate traffic but this is entirely too serious for a tabloid. What’s next, another slideshow factory like Business Insider?

  16. HFguy says:

    Thanks Matt. Good article. nnAlso on a side note: I do notice the trend to make DB more than just a gossip blog. Keep up the good work.u00a0

  17. HFguy says:

    Thanks Matt. Good article. nnAlso on a side note: I do notice the trend to make DB more than just a gossip blog. Keep up the good work.u00a0

  18. HFguy says:

    Thanks Matt. Good article. nnAlso on a side note: I do notice the trend to make DB more than just a gossip blog. Keep up the good work.u00a0

  19. NakedShort says:

    Matthew “The Machine” Levine

  20. NakedShort says:

    Matthew “The Machine” Levine

  21. NakedShort says:

    Matthew “The Machine” Levine

  22. Anon says:

    Matt,nnFeels like ZH circa 2009, which is a good thing – industry vets without jobs and gag orders. Keep it up, but don’t slide into ZH’s conspiracy garbage or this place will turn into sodom and gomorrah.

  23. Anon says:

    Matt,nnFeels like ZH circa 2009, which is a good thing – industry vets without jobs and gag orders. Keep it up, but don’t slide into ZH’s conspiracy garbage or this place will turn into sodom and gomorrah.

  24. Anon says:

    Matt,nnFeels like ZH circa 2009, which is a good thing – industry vets without jobs and gag orders. Keep it up, but don’t slide into ZH’s conspiracy garbage or this place will turn into sodom and gomorrah.

  25. Anonymous says:

    Sweet nerdariffic nectar nnn-Robert Parker, Post Connossieur

  26. Anonymous says:

    Sweet nerdariffic nectar nnn-Robert Parker, Post Connossieur

  27. Guesticle says:

    This is making me appreciateu00a0the 100+ comment Greg Michael’s posts of yore.u00a0 What is DB becoming?

  28. Guesticle says:

    This is making me appreciateu00a0the 100+ comment Greg Michael’s posts of yore.u00a0 What is DB becoming?

  29. Guesticle says:

    This is making me appreciateu00a0the 100+ comment Greg Michael’s posts of yore.u00a0 What is DB becoming?

  30. In future please don’t number bullets. OTTIHNC.

  31. In future please don’t number bullets. OTTIHNC.

  32. In future please don’t number bullets. OTTIHNC.

  33. Guest says:

    We do deserve raises.nnOr at least Lightsquared shares.nn–UBS quant late for his afternoon shift at Whole Foods.

  34. Guest says:

    We do deserve raises.nnOr at least Lightsquared shares.nn–UBS quant late for his afternoon shift at Whole Foods.

  35. Guest says:

    We do deserve raises.nnOr at least Lightsquared shares.nn–UBS quant late for his afternoon shift at Whole Foods.

  36. bored little jerk says:

    This post was gay.nn-Guy who’s insults never matured beyond 7th grade.

  37. bored little jerk says:

    This post was gay.nn-Guy who’s insults never matured beyond 7th grade.

  38. bored little jerk says:

    This post was gay.nn-Guy who’s insults never matured beyond 7th grade.

  39. Also A Guest says:

    The title starts of with a HUGE “if”, and then proceeds into an article with an even bigger “WTF?”

  40. Linguisticality says:

    Yo! u00a0Spellcheck pleeze…”The purpose of the report is to convery…” u00a0WTF is a “convery”??? u00a0I’m trying to convey a message here. u00a0But you ain’t listening…u00a0

  41. PeterS194 says:

    “Even our banks are increasingly financed by capital-markets-type financing” nn”were” would be better suited there

  42. Deez Nutz says:

    I stopped reading after the word “The”

  43. Deez Nutz says:

    I stopped reading after the word “The”

  44. Thick Glasses says:

    Matt,u00a0 I think you;’ve got this report exactly wrong on the “carry trade” issue.u00a0 You seem to think that authors are concerned that the carry trade will come to a sudden end as the yield curve flattens, bursting their bubble.u00a0 But they aren’t.u00a0 They are concerned, rather, that risk managers aren’t taking adequate account of the dangers of a steepening of the yield curve.u00a0 See pp. 136-37 especially.

  45. web design says:

    vmTDBW Awesome blog.Really thank you! Great.

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