Money, banking & insurance

The language of financial reporting

Much financial reporting seems to be so replete with jargon that it has very little meaning. If a company is doing well, this will be plastered all over the page and, if they are not, it will be buried in mundane descriptions of the ‘operating environment’. But there is a new trend called ‘text-mining’, where a computer uses algorithms to get behind the language of financial reports. This could help unearth any discrepancies between what is said and what is really going on.

Text-mining usually analyses single words for whether they are positive or negative, but this is problematic if you say “it will be a good while before we make a profit”. A team in Taiwan is getting more meaningful results from what they call opinion patterns, where a subjective phrase (“it will be a good while”) is paired with an opinion holder (the company).

It seems computer linguistics are hot in finance because previously, algorithms have focused on the numbers rather than the words. Just as numbers can be cooked to present a picture, so can words. The tone of a report is just as revealing as the cash flow statement but you have to get below the spin.

Some newsfeed providers use sentiment analysis but it should not be relied upon. The success of videogames can also be predicted using data mining. Researchers in Germany analysed 250,000 players of five blockbuster games before their release and found the decline in frequency and time people spent playing each game could be measured by a mathematical model. While text mining is a useful concept, it cannot take away from human judgment – many people know a lemon when they see one, even if it’s dressed up as an orange. Or an Apple.

Getting out of banks free

It appears only the Brits still have free banking, while Americans, European and Australians pay regular bank fees. So it’s no surprise they are upset about the prospect of having to pay them. Which? Magazine said the cost of going overdrawn without permission for two days a month costs from 120 to 900 pounds a year in Britain. We think ‘free banking’ was always misnamed when, through error or just plain accident, most of us pay fees when we go overdrawn, are late with credit card payments, or have to use a ‘foreign’ ATM now and then.

The former CEO of a US mortgage giant once admitted that free banking “was really a tax on poor people”. In certainly looks that way if fees, or ‘stealth charges’ are only payable when the customer runs out of money. Meanwhile, the rich benefit from keeping their money under control.

A 2008 study by Office of Fair Trading found half of the banks’ revenue comes from ‘net credit interest’, the difference between interest paid and interest charged. Banks now argue that maintaining branch networks, call centres, websites and ATMs have made a dent in their margins and they need to charge fees.

Presumably paying the CEO of an Australian bank $8.8 million doesn’t help either –equivalent to a multitude of call centre staff and ATM technicians. Australian households paid $1.9 billion for transaction accounts in 2008, and bank fees have been growing at 8% annually. One angry and determined soul, Maurice Blackburn, intends to sue 12 Australian banks for charging unfair fees including honour and dishonour fees on bank accounts, as well as over-limit and late payment fees on credit cards.

Only one Australian bank (the one with the pricey CEO) has no penalty fees, no monthly fee and no transaction fees for most everyday transactions. In Britain, 15-20% of accounts are ‘package accounts’ where a fee for a current account comes with ‘perks’ like travel insurance. It seems likely that free banking, if not yet officially over, is facing a slow and gentle demise.

Cheap money transfer for Africans

Safaricom handles over half of mobile money transactions in the world, but these services are barely used in China or India. Safaricom’s poster child, Kenya, has had M-PESA since 2007, a service that allows money to be sent and received using mobile phones. A massive 70% of the country (15 million) have signed up and 25% of Kenya’s GNP flows through it. It is no surprise, then, that Safaricom is looking for new markets.

There are good reasons for developing countries to use mobile money. It saves time travelling to people owed money, makes paying bills easy, and is safer than carrying cash. A World Bank report claims M-PESA customers are a third more likely to have some savings than others. The system also helps to foil corruption because it is so transparent and traceable.

One reason why the idea has not spread as it should is because of regulations, which tend to treat mobile money like banks. But similarities between a cheap mobile money system and, say, Citibank, are few. If limits were placed on the size of transactions and the balance stored, it would be easier to watch for cash laundering. The mobile phone contract also ensures that governments can “know the customer”. Another concept, already adopted in some African countries, is to have operators form partnerships with banks.

With an estimated population of 91 million people, Ethiopia is Africa's second largest nation and could be next for the revolution of mobile money. Or as The Economist suggests, governments in many countries could accept tax with mobile money, or pay welfare that way. They could be better off joining them than beating them with regulations. Lucky Safaricom.

