Autore: Ariya Morbiato

Pubblicato il

The Importance of Banking Regulation in the prevention of Money Laundering

Introduction

The deafening noise of the washing machines, the floral smell of detergents, and the tinkling of the coins were the framework in the process of legitimizing Al Capone’s revenues. Revenues obtained from extortion, prostitution, drugs, alcohol transformed into simple earnings of small businesses such as laundries. This picture has changed in recent years, from the laundries in the suburbs, the process now starts in paradisiacal beaches and luxurious offices in big capitals.
In fact, money laundering schemes often start in banks, and the recent cases of Danske Bank, HSBC, and the Panama Papers are significant evidence of the deep involvement of the banking sector in the cycle of money laundering. This exposed the fragility and the lack of enforced regulations of banks, especially when dealing with Anti Money Laundering and Counter-Terrorism Financing regulations. Even though there have been many steps taken towards the regulation of money laundering on an international level, this was not enough. Banking regulation has been and still is a key aspect in the prevention of money laundering and countering terrorism financing. But how is this issue being tackled?

What do we mean by “money laundering”?

Money laundering can be defined in various different ways. The majority of states around the world follow the definition given by the United Nations Convention Against Illicit Traffic in Narcotic Drugs and Psychotropic Substances (1988) (Vienna Convention) and the United Nations Convention Against Transnational Organized Crime (2000) (Palermo Convention) :

• The conversion or transfer of property, knowing that such property is derived from any [drug trafficking] offense or offenses or from an act of participation in such offense or offenses, for the purpose of concealing or disguising the illicit origin of the property or of assisting any person who is involved in the commission of such an offense or offenses to evade the legal consequences of his actions;
• The concealment or disguise of the true nature, source, location, disposition, movement, rights with respect to, or ownership of property, knowing that such property is derived from an offense or offenses or from an act of participation in such an offense or offenses, and;
• The acquisition, possession, or use of property, knowing at the time of receipt that such property was derived from an offense or offenses or from an act of participation in such offense/offenses.
The problem that is presented with these definitions is the recognition of which predicate offense actually results in the offense of money laundering. For example, the Vienna Convention limits the scope to drug affairs, excluding in this way many other illicit sources of dirty money. Over the years, however, this was recognized by the international community, so the FATF which is recognized as the international standard setter for anti-money laundering (AML) efforts, defines the term “money laundering” as “the processing of […] criminal proceeds to disguise their illegal origin” in order to “legitimize” the ill-gotten gains of crime, expanding in this way the Vienna’s Convention definition to include other predicate offenses. Also, the Palermo Convention compels all member countries to recognize that money laundering offenses are linked to “the widest range of predicate offenses”.

Financing of terrorism

Often when we think about terrorist attacks we reminisce what happened in Paris, Nice, Barcelona, and not of white extremist attacks. This shows one of the biggest controversies about terrorism: its definition. Many countries around the world do not share the same opinion when specifying what actions constitute acts of terrorism. This happens because the attack is not analyzed simply for what it is but it is filtered by all the different political, religious, and national implications which obviously differ from country to country. FATF, which is also recognized as the international standard setter for efforts to combat the financing of terrorism
(CFT), does not clearly define the term financing of terrorism in its nine Special Recommendations on Terrorist Financing (Special Recommendations) written after the events of September 11, 2001. Nonetheless, FATF urges countries to ratify and implement the 1999 United Nations International Convention for Suppression of the Financing of Terrorism, which states:

  1. Any person commits an offense within the meaning of this Convention if that person by any means, directly or indirectly, unlawfully and willingly, provides or collects funds with the intention that they should be used or in the knowledge that they are to be used, in full or in part, in order to carry out:
    a. An act which constitutes an offense within the scope of and as defined in one of the treaties listed in the annex; or
    b. Any other act intended to cause death or serious bodily injury to a civilian, or to any other person not taking any active part in the hostilities in a situation of armed conflict, when the purpose of such act, by its nature or context, is to intimidate a population or to compel a government or an international organization to
    do or to abstain from doing an act.
  2. For an act to constitute an offense set forth in paragraph 1, it shall not be necessary that the funds were actually used to carry out an offense referred to in paragraph 1, subparagraph (a) or (b).
    However, the absence of a common definition has not stopped global cooperation in countering the financing of terrorism.

