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A purely analytical perception...

Hong Kong



Continued from page 1


Why does it occur that when speculators sell Hong Kong dollars they decrease the float? When a sale of currency is made it is the same thing a the brokers requirement to deliver stock on settlement day. If a speculator sell something he doesn’t own, delivery still must be made. If infinite Hong Kong Dollars were sold short, infinite deliveries of those dollars would have to be made to the purchasers. Infinite Hong Kong Dollars obviously do not exist and therefore, the float of dollars diminishes as short sales take place.

As the float contracts, lender's ability to make new loans or even maintain loans outstanding, contracts as well. Thus, if enough currency traders simultaneously attacked the Hong Kong dollar, theoretically, there would be no dollars left in circulation and all loans made by the banks in that currency would have to be called. There is no way that China or anyone else could save Hong Kong under that scenario, but the Government could change the rules midstream. Malaysia did just that by virtually changing their currency from freely trading to blocked. While this wouldn't be cricket, not that many people play cricket anymore.

The ex-colony is rife with rumor and the hoards descend upon whatever bank or retail business that is rumored to be in trouble redeeming their cash or buying their merchandise before the predicted demise occurs. In spite of the Hong Kong Dollar holding firm, the reality is, the economy has slowed, and there now is unemployment, something unheard of in the past.

China has been shoveling its issues onto the Hong Kong Stock Exchange, with "red chips" (2) or H-shares now achieving 10% of the markets weighting in the Hang Seng Index. Thus, Hong Kong Stock Exchange is beginning to resemble Shanghai more and more every day, while historic companies making up the index in August only traded 24% of their market cap against a more normal 60%. Real Estate has fallen precipitously and the stock market is hovering only slightly above its lows for the last year. Tourism is down substantially and everything is becoming a little frayed at the seams.


With financial pressure on all sides, Hong Kong is not a universe unto itself, it may be better to turn and run and come back to fight again another day. Eventually, either because they are forced to do it by additional attacks on their currency or they do it because the Hong Kong dollar has become substantially overvalued relative to neighboring currencies, Hong Kong will devalue. They are too smart not to and the alternatives are most unpleasant. This unavoidable devaluation will come in the very near future. Most illustrative of this is the fact that the largest investment bank in Hong Kong, Peregrine Investment Holdings shut its doors, signaling to the global community that the king was no longer wearing any clothes.

This particularly came particularly as a blow to China because Peregrine was the principal underwriter for their issues listed on the Hong Kong Stock Exchange. Using extremely poor judgement, Peregrine made the boo boo of lending a substantial part of its capital to PT Steady Safe, an Indonesian taxi and bus company. The allure of having one of Suharto's daughters as a major stockholder was their undoing. PT's collapse ended its dream of turning the small company into a major builder of toll roads and ferries. Peregrine and Steady Safe literally tanked simultaneously when the financial hole in the Hong Kong investment bank's balance sheet could no longer be closed. Peregrine was a Chinese window in Hong Kong and although repeated attempts were made to get the Bank of China to bail them out, the efforts were of no avail.

A young man by the name of John Lee was head of risk control at Peregrine. It would seem that having such a distinguished title he would have analyzed the risks of investing such a substantial portion of the firm’s capital into an Indonesian Taxi Company. Peregrine was different than other Hong Kong Investment Bankers, and it was due to that significant difference that Peregrine was able to capture such a high a percentage of the business written in the former colony. You see, when Peregrine bid on a transaction, they, opposed to their competitor’s commitments, agreed to take the whole deal (bought deals) whether or not they could place it.


This certainly was of great value for companies trying to raise money. They did not have to wait to see if the broker was successful to be certain of receiving the agreed upon payment. However, this was their Achilles Heel and the reason that Peregrine was left with a portfolio of $1.1 billion of mostly remnants of parts of deals they couldn’t get rid of when it collapsed. All investment bankers maintain a portfolio of their deals from time to time. What made Peregrine so different was that most other global banking firms, would get rid of the trash and keep the blue chips, Peregrine did exactly the opposite, it got rid of its quality merchandise and kept paper that was literally worthless. Thus, they were left with this worst of all economic scenarios. The deals that are unsaleable are obviously the ones that no one wants and usually with good reason. Thus the remaining portfolio has become all but worthless.

But back to John Lee, if he were indeed the head of credit risk management, was he asleep at the switch? "Not so", he says, in answers to a series of questions raised by the Wall Street Journal, January 23, 1998, he stated, "I did not know about the Steady Safe deal and I did not approve it." Well if John Lee didn’t do it, could it have been Andre Lee, a Korean American youngster that had taken over the bond department in 1994 and proceeded to rack up $38 billion in placements during his watch. According to John Lee, his namesake was able, by buying bits and pieces over time to build up large positions without alarming or even perhaps notifying other departments. Andre Lee has hired counsel who has indicated that he won’t be talking to anyone. We do not believe that this will remain the case.




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