TC Energy splitting into two companies by spinning off liquids business

TC Energy splitting into two companies by spinning off liquids business

Amanda Stephenson, The Canadian Press

TC Energy to spin off liquids pipelines

TC Energy Corp. has announced plans to split into two separate companies by spinning off its crude oil pipelines business.

The Calgary-based pipeline giant made the announcement — which it called "transformational" — after the close of markets Thursday, one day before its scheduled conference call to discuss the company's second-quarter earnings.

According to the company, the transaction will be completed on a tax-free basis, and will result in the creation of two publicly traded companies. TC Energy will look more like a utility company, with a focus on natural gas infrastructure as well as nuclear, pumped hydro energy storage and new low-carbon energy opportunities.

The new liquids pipeline business will be headquartered in Calgary with an office in Houston, Texas. It will focus on enhancing the value of the company's existing 4,900 kilometres of crude oil pipelines, including the critical Keystone pipeline system which transports oil from Alberta to refining markets in the U.S. midwest and U.S. Gulf Coast.

In an interview, TC Energy CEO François Poirier said the company's board of directors has approved the plan, which comes as the result of a two-year strategic review. 

Poirier said now, more than ever, it's apparent that all types of energy are required to meet global demand. While TC Energy has its fingers in many different pies, from natural gas delivery to crude oil transport to nuclear through its part ownership of Ontario's Bruce Power, the company felt that separating its lines of business would allow for faster growth.

"When we took a step back and looked at all the opportunity we had in all of our franchises, it was way more than we could ... pursue as one company, given our financial and human capacity," Poirier said.

“It’s simply a case of having limited resources, and we feel like we can pursue a bigger percentage of our opportunity set as two different companies.”

Creating a pure-play natural gas and low-carbon business will help TC Energy attract new investors, Poirier said, though he emphasized that doesn't mean investors are shying away from crude oil pipelines.

"The shareholders of TC Energy today really like that (oil pipeline) business," he said. 

"It's just that there's been so much growth on the gas and low-carbon side of the business.'

Under the proposed transaction, TC Energy shareholders will retain their current ownership in TC Energy’s common shares and receive a pro-rata allocation of common shares in the new liquids pipelines company. The number of common shares in the new company to be distributed to TC Energy shareholders will be determined prior to the closing of the split.

The transaction is expected to be tax-free for TC Energy's Canadian and U.S. shareholders. Because that will require favourable rulings from U.S. and Canadian tax authorities which will take some time to achieve, Poirier said, a shareholder vote on the transaction won't be held until mid-2024. 

The transaction is expected to be complete by the end of 2024.

TC Energy has been under scrutiny by analysts and credit rating services this year for its significant debt load as well as for cost overruns on the Coastal GasLink project, which is currently nearing completion in B.C.

The projected cost of that project has grown to $14.5 billion, up significantly from a previous estimate of $11.2 billion and more than double the initial cost estimate of $6.2 billion.

On Monday, TC Energy announced it would sell off a 40 per cent stake in its Columbia Gas Transmission and Columbia Gulf Transmission systems to New York City-based Global Infrastructure Partners for $5.2 billion.

Poirier said he hopes to achieve an additional $3 billion in divestitures between now and the end of 2024, adding the funds will be used to pay down debt and clear the way for the growth of the two newly separated companies.

A portion of TC Energy's of long-term debt will be transferred to the liquids pipelines company on a cost-effective basis.

"We’re unlocking tremendous value, in my view, by creating two premium energy infrastructure companies," Poirier said.

Poirier will remain president and CEO of TC Energy, while Bevin Wirzba — currently executive vice-president and group executive for the company's natural gas and liquids pipelines — will become CEO of the new liquids pipelines company.

