2008: Year of the Dove

The Chinese zodiac is quite unique in its construction. Based on a cyclical perception of time, the twelve animal signs are structured around a 12 year cycle. Starting with the Rat, they each represent various characteristics of people that are born during the Chinese year. [1] In China it is currently the Year of the Rat, a year symbolizing hard work, shrewdness, and ruthlessness. 2008 is also considered a lucky year as the number 8 is very auspicious and in Chinese, sounds similar to the word for prosperity or wealth.

The white dove and olive branch is arguably the most recognized worldwide symbol for peace. References of the dove range from The Holy Qura’an to Pablo Picasso’s artwork. [2] You can even purchase a War & Peace watch with a rotating Dove from the United Nations online bookshop for US$45.95. [3]

In the finance world however, references to doves are not exactly meant to illustrate peace. Instead, financial jargon defines these words as follows:

  • Dovish: A Central Bank that is cutting (reducing) interest rates
  • Hawkish: A Central Bank this is increasing interest rates

Simply put, a Central Bank that reduces the interest rate at which commercial banks can borrow at is said to be Dovish and vice versa. In general, interest rates lower debt cost. For example, in Kuwait, loans are usually quoted as a percentage over the CBK rate and most of the loan terms are actually pre-determined by the Central Bank of Kuwait. That means that if you took out an Al-Afdal loan from Gulf Bank today [4% + CBK rate] your interest would be 8.5%.

As we all have come to know, 2008 has been terrorized by the banking and financial crisis and according to the latest SMS circling Kuwait, a year where only two banks are expected to remain – the Blood Bank and the Sperm Bank. However, the Central Banks have many tools at their disposal to deter such an event from becoming a reality. Increasing or decreasing interest rates are one of the many gadgets used to promote financial and economic stability. During these moments of crisis the Central Bank policy makers have joined together in a coordinated effort to reduce interest rates hence making this year a Dovish one.

The graph below highlights the year to date interest rate for the US Federal Reserve, Bank of England, and the European Central Bank. The US has been more aggressive than its peers in reducing interest rates as it struggles to keep its economy afloat.

Interest Rates – YTD %

Source: Bloomberg

  • ECB: 3.75%
  • US FED: 1.00%
  • BOE: 4.50%

Policy Effectiveness:

Merely noting the net change in the interest rates does not give a clear picture as to whether the policy was effective in achieving its objective. One measure of credit and liquidity risk in the banking system is the TED spread. It is calculated by taking the 3 month London Interbank Offer Rate [LIBOR] and subtracting the 3 month T-Bill yield.

  • LIBOR: It is a measure of how much banks are willing to lend US dollars to each other. The reported rate is an average of participating banks.
  • T-Bills: The interest rate at which you can borrow, essentially risk free, from the US government.

As a rule of thumb, when the TED spread is:

  • High: Banks are less willing to lend to each other as they believe other banks are not safe
  • Low: Banks are more willing to lend to each other as they expect to get their money back

In this particular case, policy makers reacted to a nosedive  in global equities during September and scrambled to take action. From September until about mid October, the TED spread continued to rise as banks simply stopped lending to each other. However, after interest rates were reduced globally the TED spread started to come off its high.

  • All time High: 4.57% [October 10, 2008]
  • All time Low: -0.034% [September 12, 2001]

TED Spread

Source: US Federal Reserve. Bloomberg. Al-Hamour.
Source: US Federal Reserve. Bloomberg. Al-Hamour.

We can see that the coordinated rate cuts were effective in reducing the credit risk in the banking system as banks became more willing to lend to one another. As of November 1, 2008 these are where things stand:

  • TED Spread: 2.41%
  • LIBOR: 3.02%
  • T-Bill: 0.61%

However, when comparing the TED spread to the May 1987 average of 1.7% and the October 1987 average of 2.26% we are still at higher levels. This is somewhat anticipated as the current crisis is far greater in depth and breadth than The Crash of 1987 which started on October 19, 1987 in Hong Kong. [4]

TED Spread

Source: US Federal Reserve. Bloomberg. Al-Hamour

Source: US Federal Reserve. Bloomberg. Al-Hamour.

In summation, I would like to leave you with a recap of the main points discussed in this post and what you can anticipate going forward:

  • Dovish Central Banks help reduce the overall cost of debt and aid in de-leveraging of the economy
  • The TED Spread is a measure of credit and liquidity risk in the banking system
  • Expect LIBOR rates to decrease as liquidity is injected into the system and inter-bank trust is restored
  • Expect Central Banks to continue to reduce interest rates
  • Consider making a deposit at your local Blood Bank and/or Sperm Bank

I will be posting a follow up to this topic later this week and will discuss the various Central Bank actions year to date.

Please do not hesitate to leave a comment or send me an email if you have any inquiries or would like to discuss the post.

[1] Chinese Culture Center

[2] Dove of Peace. Pablo Picasso.

[3] Online Bookshop. United Nations.

[4] Investopedia

18 thoughts on “2008: Year of the Dove

  1. The Singing Guru

    How can u just leave me standing?
    Alone in a world thats so cold? (so cold)
    Maybe Im just 2 demanding
    Maybe Im just like my father 2 bold
    Maybe youre just like my mother
    Shes never satisfied (shes never satisfied)
    Why do we scream at each other
    This is what it sounds like
    When doves cry

  2. Nubo

    Thanks for the article. I have a KD money market fund that is giving me 6.5% annualized. They invest in several kinds of money market instruments including T-Bills, corporate bonds, CDs. How can they achieve this yield if the prevailing interest rate ia @ 4% or less? Also, they tell me that my holdings are as good as, and as safe as cash. Are they really?

    Thanks again.

