Kyle Bass Presentation

Kyle Bass, addressing Chicago Booth's Initiative on Global Markets last week, clarified his thesis on Japan in great detail, but it was the Q&A that has roused great concern. "The AIG of the world is back - I have 27 year old kids selling me one-year jump risk on Japan for less than 1bp - $5bn at a time... and it is happening in size." As he explains, the regulatory capital hit for the bank is zero (hence as great a return on capital as one can imagine) and "if the bell tolls at the end of the year, the 27-year-old kid gets a bonus... and if he blows the bank to smithereens, ugh, he got a paycheck all year." Critically, the bank that he bought the 'cheap options' from recently called to ask if he would close the position -"that happened to me before," he warns, "in 2007 right before mortgages cracked." His single best investment idea for the next ten years is, "Sell JPY, Buy Gold, and go to sleep," as he warns of the current situation in markets, "we are right back there! The brevity of financial memory is about two years."

 Click the image below for the full presentation (unembeddable):

Starting at around 50:00... 

Bass On Immigration Reform in Japan - hailed as a solution to the demographic problem - Bass says "Ain't gonna happen. They need wage inflation and this will not encourage that. It's an untenable situation." Summing up his whole view on Japan - "I just don't think it can be fixed."

Question: When you look today in the capital markets at the tactical asymmetry that exists among the various financial instruments to take advantage of cheap optionality - what is that instrument?

I'll give you guys a bit of an idea... we don't talk about exactly what
we do - we tell you how much we love coke but we're not gonna give you
the formula.

The AIG of the world is back - I have 27 year old kids selling me one-year jump risk on Japan for less than 1bp - $5bn at a time.

You know why? Because it's outside of a 95% VaR, its less than one-year to maturity, so guess what the regulatory capital hit is for the bank... I'll give you a clue - it rhymes with HERO...

If the bell tolls at the end of the year, the 27-year-old kid gets a bonus... and if he blows the bank to smithereens, ugh, he got a paycheck all year.

We are right back there! The brevity of financial memory is about two years.

I wouldn't sell nuclear holocaust risk in Dallas for 1bp - you should be fired for thinking about selling something for less than 50bps.. and yet - this is happening again...

And it's happening in huge size - huge - we bought half a trillion dollars worth of these 'options'...and interestingly enough, one of the biggest banks in the world called me the other day and asked me if I would close my position - that was an interesting day for us - that happened to me in 2007 right before the mortgages cracked.

They said "we ran some new risk tests," and I said "really?"

"Yeah, the new stress scenario is a little more punitive than the last one."
"What is it?"
"Well, we don't wanna share our proprietary secrets"
"Ok, then I am not closing it",
and they said "woe woe woe.. in our old model rates stressed 50bps, in the new one they stress 400bps"
"Yeah, that would really hurt wouldn't it".
"Yeah, we'd like to close that one"
"I'd like to but I am not going to do that for you"...

The point is - Why would they run a stress test like that? They are starting to realize! Who would have them run that stress test. It's happening again.

Question: Do you buy guns, gold, neither, or both?

I don't get paid to be an optimist, I don't get paid to be pessimist, I get paid to be a realist - and a prudent fiduciary of the capital, and then if i have time I care about the social issues of the world.

If I am right, the social issues are going to be very difficult. I don't think we devolve into anarchy and I do think the payment systems will continue to work but what they will pay with will be wumpum...

We will go thru a period where its a little tougher...

We went through a period where it was briefly tough and now there are 1400 new billionaires in the world - maybe some capital was misallocated...

Question: Which one investment would make for the next ten years

I would buy Gold in JPY and go to sleep... Sell JPY, Buy Gold, Go to sleep, and wake up ten years later and you'll be fine. Don't put all yourr money in it but that is the single best investment you can make today.

(h/t Steve M) Source: Zerohedge

Kyle Bass, an American hedge fund manager, is the Founder of Hayman Capital. He received extensive coverage in the financial press for profiting $590 million by short selling the sub-prime mortgage bond market, before that market crashed. In 2011, Bass initiated a huge position in Greek sovereign debt through CDSs. Media reports were that he could profit up to 650 times his investment should Greece default on its debt obligations.

Hayman Capital Says Japan on Edge

Richard Howard, a Kyle Bass colleague believes that Japan is rapidly moving towards inflating away its debt.

Richard Howard of Hayman capital believes that market re-pricing of Japan’s debt and a devaluation of the Yen could happen sooner rather than later.

