Scams, Crisis & Bubbles

8/14/2019 Scams, Crisis & Bubbles

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SCAMS, CRISIS &BUBBLES


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US SUB-PRIME CRISIS


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What does Subprime mean?

rimeMortgages For amounts

that are smallrelative to

value ofproperty

Borrower hasclean credit

history

Borrower hassufficient

current Income

Readily paydownpayments

Subprime Very Bad credit

History

May not even havecurrent jobs

Not able to paydown payments

No taxDocumentation

-lt A In terms ofloan quality theylie between prime

and subprime

Do not have agood or badcredit history assuch

May or may not

show their

current Income


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SUBPRIME LENDING

vAlso called B-paper, near-prime, or second chancelendingvvOffered at a rate higher than A-paper loans due to the

increased risk.

vvKey design features of a subprime mortgage are:

(1) Short term, making refinancing important

(2) there is a step-up mortgage rate that applies at theend of the first period, creating a strong incentive torefinance;


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WHO OPT SUBPRIME LENDING?

vIndividuals who have experienced severe financialproblems are usually labeled as higher risk.

v

vthese individuals may also be precluded fromobtaining any type of loan for an automobile orreal estate.


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!!lassic 8 Steps to Hell


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How did Subprime start??


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How did Subprime start??vBetween 1998 and 2006 subprime mortgages worked

as they were supposed to.

vThe subprime lending is 9% in 1996 but in 2004 it is

21%.v

vBetween 1997 and 2006, American home pricesincreased by 124%.

vMany subprime borrowers to obtain ARM they couldnot afford after the initial incentive period.


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..Contd

vWith housing prices now depreciating moderatelyin many parts of the U.S., refinancing has becomedifficult, leaving homeowners with higherpayments than anticipated.

vA steep rise in the rate of subprime mortgageforeclosures has caused more than 100 subprimemortgage lenders to fail or file for bankruptcy.


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Causes for the debaclevBoom and bust in the housing bubble

vSpeculation

vRisk mortgage loans and lending practices

vSecuritization practices

vInaccurate credit ratings

vGovernment policies

vPolicies of central banks

vFinancial institution debt levels and incentives

vCredit default swaps


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..Contd

vPiggyback loans 43% more likely to default thanothers; still majority share of pool value arethese (52%-Washington Mutual Inc)

v

vEncouragement from S&P by not slashingratings- in its total share of ratings to asset-backed securities, 99% were subprime


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The Mediums Involved


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Where things went wrong ??


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- ( )ASSET BACKED SECURITY ABS

vThe asset-backed security (ABS) has been around fordecades, and at its core lies a simple investmentprinciple:

vTake a bunch of assets that have predictable and

similar cash flows (like an individual's homemortgage),

vbundle them into one managed package thatcollects all of the individual payments (themortgage payments),

vuse the money to pay investors a coupon on themanaged package.

v

v This creates an asset-backed security in which theunderlying real estate acts as collateral.


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COLLATERALIZED DEBT OBLIGATIONS

vA cash CDO is a special purpose vehicle,which buys a portfolio of fixed incomeassets, and finances the purchase of

the portfolio via issuing differenttranches of risk in the capital markets.


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Teaser Loans

v An adjustable-rate mortgage loan inwhich the borrower pays a very lowinitial interest rate, which increases aftera few years.

v Teaser loans are considered an aspect ofsubprime lending, as they are usuallyoffered to low-income home buyers.Unfortunately, when these borrowers tryto refinance the loan before the rate

increases, most will not qualify forstandard mortgages. This leavesborrowers with increased monthlypayments, which many cannot afford.

v This method of loaning is considered risky,as default rates are hi h.


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Types of Subprime Mortgages

vInterest only mortgages: Only interest is paid for atenor 5-10 years.

vPick a payment loans: The borrowers have the

option to choose their monthly repayment whichcan be full payment, interest only or a minimumpayment.

v

v2-28 loan: Interest rate is initially fixed for 2 yearsand then reset to equal the value of a rate indexat that time , plus a margin.


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( )Mortgages Backed Securities MBS

vMBS refers to securities backed by residentialmortgage loans

v

vFixed income security with prepayment options.

vvPayment of Interest & principals is guaranteed by

the issuers of the securities .

v

vTremendous volume growth from $ 100 billion in80s to $ 3 trillion currently.


