Entries for May 2011
May 25, 2011 | Jennifer Jones
I recently had the opportunity to sit down with New Zealand Mint's Michael O'Kane to discuss his thoughts on the precious metals market, what keeps him up at night and how Triple Point has helped them expand their product offering. Q: How does precious metals volatility today compare to the last few years?
Michael: During the financial crisis in 2008 we saw the price for gold jump by over $50 in an hour, which is generally unheard of. A comparison to this would be during the oil crisis in 1980 when the price of gold increased by several hundred dollars over a period of a few days. Currently we're seeing movements of up to $30 per day as the market reacts to different events and announcements. Q: Gold and silver have recently hit record highs. What are the drivers and will they continue?
Michael: You’ve got historical drivers of supply and demand and reaction to inflation, as historically, gold is anti-inflationary. This is only part of what’s driving the price of gold and silver today— everything that’s been put in place for quantitative easing is, in the long-term, inflationary. Another driver is supply. Gold demand has recently increased by thousands of tons a year. Retail demand in China alone has increased by 70% from 2009 to 2010. With an average of 10 years for a goldmine to come on line, we’re still years away from supply increasing to meet that demand. All of these factors lead to a huge boom in the precious metals industry.
Q: What issues keep you up at night?
Michael: Security — from electronic to physical. We’re dealing with hundreds of millions of dollars of products per day. Triple Point’s precious metals solution enables New Zealand Mint to maintain our electronic security in trading positions: what we hold in inventory; where it is and who’s doing what with it; and physical security: where and what volumes of coins and ingots we have. Another factor is mitigating exposure to supply shortage. During the 2008 financial crisis, most major suppliers in the world from the US Mint all the way to New Zealand Mint and other secondary suppliers ran out of physical stock.
Q: Do you view Triple Point as a strategic partner?
Michael: Definitely. Triple Point provides us with the ability to manage security and grow our offerings — including Minting, manufacturing, and day-to-day trading with both suppliers and clients — on one system. Triple Point is helping us increase our global presence. Q: What were the major business drivers in moving to the Triple Point solution?
Michael: Prior to Triple Point, we had five different products to handle our lines of business and security. At the end of the day, that becomes very cumbersome. Having Triple Point’s system, almost out of the box, cover all of our business requirements and do it elegantly is very difficult to argue against.
Q: What are some of the tangible benefits New Zealand Mint has gained with the Triple Point solution?
Michael: Before Triple Point, it took an hour or two to get a hard figure on our exposure because we were using several systems to map it. Now we don’t need three people calculating what our cash or metal position is. It takes one person about two seconds. Triple Point also provides the functionality to handle un-allocated trading locally. In effect, Triple Point is helping to expand our product offering so we can conduct business in all corners of the planet.
NFR Energy has licensed Triple Point’s Commodity XL™ software for hedge accounting and fair value disclosure to ensure FAS 133, FAS 157, and FAS 161 compliance.
NFR Energy engages in the acquisition, exploration, development, and production of oil and natural gas and has invested $1 billion in business development to establish a focused asset base.
“Triple Point has a proven track record of providing risk management software to E&P companies,” said Ash Elias, controller, NFR Energy. “We’re confident Triple Point is the best choice to deliver a turnkey solution that manages our hedge accounting requirements, including mark-to-market analysis, effectiveness testing, and fair value disclosure reporting.”
US GAAP and international accounting standards are continually evolving. In a stringent and unforgiving regulatory environment, getting it wrong can put company reputation, earnings, and stock value at risk.
“Companies that rely on homegrown hedge accounting systems face a herculean task of keeping up with complex standards and ensuring modifications are reflected accurately in their systems,” said Michel Zadoroznyj, VP, treasury and regulatory compliance, Triple Point. “Triple Point stays on the forefront of regulatory change to ensure its treasury software remains compliant and to enable our customers to focus on growth.”
In addition to NFR Energy, notable companies that have recently selected Triple Point software for hedge accounting and fair value disclosure include World Fuel Services, Hunt Oil, Evonik, Alta Mesa, Magellan Midstream, Unilever, Xcel Energy, and Petra Foods.