The link between money laundering and the financing of terrorism

Why are money laundering and terrorism interrelated? The answer is very simple: terrorism needs money. Terrorist networks around the world require quite a significant amount of money, just think about weapons and all the means necessary not only for the attacks but for the organization and communication between the individuals.
The techniques used to launder money are basically the same as those used to conceal the sources of and uses for, terrorist financing. Funds used to support terrorism may originate from legitimate sources, criminal activities, or both. Nonetheless, disguising the source of terrorist financing, regardless of whether the source is of legitimate or illicit origin, is important. If the source can be concealed, it remains available for future terrorist financing activities. Similarly, it is important for terrorists to conceal the use of the funds so that the financing activity goes undetected. For these reasons, FATF has recommended that each country criminalize the financing of terrorism, terrorist acts, and terrorist organizations, used, directly or indirectly, to
finance or support terrorism and designate such offenses as money laundering predicate offenses. A big concern is quantifying the amount of money that flows in this system and needless to say, reliable estimates on a global basis are not available. With regard to money laundering, the IMF believes that the amount could range between 2% and 5% of the world’s gross domestic product and this equals a staggering amount of money.
“The archetypal tax haven may be a palm-fringed island, but […] there is nothing small about offshore finance. If you define a tax haven as a place that tries to attract non-resident funds by offering light regulation, low (or zero) taxation, and secrecy, then the world has 50-60 such havens. These serve as domiciles for more than 2m companies and thousands of banks, funds, and insurers. Nobody really knows how much money is stashed away.”

The process of money laundering

Initially, the revenues were especially originated from the drug markets. Today the sources are a vast range of criminal activities like illegal sales of weapons, human trafficking, and exploitation, political corruption. However, the process of money laundering remains the same and still very complex but we can simplify it by saying that it relies on 3 important actions which are: placement, layering, and integration. These three stages are followed also in terrorist financing schemes, except that the third step that deals with integration involves the distribution of funds to terrorists and their supporting organizations, while money laundering, as previously stated, goes in the opposite direction meaning that they will integrate criminal funds into the legitimate economy. We must remember that money laundering and the financing of terrorism can, and do, occur in every country of the world, especially those with complex financial systems. The perfect targets for these activities are countries where AML and CTF enforcement are lax, ineffective, or corrupt. This means that no country is exempt. This happens because international financial transactions can be easily used and abused to expedite the laundering of money and terrorist financing occur within other hosts in different countries. So, it’s important to note that the placement, layering, and integration may each occur in three separate countries; one or all of the stages may also be removed from the original scene of the crime.

The consequences of money laundering and effective AML/CTF

While money laundering and the financing of terrorism can occur in any country, we must highlight the significant economic and social consequences that it has on developing countries. This happens because their internal market is smaller and consequently more sensitive to any kind of disruption. The magnitude of these adverse consequences is difficult to establish, however, since such adverse impacts cannot be quantified with precision, either in general for the international community or specifically for an individual country.
On the other hand, an effective framework for anti-money laundering (AML) and combating the financing of terrorism (CFT) have important benefits, both domestically and internationally, for a country. These benefits include lower levels of crime and corruption, enhanced stability of financial institutions and markets, positive impacts on economic development and reputation in the world community, enhanced risk management techniques for the country’s financial institutions, and increased market integrity. When money laundering itself is made a crime, it gives a new mean to prosecute criminals, both those who commit the underlying criminal acts and those who assist them through laundering illegally obtained funds.
Similarly, an AML/CFT framework that includes bribery as a predicate offense and is enforced effectively provides fewer opportunities for criminals to bribe or otherwise corrupt public officials. An effective AML regime is a deterrent to criminal activities in and of itself. This definitely makes it less likely for criminals to benefit from their actions. In fact, confiscation and forfeiture of money laundering proceeds are a key step to the success of any AML program. This because forfeiture of money laundering proceeds eliminates those profits altogether, making it less desirable to keep that type of business going.