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Types of MBS

vMortgage Pass Through Securities

vCollateralized Mortgage Obligation

vAgency Mortgage Backed

Securities

vStripped Mortgage Backed

Securities


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Benefits of MBS

vHigher Return: 100 bps more than treasury andcorporate bonds.

vQuality of credit: No risk as it is backed by theUS Government.

vInvestment profiles: Various options likeduration, prepayment, fixed or floatingcoupons.

vLiquidity: It helps in making illiquid mortgage

receivables more liquid.vAnalytics: Better tools are available today to

analyze MBS.


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HE IMPACT


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HE IMPACTvv E ffe ct o n sto ck m a rke t

v E ffe ct on fin a n cia l in stitu tio n sv " " Waves of the credit crunchv E ffe ct o n in su ra n ce co m p a n ie sv " "E ffe ct o n m u n icip a l b o n d m o n o lin e in su re rsv E ffect on h om e ow n e rsv E ffe ct o n jo b s o f th e fin a n cia l se cto r

v E ffe ct on m in o ritie sv E ffe ct o n te n a n tsv E ffe ct o n w o rld e co n o m y


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oss due to Subprime Crisis


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CTIONS TO MANAGE THE CRISIS


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CTIONS TO MANAGE THE CRISISv Central Banks have conducted open market operations to

( . ., ).ensure member banks have access to funds i e liquidity

vv Banks and Lenders to tighten lending normsvv .Lenders and homeowners can restructure loans

vv -Credit rating agencies rating process to be re examined.and improved

vv Regulators and legislators can take action regarding

, , ,lending practices bankruptcy protection tax policies, , ,affordable housing credit counseling education and the.licensing and qualifications of lenders


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:ENTRAL BANKS AN EFFORT TOSTABILIZEv :FED

released USD 235 billionallows term financing for up to 30 days

v :ECBreleased 265 billion Euros

Banks could have any amount of money at the base%.rate 4vv .Bank of Japan released 1 6 trillion Yenvv ( . .)Central banks of Russia $1 64 bnvv .Australia and Canada also pumped money in the system


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SATYAM FIASCOTHE HIDDEN TRUTH


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SATYAMBIRDS EYE VIEWBIRDS EYE VIEW

IT Major Founded in 1987Associates:- 53000 employees.Revenue:- Rs. 11,181 Crores (08-09)

EPS: 31.83 (08-09)Geographies:- 67 countries.Listed with NYSE and Euronext


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Milestones

1995 First ISO 9001:2000.1999 - Listed on NASDAQ.

2001 - Satyam listed on New York StockExchange.2002 - Satyam wins Golden PeacockAward

for Excellence in CorporateGovernance.

2002 WinsCNBC's Asian Business Leader.


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Milestones

2003- Satyam Computer honored withprestigious IBM LotusAward.

2005 - Satyam acquired KnowledgeDynamics.

LaunchedEMRI.2006 -Achieved global certification - ISO

9001, ISO 20000,ISO 27001.

2007 - Becomes the Official IT ServicesProvider for the FIFA World Cups,2010 (South Africa) and 2014 (Brazil).

2008 - Satyam Receives Golden PeacockGlobal Award forExcellence in Corporate Governance by


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The Fiasco as ittranspired


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FAILED ACQUISITION ATTEMPT


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THE BITTER TRUTH


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THE BITTER TRUTH(Accounting Fraud)


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a rtie s to th e H id d e nTru th P W C O ve rlo o ked fa u lty b a la n ce sh e e t

S E B I G ive s cle a n ch it in its p re lim in a rysu rve illa n ce

B A N K S Fa b ricate d b a n k sta te m e n ts

D IR E C T O R S B lin d ly fo llo w in g m a n a g e m e n t

d e cisio n s

D S P M E R R ILL LY N C H b le w th e w h istle b u tve ry la te


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O V E R N M E N T O F IN D IAIN T E R V E N E S Ministry Of Corporate Affairs

Arrest Of Satyam s Top Management

Legal Action

-ICAI Actions Against
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FFECTS OF THE BITTER TRUTH

Loss in Reputation /Financial Operational

Satyam Stock Employee Morale

Tech Mahindra acquires


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Tech Mahindra acquiresSatyam

Tech Mahindra won the bid for Satyam.Computer after bidding at Rs 58 per share

.Tech Mahindra would pay Rs 1757 crore for

%a 31 stake in Satyam

Tech Mahindra has secured complete funding%to acquire 51 stake in Satyam

Satyam will now be Mahindra Satyam

l d


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Conclusions And Learning

Lack of Regulation on part of Govt. & otherRegulatory Authorities

Corporate Non Governance

Satyam not alone: Compliance should beintroduced to check fraud like this

Blind Compliance and other regulatory body


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YES BANK IPO SCAM


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YES BANK IPO SCAM

Issue opened on June 15, 2005Listed on BSE and NSE on July 12

1.75 crore shares were reserved for small

investorsRoopalben panchal cornered and sold

8,39,500 shares @ 61.40


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GIMMICK OF ROOPALBEN IN YES BANKIPO

