When shareholders exacerbate their own banks' crisis

 

November 21, 2014

Technische Universitaet Muenchen

Banks are increasingly issuing 'CoCo' bonds to boost the levels of equity they hold. In a crisis situation, bondholders are forced to convert these bonds into a bank's equity. To date, such bonds have been regarded only as a means of averting a crisis. A study by German economists now shows that if such bonds are badly constructed, they worsen a crisis instead of stabilizing the banking system.

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Banks are increasingly issuing 'CoCo' bonds to boost the levels of equity they hold. In a crisis situation, bondholders are forced to convert these bonds into a bank's equity. To date, such bonds have been regarded only as a means of averting a crisis. A study by economists at Technische Universität München (TUM) and University of Bonn now shows that if such bonds are badly constructed, they worsen a crisis instead of stabilizing the banking system -- because they incentivize a bank's owners to worsen a bank's situation themselves so as to leave bondholders out in the cold.

One lesson that policymakers and financial regulators have drawn from the financial market crisis is that banks need to be backed by more equity. But banks have found it hard to increase their core capital positions -- in other words, the equity available to them long-term. Since 2009, this has led European banks to increasingly deploy an instrument that allows them to convert debt into equity in times of need: contingent convertible bonds, also known as CoCo bonds. Banks issue these bonds at fixed interest rates -- as is normal with corporate bonds. The special aspect of CoCo bonds is that if banks fall short of their predetermined core capital ratio levels -- mostly 7 percent -- the bonds are converted into the banks' equity. In other words, bondholders are forced to convert their securities into the banks' shares, or even waive their claims entirely.

Banks use these instruments as it is generally easier for them to place them on the market than shares, and they also entail tax advantages. For investors, CoCo bonds are interesting because they offer higher interest rates than other corporate bonds. Policymakers and regulators welcome them because banks that are in financial difficulties 'bail in' their bond creditors, rather than resorting directly to taxpayers to bail them out. This has led various European states and the European Central Bank to recognize CoCo bonds as bank equity capital. US Federal Reserve Chairman Ben Bernanke and US Treasury Secretary Timothy Geithner concluded in 2010 that CoCo bonds could function as 'shock absorbers' in market upheavals.

Bondholders lose out in most cases

But can CoCo bonds really help to stabilize the banking system in a crisis? Finance Professors Christoph Kaserer from TUM and Tobias Berg from the University of Bonn have built a theoretical model to analyze the effects of conditionally convertible bonds. Diverging from standard structural models, they have included the specific conditions under which these bonds are traded. They also investigated empirically the contractual structure and price performance of CoCo bonds that have already been issued.

Kaserer and Berg discovered that a 'write-down' mechanism is written into terms for about half of CoCo bonds -- if a predetermined, critical core capital ratio is not met, the bonds are not converted into shares at all, and bondholders forgo their claims. In the predominant portion of other cases, bonds would be converted at a ratio that would be unfavorable for bondholders: although the investors would receive shares, the total value of the shares would be lower than the total value of their bonds. "In other words, a quite particular group of creditors would have to shed blood first," notes Professor Christoph Kaserer, Chair of Financial Management and Capital Markets at TUM. "We call these CoCo bonds 'convert to steal'."

Shareholders benefit if circumstances worsen for their bank temporarily

In their model, Kaserer and Berg show that this construction not only bears (foreseeable) risks for investors, but also creates incentives that can lead to a further deterioration of a crisis: if a bank gets into difficulties, a motivation exists for it to further escalate its own crisis situation -- in other words, until it triggers conversion of its CoCo bonds, allowing the bank to free itself of some of its debt. "As a consequence, the existence of CoCo bonds could have an effect that worsens a crisis, because owners benefit from the fact that things are getting even worse for a bank -- at least short-term," observes Tobias Berg, Professor of Finance at the University of Bonn.

The economists also took Lloyds Banking Group of the UK as an empirical example of the connection between a bank's risk profile and the construction of its CoCo bonds: when this bank's situation worsened, the market value of its 'convert to steal' bonds fell faster than would have been expected given the bonds' other characteristics. "If shareholders know that losses can be shifted onto CoCo bondholders in a crisis, this is also reflected in the bonds' valuation," explains Kaserer.

"Financial regulators should pay attention to reasonable construction"

The model shows a reverse effect if CoCo bonds are exchanged at market value -- in other words, if bondholders receive more shares. "At a single stroke, there would be a group of new shareholders with significant shareholdings. This would impel existing shareholders to do anything to prevent this happening -- in other words, to prevent the core capital ratio not being met," says Berg. "This construction -- which we call 'convert to surrender' -- would consequently have a stabilizing effect on the banking system."