Europe and the EBA

World leaders have realized that international efforts are indispensable to counter money laundering and terrorist financing. Also, they’ve understood the importance of public confidence in financial institutions hence their stability, which is obtained also by sound banking practices that reduce financial risks to their operations. These risks include the potential that individuals or financial institutions will bear losses as a result of fraud from direct criminal activity, lax internal controls, or violations of laws and regulations.
It is clear that the world will be insecure and extremely dangerous if there is a place where funds are available for future terrorist financing activities regardless of their original legitimate or illegitimate source. In Europe, many different authorities starting from the European Parliament and European Parliament have adopted directives and regulations in prevention and aiming to reduce money laundering. The first thought we have when speaking about money laundering goes to the British Virgin Islands or to Wyoming however as we stated before, it happens everywhere. This highlights the importance of cooperation and transparency in Europe. Europe needed supervisory authorities mandated to create binding technical standards (BTS). These European Supervisory Authorities are 3 and they deal with different aspects of the financial market: banking, investments, and insurance/pensions. The European Banking Authority has the power “to contribute to the establishment of high quality common regulatory and supervisory standards and practices, in particular by providing opinions to the Union institutions and by developing guidelines, recommendations and draft regulatory and implementing standards” (soft law) and it then it is up to the Commission to endorse it and adopt it. An important role given to the EBA is stated in art.17 in case of breach of Union law, so when a competent authority has not applied what has been adopted or breached the law in particular by failing to ensure that the requirements are followed, it can start an investigation and issue recommendations. This shows how Europe is trying to cope with the problem of money laundering almost from the origin, the placement stage. It’s important to realize how banks are a fundamental step in the process
of money laundering, so checking that they follow the AML-CTF directives is fundamental to prevent it. However, we must remember that the first supervisory role is given to the Central Banks of each country of the European Union, so these are the national competent authorities that have the biggest role in countering money laundering with the private banks themselves.

Central Banks and the Basel Committee

Many Central Banks in Europe are part of the Basel Committee on Banking Supervision (BCBS) that is the primary global standard-setter for the prudential regulation of banks and provides a forum for regular cooperation on banking supervisory matters. Its 45 members comprise central banks and bank supervisors from 28 jurisdictions. Its Secretariat is located at the Bank for International Settlements in Basel, Switzerland.
The Basel Committee is responsible for issuing guidelines on supervisory standards which the international community expects from banks and bank supervisors. It sets supervisory standards and guidelines without intending to have supervisory and enforcement authorities and recommends statements of best practice to implement them in accordance with their own national systems.
One of its objectives is to improve supervisory standards and the quality of supervision worldwide in three ways:
1.exchanging information on national supervisory arrangements;
2.improving the effectiveness of techniques for supervising international banking business;
3.setting minimum supervisory standards in areas where they are considered desirable.

Since the Committee has been concerned with money laundering issues it has been part of a joint issuance –a statement of what each of the three sectors (banking, insurance, and securities) has done and should do in the future to eliminate ML and counter the FT – along with the IAIS and the IOSCO. The Committee has also introduced twenty-five Core Principles for Effective Banking Supervision, the most important global standard for prudential regulation and supervision, in 1997, and this was revised and published in 2006. One of these core principles is considered as an important part of the AML-CFT institutional framework which is known as “Know Your Customer” or “KYC” policies and procedures.
Supervisors must be satisfied that banks have adequate policies and processes in place, including strict “know-your-customer” schemes, that ensure high ethical and professional standards in the financial sector and prevent the bank from being used, intentionally or unintentionally, for criminal activities. The extent of KYC robustness is closely associated with the field of anti-money laundering and combating the financing of terrorism. This example of banking regulation is a model to follow in the prevention of money laundering in banks.