6315 bogus fictitious applications, bankA/cs and Demat A/cs

Same address of Ahmedabad on DematA/cs

On all application same address of BharatOverseas Bank, Worli, Mumbai

9,47,250 shares alloted to these fictitious

A/cs


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SYNDICATE OF PANCHAL INVESTORS

Roopalben made off market transfer of931,600 shares on 11th July to thefollowing entities:Seer Financials Pvt. Ltd 332,875 shares

Excel Multitech Ltd. 161,180 shares

Devangi Dipakbhai panchal 220000shares

ZenetSoftware ltd. 92,855 shares Taurus Infosys Ltd. 80,590

shares

Rajan Vasudev Dapki 44,100

shares


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Sugandh Investment

1315 bogus applicationAllotment of 1,97,250 shares

Profit of 32,26,492

Modus operandi same as Roopalben Panchal


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Order of SEBI-Actions on Yes Bank

Panchals and others directed not to buy, sellor deal in Yes Bank and other companyshares ensuing IPOs, directly or indirectly

NSDL is directed to monitor the benamiaccounts such that they are not used infuture

NSDL is directed to undertake

comprehensive inspection of Karvy DPRBI to intervene in a careless lending

pattern of bank to A/cs having the sameaddress


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BOTTOMLINE

10,669 benami accounts opened on 16thAugust, 2004

Ms. Roopalben Panchal 6483

Sugandh Investments 4186Total 10,669


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SECURITIES SCAM 1992


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Introduction

In April 1992, press reports indicated thatthere was a shortfall in the GovernmentSecurities held by the State Bank of India.

Investigations uncovered misappropriationof funds to the tune of over Rs. 3500crores.

Created a panic among investors and

brokersStock prices dropped by over 40%, wiping

out market value to the tune of Rs.100,000 crores.


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Precipitating Events


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Precipitating Events

Sensex rose from around 1000 in February1991 to a peak of 4500 in March 1992 justbefore the scam came to light.

Nationalized banks were under pressure toimprove their bottom line.

Growing need for funds in the informalmoney market to finance stock market

operation

The Ready Forward Deal


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The Ready Forward Deal

A secured short term (typically 15 day) loanfrom one bank to another bank

Purpose

qprovide much needed liquidity to thegovernment securities markets.qStatutory Liquidity Ratio (SLR)

requirements.


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Mechanics

The settlement process in the governmentsecurities market became broker intermediated,that is, delivery and payments started gettingrouted through a broker instead of being madedirectly between the transacting banks.

The broker through whom the payment passed onits way from one bank to another found a way ofcrediting the money into his account though theaccount payee cheque was drawn in favour of abank.

While the above two steps transformed an RF dealfrom a loan to a bank into a loan to a broker, itwould still be a secured loan. However, thebrokers soon found a way of persuading thelending bank to dispense with security for theloan or to accept worthless security.

Creative accounting and Bank


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Creative accounting and BankBalance Sheets

Most banks carried investments in theirbooks at their cost of acquisition and didnot mark it down to market.

The profit earned through transactionimproved the bottom line for the bank

Loss suffered by the bank in transactionwas not reflected in its profit and lossaccount at all.

Where is the money?


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Where is the money?

The bulk of Harshad Mehtas purchases was made at low prices. Theaverage portfolio corresponded to an index well below 2500 withmany of the shares untraceable till today.

A powerful "bear cartel, represented by Hiten Dalal , A.D. Narottamand others, operated in the market with money cheated out of thebanks. It is likely that a considerable part was spent on financing

the losses in the rising stock markets. It is said that a part of the money was sent out of India through the

hawala racket, and brought back as India Development Bonds.

A part of the money must have been spent as bribes and kickbacksto the various accomplices in the banks and possibly in the

bureaucracy and in the political system. A part of the money might have been used to finance the losses

taken by the brokers to window-dress various banks' balance

sheets returning to the banking system.


