Graduate School of Management
St.Petersburg State University
June 6, 2008
Michael Klein
Chairman of the Institutional Clients Group
Vice Chairman, Citi
The Headlines Tell The Story…
1990
 “The Collapse of Major Investment House:
Symbol of Wall St. Era Is Dismantling”
– New York Times, 1990
 “Facing Unfortunate Facts; It’s Time to
Separate the Recession from the
Euphemisms”
– Washington Post, 1991
 “Middle East Investor Buys Major Stake in
U.S. Bank”
– The Associated Press, 1991
 “Leveraged Buy-Out Funds Are High-Fliers No
Longer”
– Wall Street Journal, 1990
 “Anti-LBO Bill Introduced in Congress”
– Reuters, 1990
 The Agency was Starting to Detect Problems
in Bank Lending to Highly Leveraged
Companies”
– OCC, 1989
 “The Market for Bank Debt is in Complete
Disarray”
– ML, 1990
1
The Markets Have Been Declared Dead .. And Reborn Many Times
1990-2000
2000-2007
Total GDP Growth
 69%
 41%
Equity Market (DJIA)
 240%
 319%
M&A Activity
 662%
 905%
Leveraged Finance Issuance
 1,383%
 3,194%
But some companies, firms and business models did not survive.
2
How The Markets Have Changed
… Through Summer ’07:
Liquidity Wave
2H 07:
Markets Seized
Illiquidity
3
H1 08…?
Drought
Credit Contraction
Recession
A Decade of Financial Wealth
Per Capita Income
Equities
12000
Real Estate
2900
1600
2500
11000
1300
2100
10000
1700
1000
9000
1300
8000
2003
2004
2005
2006
2007
700
2003
2004
Commodities
2005
2006
2007
900
2003
2004
Derivatives
2006
2007
Art
600
4000
2005
90
516
500
3500
450
80
400
3000
270
300
70
2500
200
1500
2003
60
100
2000
100
50
0
2004
2005
2006
2007
2001
2005
2006
2007
Source: Factset, EIU, Reuters, Citi Research, Artnet
Note: Per Capita Income Global, Equities: S&P 500, Real Estate: FTSE EPRA/NAREIT Global, Commodities: Moody’s Commodity Index
Derivatives: Citi Wedge 2007 dollar amount in trillions.
4
2003
2004
2005
2006
2007
Globalization And Liquidity
The Three Waves Of Globalization
Regulatory
• WTO
5
Technology
• Personal Computers /
Networks
Capital
• Investment Grade Emerging
Market Sovereigns
• NAFTA
• Internet
• Local / Global Bonds
• EU
• Mobile Phones
• Local / Global Banks
• CAFTA
• Wireless
• EM Equity Markets
Forecasters Project Re-ordering Of Major Economies
Relative Size of Economies in 2005 and 2050P
(US = 100)
Developed Countries
100
100
100
80
60
39
40
23
20
14
20
18
13
0
US
Japan
Germany
2005A
UK
2050P
Developing Countries
150
125
120
90
70
60
30
20
18
6
5
15
5
0
China
India
Brazil
2005A
6
Source: PriceWaterhouseCoopers/Goldman Sachs BRIC Analysis
2050P
Russia
BRIC: The Emerged Markets
Size of Economy (1) ($bn)
Projected Economic Growth (2)
Size of Equity Mkts (3) ($bn)
Growth 2003-07
Growth of Acquisitions (4)
Growth of Equity Offerings (5)
% of Global 2007 IPO Offerings (6)
(1)
(2)
(3)
(4)
(5)
(6)
7
2007 Nominal GDP; Source: EIU
2007-2008 GDP growth; Source: EIU
Market Cap as of May 19, 2008 from Factset
2003–2007 Market Volume; Source: SDC – Any Involvement
2003–2007 Equity Offerings – Equity & Equity Linked
2007 Offerings as % of Global IPO Offerings
Brazil
Russia
India
China
$1,433
$1,290
$1,147
$3,242
4.6%
7.1%
7.6%
9.6%
$1,974
441%
$5,220
588%
$1,857
544%
$4,516
143%
238%
278%
954%
230%
6,190%
5,594%
2,755%
805%
~10%
~10%
~10%
~35%
EM “Champions” are Increasingly Active in Global Markets
(In US$)
Brazil
$88 billion
$237 billion
$33 billion
$161 billion
$29 billion
$42 billion
$82 billion
$307 billion
$22 billion
$78 billion
$15 billion
$72 billion
$26 billion
$90 billion
$19 billion
$54 billion
$4 billion
$39 billion
$38 billion
$290 billion
$29 billion
$126 billion
$31 billion
$172 billion
Russia
India
China
LTM Revenue
Market Cap
8
Source: The Global 2000, Forbes (April 2008).