Conclusion

There is no doubt to say that the Basel Committee on Banking Supervision has made every effort to improve supervisory standards and the quality of supervision worldwide and so have the European rules along with the worldwide cooperation on anti-money laundering and terrorist financing. Effectively combating money laundering and terrorist financing requires a coordinated approach from legislators, AML/CFT supervisors, law enforcement authorities, judicial authorities, financial intelligence agencies, banks, and other financial institutions, and many others.
The sharing of important information between all these bodies has often and sadly been insufficient, particularly across borders. This is also because there is a broad heterogeneity of institutional setups among the Member States, involving judicial authorities limited to cooperation and implementation, as well as surveillance authorities attached either to the executive or judicial branch, and their interaction with prudential supervisors. This situation makes combating money laundering and terrorist financing complicated from both a legal and a practical point of view. This battle can only be won through cooperation. However, it is important to remember that the first responsibilities and steps are in the hands of the private banks and the national competent authorities that have to put in place and maintain internal systems and controls to ensure that they properly manage the risks to which they are exposed.

“Everyone’s worried about stopping terrorism. Well, there’s really an easy way: Stop participating in it.”
― Noam Chomsky

Pubblicato il

The ESG Movement

Going green has never been more difficult, or has it?
ESG investing, meaning environmental, social, and governance investments investing, aims at investing in companies that strive to make the world a better place.
If we take a quick leap to the past, to the thriving 1950s, the possibility of going green not only was not a priority but also a far vision.
Whereas this year, the pace of green change has profoundly accelerated as a byproduct of the pandemic. Just think about shopping; instead of there being 40 people driving to the shops, there was one single Amazon van delivering the goods straight at your doorstep.

Reasons

Many reasons lie behind the big wave of the ESG movement; while some investors want their money to go towards companies and projects that will have a positive effect on the world, others just want to minimize the harm that their investments have on communities and ecosystems. There is also a third group that takes advantage of ESG principles to protect their own portfolio from potentially negative impacts.
However, it is essential to remember that all ESG investors want to make a return on their money no matter the motivation.

The dilemma

Nonetheless, this is much harder in practice than in principle. Consider the following example, how do you decide whether a company deserves the halo of being classified as ESG friendly?
If you look at Tesla that makes electric cars that are better for the environment than the traditional ones, you would think that this investment would positively impact the environment.
But this is not straightforward. What about the environmental impact of mining nickel which Tesla uses in its batteries? And is the electricity used to charge your car coming from renewable or non-renewable sources? Tesla has also stated that it made a $1.5 billion investment in Bitcoin, which is, as Bill Gates observed, an environmentally damaging activity because of the energy required to mine Bitcoins. So, what should you do? Do you buy Tesla shares or not? The answer is not so clear-cut. However, these days most people don’t have to make that decision. As a matter of fact, there has been a rise in passive investing that means that most investors choose an index tracking fund like an ETF (Exchange Traded Fund) or a mutual fund which puts their money into a basket of companies stocks that track an index to create an ESG focused index.
This means that the companies present in that basket have met specific criteria that define them ESG friendly.

The criteria

But how is this established?
This is still up for debate, yet the numbers of indices that provide an ESG focus have definitely exploded from 2019 to 2020, increasing by 40% according to the Index Industry Association survey. In fact, the amount of money invested ESG assets has also increased in the US wherein 2016, there were $8.1 trillion in professionally managed ESG assets according to the Forum for Sustainable and Responsible Investment, and by 2020 that number grew to $17.1 trillion, which is more than a 100% increase in just four years.
Regarding who establishes which companies to put in those indices, there are many index providers that rely on different metrics that score companies based on their ESG score. What are the metrics that are considered?
ESG impact examples of metrics are factors like exposure to carbon-intensive operations, energy efficiency, human rights concerns, etc.
Nevertheless, there can be differences between the rating agencies even if they’re scoring the exact same company. Generally, index providers have a committee that helps make decisions on which companies to include and which to exclude. This is quite important because the companies’ stocks they include will actually benefit from more investor cash. However, the subjectivity of classification has led to controversy over whether some funds are genuinely investing in companies that fulfill the vision of ESG or whether some index providers are merely using it as a marketing term and putting the ESG label on funds that don’t really deserve it. This is why it’s fundamental for investors to cautiously read the methodology and perspectives behind an ESG index before they invest in it to ensure that what they are investing in actually mirrors their final goal and intent.