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KETAN PAREKH SCAM


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The man behind the scam

Ketan ParekhMumbai based broker

Hails from a Gujarati family

Chartered accountant by professionUsed to manage familys broking firm, (NH Securities)

Also known as Bombay bull


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The Scam

Year 2000-2001Scam worth Rs.2000 bn

Formed a network of brokers at ASE & CSE

Relied on scrips of ten companies(K-10)Benami transactions

Overtrading in equity markets

Also involved promoters in the fiascoFIs (IDBI, IFCI) also involved


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Buy stake from promotersSafeguarded himself against uncertainity

Understanding to sell stock back to

promotersKetan made deals with FIs

Identify stock, take the up & later dumpwith fund manger

Ensure enough appetite for fund managers


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K-10 Scrips

Silverline Global Telesystems Satyam Computers Zee HFCL Aftek Infosys DSQ Software

Ranbaxy Pentamedia SSI


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KPs Favourite

IT sector- Aftek infosys, Satyam computers,DSQ software

Pharma sector- Lupin Pharma, Ranbaxy

Media- ABCL, Zee telefilms, Mukta Arts, Tips


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Factors Contributing

Brought in banksBought shares at low prices

Continuous trading Bull in prices

Pledged these shares with banks ascollateral

Madhavpura Mercantile Cooperative Bank(MMCB)

Calcutta Stock Exchange (CSE)


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SEBIs Remedial Measures

Additional 10% deposit margin on o/s netsales

Restrictions on short sales

Sales to be followed by deliveriesSuspended all brokers at BSE

Banned trading by VPs, treasurer etc

Banned badla system

Introduction of Rolling Settlement Systemon BSE


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ASIAN ECONOMIC CRISIS1997


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HISTORY

South East Asian Countries increased their interest

rates attracting investments

Thailand , Malaysia, Indonesia, Singapore, and South

Korea - growth rates of 8-12% GDP

Real Estate prices and other asset prices soared

IMF & World Bank termed it as "Asian economic

miracle"


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Cont..

Large money went to uncontrolled hands

Fixed Exchange Rates led to high external

borrowings

Mid 1990 US recovered from recession

Alan Greenspan increased interest rates in US

and $ appreciated

Other currencies got devalued


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CONT

Growth dip due to depleting Current A/c

position

Organizations started defaulting

Investors confidence falling and theystarted withdrawing investments- led

to currency pressure


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Governments increased interest rates to

sustain investors and buyback of domestic

currency with Forex Reserves- damage

Thailand Government Floated the currency-

more adverse

Foreign currency denominated liability

increased in domestic currency leading to

bankruptcy

.ONT

IMFS INTERVENTION


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IMFS INTERVENTION

$40 billion program to stabilize

currency

Structural Adjustment Package (SAP)

Criticized for adopting the opposite

measure during the US recession


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CONT.

Resulted in permanent currency

devaluation, bankruptcies, booming

economies collapse, real estate burst &

unemployment.

People named it IMF CRISIS
http://en.wikipedia.org/wiki/South_Koreahttp://en.wikipedia.org/wiki/Malaysiahttp://en.wikipedia.org/wiki/Philippineshttp://en.wikipedia.org/wiki/Indonesiahttp://en.wikipedia.org/wiki/Thailand


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AFTER EFFECTS

Corporate Governance improved

International investors cautious for

developing countries

Oil prices dipped to $8 a barrel in 1998

which led to 1998 Russian Financial

CrisisUS lost $4.6 bn in 4 months on a/c of oil


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CONT..

Alan Greenspan organized a $3.625

bailout

Nations started building Forex Reserves

including Japan, China & South Korea

Pan Asian Currency Swaps introduced

Russia, India, Brazil, etc restructuredtheir economies and created Current A/c

Surplus to build Forex Reserves


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Stock Market Bubble

A stock m arket b u b b le is a typ e o f e con o m ic b u b b le ta kin g p la cein sto ck m a rke ts w h e n m a rke t p a rticip a n ts d riv e sto ck p rice s

.a b o v e th e ir va lu e in re la tio n to so m e syste m o f sto ck v a lu a tio n

rational or irrational phenomenon ?


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Boom of IT Companies (1998-01)

q (In te rn e t w as b e g in n in g a re v o lu tio n d e riv e re a l b u sin e ss d riv e n

)p ro fits

q -C h a ra cte ristics

Easy to start

.n o b a rrie rs to e n try

.B u sin e ss to b u sin e ss con cep t

h a rn e ssin g n e tw o rk e ffe cts b y o p e ra tin g a t a su sta in e d

.n e t lo ss to b u ild m a rke t sh a re

strateg y g et b ig fast

q Pre fix in v e stin g

q A d v e n t o f v e n tu re ca p ita list


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Emergence of new economy

q a n e w e c o n o m y w a s e m e rg in g

NTERNET ECONOMYThe nternet Economy refers to conducting business through markets

- .whose infrastructure is based on the Internet and World Wide Web

q ( : ,It found reinforcement in media emerging magazines Red herring

, . )Fast Company Business 2 0


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Soaring stock prices

q C a sh flo w IP O s

q In fo rm a tio n ca sca d e

q A b sen ce of fu n d am en tals

q ,B y Fe b ru a ry 2 0 0 0 In te rn e t se cto r m a rke t ca p ita liza tio n


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Free spending

q In te rn et com p a n y's su rviva ld e p e n d e d o n ex p a n d in g its cu sto m e r