Mainly European banks -- and primarily large banks in the UK, Spain and Switzerland -- have entered this business to date, issuing CoCo bonds worth around 50 billion euros. Financial regulators should take the study's findings into consideration in assessing future CoCo bonds, recommends Christoph Kaserer. He believes that banks should only be able to count these bonds as equity if they do not include a 'convert to steal' mechanism. "CoCo bonds are a reasonable option for banks to improve their equity backing," comments Kaserer. "But they only help to stabilize the banking system if they are constructed correctly."

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Story Source:

The above story is based on materials provided by Technische Universitaet Muenchen. Note: Materials may be edited for content and length.

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Journal Reference:

1. Tobias Berg, Christoph Kaserer. Does contingent capital induce excessive risk-taking? Journal of Financial Intermediation, 2014; DOI: 10.1016/j.jfi.2014.11.002

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Six vital steps world leaders must agree to take to protect Earth

 

International talks in Paris in 2015 could see the world’s nations agree to limit global warming to a rise of 2C. Actually achieving that target will require huge commitments – not least by developed nations

A power station in Pennsylvania, USA: most of the CO2 in the atmosphere has come from developed nations. Photograph: Alamy

 

1 Global warming must be limited to 2C

Every year, carbon emissions from cars, factories and power plants across the planet rise inexorably. The resulting elevation in carbon dioxide levels in the atmosphere mean that in 30 years temperatures on Earth will be 2C hotter than they were in pre-industrial times, scientists say. This is the maximum temperature that they believe the world can tolerate without there being devastating environmental consequences: spreading deserts, worsening storms and widespread flooding. Therefore, the first and most important decision that world leaders need to take at the Paris climate talks next year is to agree, through a binding commitment, that 2C is the upper, acceptable limit of global warming on Earth. All other decisions taken in Paris will follow as a consequence of that agreement.

 

2 Nations must make real commitments

Delegates to the Paris talks will then have to establish a network of creditable commitments from individual countries, as well as power blocks such as the EU, that will achieve carbon emissions cuts to ensure the 2C limit is achieved. The devil will be in the detail when it comes to making these agreements.

 

3 Emissions must be monitored

Once nations have agreed to make a particular cut in their carbon output, it will be necessary to set up a commission or group whose job will be to monitor nations’ emissions to check that they are keeping to their commitments.

 

4 Developed nations must pledge billions

Most of the carbon dioxide that has been added to the atmosphere is the handiwork of the industries of developed nations. Developing countries, which have produced relatively little carbon dioxide, will demand a clear commitment from these rich nations to provide financial support to help them adapt to a hotter planet and to mitigate against the worst effects of global warming. Last week a total of $9.3bn was pledged by the west to setting up such a green climate fund. However, by 2020, the amount of money needed for this purpose is expected to be around $100bn a year. If this sort of money is not pledged by the developed world, developing nations will refuse to sign any deals in Paris.

Many Pacific islands and other areas are in danger of being swamped by rising seas as a result of global warming. Photograph: Giff Johnson/AFP/Getty Images

 

5 The most vulnerable places must be compensated

Even if nations can come up with a binding agreement that will keep the global temperature rise to 2C, there will be environmental impacts that, for some nations, will be not just damaging but utterly devastating. For example, islands such as the Maldives and archipelagos in the Pacific already face inundation, as do large tracts of coastline in Bangladesh. Levels of carbon dioxide currently in the atmosphere make the future of these look increasingly untenable. Compensation for loss and damage to populations who could lose their homelands will need special attention and a mechanism will have to be agreed in Paris to ensure these people are properly recompensed for many generations to come.

 

6 Green technologies must be shared

Technology will be a key factor in holding temperatures to a modest level. New forms of tide, wave and wind power plants will have to be developed to replace generators that rely on fossil fuels. Other engineering solutions will need to include systems for preventing carbon dioxide from being emitted by power plants, a process known as carbon capture and sequestration. Some of these systems will be funded by governments, some will be developed by private companies. A method to allow systems created in one country to be shared with other countries in an equitable manner will have to be agreed to ensure the rapid take-up of technologies that will be crucial to efforts to keep global warming within bearable limits.

Fluorescent nanoprobe could become a universal, noninvasive method to identify and monitor tumors

 

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A*STAR researchers have developed a hybrid metal-polymer nanoparticle that lights up in the acidic environment surrounding tumor cells. Nonspecific probes that can identify any kind of tumor are extremely useful for monitoring the location and spread of cancer and the effects of treatment, as well as aiding initial diagnosis.

Cancerous tumors typically have lower than normal pH levels, which correspond to increased acidity both inside the cells and within the extracellular microenvironment surrounding the cells. This simple difference between tumor cells and normal cells has led several research groups to develop probes that can detect the low pH of tumors using optical imaging, magnetic resonance and positron emission tomography.