Final remarks

But are the returns of these ESG funds better or worse than traditional investments?
In this chart showing an ESG fund’s performance versus a standard fund, you’ll notice that they perform pretty much in parallel to one another.

Of course, this is just one example; some ESG funds may do better than the benchmark and others that may do worse, but the beauty of ESG is that in general, investors don’t need to worry about sacrificing performance for the common good. Maybe this is why so many investors are joining this “green wave”.

Pubblicato il

STOCK MARKET BUBBLE?

Are we in a bubble?

Are we in a bubble? Is it about to burst? In the last few days, there have been many tweets on this subject, and the tweets of @michaeljburry, a 49-year-old Californian, who become famous for having “predicted” the economic crisis of 2008, were among the most popular.

He wasn’t the only one to bring attention to this topic. The report “Stock Market Bubble?” by Bridgewater, the largest hedge fund in the world, written by its founder Ray Dalio, also made waves. The article tries to answer, data in hand, whether or not we are inside a bubble. So, let’s look at what they are saying.

Micheal Burry’s opinion

According to Michael Burry, there are several reasons why we are approaching a bubble burst. The US government is inviting inflation with its latest policies, debt/GDP is growing, there is a large amount of money circulating in the economy. When consumption will suddenly restart, there will be an increase in labor costs and prices (#ParadigmShift). Therefore the question remains: it is true that there is a large amount of money and that consumption has not yet completely broken down, but what will happen when it starts again? Michael Burry also states that speculative bubbles are accompanied by a disproportionate amount of debt within the markets, and it is equally true that the debt on the markets is at an all-time high (higher than the debt present in 2008).

Ray Dalio’s analysis 

On the other hand, Ray Dalio analyzes the “bubble” issue through a proprietary indicator that is made up of six sub-indicators. A value from 1 to 4 is attributed to these sub-indicators, which tell us “how much they are on the bubble” (1 absolutely not, 4 absolutely yes). The report shows not only the situation of the market in general but also the case of the emerging tech market, that is, of all those new companies dealing with technology.

1) Prices are high relative to traditional measures. At the moment, the prices are relatively high, but we are still below the prices of the 2000s or the 1920s. Overall market rating: 2/4. Emerging tech market rating 3/4.

2) Prices are discounting at unsustainable conditions, i.e., conditions that cannot last for an extended period of time; here, from the point of view of the market in general, there is absolutely no bubble, vote 1/4. A completely different matter for the emerging tech market, vote 3/4.

3) New buyers have entered the market, typically a symptom of great euphoria; the number of new shareholders within the market is very high, both for the market in general and for the emerging tech market: 3/4 for the market in general and 4/4 for the emerging tech market. From this point of view, one could also analyze the ease with which it is now possible to buy a share. Think of all the trading platforms born in recent years.

4) There is broad bullish sentiment. If it is excessively bullish, it could usually signal a bubble (for example, SPAC and IPO are generally done while there is a very positive sentiment, in order to raise more capital); and from this point of view the results are very high as the sentiment is really positive: 3/4 for the market in general, 4/4 for the emerging tech market. Perhaps it is also true that many of us today think that the tech market will be the future. If we look at the level of IPOs and SPACs currently taking place, we are indeed at an all-time high.