Triple Point announced today the availability of Commodity XL for Dodd-Frank: End User Exemption™. The compliance solution is designed to ensure that organizations comply with Dodd-Frank rules for validating hedging programs in order to avoid central clearing and additional margin requirements.
Dodd-Frank will require that all OTC trades be centrally cleared but exempts companies that trade to mitigate their commercial risk. Commodity XL for Dodd-Frank: End User Exemption enables the exemption process for each hedge, allowing companies to protect their hedging programs and ensure that valuable working capital is retained.
Triple Point’s compliance solution manages the exemption process on a hedge by hedge basis. Key functionality of the product includes a complete audit trail of hedging activity, effectiveness testing, and automated documentation and disclosure management. Commodity XL for Dodd-Frank: End User Exemption will be continually updated as regulations evolve.
“The business impact of failing to get Dodd-Frank end-user exemptions for bona fide hedges starts with increased margining but ultimately ends with hedging programs becoming too expensive to maintain. This puts organizations at risk of an increasingly volatile market,” said Michel Zadoroznyj, VP, treasury and regulatory compliance, Triple Point. “There are better uses of capital than having it sit in margin accounts. To ensure exemptions, organizations need to have the right software solution in place.”
For the third year running, top analyst firm Gartner has named Triple Point as a ‘Leader’ in trading & risk management. Among Triple Point’s many core strengths, Gartner stated that Triple Point continues to offer the most comprehensive FASB compliance solutions.
I am pleased to announce that recently Triple Point saw the fruition of its innovative credit research and development when our company was successfully granted US Patent #US007571138B2: “Method, System, and Program for Credit Risk Management Utilizing Credit Limits.”
Abstract: “Software aggregates and integrates credit exposure and credit data across accounting, trading, and operational systems within an organization and generates views of available credit in light of the exposure and credit limits.”
A comprehensive model of exposure to all counterparties, across all of their divisions and subsidiaries, is assembled, enabling the creation of a hierarchical view of each counterparty that models its real-world parent-child relationships.
Credit limits are set across the enterprise, supporting the organization's unique methodology and business process — and on a granular basis — incorporating factors such as external credit ratings, internal credit scores, commodity, geographic region, deal duration, and security instruments.
Credit, transactions, and risk are then determined at any level in the hierarchy. After aggregating exposure and credit limit information, the system presents a comprehensive, detailed, real-time, enterprise-wide view of current exposure, collateral requirements and available credit for both a company and its counterparties. This makes it easy for users to identify trouble spots by counterparty, geography, industry, and credit rating and to manage the company's liquidity.”
The United Nations issued a press release this week stating that the world population, which is close to 7 billion right now, will surpass 10 billion by 2100. Many analysts had believed that population growth would stabilize at around 9 billion globally.
The news reminded me of an extremely interesting newsletter authored by Jeremy Grantham of GMO, titled “Time to Wake Up: Days of Abundant Resources and Falling Prices Are Over Forever.”
The main thesis of Mr. Grantham’s newsletter is that “the world is using up its natural resources at an alarming rate, and this has caused a permanent shift in their value.” The prices, in real-terms, of all important commodities other than oil have fallen by an average of 70% over the last 100 years until 2002. From 2002 until now, the entire decline has been erased. “Statistically, most commodities are now so far away from their former downward trend that it makes it very probable that the old trend has changed – that there is in fact a Paradigm Shift – perhaps the most important economic event since the Industrial Revolution.”
Here are a couple of key facts noted in the newsletter:
The world population was 800 million in 1800 and we’re on our way to 10 billion 300 years later. On top of the population growth we are seeing “explosive growth in developing countries that have eaten rapidly into our finite resources of hydrocarbons and metals, fertilizer, available land, and water.”
“Despite a massive increase in fertilizer use, the growth in crop yields per acre has declined from 3.5% in the 1960s to 1.2% today. There is little productive new land to bring on and, as people get richer, they eat more grain-intensive meat. Because the population continues to grow at over 1%, there is little safety margin.”
The chart below demonstrates that most commodities are not on the same downward price trend that has existed for the last 100 years. For example, there is a 1 in 2,200,000 chance that Iron Ore is still on the same trend line.
