It’s been a while since I last worked in the wonderful world of wholesale cash, but only recently I heard  more about sniffer dogs being used to find cash in the hope to catch out criminals and, in particular, money launderers. One of my friends encountered one at London’s CityAirporta few months ago and recently it was announced that a sniffer dog particularly trained to intercept money is active on trains and stations in Holland. It’s an interesting one in particular since money laundering and other criminal activities have always been highly reliant on cash. What’s curious though is that even all those many moons ago when I worked in the cash business, amounts up to the equivalent of 200,000 EUR would be carried in cash from one country to another. Straight through customs in the trouser pockets of someone’s tracksuit without anyone noticing. 

It makes me wonder why it’s only now that the sniffer dogs are being deployed. Did someone perhaps finally wake up?

Dr Natalie Schoon, CFA

The United Nations Foundation and Devex (Development Expertise) ran a campaign in December 2011 to devise innovative ways to finance international development. A variety of ways to raise funds and to help countries take charge of their own development were explored. The idea that particularly appealed to me was the public-private partnership. Don’t just give money, invest. Investing provides knowledge and jobs. In turn, jobs pay salaries which will be spent locally thus stimulating the economy. An additional benefit is that it will have a positive impact on people’s pride and confidence. The challenge, however, is the economic and financial risks of investing in developing countries. Any investment may be lost. Then again, money given directly to charity gives you a nice and fuzzy feeling, a tax benefit, but in the end you equally have nothing to show for it. Providing the same tax benefit for investment as for charitable giving may perhaps take away some of the hesitation associated with political, economic and financial instability.

It might just work, although the way Kenya seems to go about this may not be the best example. With a third of the population facing famine due to insufficient food production they leased large amounts of agricultural land to foreign governments in return for the building of a port so close to the border with Somalia that it is safe to say that no captain in his right mind will be sailing into that port voluntarily.  Makes me wonder who is the beneficiary of this or am I being a little too cynical?

So, now that we have established how it doesn’t work, let’s focus on how it may work. Anyone interested in a good investment opportunity?

Dr Natalie Schoon, CFA

I currently work on a development program in Afghanistan where one of my colleagues is called Sharif. I don’t know his last name but that’s not really important. What I do know is that he started working with us as a cleaner. For some reason he applied for a job as an admin clerk. He was interviewed and was offered the job.

It’s been a long time since I have seen anyone being this excited about landing a job as an admin clerk. I wish him all the best, but equally importantly I wish that more people in the West would ever be this excited and so proud about the opportunity to have a marginally better job and a chance to prove themselves and look after their families.

We can all learn so much from Sharif.

 Dr Natalie Schoon, CFA

I have never really paid much attention to International Women’s Day until now. It doesn’t really attract a lot of attention in Europe and to be fair, I never thought it that important. Today I’ve learned differently. Being in a country where gender equality is an uphill struggle these things matter. The women here are particularly proud of the fact that Maryam Durani, a native of Kandahar, has been awarded the 2012 International Woman of Courage Award.

There are also smaller tokens of appreciation. One of the guys in the office this morning came around with Herati sweets which he gave to all the girls. Nothing demeaning about his attitude, he was just being kind. This afternoon we had a small celebration with some female speakers and artists. Perhaps it’s not much, but it’s a good thing to do, and probably does more for women’s rights then introducing nurseries at work. Not that there is anything wrong with that either, but it’s not really what one needs yet in Afghanistan. 

Most importantly, I met the most incredible woman today. Faced with the difficulties during the Taliban era she built up a business, kept at least half if not all the women in her neighbourhood in paid work and is an inspiration to all. And she’s not run out of steam just yet – may she have a long and productive life.

Her name is Kamila Sidiqi. Don’t just read about her story, see what she’s up to and support her work or look at her as an inspiration.

Dr Natalie Schoon, CFA

Some time ago I found myself in Kabul going out for a leisurely outdoor lunch and a bit of shopping. On our way back we saw something that put a smile on our face, a kite. Kids will always play, no matter the circumstances.  When we got closer to where we were staying, however, we noticed that it suspiciously looked like the kite was actually being flown from there. Now, surely we must have gotten this wrong. There were certainly no kids staying with us.

Dr Natalie Schoon, CFA

Although we like to think of ourselves as fully rational when it comes to decision making, the truth of the matter is that we are not.  Our ability to make decisions is bounded by the limitations of what our brain is capable of processing at the same time. Simon (1957) introduced the notion of bounded rationality, recognising that decisions are not based on fact alone, but influenced by other elements. Our minds do, after all, not have the capacity to understand everything. Particularly not when complexity increases. As a result, decisions are not fully thought out, but are arrived a within the limitations of our brain.

Besides the limitations on the amount of information that can be processed, our brain also plays tricks on us. Negative information such as, for example, a recent investment loss, has a more pronounced impact on our behaviour than a recent gain. Equally, when we pay for something by credit card we experience the joy of the purchase without the pain of parting with our money.

Dr Natalie Schoon, CFA

I passed by one of the Occupy sites in London the other day which appeared remarkably smaller than before Christmas. A lonely Christmas tree with a Santa attached to it stood outside one of the tents which all seemed empty. Having started as a protest against political climate in wake of the crisis in the US, it initially attracted a lot of participants and support. Something appears to have changed though. Local businesses are starting to suffer, residents are getting tired of the mess in their neighbourhood.  But so also do the political parties that were originally supportive are starting to become weary as became clear from a General Assembly at Occupy Amsterdam.

Having established that at the General Assembly it is customary that whenever someone says something it is repeated by everyone else, the Mayor of Amsterdam (in case you wonder, he is left wing) decided to use it to his own advantage.  It only took a split second to come up with “tomorrow, we will all bugger off and find a job”. Few of the crowd repeated “tomorrow” before it sank in. After that, complete silence.