Why the banks are going home

It’s tough being a bank. During the heady days of globalisation, European banks were lending cross borders, setting up subsidiaries overseas and increasing their financial leverage. It was cool to be international, dull to be national. Now that has all changed. With the financial crisis, banks are once more heading for home.

Banks are tightening their seat belts by selling overseas assets, cutting lending to foreigners, and slimming down their balance sheets. The IMF says EU banks will undergo a $US2.6 trillion leveraging (pay off debt). One sign of their mass departure from Australia was a $US35 billion funding gap in the syndicated loan market for local companies. Citigroup agreed to sell its Belgian retail arm; HSBC is selling businesses from Pakistan to Costa Rica (“your local bank”). When cross-border lending stops, so do other types of capital flow, and there is less money for, say, infrastructure projects, shipping or aviation.

The Economist says there are three forces at work: politics, regulation and deleveraging. First, banks that are global in life are national in death. This means taxpayers foot the bill when a bank lurches. Now banks have to consider domestic depositors and domestic lenders first to show taxpayers where their priorities lie. Domestic banks also have to look after their own government’s debt, as much to save themselves as their governments.

Regulators are treating foreign assets more strictly than their own, for example, lending for commercial property, creating differing rules between America and Europe on derivatives, and setting rules for liquidity. They also want domestic and foreign banks to plan for their own failures (living wills) so they have sufficient assets to operate during a crisis and to pay back domestic creditors if they fail. Emerging markets now realise foreign banks do not necessarily offer them the stability they need. Foreign banks are under pressure to open subsidiaries there, rather than just branches, which increases their liabilities and running costs.

Barclays Capital says lending by European banks exceeds their deposits by $US1.3 trillion but American banks have a funding surplus of $US1.3 trillion. Europeans have used wholesale funding to plug the gap but they have to reduce activities abroad to improve their loan-to-deposit ratios. Eastern Europe may suffer here because of its exposure to foreign banks.

As European banks head home, it offers long-term opportunities for Japanese banks, which have a surplus of deposits, American banks, and banks with no fixed home, such as HSBC and Standard Chartered. It will put pressure on credit, once again, which could be a good thing in the long run.

How inequality affects us all

There are 1,226 billionaires in the world, for what it’s worth, a mere 1% of the US population control 40% of its wealth and the poorer half of the world hold only 1% of world wealth. It doesn’t take a mathematician to work out that this is inequality on a grand scale. With inequality of income come all kinds of other ripple effects, such as envy, anger and poor health. Meanwhile, the gap between rich and poor is yanked ever wider.

Who are these privileged few? Once renters, or property owners, they are now more likely to be entrepreneurs or highly paid people in finance (66% of UK wealthy), 33% in US are company executives and 16% are medicos. It hasn’t always been this way.

Anthropologists believe we were originally egalitarian because it served us as a matter of survival. As long as we were nomadic, there weren’t any assets to own and all food had to be shared. Once we started to farm, the need for managers and specialists created social classes and many moved up the scale because of their surpluses of food. This type of inequality created instability, which caused societies to migrate in search of more resources. Inequality may also have exacerbated selection for individuals who are very fertile, competitive, aggressive, and social climbers.

Unfortunately, even people who are super wealthy are still driven to earn more. They compare themselves with their peers, find someone who earns more than they do and have to keep up with the Jones’. This has been called ‘status anxiety’. Even poorer people have the same urge and want to stay higher within their own group. Because money can be counted, it gives people something tangible to consider, rather than something intangible like contentment. At the same time, they overestimate the effect income has on happiness - $US75,000 seems to be the level beyond which happiness does not much improve. Spending on others seems to make people happier than spending on themselves.

Where there are huge inequalities in income, there are corresponding inequalities in health. Economic disparities are measured using the Gini coefficient. Most countries fall between 0.25 and 0.63 and the threshold is 0.3. South Africa, Mexico, Russia, US, UK, Australia and Japan all go by varying amounts beyond this threshold. Higher coefficients are linked with worsening public health, such as risk of premature birth and higher mortality rates. One underlying cause is stress – struggle for survival, lack of status, poverty as a child, or insecurity in a dangerous neighbourhood. As adverse experiences go up, so do health problems like alcoholism, heart disease or suicide attempts.

Inequality damages social cohesion too, because the rich live in different places and send their children to higher quality schools. As they pay more for these luxuries, they are also less willing to pay tax, which erodes public services for the rest. There is no question that reducing inequality would improve the health of all, but that is not likely to happen in the near future, if ever.