Most of these probes, however, target the intracellular pH, which requires the probes to enter the cells in order to work. A greater challenge has been to detect the difference in extracellular pH between healthy tissue and tumor tissue as the pH difference is smaller. Success would mean that the probes are not required to enter the cells.

"Our aim is to address the challenge of illuminating tumors universally," says Bin Liu from the A*STAR Institute of Materials Research and Engineering. Liu's team, together with colleagues from the National University of Singapore, based their new probe on polymers that self-assemble on gold nanoparticles. The resulting hybrid structure is not fluorescent at normal physiological pH values: instead acidic conditions similar to those around tumor cells of approximately pH 6.5 alter chemical groups on the surface of the probes and switch on their fluorescence.

After validating the switching mechanism in pH-controlled solutions, the researchers tested the probes using cultured cells and also in tumor-bearing mice illuminated under bright light. Twenty-four hours after injection into the mice, obvious and clear fluorescence was seen only from tumor-bearing tissue, using either whole-body imaging or examination of removed organs (see image). The ability to observe the fluorescence of tumors using noninvasive whole-body examination of living mice indicates the potential of the nanoprobes for use in clinical situations with human patients.

"Our probes have so far proved to be biocompatible, which will be crucial for biomedical applications," says Liu. "We now plan to check further for any toxicity issues and assess the biological distribution and pharmacological profile of the probes before hopefully moving on to clinical trials," she adds. This is the latest of several recent advances in nanoscale medical technology from Liu's group.

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Story Source:

The above story is based on materials provided by The Agency for Science, Technology and Research (A*STAR). Note: Materials may be edited for content and length.

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Journal Reference:

1. Youyong Yuan, Dan Ding, Kai Li, Jie Liu, Bin Liu. Tumor-Responsive Fluorescent Light-up Probe Based on a Gold Nanoparticle/Conjugated Polyelectrolyte Hybrid. Small, 2014; 10 (10): 1967 DOI: 10.1002/smll.201302765

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'Mind the gap' between atomically thin materials

 

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Colorized TEM image of tungsten disulfide triangles (black) growing on graphene substrate (green).

In subway stations around London, the warning to "Mind the Gap" helps commuters keep from stepping into empty space as they leave the train. When it comes to engineering single-layer atomic structures, minding the gap will help researchers create artificial electronic materials one atomic layer at a time.

The gap is a miniscule vacuum that can only be seen under a high-power transmission electron microscope. The gap, researchers in Penn State's Center for 2-Dimensional and Layered Materials (2DLM) believe, is an energy barrier that keeps electrons from easily crossing from one layer of material to the next.

"It's a natural insulating layer Mother Nature built into these artificially created materials," said Joshua Robinson, assistant professor of materials science and engineering and associate director of the 2DLM Center. "We're still trying to understand how electrons move vertically through these layered materials, and we thought it should take a lot less energy. Thanks to a combination of theory and experiment, we now know we have to account for this gap when we design new materials."

For the first time, the Penn State researchers grew a single atomic layer of tungsten diselenide on a one- atom-thick substrate of graphene with pristine interfaces between the two layers. When they tried to put a voltage from the top tungsten diselenide (WSe2) layer down to the graphene layer, they encountered a surprising amount of resistance. About half of the resistance was caused by the gap, which introduced a large barrier, about 1 electron volt (1eV), to the electrons trying to move between layers. This energy barrier could prove useful in designing next generation electronic devices, such as vertical tunneling field effect transistors, Robinson said.

The interest in these van der Waals materials arose with the discovery of methods to make single layer graphite by using Scotch tape to mechanically cleave a one-atom-thick layer of carbon called graphene from bulk graphite. The van der Waals force that binds layers of graphite together is weak enough to allow stripping of the single atomic layer. The Penn State researchers use a different, more scalable method, called chemical vapor deposition, to deposit a single layer of crystalline WSe2 on top of a few layers of epitaxial graphene that is grown from silicon carbide. Although graphene research exploded in the last decade, there are many van der Waal solids that can be combined to create entirely new artificial materials with unimaginable properties.

In a paper published online this month in Nano Letters, the Penn State team and colleagues from UT Dallas, the Naval Research Laboratory, Sandia National Lab, and labs in Taiwan and Saudi Arabia, discovered that the tungsten diselenide layer grew in perfectly aligned triangular islands 1-3 microns in size that slowly coalesced into a single crystal up to 1 centimeter square. Robinson believes it will be possible to grow these crystals to industrially useful wafer-scale sizes, although will require a larger furnace than he currently has in his lab.

"One of the really interesting things about this gap," Robinson said, "is that it allows us to grow aligned layers despite the fact that the atoms in the graphene are not lined up with the atoms in the tungsten diselenide. In fact there is a 23 percent lattice mismatch, which is huge. Mother Nature really relaxed the rules when it comes to these big differences in atom spacing."

