The Fundamental View reports about the China derivatives threat.
Monday, September 7, 2009
THE CHINA DERIVATIVES THREAT...... UPDATED AND REAL
Let me put my layman hat on for a minute and see if I get this correct.
In the spring of 2008 when oil was being run up, Goldman Sachs and other banks made price forecasts on oil. These price forecasts provided that $150-$200 oil was likely. At the time oil was clipping along at $100.00+ a barrel and had some legs underneath it. If I'm Nanshan Power or any other huge shipper, airliner etc who relies on oil I surely would have wanted to protect myself against the upside rise in oil prices. Nanshan entered into Derivatives contracts with Goldman Sachs to get this protection. Who better than Goldman Sachs to purchase the upside protection from given they were the firm that was making the case for $200.00 oil. This is exactly what Nanshan would have wanted to protect itself against.
In my view, Goldman Sachs had to offer calculations, models and particulars in those instruments in order for Nanshan to want to purchase the upside protection and none the least of which was it's forecast model for $200 oil. As we read above in the Reuters press releases discussing the Nanshan Power case, these contracts provided that as long as Oil stayed above $62.50 in their first scenario and $64.50 in their second scenario (covering 2009-2010) then Nanshan was going to make money on the protection. Given the information that Goldman Sachs (the seller of the instrument) gave to them, this surely must have seemed a great bet. It would have seemed a slam dunk!
Here's where things get real dicey.
In December of 2008 Goldman Sachs slashes it's forecast on oil prices to $30.00 per barrel. (LINK)
Wait a minute!! If I'm Nanshan Power I'm SURELY biting my finger nails at this point. Imagine the hypothetical exchange on the telephone that day...
Nashnan: "Hey! You told me that you were expecting oil to reach $200 per barrel...you sold me this stuff that was supposed to protect me!"
Goldman Sachs: "Uhhh........sorry?"
Using the legal example I referred to above, could this significant downside revision be considered "an event" that could be construed as an event "beyond the general volatility of the market"? Remember only 7 months before their $30.00 revision they were calling for $200.00 a barrel while at the same time they were packaging and selling these exotic products. In my uneducated view, such a downward revision would not appear to be consistent with "generally accepted market volatility conditions". That was significant downward revision and in my view would be material to the overall performance of the instruments the investment bank sold based on it's earlier forecast.
The Chinese will claim that these SOEs were not authorized or licensed to enter into these contracts. I would offer up for consideration that whether or not they were licensed may not be the point. The mere fact that a company sold a product to protect against an upside move of an asset they were forecasting to go significantly higher and then drastically slashes that revision after these contracts or locked up smells might fishy to me. I imagine that Lawyers would have a field day with this.
Doesn't this eerily remind us of the lenders and investment banks "packaged promises" of huge real estate gains as they were dumping their very intricate instruments on unsuspecting customers just before the real estate market blew up?
It is ever apparent that in 2008 Goldman Sachs and other investment banks were talking one way while acting completely another way.
My reaction: Another example of Goldman having no morals or ethics. It isn't surprising that Chinese companies like Nashnan Power are planning to default.