  3. f

    Great work. Thank you for the update. I’m a bit confused tho, I am trying to apply what you mentioned in post to the Kuwaiti market. I know that Kuwaiti banks are reluctant to lend to each other as they believe that other banks are not safe, does this mean that deposit/interest rates should be priced very high to attract depositors? And if that is the case, won’t financial institutions loose because their cost of borrowing (equivalent to the interest paid to depositors) is very high compared to the interest they’re charging their customers?

    On a different note, where is the sperm bank located? 😉

  4. MAR

    @Nubo: Thanks for reading. Well in general their annualized yields should come down as the discount rate is decreased. Always remember that the riskier the borrower the higher the yield. Therefore, from highest to lowest risk this is how the instruments you mention would rank: 1. corporate bonds 2. CD (assuming the bank rating is higher than corporates) 3. T-bills. So depending on the allocation to each of these, it is possible to achieve a higher return. But this is not sustainable if rates go to 2% for example, unless the risk of the overall fund increases. Please note that sometimes banks will pay higher rates on CDs as the need for cash increases. This is generally true for end of year deposits. So as a guideline you would want to put your money in a CD during the 4th quarter at least for 3 months – 1 year.
    As safe as cash: short answer, NOT TRUE. Remember there is a reason why people use the term ‘CASH IS KING’. The closest thing to cash in this world is US government debt, that is why everybody is going out and buying US Treasuries. In Kuwait you would be trusting the government to not default on their interest payments, something that shouldnt be hard given what the budget surplus is. However, some companies like Al-Dar for example have been paying 15-17% for their Murabaha’s (red flag). So anytime they invest in corporate debt you are assuming the company will not default or even worse go bankrupt.
    I would ask the fund for their portfolio allocation and/or underlying positions (at least top 5/10).
    If you would like, send me whatever information and I can take a look at it. I hope this answers your question.

  5. MAR

    @f: Thanks! Deposits are being priced higher to attract money, and its generally due to the need for cash (see above comment). However, relatively speaking, the situation is not as bad as the US or Europe where the spreads are much higher. I would be wary of someone who is paying me more than 10% on a deposit given the current economic condition.
    What you are referring to is called the NIM (Net Interest Margin). Again, yes you are correct in saying that companies/banks who are paying higher rates on deposits will face a decrease in their NIM. Therefore, they wouldnt make as much money going forward.
    Example: Deposit rates: 5% (1 year) Loan interest: 6.25% (CBK + 2%) Interest spread: +1.25%. Divide that by your assets and you have your NIM.

  6. Nubo


    Thanks for the detailed response. I really appreciate it. The MM fund I am using at this time is this one:


    And, just as I wondered about their high yield relative to the prevailing interest rate, it went down to 4.73% (weekly) as of today. I think I jinxed them 🙂

    Having said that, do you think I can beat 4.73% safely (as in cash or cash equivalent) in today’s evironment? Where?

    Thanks a bunch.

  7. Jo

    Please keep the articles coming. So enjoy how you explain terminology Ive repeatedly heard but not understood in a simple and clear way. I actually noted down a few things I learned on your blog. Cheers.

  8. The Guru

    Mar mentioned “Al-Dar for example have been paying 15-17% for their Murabaha’s (red flag)”. Can Al-Dar make more than their current borrowing cost! Guess not their assets have atleast lost 50% in value. AM a negative cash flow company and debt they need to meet interest payment for. It seems to me like the problems are only snowballing.
    Al-Dar equity screams short me to oblivion.
    I have been calling for this ages ago, such a shame I can’t short in this crappy Kuwaiti diwaniya driven market.

    Time for you MAR to shed the light on some of those P/E wanna be listed companies. The incubator model failed in the US, I would assume the noobies here should be aware of that.

  9. MAR

    @Nubo: I think its expected that their yield comes down and might do so in the future if central banks keep cutting rates (something I expect to happen). I think it would be difficult to beat, given the same liquidity terms. I mean you could put the money in a CD at the moment, and depending on the amount get 5% annualized. So I think you forgo that extra return for the 1 week liquidity, which I think is fair.
    However, if you are interested in other credit securities that the fund is also buying, you can buy corporate bonds that are yielding 20-50% annualized at the moment [Nakheel Sukuk 09 maturity is one example]. I am not supposed to give an investment advice here, at the end of the day you do what you are comfortable with. But, you would first have to determine what risk you are willing to take and what your portfolio constraints are. In any case I know the guys at CBK and will check with them to understand what they are buying.
    I think the bigger question is are equities and bonds [some] more attractive that cash at this point in time, given a long [5 YR] time horizon.

  10. MAR

    @The Guru: I think you’re spot on. These companies will struggle in the next couple of quarters to maintain their liquidity and for some their solvency.
    As for the shorts, there are a few firms offering +puts/-calls if you are interested. Good way to gain short exposure.
    Trying to get more info on companies you are referring to, but as you know in Kuwait it takes more time to get accurate data. I really want to take a look at the Zumorroda Group.
    And btw, any relation to The Singing Guru?

  11. Pingback: Al-Hamour’s List: 2008 Doves of the Year | Al-Hamour

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  13. Intlxpatr

    I love this blog and can’t imagine why I haven’t found it before today. I hope you are having as much fun writing it as we are having reading it. It’s just the icing on the cake that some of us might learn something along the way.

    “a year where only two banks are expected to remain – the Blood Bank and the Sperm Bank” LLLOOOLLLLL

    It isn’t that often that people who understand the dismal science make good jokes.

  14. MAR

    @Intlxpatr: I appreciate the support and I’m pleased to know that you enjoy reading my blog. I hope I can continue to write at the same level, for what is life without a little bit of laughter. 😉


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