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Story Source:

The above story is based on materials provided by Penn State Materials Research Institute. Note: Materials may be edited for content and length.

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Journal Reference:

1. Yu-Chuan Lin, Chih-Yuan S. Chang, Ram Krishna Ghosh, Jie Li, Hui Zhu, Rafik Addou, Bogdan Diaconescu, Taisuke Ohta, Xin Peng, Ning Lu, Moon J. Kim, Jeremy T. Robinson, Robert M Wallace, Theresa S. Mayer, Suman Datta, Lain-Jong Li, Joshua A. Robinson. Atomically Thin Heterostructures Based on Single-Layer Tungsten Diselenide and Graphene. Nano Letters, 2014; 141117143307009 DOI: 10.1021/nl503144a

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How the hummingbird achieves its aerobatic feats

 

Now, the most detailed, three-dimensional aerodynamic simulation of hummingbird flight conducted to date has definitively demonstrated that the hummingbird achieves its nimble aerobatic abilities through a unique set of aerodynamic forces that are more closely aligned to those found in flying insects than to other birds.

The new supercomputer simulation was produced by a pair of mechanical engineers at Vanderbilt University who teamed up with a biologist at the University of North Carolina at Chapel Hill. It is described in the article "Three-dimensional flow and lift characteristics of a hovering ruby-throated hummingbird" published this fall in the Journal of the Royal Society Interface.

For some time researchers have been aware of the similarities between hummingbird and insect flight, but some experts have supported an alternate model which proposed that hummingbird's wings have aerodynamic properties similar to helicopter blades. However, the new realistic simulation demonstrates that the tiny birds make use of unsteady airflow mechanisms, generating invisible vortices of air that produce the lift they need to hover and flit from flower to flower.

You might think that if the hummingbird simply beats its wings fast enough and hard enough it can push enough air downward to keep its small body afloat. But, according to the simulation, lift production is much trickier than that.

For example, as the bird pulls its wings forward and down, tiny vortices form over the leading and trailing edges and then merge into a single large vortex, forming a low-pressure area that provides lift. In addition, the tiny birds further enhance the amount of lift they produce by pitching up their wings (rotate them along the long axis) as they flap.

Hummingbirds perform another neat aerodynamic trick -- one that sets them apart from their larger feathered relatives. They not only generate positive lift on the downstroke, but they also generate lift on the upstroke by inverting their wings. As the leading edge begins moving backwards, the wing beneath it rotates around so the top of the wing becomes the bottom and bottom becomes the top. This allows the wing to form a leading edge vortex as it moves backward generating positive lift.

According to the simulation, the downstroke produces most of the thrust but that is only because the hummingbird puts more energy into it. The upstroke produces only 30 percent as much lift but it takes only 30 percent as much energy, making the upstroke equally as aerodynamically efficient as the more powerful downstroke.

Large birds, by contrast, generate almost all of their lift on the downstroke. They pull in their wings toward their bodies to reduce the amount of negative lift they produce while flapping upward.

Although hummingbirds are much larger than flying insects and stir up the air more violently as they move, the way that they fly is more closely related to insects than it is to other birds, according to the researchers.

Insects like dragonflies, houseflies and mosquitoes can also hover and dart forward and back and side to side. Although the construction of their wings is much different, consisting of a thin membrane stiffened by a system of veins, they also make use of unsteady airflow mechanisms to generate vortices that produce the lift they need to fly. Their wings are also capable of producing positive lift on both upstroke and downstroke.

To capture the details of the aerodynamics of the hummingbird's ability to hover, Tyson Hedrick, associate professor of biology at UNC, put tiny dabs of non-toxic paint at nine places on a female ruby-throated hummingbird's wing. Then he took high-speed videos at 1,000 frames per second with four cameras while the bird hovered in front of an artificial flower.

Then at Vanderbilt Haoxiang Luo, associate professor of mechanical engineering, and doctoral student Jialei Song took the video, extracted data on the position of the points in three dimensions and reconstructed the varying wing shape and position for a full flapping cycle.

Using the super-computers at the National Science Foundation's Extreme Science and Engineering Discovery Environment (XSEDE) and at Vanderbilt's Advanced Computing Center for Research and Education, the engineers created a fluid-dynamic model that simulated the thousands of tiny vortices that the hummingbird's wings create and so was able to reproduce the complex web of forces that allow these tiny miracles of nature to fly.

The research was funded by National Science Foundation grants CBET-0954381 and IOS-0920358.

Video: http://www.youtube.com/watch?v=Dg8xg4U7Xqs&list=UUtnWlJ_4k2E90luVGfeArdg