“If you think of where the most interesting shift in dynamic has occurred for the last three month, it’s in Japan,” says Howard, managing director and global strategist for Hayman Capital.

“It’s important for people to understand how bad the economic environment has been in the last five years,” says Howard who points out that virtually all major developed economies have seen a rebound in economic activity from the troughs of the last financial crisis. Japan has not.

Previously, Japanese exports were relatively strong, which allowed the country to maintain a current account surplus and accumulate $1.1 trillion worth of U.S. treasuries as foreign exchange reserves. This has shifted since the financial crisis. “The Japanese absorbed an enormous amount of the world currency debasement and exported deflation over the last five years,” Howard says, and explains that the aggressive move by other central banks to ease monetary conditions after the crisis cheapened their currencies and made Japanese exports less competitive.

Korea, which devalued the won in response to the crisis is an example. “A lot of Japanese exporters and Korean exporters are now chasing the same customers,” he says, with Japanese firms being on the losing end of that competition. Indeed, according to the IMF, the Japanese current account balance shrank from 4.9 percent of GDP to a projected 1.6 percent of GDP in 2012.

The reversal of these supporting factors makes Howard believe that a final re-pricing of bad Japanese debts will finally happen in the near future. Despite a collapse in the value of equities and real estate over 20 years, debts accumulated during the credit bubble of the 1980s are still lurking on the balance sheets of banks and corporations. Despite the price drop in the value of collateral, they have not been written down.

“The value of the debt has already been crushed. The losses have already been incurred through the mal-investment of that capital. All that remains is to realize it. Either it gets realized through inflation or it gets realized through some sort of debt restructuring or write down,” says Howard.

RIchard also thinks that the government’s debt accumulated in a bid to prop up the banks and the economy is unsustainable and will lose in value. Major pension funds have announced that they will start selling Japanese Government Bonds (JGBs) in order to provide retirement income for an ageing Japanese population.

This leaves the Central Bank as a buyer of last resort.

“We’ve moved into a world that is more comfortable with the concept of truly aggressive monetary easing,” says Howard who thinks that the unlimited monetary easing that the Bank of Japan (BoJ) announced in January 2013 is a game changer.

“That is a sort of unorthodoxy and aggression that we haven’t seen previously. It’s a question of scale and scope,” he comments on the BoJ’s plans to buy $145 billion of government securities per months starting in January 2014 in order to reach a 2 percent inflation target.

While 2 percent inflation sounds relatively innocent, according to Howard, it will be enough to cause people to sell JGBs and the Japanese Yen in his opinion.

“You could see a big sell-off there as people migrate out of those assets because we don’t believe that there is a natural buyer out there in this new inflationary environment… with bonds at current yields were they are,” says Howard. Investors want to be compensated for inflation to earn a real return. In order to get that real return, nominal bond yields will have to rise.

“The problem with trying to create inflation is that debt is going to be harder to service. The hope is that the inflation creates enough nominal growth to enable the higher debt service costs. That makes sense for a portion of the economy that is not highly levered and can afford to service their debts,” explains Howard.

“The policy makers who are overseeing this process, they are convinced of the correctness of their views. Lots of experts out there will tell you that a government can never go bankrupt if you have a compliant central bank out there that can always buy your debt. As long as the BoJ cooperates there will never be a problem,” says Howard.

“We expect the Yen to devalue from here and we expect interest rate to rise in a sharp sudden fashion at some point over the next couple of years,” says Howard.
And this time Howard might prove right as Mr Abe, nominated Haruhiko Kuroda as Next Bank of Japan Governor.

Japanese Prime Minister Shinzo Abe nominated Asian Development Bank President Haruhiko Kuroda to lead the nation’s central bank, raising the likelihood of further monetary stimulus this year.

Kikuo Iwata, a professor at Tokyo’s Gakushuin University who advocates greater government oversight of the Bank of Japan (8301), and BOJ Executive Director Hiroshi Nakaso were nominated for the two deputy governor positions, the nation’s parliament said in a statement today. Current Governor Masaaki Shirakawa and his deputies will step down on March 19.

Kyle Bass, an American hedge fund manager, is the Founder of Hayman Capital. He received extensive coverage in the financial press for profiting $590 million by short selling the sub-prime mortgage bond market, before that market crashed. In 2011, Bass initiated a huge position in Greek sovereign debt through CDSs. Media reports were that he could profit up to 650 times his investment should Greece default on its debt obligations.