5) Purchases are being financed by high leverage, or financial leverage, which indicates how much investors borrow to invest. Concerning the market in general, there do not seem to be  significant problems, rating 2/4. For the emerging tech, quite another matter, 4/4.

6) Buyers/businesses have made extended forward purchases, i.e., investments or large purchases by companies which is usually considered a healthy thing. Still, if abused, it can be a symptom of excessive optimism. For the market in general, absolutely not, 1/4. The emerging tech is also similar: 2/4. Indeed the Covid-19 pandemic has discouraged companies from making future investments.

Conclusions

To conclude it seems like Michael Burry is suggesting us to stay away from bonds, which are now much cheaper than stocks. Just in recent weeks, the bond market has begun to deliver satisfactory returns, and investors have started to move from equities to bonds (often bringing with them the equity gains of the last recovery period). However, bonds are nominal, and when there is an inflationary outlook, that rate of return in real terms, in the face of an inflationary wave, “is no longer enough.” From this point of view, an investment in large companies could be safer, given the fact that they could, in the event of inflation, incorporate the price increase within the share price.

Instead, what Ray Dalio seems to suggests to us is to stay away from “bubble stocks” or from all those emerging tech companies that are delivering 350% returns in one year, which is very reminiscent of the dot-com bubble of the 2000s. At the same time, it suggests that if a bubble is really about to burst, it could start from or affect the emerging tech market.

Pubblicato il

CAI: the Comprehensive Agreement on Investments

After seven years of negotiations, China and the European Union laid the first stepping stone towards a long-awaited investment treaty that promises to open up the Chinese market to European companies. The Comprehensive Agreement on Investments (“CAI”) is the most ambitious agreement in terms of market access, fair competition, and sustainable development that China has ever concluded with a third country, said Valdis Dombrovskis, the EU’s trade commissioner. 

THE OUTLINE OF THE CAI

One of the main issues with the CAI was to find principles that would reflect both the spirits of the two parties, China and the European Union. Only having an alignment of values allows building the foundation upon which they can aspire to create an efficient and lasting cooperation and increase the bilateral investments that can most definitely help the EU recover from the economic collapse that covid caused.

The European Commission has released the document that summarises the result of the negotiations of 30 December 2020, reminding however that it is to be considered as ad referendum, meaning that it is not a legal text, but it is subject to finalization of details and further modifications deemed as fundamental by the two parties to be bound by this agreement.

In the preamble, both parties reaffirm their full commitment to the Charter of the United Nations (26 June 1945) regarding the principles articulated in the Universal Declaration of Human Rights (10 December 1948). Both sides have also agreed to promote investment to support high levels of environmental and labor rights protection, including fighting against climate change and forced labor.

Regarding this last part, there has been quite a controversy. In fact, Reinhard Bütikofer, chair of the European parliament’s delegation for relations with China, defined the agreement as a “strategic mistake.” He tweeted that it was “ridiculous” for the EU side to try to sell as “a success” commitments that Beijing has made on labor rights in the deal. Also, rights activists are still scrutinizing the deal closely over allegations that China uses Uighur Muslims detained in large numbers in Xinjiang province as forced labor. Beijing, however, denies these claims.

 The document then focuses on several different topics:

  • Market access and investment liberalization
  • Level playing field (state-owned enterprises, forced technology transfers, transparency in subsidies)
  • Domestic regulation
  • Transparency in standard-setting
  • Financial services
  • Sustainable development
  • State to state dispute settlement mechanism
  • Institutional and final provisions

NEW MARKET ACCESS

The principles stated in the document seem to positively respond to the requests made by the EU upon China, facilitating the way for a never before seen level of access for EU investors in the China market. EU investors will be allowed to set up new companies in key sectors.

The elimination of quantitative restrictions, equity caps, and/or joint venture requirements in various sectors will level the playing field for EU companies in China. This will provide rules to discipline Chinese SOE (state owned enterprises that make un 30% of China’s GDP) behavior, thus guaranteeing transparency in subsidies and facilitating sustainable development.