Global Wealth Transfer: The Commodities Factor
Oil ($ / Barrel)
Gold ($ / oz)
Tin ($ / ton)
The Winners
24 525
886
•
125
438
7 760
43
2004
2008
Platinum ($ / oz)
2004
2008
Uranium ($ / kg)
2004
2008
•
•
Russia
Middle East
LatAm / South
America
Silver ($ / oz)
2 088
17
The Issues
144
859
7
63
2004
2008
Copper ($ / ton)
2004
2008
Nickel ($ / ton)
2004
2008
Rhodium ($ / oz)
9 150
8 162
27 533
15 190
3 279
1 325
2004
2008
2004
2008
2004
Source: Oil, Gold, Platinum, Silver – Citi Research; Uranium, Rhodium – Reuters; Copper, Tin, Nickel - LME
Note: Data as of May 12, 2008
9
2008
•
•
•
Protectionism
Environmentalism
Research and
Development
The Liquidity Cycle
Global Economic Transition
Robust Growth
Reach for
Yield
Liquidity Cycle
Excess
Liquidity
10
New
Capital
Flows
Unprecedented Liquidity
Equity & Debt Issuance
Value of Outstanding Derivatives
US$ in Billions
US$ in Trillions
$8,000
$600
$6,995
$516
$500
$6,000
$400
$3,935
$4,000
$300
$200
$2,000
$95
$100
$583
$34
$81
$0
$0
1980
Source: Dealogic & BIS.
11
1990
2000
2007
1980
1990
2000
2007
Three Main Drivers of Global Liquidity
Economic Industrial
New Engines
Global
Liquidity
Financial
Entrants
12
Commodities-Driven
Sovereign Reserves
Liquidity Evaporates Triggered by Housing and Leverage
Subprime Lower Grade Securities Pricing
U.S. Housing
(Units in 000s)
2,400
Starts
Sales
2,200
ABX BBB 07-1
93%
83%
2,000
73%
1,800
63%
1,600
53%
1,400
43%
1,200
1,000
33%
800
23%
600
13%
400
Jan-04
Jan-05
Jan-06
Jan-07
Mortgage market at $11T
equals GDP.
13
Source: US Census Bureau.
Jan-08
3%
Jan-07
Apr-07
Jul-07
Oct-07
Jan-08
Subprime is less than 10%.
Apr-08
Contagion Spread Through The Financial Markets
Fixed Income Markets
6.00
Asset-Backed Commercial Paper
$1,200
LIBOR - 3 Month
5.50
1,100
5.00
1,000
4.50
900
4.00
800
3.50
700
3.00
600
2.50
2.00
Jan-07
500
Apr-07
Jul-07
Oct-07
Jan-08
Apr-08
Equity Volatility
40
ABCP ($b, O/S)
400
2005
2006
2007
2008
Significant Market Volumes Decline Y-o-Y
Vix
-30%
35
Equity
30
25
-35%
M&A Ann.
20
15
-69%
Lev Loans
10
5
Jan-05
Jul-05
Jan-06
Source: Citi, Bloomberg, SDC
14
Jul-06
Jan-07
Jul-07
Jan-08
-81%
Corp HY
Impacted Many New Markets
TBD…
Bank
Balance Sheets
Conduits
Auction Rate Market
Derivatives
Monoline Insurers
Equities
Decline
SIVs
Commercial Paper
Leveraged/ Liquidity Loans
Subprime CDOs
Sub-Prime Mortgages
15
Enormous Capital has been Drained out of the System…
Cumulate Losses Since Beginning of 2007 to Date
Firm
IKB Deutsche
UBS
Merrill Lynch
Citigroup
CIBC
Washington Mutual
Morgan Stanley
Credit Suisse
Royal Bank of Scotland
Credit Agricole
Bank of America
Bear Stearns
Deutsche Bank
Wachovia
Lehman Brothers
ABN Amro
HSBC
JPMorgan Chase
HBOS
Fortis
Mizuho Financial Group
Societe Generale
Barclays
Goldman Sachs
Natixis
Dresdner
Others
Total
16
Source: Bloomberg (May 9, 2008).
Pre-Tax
Total Losses
$8.9
38.2
31.7
40.9
4.1
8.3
12.6
9.6
15.2
6.4
14.9
3.2
7.6
7.0
3.3
2.4
12.4
9.7
5.9
3.7
5.5
4.0
3.2
3.0
1.9
3.4
56.3
$323.3
% of 2006
TBV
492.1%
134.7%
94.8%
58.9%
52.4%
49.2%
40.9%
36.5%
29.2%
27.6%
27.4%
27.2%
23.9%
23.6%
22.4%
20.3%
17.5%
17.4%
16.8%
15.3%
13.9%
13.2%
13.1%
11.1%
9.8%
7.0%
Virtually all
caused by
mortgage
exposure.