&b ase as rap id ly as p ossib le g oo g le am azon

q Pu b lic a w are n e ss cam p a ig n s

q la v ish in te rn a l sp e n d in g

q in v e stm e n ts w e re fa r o u t o f p ro p o rtio n to b o th th e ir cu rre n t a n d

p ro je cte d ca sh flo w


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Growth of bubble
http://en.wikipedia.org/wiki/File:Nasdaq2.png


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Bubble burst

q .T h e N a sd a q sa n kq S to ck tip s h a v e b e e n re p la ce d w ith ta lk o f re ce ssio n

q %O n lin e re ta ile rs saw th e ir sto ck s fa llin g m o re th e n 9 9 fro m th e ir

.h ig h

q %D o w jo n es in tern et in d ex w as d o w n b y 7 2q

Dot Com Crash of 2000


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Dot Com Crash of 2000

1997: Founded as Internet consulting firms to lendinformation technology and expertise to traditionalold economy.

1999: IPO $ 10 per share. In march 2000 Scient traded

at $ 133.75. A valuation of 62 times the companysrevenues.2000: net loss of $ 16 million on revenues of $ 156

million, 2,000 employees.2000 (June): Scients stock fell to $ 44 as most of the

technology sector.

December 2000: lowered revenues and earningsexpectations due to the slowdown for Internetconsulting services.

December 2000: plans to lay off 460 positionsworldwide (over 20% of its work-force).

February 2001: stock was trading at $ 2.94.

cient Corporation Overview


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Dot com Indices:

Company IPOprice

PeakPrice

% changeIPO toPeak

Price atend of Feb2001

% changefrom peakScient 10 133.75 1238% 2.94 -97.80%

Viant 8 63.56 695% 3.06 -95.20%

IXL Enterprises 12 58.75 390% 1.25 -97.90%

Lante 20 87.5 338% 1.81 -97.90%Razorfish 8 56.94 612% 1.16 -98.00%

US Interactive 10 83.75 738% 0.56 -99.30%

Xpendior 19 34.75 83% 0.69 -98.00%

M a rch 2 0 0 0 N A S D A Q February 2001

.5 1 3 2 5 2 .2 1 5 1 8 3

Reasons for the Burst


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The loophole in their Business plan/model.

Companies engaged in unusual and daring business practices.

Get rich quick internet strategy was flawed.

They spent other people's money unchecked in an effort to gain market

share as soon as possible. Get Largeor Get Lost.

Inexperienced teams.

Support from :

Venture Capitalists.

Investment Bank Underwriters.

Accounting Profession.


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Interest rate increased six times during the dot com period.

Leading technology companies such as Dell, Cisco and IBMtriggered a chain reaction of investors liquidating their shares.

Reaction of the Stock market.

Others:-

Rise in outsourcing

Y2K switchover

Terrorist attacks in US in 2001

Aftermath.


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Aftermath.

Several Communication companies sold their assets for cash

or filed for bankruptcy World Com

Overstated profits by billions

Stock Crashed

Filed largest corporate bankruptcy in U.S. history

North Point Communications, Global Crossing, JDSUniphase, XO Communications, and CovadCommunications

Many dot-coms ran out of capital and were acquired orliquidated

A few of the larger dot-com companies did survive,however: Amazon and eBay are good examples.


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Several companies and executives accused or convicted of fraud formisuse of shareholders money

Citigroup and Merrill Lynch fined millions by SEC formisleading investors

Huge layoffs of technology experts.

The dot-com bubble crash wiped out $5 trillion in market value oftechnology companies from March 2000 to October 2002

.

Advertising and Shipping business got a setback.

Learnings


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Learnings

For Companies:-

It is better to be profitable with 50,000 customers thansinking in debt with 100,000

Rapid growth is not the way to build a solid company

If you're going to start a company that you hope to gross a

billion dollars next year, make sure you have experience

For investors:-

If you are investing in the stock market for the long term,dont invest when prices are overvalued and fundamentals

are poor

If trading/short-term investing is your thing, then get yourprofit and get out.

When a company or many companies are promising life-

altering changes in how we live our lives, be veryskeptical.


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Thank You

Scams, Crisis & Bubbles

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Transcript of Scams, Crisis & Bubbles