thisis noble farewell
TRANSCRIPT
ThisisNoble's Farewell
[IN FEBRUARY 2015, ICEBERG RESEARCH ISSUED A REPORT ALLEGING, AMONG OTHER THINGS, THAT: (I)
NOBLE GROUP EXPLOITS THE ACCOUNTING TREATMENT OF ITS ASSOCIATES TO AVOID LARGE
IMPAIRMENTS AND FABRICATE PROFIT; AND (II) CONTRARY TO WHAT NOBLE GROUP’S MANAGEMENT
CLAIMS, THE MISFORTUNES OF THESE ASSOCIATES HAVE A SUBSTANTIAL CASH IMPACT ON NOBLE].
[THE ROSEN LAW FIRM ANNOUNCED IT WAS PREPARING A CLASS ACTION LAWSUIT TO RECOVER LOSSES
SUFFERED BY NOBLE GROUP INVESTORS RESULTING FROM ALLEGATIONS THAT THE COMMODITY
TRADER MAY HAVE ISSUED MATERIALLY MISLEADING BUSINESS INFORMATION TO THE INVESTING
PUBLIC]. [1]
[IN JUST ONE QUARTER, NOBLE GROUP HAS ANNOUNCED NEGATIVE OPERATIONS CASH-FLOWS OF US$850
MILLION AND AN INCREASE OF DEBT OF US$900 MILLION, THE STOCK LISTED IN SINGAPORE HAS DROPPED
BY MORE THAN 50% SINCE 2014].
Crystal clear gorgeous Bloomberg chart
A critical information from the chart above is that what you see is not because of general
higher HY CDS but because of a startly rising risk of a credit event in the Noble paper.
During November 2011, NOBLE GROUP LTD 5 yrs CDS widened to 550 BPS, long before
the ICEBERG unraveled the mysterious accounting activities of Noble Group: the company
had time to deal with their problems.
Noble Group's carnage is finally linked to its LEVERAGE, NOT ITS SHARE PRICE.
As we explained earlier in Traders – Secrets in the Commodity Game Part VI
[THE BULK OF THE ACTIVITIES IN COMMODITY TRADING RELIES UPON TRADE FINANCE. IT'S A TRANSACTIONAL BASED
APPROACH IN WHICH THE CREDIT OF THE TRADER IS SUBSTITUTED BY THE CREDIT OF A BANK: SO THIS EXPOSURE OFF-
THE-BOOK AND WILL WORK QUITE WELL WHEN THE TRADE IS A HEDGER].
[HOWEVER, THE ASSUMPTION THAT COMMODITY TRADING FIRMS TRADE DERIVATIVES IN ORDER TO EXCLUSIVELY HEDGE
PHYSICAL EXPOSURE SHOULD BE ONLY ASCERTAINED CASE-BY-CASE]
Noble 5YR CDS to the Moon... What a month.
When we impair Yancoal assets as suggested by Iceberg, the implied Net Debt/EV comes
closed to 48.00%. Noble is currently traded ~47.91% Net Debt/EV.
It is a fantastic insight about how the market and its efficiency at works; The equity market
has already discounted Yancoal (on behalf of Noble) and is now in wait-and-see mode for new
details. If CDS help banks to shed risks they don’t want in bank loans and corporate bonds,
spreads that protection buyers are currently paying for Noble's papers in the CDS market do
not appear insane. [2]
First termed by Former SEC Chairman, Arthur Levitt Jr. an accounting hocus-pocus is:
i) the efforts of corporations to color their earnings in a way which will cast them in the best
possible light;
ii) hiding from investors certain aspects of those earnings which may have made investing less
attractive at that point in time;
III) using devices such as taking earnings in a quarter in which they wanted them to be taken,
rather than the quarter in which they were actually earned;
IV) booking earnings that were not really earnings, such as products that were sold but which
could be returned and represented potential liabilities, products which hadn't even been
developed and booking the earnings on those products in advance of development;leases that
weren't truly leases that could have been cancelled. [3]
Arthur Levitt Jr, Chairman of the SEC from 1993 to 2000, Member of the Board of Directors at Bloomberg L.P.
THE LEVITT TEST APPLIED TO NOBLE GROUP
i) Noble Group reports its results in accordance with International Financial Reporting
Standards (IFRS).
IFRS 7 provides that if an entity prepares a sensitivity analysis such as value-at-risk for
management purposes that reflects interdependencies of more than one component of market
risk, it may disclose that analysis instead of a separate sensitivity analysis for each type of
market risk
Noble Group's Three Months Results March 2015
The utilisation of a VaR framework to assess the potential loss in value of a commodity
trading portfolio is used at Commodity Trading Firms where PnLs are calculated daily
"marking-to-market".
It is highly desirable for a trader touting to be at the vanguard of commodity risk
management to reveal what is the VaR limit on their portfolio (if there is any set by the
trader...)