By binding China at an international level, the CAI will enhance and protect foreign investors’ rights and interests.

In other words, this agreement makes the conditions of market access for EU companies independent from China’s internal policies. Besides, the CAI parties have agreed to establish a unique dispute resolution settlement mechanism in case of any breach.

CONCLUSION

In principle, the conclusion of the CAI negotiations is a turning point in EU- China relations. But we must remember that this is only the first stepping stone towards a new market; the text has not been finalized, and it must be adopted and ratified by all the parties involved.

Pubblicato il

Green Bonds are Red Hot

As the temperature in the world is rising, sea levels are soaring and forests are retreating, the world is slowly waking up to the devastating reality of climate change.

Green Bonds

The path of sustainability requires all sectors to walk together towards the same final objective: protecting our home.

Little by little many sectors are “going green”, and the financial sector is one of them. 

To tackle the issue of climate change by supporting environmentally-friendly projects, green bonds have been issued worldwide and in the last 10 years, they have grown exponentially.

But what are these green bonds? Green bonds are nothing more than a regular bond, a debt security associated with the financing of projects that have positive repercussions in environmental terms. Four main characteristics differentiate green bonds from traditional bonds: 

1) selection of the project to be financed or refinanced; 

2) the proceeds must be linked to the selected project; the money must be deposited on an escrow account or transferred to a specific portfolio or otherwise tracked by the issuer; 

3) a report on the use of the proceeds must be made at least (once a year) indicating the projects for which they are used; 

4) there must be a second opinion, i.e. an external auditor must certify documents and objectives.

They are considered attractive to investors because they are straightforward instruments that integrate environmental, social, and governance outcomes into fixed income portfolios. More importantly, green bonds also act as catalysts for deeper sustainable and responsible fixed-income capital markets.

Green Bonds in 2020

In 2020, the issuance of these environmentally-friendly securities slowed down at the beginning of the pandemic in Marchbut that didn’t stop them from reaching a new high in September, totalling more than $50 billion. In the wake of Germany’s first green bond, this trend doesn’t look like it is going to slow down due to the European Union’s plans to sell as much as 225 billion euros ($265 billion) of the securities. 

Europe is taking the lead also by setting standards for the issuance of green bonds. Richard Gustard, head of European securities trading at JPMorgan Chase & Co., said, “A widely-accepted standard is good for any financial market. The signs are that both issuers and investors are fully on board with green bonds and it’s going to be an increasingly important part of the market.”

Green Bonds vs. Conventional Bonds

Research shows that companies and governments that borrow using so-called green bonds can save some money. The market for these bonds, which fund environmental objectives such as renewable power, is booming. All that money is driving up the prices and pushing down yields on the bonds, making borrowing slightly cheaper. Analysts around the world are mining bond-market data to understand and quantify what they call “the greenium,” a measurement of how much extra investors will pay for green bonds compared to conventional bonds. For example, one of the greenium hunters, Thierry Roncalli, with his team, found that companies and governments selling green bonds received a premium as large as 0.11 percentage point—modest, but enough to lower borrowing costs. This finding is a sign that the surging demand for environmentally sustainable investments could now be significant enough to influence the behavior of corporations and governments. While a broad bond-market rally has pulled borrowing costs near historic lows, investors with sustainability goals are willing to lend to green projects at even lower rates.

The Future of Green Bonds

In conclusion, if investors want to invest in bonds issued to finance eco-friendly projects, this allows them to gain both exposure to bonds and to contribute to the fight against climate change. Seeing the high growth rates over the last couple of years in this sector, further growth is still to be expected, and most likely followed by an increase in regulations.

Pubblicato il

GOING PUBLIC – THE RISE OF SPACs

“SPACs are capturing the greatest wealth creation opportunity in history”.

-Vivek Ranadivé, Silicon Valley Investor and Owner of the Sacramento Kings

Special Purpose Acquisition Companies (SPACs), also known as “blank checks companies”, have been around for years but just recently they have had a huge soar in Wall Street. 

