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Goldman Sachs has managed to earn almost $4bn on a six-month-old investment, runs a breathless report on Bloomberg.
How? By investing in a Chinese bank. The group bought 5% of Beijing's Industrial and Commercial Bank of China back in April for a mere $2.6bn. The initial public offering (IPO) of the bank now values the whole group at $129bn. Take 5% of that and you've got a rather tasty $6.5bn or so - a near-$4bn profit.Well, on paper at least. The group cannot sell its shares for three years.
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And as University of Florida finance professor Jay Ritter tells Bloomberg: "At this point, the investment looks great, but Goldman isn't cashing out of the deal. There is still political risk."
That may be an understatement...
Industrial and Commercial Bank of China (ICBC) saw its IPO priced at the top of the range for its shares in Shanghai and Hong Kong last week. The IPO is the largest the world has ever seen, raising a record $19.1bn. Shares begin trading at the end of this week, and demand has been extremely strong.
In fact, the bank is selling 15% more shares than it originally intended, "the first time an over-allotment option has been used in a mainland IPO," says Bloomberg.
It's not just Goldman Sachs that has benefited - European insurance giant Allianz and US credit card group American Express bought $1.24bn worth of ICBC shares before the IPO. They are set to more than double their money - again, on paper.
So far Chinese banks in general have been great investments for those who got in early. Bank of China, China Construction Bank and Bank of Communications have "appreciated 70% on average" says Bloomberg, since going public in the middle of 2005. Winners have included Bank of America and Royal Bank of Scotland.
But buying into the shares after they float may not be such a good idea - and those paper gains for Goldman and the other investors may soon evaporate once the initial exuberance fades. Why? Because, as Martin Hutchinson points out on Breakingviews, if ICBC "is currently producing bad debts at anything like the rate it did in the past, the public offering is way overpriced."
Before the IPO, the bank conveniently shifted its past bad debts off its balance sheet. The bad debts (about 19% of its loan book) were moved to state-holding companies in the middle of last year. In exchange, the bank receives government paper - in effect, a state-backed IOU. It's a great deal for the bank, but not such a good one for the government - debt recovery rates run at less than 25%.
This wasn't the first time such a deal had happened - but it will be the last. No more such transfers will be allowed, according to the Chinese government. So any future bad loans will be treated the same way as bad loans at any other bank - they'll have to come out of profits. And given how poor the Chinese banking sector's past record on lending looks, unless there is a massive change in the way things work, there's every chance that there will be a lot more bad loans to come.
"In gloomier times, investors will look to the bank's net asset value and net income after loan losses. If the past is a reliable guide to the future, these could be impaired by bad lending practices. Investors who buy into the float and hold may be in for a rude awakening," says Hutchinson.
The rush to buy into Chinese banks is yet another example of the complete lack of risk aversion currently being displayed by investors. While here at MoneyWeek we certainly believe that in the long-term, the East will continue to open up and benefit from a shift in wealth from the West, that doesn't mean you should buy into everything sporting the label "made in China".
You can read why Bill Bonner believes that there could be harder times ahead for China than most are willing to believe in the latest issue of MoneyWeek. If you're not yet a subscriber, you can get access to all the content on the MoneyWeek website and sign up for a three-week free trial of the magazine, just by clicking here: Sign up for a three-week free trial of MoneyWeek. (/file/194/subscribe-from-not-logged-in.html)
Turning to the broader markets
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An afternoon boost courtesy of a strong opening on Wall Street saw the FTSE 100 close 10 points higher, at 6,166, having fallen to an afternoon low of 6,129. British Airways made the biggest gains of the day as a result of the softer oil price and positive broker comment. For a full market report, see: London market close
On the Continent, the Paris CAC-40 closed 36 points higher, at 5,411, whilst the Frankfurt DAX-30 was 40 points firmer, at 6,242.
Across the Atlantic, plans revealed by retail giant Wal-Mart to improve profitability propelled the Dow Jones to a fresh record close of 12,116, a 114-point gain. The S&P 500 closed at its highest level since 2001, gaining 8 points to end the day at 1,377. And the tech-rich Nasdaq ended the day 8 points higher, at 1,377.
In Asia, the Nikkei closed 8 points lower, at 16,780.
Crude oil last traded at $58.69, whilst Brent spot was at $57.08 in London.
Spot gold was lower again this morning, down to $578.70 from $580.40 in New York late last night.
And in Australia, miner BHP Billiton announced that quarterly copper production had fallen by 19% as a result of a month-long strike at its Escondida mine in Chile. The company also warned that it would struggle to meet demand in the face of rising costs and equipment shortages. Shares in the London and Sydney-listed company were down by as much as 1% on the Australian stock exchange.
And our two recommended articles for today...
How Christmas savings schemes exploit the financially ignorant
- Christmas was effectively cancelled for 170,000 people who lost around £200 each when hamper company Farepak went bust last week. But, says Merryn Somerset Webb, the real shock is that people still put money into these schemes. To find out why anyone would pay £9.90 for £5-worth of shopping, read: How savings schemes exploit the financially ignorant
Why the price of oil is set to rise
- As the percentage of oil output attributed to Opec shrinks, the oil market is moving from a 'cartel-based' to 'market-based' system. So what does this mean for future exploration and why are prices set to get higher, rather than lower? Read: Why the price of oil is set to rise
John is the executive editor of MoneyWeek and writes our daily investment email, Money Morning. John graduated from Strathclyde University with a degree in psychology in 1996 and has always been fascinated by the gap between the way the market works in theory and the way it works in practice, and by how our deep-rooted instincts work against our best interests as investors.
He started out in journalism by writing articles about the specific business challenges facing family firms. In 2003, he took a job on the finance desk of Teletext, where he spent two years covering the markets and breaking financial news. John joined MoneyWeek in 2005.
His work has been published in Families in Business, Shares magazine, Spear's Magazine, The Sunday Times, and The Spectator among others. He has also appeared as an expert commentator on BBC Radio 4's Today programme, BBC Radio Scotland, Newsnight, Daily Politics and Bloomberg. His first book, on contrarian investing, The Sceptical Investor, was released in March 2019. You can follow John on Twitter at @john_stepek.
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