We’ve heard this before haven’t we – that the world will use up all its natural resources - the loudest of all being the “peak oil” theorists. Here’s what Mr. Grantham has to say about previous forecasts:
“Aware of the finite nature of our resources, a handful of economists had propounded several times in the past (but back in the 1970s in particular) the theory that our resources would soon run out and prices would rise steadily. Their work, however, was never supported by any early warning indicators (read: steadily rising prices) that, in fact, this running out was imminent. Quite the reverse. Prices continued to fall. The bears’ estimates of supply and demand were also quite wrong in that they continuously underestimated cheap supplies. But now, after more than another doubling in annual demand for the average commodity and with a 50% increase in population, it is the price signals that are noisy and the economists who are strangely quiet. Perhaps they have, like premature bears in a major bull market, lost their nerve.”
Even with the paradigm shift and long-term trend of rising commodity prices, Mr. Grantham forecasts, with an 80% probability, that commodity prices will come down next year. The two key drivers are a better weather year (this last year was the worst in decades), and a slowing of China’s economy. If one of these events happens, “commodity prices will decline a lot.” “If both events occur together, it will probably break the commodity market en masse” and “produce the second ‘once in a lifetime’ (investment) event in three years.” But this doesn’t change the long-term trend – “in the next decade, the prices of all raw materials will be priced as just what they are, irreplaceable.”
Have we really reached a paradigm shift? I won’t pretend to be the expert, but what seems very clear is that we have a growing global population with more “western-like” appetites in food and consumer goods. And commodities are getting harder and more costly to get out of the ground whether it is oil from tar sands in Canada or iron-ore from less developed regions like Zambia. I absolutely believe we will have higher commodity prices at the end of this decade than we do now. In addition to higher prices, we will see more and more volatility caused by a tighter demand/supply equation.
Where Mr. Grantham sees this as an investment opportunity, I see it as an opportunity for corporations to put best practices and systems in place to better manage commodity procurement. The organizations that figure this out first will have a big competitive advantage.
House of Representatives Bill, H.R. 87, introduced by Rep. Michele Bachmann, R-Minn. back in January, called for the full repeal of the Dodd-Frank Act (DFA). As one would expect a repeal to be worded, the bill’s text simply states, “The Dodd-Frank Wall Street Reform and Consumer Protection Act (Public Law 111–203) is repealed and the provisions of law amended by such Act are revived or restored as if such Act had not been enacted.”
Oddly, even with Republican leadership in the House, the bill seemed to lack any serious momentum. There are, however, two nearly identical Senate bills, S. 712 and S. 746, introduced by Sen. Jim DeMint [R-SC] and Sen. Richard Shelby [R-AL], respectively, that have really started to gain support. In fact both bills have the backing of the entire Republican Senate. But will it be enough? Right now – not likely. Remember that in the Senate, the Republicans are still the Minority party – just ask Senate Minority Leader Mitch McConnell, whose title serves as a daily reminder.
Without winning over any Senate Democrats, neither bill will likely see the light of day. But, let’s just say they do indeed pick up some votes from the Democrats, and the bill passes - they still need to get it through the House. This is fun! Ok, now let’s pretend that by some stroke of luck the bill squeaks past the House and now sits on the President’s desk. Come on - you know it’s veto time! There is absolutely no way that President Obama will let this go, and if you remember your civics lessons (Do they still teach that?), both Houses would need to pass it with a two-thirds majority to make it stick. Now, with that, we are stretching the boundaries of reality.
What's likely is Congress will not increase the CFTC’s and SEC’s budgets. In the current economic climate, that really shouldn’t be a surprise. In fact, Congress intends to slash the agencies' budgets (see my March 23rd article). This will effectively hamper rule making and regulatory oversight as CFTC Chairman Gary Gensler has pointed out while relentlessly pleading for more funding.
As I see it, the killing off of DFA is not going to happen. As the DFA deadlines draw near, we may see some amendments to the legislation. I believe that Congress will be receptive to revise disputed sections of the Act, but to a wholesale repeal – no way.
So, for now, don’t go dumping any plans relating to compliance. Remember, a bill is just a bill, but right now, Dodd-Frank is law.