But what is a SPAC? A SPAC is a corporate shell usually sponsored by well-known investors that goes public by issuing shares and raising money with a plan to find a private company to buy or to merge with. The interesting part is that if the merger happens, the target company becomes a listed company without an initial public offering (IPO).

Bill Ackman, CEO of Pershing Square Capital Management, defines the context as a “unicorn dance” where “we want to marry a very attractive unicorn on the other side [target company] that meets our characteristics and we’ve designed ourselves to be a really attractive partner [SPAC with its capital]”. This merger puts the target company under much less scrutiny then it would if it issued directly a typical IPO, this has caused and still causes much controversy. 

What are the steps to launch a SPAC?

  1. Sponsors (SPACs managers) create the legal entity and they do a roadshow to raise funds and make their company public. At this stage, the SPAC doesn’t even know yet which company it will acquire, and neither do its investors.
  2.  Once the sponsors have raised enough funds and made the company public, they have to find targets and acquire one of them.

So, in brief, investors are effectively buying the target’s company IPO in advance without knowing what the target company is or the price that will be paid. However, investors in SPACs do have some protections as they can redeem their shares if they don’t like the acquired company or if the SPAC doesn’t acquire any company in a specific timeframe, usually 24 months. 

It is important to consider that even though going public through a SPAC sounds definitely easier, it certainly more expensive. As a matter of fact, while in a typical IPO the banks require a fee that’s around 7% of the IPO funds raised, SPACs pays the investment banks a fee around 5,5% of the money raised and towards the merger phase there will be another round of investment bank fees. In addition, SPACs will often give 20% of the shares for free to the sponsor who manages the operations (the cost is passed on to the target company). So, the cost of this process will be around a quarter of the money raised which is three or four times as much as an investor would normally pay in terms of fees to participate in a normal IPO. 

SPACs in 2020

In 2020, the money raised in blank-check companies IPOs has almost quadrupled. Analysts say that the growing mainstream acceptance of SPACs helps fuel this year’s boom, as well as the coronavirus pandemic. Why? Because in volatile markets a company’s valuation can crash overnight. With a SPAC there is more certainty of execution. You know earlier in the process that the deal will be done, whereas IPOs get derailed at the last minute every time.

This year, many of the companies that are going public through SPACs are seeing big valuations. In September, United Wholesale Mortgage agreed to go public in the biggest SPAC deal ever with a $16 billion valuation. This marks a huge shift from the 1980’s when predecessor of the current day SPACs were called “blind pools” and these “pools” had suspicious ties to Penny- Stock frauds. In the subsequent years, tighter rules and regulations helped add credibility and increase investor confidence.

Now as SPACs gain popularity, more blue-chip institutions and well-known investors are buying in. For example, Goldman Sachs and the New York Stock Exchange that never listed SPAC IPOs are now listing them.

Still, some critics remain concerned that companies going public through SPACs aren’t getting as much scrutiny as those following the typical IPO procedure.

A striking example is that of Nikola ($NKLA) which went public with a SPAC in June and has been accused of fraud in a firestorm of allegations by Hinderburg Research. Federal regulators are raising concerns as well. Now, the Securities and Exchange Commission is analyzing how blank-checks companies disclose their ownership and how compensation is tied to an acquisition.

The future of SPACs

The rise of SPACs will definitely create more competition for sponsors, which will benefit companies looking to go public, as well as investors. However, as the SPACs more common, the need for tighter regulations and scrutiny will prove necessary and essential to prevent widespread fraud and financial misconduct. The regulatory commission has to be as fast as the expansion of SPACs.

SOURCES:

https://www.pwc.com/us/en/services/audit-assurance/accounting-advisory/spac-merger.html
https://medium.com/@dorian.janvier/a-comprehensive-guide-to-understand-spacs-5a056665071
Nikola: How to Parlay An Ocean of Lies Into a Partnership With the Largest Auto OEM in America

Wall Street Journal articles