The underlying ideas are still going strong, but perhaps it is time for a rethink on execution strategy.

Dr Natalie Schoon, CFA

Early October 2011, Dexia, a Belgian-French bank, collapsed for the second time in three years after their initial bail out in 2008, when they were rescued by the same governments that have propped the bank up again this month.

Interestingly enough, the bank passed the stress test with flying colours, and came in 12^th place out of 90 amongst the European banks stress tested in July of this year.

Dexia’s problems are largely the result of their business model, which relies heavily on short term borrowing in the capital markets to finance long term funding obligations. This is not a new issue, however. Northern Rock faced the exact same problem in 2007. From a capital adequacy perspective, both banks looked in remarkable good health a few months before their collapse.

The challenge with this funding strategy is that as soon as liquidity starts to dry up, it is no longer possible to raise the required amount of funds. General market sentiment due to the bursting of the sub-prime mortgage bubble in 2008 and uncertainty about the consequences of restructuring of Greek, Spanish and Portuguese sovereign debt on the Eurozone in 2011 made lenders cautious. This results in a significant reduction of the liquidity available in the market, and particularly impacts those that are heavily relying on the short term capital markets. I wouldn’t want to go as far as to say that this is unique to the current crisis though. Previous crises have been subject to exactly the same problem.

So, what does this say about the July 2011 stress test result?

It can certainly be assumed that the underlying model and/or its assumptions were, at a minimum, incomplete and perhaps even flawed. If this assumption is incorrect, it is difficult to explain why a bank that passes a stress test with flying colours needs to go cap-in-hand to the government not even six months later. Can it be resolved by purely adding some form of an ‘available liquidity’ indicator? Probably not since – as previous crises show – available liquidity in the market doesn’t change gradually over a period of time but instead tends to change rather abruptly. Perhaps there is some merit in also including asset and liability management strategies. Whilst also not easy to model either, the proportion of long term assets such as savings and deposit accounts or other sources of long term funds may be a significant factor in the probability of a bank being susceptible to volatility in the available liquidity in the market.

There is, however, one thing that truly puts Dexia in a class of its own. Just before it all went horribly wrong in 2008, one of Dexia’s wholly owned subsidiaries provided a loan of €1.5bn to two of its largest institutional shareholders to finance their stake in Dexia’s capital increase. Apparently that is, or at least was, not illegal in Belgium and, notwithstanding the regulator’s concerns, it did effectively raise Dexia’s capital adequacy to an acceptable level. Albeit artificially.

Dr Natalie Schoon, CFA

Many Islamic fund managers charge fees well in excess of the going market rate. There are a few commonly mentioned reasons for this, the main one being the unique character of their service offering swiftly followed by the size of assets under management, and the zakat obligation. Looking at each of these in turn, however, provides some interesting food for thought.  Is the offering significantly different from conventional funds? Generally, we see that the types of funds available are similar to the conventional fund ranges, bar perhaps a convincing hedge fund offering.

 Although the available investment universe may be smaller, there is some evidence from index providers that this may not be as significant as often thought. The volume of assets under management is indeed comparatively smaller with many funds managing only a small amount of money. In part, this is associated with the relative maturity of the market.

Arguably, the lack of assets under management may also be adversely impacted by the disproportionally higher management fees thus creating a vicious circle. The zakat obligation is an interesting point, but should it really result in higher management fees?

Instead it may be considered as part of performance in which case it can potentially be dealt with in two different ways. Option one is to defer the obligation to pay zakat to the investor, although the practise of reinvesting revenues might make it difficult to administer. The second solution is to let the fund pay, and report performance both inclusive and exclusive of zakat. This would provide clarity and transparency on the actual performance of the fund, and may enhance its attractiveness to a wider range of investors.

Dr Natalie Schoon, CFA

The basic idea behind peer-to-peer lending is simple. People lacking funds find others with excess funds on the internet and lend to each other. In itself it’s not a new phenomenon. In many Middle Eastern and Asian countries this type of practice has been going on for a long time based on the principles of a ‘lending circle’. A lending circle is run by a trusted person in the neighbourhood who keeps control of the money. Each of the participants pays a set amount per month, and each month one of them borrows the whole amount from the circle. They have a very low default rate which could have something to do with the fact that they have a predominantly female membership. In addition, there is significant peer pressure since the lending circle is based in the local community.

In a peer-to-peer lending environment, however, people are relatively anonymous, and thus the advantage of peer pressure is significantly reduced. Instead, borrowers receive a credit rating which is determined by the facilitator’s process, after which they advertise their requirements including the reason for wanting to borrow, and the interest rate they are willing to pay. In some cases this is accompanied by a description of how they are expecting to repay and some detail surrounding life style. Borrowers do not divulge their real name, and the majority of outstanding loan requests appear to be for credit card and other debt consolidation, or to buy a car. Not all borrowers will e successful in raising the funds they require.

Lenders can ‘bid’ on borrowers they will support either for the whole or part of the amount requested. The lender faces the challenge on how to choose between similar borrowers, which requires a significant amount of trust in the underlying process. The majority of peer-to-peer lending offerings are relatively young without a track record and do not qualify for deposit protection schemes. The lender will look to be compensated for these additional risks in the form of a higher required return, although some of the risk is reduced by diversifying the funds over a range of borrowers.

Whether it appeals to an individual is strongly dependent on their individual risk appetite, but it does provide an alternative means of borrowing and lending particularly at a time when banks are not lending, and returns on current and savings accounts are at an all time low.

Dr Natalie Schoon, CFA