Market Commentary: Greensill -- The Critical Difference between Insurance and a Guarantee and Why It Matters

 

An Unhappy Outcome

Since I haven’t seen anything on this topic in re Greensill, I thought I’d offer a few thoughts on how the fundamental difference between (1) a guarantee of payment and (2) an insurance policy affects the Greensill “situation”. 

And how it might motivate actions by participants in this unhappy event.

The difference between these two instruments is frequently misunderstood, including by supposed finance professionals. Hopefully, this post will fill in any extant knowledge gaps.

A guarantee of payment (as opposed to a guarantee of collection) is a legally binding obligation by the guarantor to make payment to the guaranteed party if the debtor does not make a scheduled payment. Proof of the debtor’s non payment is generally fairly “easy” to make. Usually then the guarantor makes payment without undue delay.

An insurance contract is a legally binding obligation by the insurance company to pay the policyholder if the policyholder submits a valid claim.

Keep those last two words in mind. 

The insurance company reviews the policy conditions, the insured’s (or policyholder’s) actions, and makes the initial determination of the validity of the claim. Some policyholders have been known to complain that such assessments seem to move at a glacial pace.

As that should imply, the insurance company has more legal defenses against payment than a guarantor. And its payment is not as fast given the time to review the claim.

The insurance policy spells out the conditions for validity.

For example, in obtaining the policy, did the policyholder make a material misrepresentation or fail to disclose material information that would reasonably have caused the insurance company to refuse to write the policy? In such a case the entire policy is invalid.

Did the policyholder fail to take reasonable steps to prevent the loss?

For example, if he left his Maybach unlocked with the key in the ignition and his insurance company knew this fact, they would likely decline the claim for theft.

If she routinely stored gasoline in her villa and filed a claim for fire damage and the insurance company knew this fact, the result would be the same.

Did the policyholder take reasonable steps to mitigate damages?

When the fire broke out, did she call the fire department? Or just let the villa burn down?

If his trade counterparty was in financial difficulty and he should have been aware, did he shorten payment terms, ask for collateral, lower his credit limit for aggregate outstandings?

There may also be other specific policy exclusions: strike, riot, civil commotion, actions of political entities, foreign exchange controls, etc.

We can therefore expect that Tokio Marine and other insurance companies will be carefully reviewing their obligations under any outstanding policies on Greensill related debt. 

I saw in today's FT (23 March) that Tokio Marine had opined that the policies might not be valid. 

Today (2 April) the FT reported that Grant Thorton acting as administrator for Greensill had been unable to verify certain invoices underpinning loans to Liberty Commodities - part of Mr. Gupta's group.  

Actually, the article says that several firms whose names appeared on invoices denied any commercial relationship with Liberty.  You can guess that this means that any "insurance" on these invoices is invalid.

One would of course have to review the actual policies and the respective governing laws to determine the defenses the insurance companies might have.

But I wonder if it’s possible that policies issued in excess of underwriting limits might be one? 

Part of that might turn on whether Mr. Brereton was working for Greensill (as an insurance broker) or for Tokio Marine (as its employed underwriter).

As well one can imagine Credit Suisse fund managers' angst over the difference between insurance and a guarantee as well as potential liabilities that might arise from potential "defects" in disclosures in selling documents vis-a-vis disgruntled clients whose attorneys will be going over said documents carefully.

Keep up to date on developments.  

The FT continues to follow the Greensill saga with an interesting article on Mr. Brereton earlier this week.

Market Commentary: Tesla "Loses" One-Third of Its Value

 

Make Sure Your Weighing Machine is Properly Calibrated

Just a few days ago, I read courtesy of Reuters that Tesla had lost one-third of its value. 

Shocked, I rushed to read how such a loss had occurred.

Had Brother Musk misplaced or “lost” the “code” to Tesla’s Bitcoin account?

Did meteors strike Tesla’s factories, wiping out needed capital assets?

Did Lucid leapfrog Tesla's self-driving technology?

I read on.

Rather the article was about the decline in the price of Tesla stock.

The writer of the headline apparently is a naive adherent of the efficient market theory conflating stock prices with value.

So what is the point?

There is a difference between the price of a stock and its (intrinsic) value.

Many tragedies in the investment world have occurred because of a conflation of the two.

Market sentiment plays a large part in the price of a stock.

One day an NMC or a Wirecard are flying high. The next day they are not.

When 911 occurred, prices on the NYSE dropped dramatically forcing the closure of the market.

In both cases there was a wide gap between value (reality) and price (sentiment).

Prior to the price decline NMC and Wirecard had high prices, but no value, unless one were to count negative numbers.

In the second case, the stocks on the NYSE as a general group did not suffer any real loss of value. Their prices just diverged from value.

Earlier this year, one of my colleagues gave me a JPMorgan research piece on Tesla which posited a value of some USD 160 or so a share.

JPM had computed the value using multiple “different” methods, though as Aswath might tell you many of these seemingly independent methods are really fundamentally linked.

I found it entertaining but not convincing reading. The JPM research piece not the Professor's. 

A sum of the parts analysis in a distressed sale might have been more illuminating.

Market Commentary: Bill Gates on Biden's USD 1.9 Trillion Covid Relief Bill

Answers to All Your Questions

Announcing a new feature here at SAM: AA’s trenchant commentary on news and developments in the "market".

I saw on the internet about two weeks ago a Fareed Zakaria interview in which he asked Bill Gates to opine on the Biden USD 1.9 trillion stimulus plan.

I was surprised.

Prior to that, I hadn’t known that Bill Gates was an expert on economics.

As Phil Rosenzweig can tell you, success in one field, particularly one in which an individual makes billions, automatically confers unique knowledge in almost every other field on that individual or at least the appearance of such knowledge.

Often such knowledge is attributed by folks who one hopes should know better.

Given Fareed’s academic and professional focus on foreign affairs, I was surprised that he did not seize the opportunity with Bill to heal an unfortunate rift in the Middle East by asking Bill to provide the definitive analysis of the meaning of “غَدِيْر خُمّ “ and “أَهْل ٱلْكِسَاء‎ “.

Or perhaps give his solution to the Korea issue.

Sadly, for whatever reason, he did not.

One or is that two for the “missed opportunities” file?

I, of course, would have had my own set of different questions.

Before outlining these, I need to make a material disclosure.

Devoted readers of this blog (I’m counting bots so I can use the plural) know that there is a bit of bad blood between Bill and me.

Sometime back I was expecting advice from him on what I should be having for dinner, hoping to draw on another area of his wide ranging expertise after my foray in a mall bookstore's business books section.

Advice that sadly never came.

Madame Arqala, as she so often does, did rescue me on that occasion.

Despite a bit of lingering rancor on that failure, I would have straightaway asked Bill what strategy he would employ as Arsenal’s new head coach to ensure that they repeatedly won the Premier League, the Champions League, etc.

All in the hopes that Brother Stan was watching. Or might see the interview later on the VAR.

I'd probably have moved on from there to ask him to opine on a sharp difference between my elder wiser brother (expert in many thing Asian though clearly not on pizza) and me over the best pizza:  deep dish or thin crust. 

Or perhaps why the last two words in the fourth verse of Surah 112 did not have the same terminal vowels. 

Eventually I’d probably have asked Bill to comment on SolarWinds and Microsoft Exchange.

Why these events happened?

What Microsoft could or should have done to prevent them?

Perhaps, an area where his skills might be more profitably employed.