Enormous Capital has been Drained out of the System
Post-Tax
Losses
Banks & Brokers
Banks
Brokers
Leverage
Loss of Liqudity
($137)
15x
($2,048)
($74)
30x
($2,209)
Total
U.S Commercial Paper Market
Current
$2,187
$1,822
Decrease
($365)
Structured Finance /
ARS Market
(~$1,000 Billion)
Other
?
~$5.6 trillion
17
July '07
($4,257)
Source: Bloomberg, Federal Reserve, Dealogic, Citi estimates.
Broker-Dealers and Banks’ Financing Costs Exploded
5 Year CDS Spreads
805
January ’06 to December ‘06
500
January ’07 to July ‘07
August ’07 to Current
500
500
705
450
450
605
400
400
505350
350
300
300
450
400
350
300
405
250
250
305200
200
150
150
250
200
150
205
100
100
100
105
50
5 0
Jan-06 Apr-06 Jul-06
Jan-06
Apr-06
18
50
Oct-06
Jul-06
GS
Oct-06
BSC
50
0
Jan-07
Jan-07 Apr-07Apr-07 Jul-07Jul-07
JPM
MER
C
LEH
0
Oct-07
Aug-07
MS
Jan-08
Nov-07
Feb-08
Financing Markets are a Balance of Power
In Times of Stress, the Power Moves to the Central Bank
Central
Banks
Universal
Banks
•
•
•
•
•
19
Brokerage
Firms
Capital
Markets
Substantial liquidity from Central Banks
3.25% cut to discount rate
Unique use of Fed discount window
Bear bailout
Mortgage commitments approaching $500B
Investors
Investors Have Essentially Replenished the Near Term Gap
Company
Capital Raise
Company
$44.1 Billion
$17.0 Billion
$43.7 Billion
$13.1 Billion
$23.3 Billion
$10.5 Billion
$17.4 Billion
$10.0 Billion
$17.9 Billion
$9.7 Billion
Total Capital Raised of over $275 Billion /
Total Funding of $700 Billion
20
Source: Bloomberg (May 9, 2008).
Capital Raise
Sovereign Wealth Funds: Competitors or Partners?
SWFs Are Projected to Grow Significantly
SWFs are Big and Getting Bigger ($ T)
(in Trillions)
Asset Management
Industry AUM
$48.1
$12.0
Retirement Funds
AUM
$23.6
Projected
Sovereign Wealth
Funds
$7.5 - $12.0
$3.0
Foreign Exchange
Reserves
2007
2015
Sovereign Wealth
Funds
Hedge Funds AUM
Private Equity AUM
21
$5.4
$3.0
$1.9
$1.3
SWF Capital Can Reshape Global Economic Landscape
Purchasing Power Reduces Cost of Treasuries by 130 bps
At Oil Prices of $100/barrel, Incremental
$2.5 bn Investment into World Markets per Day
If SWFs Primarily Invest in US, Growth Increases by 1/3
Source:
22
Warnock and Warnock: “International Capital Flows and US Interest Rates,” NBER 12560, Oct 2006.
McKinsey Global Institute: “The New Power Brokers: How Oil, Asia, Hedge Funds and Private Equity are Shaping Global Capital Markets,” Oct. 2007.
Estimates of SWF capital inflow effects based on historical relationship between GDP growth and FDI, as estimated by Carkovic and Levine
(2005), “Does Foreign Direct Investment Accelerate Economic Growth?”.
The Four Dichotomies Since the Dislocation Began
Financial vs. Real Economy
US vs. International
US GDP Growth
4.0%
8.0%
3.5%
7.0%
3.0%
6.0%
2.5%
5.0%
2.0%
4.0%
1.5%
3.0%
1.0%
2.0%
0.5%
1.0%
0.0%
0.0%
2003
2004
2005
2006
2007
2006
2007
US
Debt vs. Equity
2008E
Euro Area
2009E
Emerging Market
The Great Emerging Markets
S&P 500
$1,750
MSCI EM
$1,500
1,500
1,250
1,250
1,000
1,000
750
750
500
500
250
250
0
2003
2004
2005
2006
2007
2008
0
2003
All are Converging.
23
Source: Factset, Dealogic, IMFReports
2004
2005
2006
2007
2008
Trends that Matter
Energy/
Commodities
New Capital Flows
&
Disintermediation
24
Emerging
Markets
Regulatory
Change
New
Capital
Flows
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