[1.1]
In this case, VaR has no confidence level α, no VaR limits and is stated without any
timeframe. (VaR can be daily, on 10 days, 30 days) [4].
ii) Jun 11, 2015. S&P has cut Noble Group outlook to 'negative'.
It was the first time in the history that S&P acknowledged for bad M-T-M of Long-Term
Contracts in the outlook of a public commodity trader.
"In our view, the long-dated nature of these contracts creates a mismatch between profit
recognition and cash realisation."
“The mismatch between cash realisation and reported profit due to fair value accounting
limits transparency and visibility in analysing Noble’s cash flows,” -Cindy Huang, S&P. [5]
But this has never received an update on Noble Group's website in the investor
relations/credit research section.
Hiding from investors certain aspects of those earnings which may have made investing less
attractive at that point in time in point ii) of the Levitt Test.
iii) Using devices such as taking earnings in a quarter in which they wanted them to be taken,
rather than the quarter in which they were actually earned:
Noble has booked gains on contracts to the tune of 81% of shareholder equity as of March 2015.
One of these contract is a 10 years offtake agreement with Sundance Resources ( a junior
Australian miner with production only starting in 2019 .[6]
Credit: FT, UBS
Mark-to-market gains
Book unrealistically large profits from long-term commodity transactions would be an
egregious violation.
The trader has refused to say on which contracts they have booked a one day gain, saying
that they can't publish more details on contracts because exposing their trading books to a
rival without the guarantee of a transaction could be proven an insurmountable competitive
obstacle.
=>Not insurmountable; VaR discussed in I) can communicate current market risk (risk
appetite) and limits fixed (risk limits) without the need to disclose the secret information
about contracts.
iv) Booking earnings that were not really earnings, such as products that were sold but which
could be returned and represented potential liabilities.
Noble CEO Alireza said: "Optional inventory sales are very common in the industry... our
competitors actively engage in such structures".
Nothing is wrong to enter repos with a Bank to mitigate margin calls risk on a trading
portfolio. (a temporary liquidity problem because sales doesn't match purchases contracts)
However it would be radically different to use them as a tool to meet balance sheet margin
calls. (a solvency problem; off-the-book liabilities are backing an hypertrophy in derivatives
trading not justified by the normal physical activities of a trader)
In an inventory repo, the trader sells its inventory to the bank outright (who puts it on its
balance sheet) the trader buys it back later at a higher price)
Repos provide financing for the trader but can also paint a deceptive picture of the financial
health of the Trader if they classify the repo as a Sales, not a liability.
Noble Group, like any good institution has wanted to limit the carnage in its own equity by
diverting the attention on the most visible part of the "ICEBERG" and the share price.
Net Fair value gains (P&Ls) marked on these commodity contracts at the end of December
2014 are reflected into an increased of CFIs (and they are largely compensating for CFOs and
CFFs outflows).
Credit: Ycharts
Noble Group has an ICEBERG called LEVERAGE and the four criteria of the Levitt Test
are qualifying the trader for an Accounting Hocus-Pocus.
Noble Group has been able to borrow time by continuing to rely upon structured trade
finance facilities. This is also highlighting the destiny of Noble Group resides in the hands of
the Banks and Suppliers (the key is not in the bond or equity markets).
Overcollateralization,often used as a method of credit enhancement to lower the creditor's
exposure to default risk is a key aspect; more precisely, how facilities are structured to
mitigate principal-agent problems between the bank, the trader and its suppliers.
In a totalitarian world, can kurtosis exist ????
[1] The Rosen Law Firm Announces Investigation of Securities Claims Against Noble Group Ltd
[2] For Net Debt/EV, it an average of estimates. We had to relaxed some of the assumptions by Iceberg to
create estimates and also use the financial statements provided by Noble Group. These ratios are particularly
important to gauge the potential bankruptcy of the entity.
[3] PBS, Frontline "Bigger than Enron" Interview: Arthur Levitt
[4] As an example, the 1-day VaR with α=95% is $70 million. i.e there is only 5% chance that the value of the
portfolio will drop more than $70 million on any given day.
[5] Noble Group at risk of being downgraded by S&P to junk status, Financial Times. Although S&P is basing
their outlook on Credit, not Performance unlike in Structured Products or Trade Finance that Noble uses for it
funding, S&P also incorporates cash positions combined with the high concentration of short-term debt...
[6] A offtake is an agreement between a producer and a commodity trader of a certain resource; it formalizes
the intention of the trader to purchase a certain amount of the producer’s future output. These deals – offtake
agreements with producers and supply agreements with consumers – are most often priced against an
internationally recognised commodity price index. This means Noble agrees to either take or make delivery of a
given commodity over a specified period of time, and the price Noble pays or receives is determined by the
index, plus or minus a percentage. Noble hedges its risk by entering either offsetting physical deals or cash-
settled derivatives contracts.
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