-------------------------------------

Source

https://www.bnnbloomberg.ca/tc-energy-splitting-into-two-companies-by-spinning-off-liquids-business-1.1951608

The Big Secret for the Small Investor by Joel Greenblatt

The Big Secret for the Small Investor by Joel Greenblatt

Joel Greenblatt explains why the average investor has an advantage over the pros with this introduction to investing. He covers the different methods for valuing a business, the limits of mutual funds, how different index fund weightings work, the (mis)behavior of investors, and why a long term perspective is so important.

The Notes

• Being a successful investor requires following a few simple concepts but most people won’t do it.
• “The secret to successful investing is to figure out the value of something — and then pay a lot less.”
• Margin of Safety: the difference between price and value, a larger difference means a larger margin of safety that protects investors from big losses due to unexpected events or valuation mistakes.
• “If we invest without understanding the value of what we’re buying, we’ll have little chance of making an intelligent investment.”
• The value of a business is not based on what happens each week or month, but what the business can earn over its lifetime, then discounted to today’s dollars.
• The idea behind valuing a business is to figure out what the future earnings will be and discount them to the present. That requires predicting future earnings and deciding on the appropriate rate to discount the earnings into today’s value.
• But, predicting business earnings far into the future is difficult, some businesses can be too complicated to make predictions on, and different discount rates can lead to a big difference in valuation.
• Small changes in earnings estimates, earnings growth rates, and the discount rate can produce extremely different business valuations.
• So earnings predictions and valuations are usually a guess.
• Relative Value: compare a business to similar companies — to see what they sell for, what price-to-earnings multiple do they trade at, what’s the growth rates, what’s the quality — to judge if it might be cheap or expensive.
• The downside of relative valuation is if an entire industry is mispriced — too cheap or too expensive — every company is often mispriced (See: Dot-com Bubble).
• Acquisition Value: what a business may be worth to another company due to potential cost savings from combining companies.
• Liquidation Value: the value of a business if all assets were sold, debt was paid off, and the remaining cash was distributed to shareholders. Liquidations don’t happen often.
• Sum-of-the-Parts Value: valuing different divisions of the business separately to get a total value for the business.
• Again, valuing a business is difficult.
• The alternative is to compare the potential earnings yield (Earnings/Price) of a company against the risk-free rate — 10-Year U.S. Treasury bonds.
  1. Compare the investment against the risk-free rate. Are you confident in your earnings estimate and does the investment offer a significantly higher return than the risk-free rate?
  2. Compare the investment against alternative investments?
  3. Note: If the risk-free rate is below 6%, Greenblatt uses 6% as a conservative minimum.
• If a company is too difficult to value, skip it.
• “In the stock market, no one forces you to invest. You have thousands of companies to choose from. I tell them the best course of action is to find the few companies where you have a good understanding of the business, the industry, and the future prospects for earnings. Then make your best estimates and comparisons for the handful of companies you can evaluate.”
• “To put the odds in your favor, you have to change the game.”
• How do you compete against the brains on Wall Street? Play a different game.
  • Small Caps: most small-cap companies are too small to move the needle in a big fund and research analysts don’t cover them.
  • Concentration: Since it’s hard to value businesses, stick to the few businesses you have a high degree of confidence in your valuation. Instead of buying your 50th best idea, focus on the handful you’re most confident in.
  • Special Situations: spinoffs, bankruptcy, restructuring, mergers, liquidations, asset sales, rights offerings, options…are usually avoided by average investors and funds. Best to only focus on special situations where the bargain is obvious. (may require more work, more time, and require special knowledge to navigate).
• “Ben Graham in his Intelligent Investor warned individual investors against trying to analyze individual stocks on their own by thinking they can succeed merely by bringing “a little extra knowledge and cleverness” to the investment process. He suggested that instead of realizing “a little better than normal results, you may well find that you have done worse.””
• It’s okay to admit valuing businesses is too hard.
• One alternative is to choose mutual funds:
  • Check the fees of mutual funds. Typically, funds that charge high fees, tend to underperform their benchmark indexes.
  • Check the number of stocks a fund holds. There are limits to how much of a company a fund can own and how much of a fund can be in one company.
  • Returns from a concentrated mutual fund, with a couple of dozen holdings, can vary widely compared to those of a highly diversified fund, with five hundred or more. The more concentrated the fund, the wider the range of potential returns.
  • Even a good fund manager, with a concentrated portfolio, can trail the market for a long time.
  • Fund managers have career risk so they tend to invest not to lose. They aren’t willing to risk their job on the chance of underperforming the market for years. So they settle for mediocre returns, which underperform the fund’s benchmark after fees.
  • “Most mutual fund managers are effectively shut out from their best chances to beat the market.”
  • Most fund managers fail to beat the market.
  • Newly hired managers typically had good recent performance while fired managers had poor recent performance. Research shows that fired managers go on to outperform hired managers.
  • Picking good fund managers is hard. Investors tend to pick managers with good recent performance and avoid those with poor recent performance, and the poor timing leaves them underperforming in the long run.
  • “Investing with the managers who have performed the best and attracted all the money is probably a great way to win the last war, just not a great strategy for beating the market going forward.”
• “…to beat the market…you must invest differently than the market. At a minimum, you can’t invest in exactly the same stocks in exactly the same proportion as a market index and still beat it!.. Even if a…strategy is sensible, stocks fluctuate at different times and in different ways, so long-term outperformance due to a strategy that differs from the index is almost always accompanied by lengthy periods of underperformance.”
• Greenblatt’s not a fan of using benchmarks to judge “good performance.” An investor or fund manager should be judged on their ability to produce meaningful returns above the risk-free rate after adjusting for risk (where risk is not volatility) based on an evaluation of their investment process. “This does not guarantee, however, that his returns will be better than the market’s. It only means that he has the talent to consistently add value above and beyond the risks taken.”
• “…markets are emotional. They often go to extremes of pessimism and optimism, and prices can and often do fluctuate wildly and significantly over short periods of time. (If you have doubts, a look at the range of prices for the individual stock of your choice over any fifty-two-week period should quickly confirm this!) But Graham pointed out that the long-term value of a business can’t possibly change as often and as drastically as changes in stock prices seem to indicate.”
• Markets are likely to reflect emotion in stock prices in the short term as people get excited about a company or dejected about a company.
• Cap weighted indexes create the effect of owning too much of the overpriced stocks and not enough of the bargain stocks.
• Equal weighted indexes randomize stock pricing errors since every stock is given the same weighting.
• Fundamentally weighted indexes weight stocks based on sales, earnings, book value, dividend yield, number of employees, or any other business metric. The weighting is an attempt to more closely represent the economic impact of each business. Market cap plays no part in the weighting.
• Value weighted indexes are a fundamentally weighted index that uses “value” metrics like the price to sales, earnings, book value, etc. with a goal of owning more of the bargain stocks and less of the overpriced stocks.
• “We’re practically hardwired from birth to be lousy investors.”
• We fear losses more than enjoy gains. Which leads to panic selling. It’s a survival instinct.
• The herd mentality drives us to seek comfort in groups. We buy when the crowd buys and sell when they sell.
• We put more weight on recent events — leads to avoiding recent poor performance and embracing recent good performance — buying high and selling low — of funds, stocks, etc.
• We think we’re above average, overconfident in our ability to pick stocks, funds, managers, etc.
• The goal should be to build a strategy that fits within your behavioral shortcomings but still takes advantage of the misbehavior of others.
• “The only reason the value strategy works is that we are systematically setting ourselves up to buy companies that most people don’t want.”
• Value strategies, like all strategies that work in the long run, don’t work every year. If it did, everyone would do it and it would stop working.
• Time Arbitrage: “…as the market has become more institutionalized and performance information and statistics have become more ubiquitous, the advantages for those who can maintain a long-term perspective have only grown.”
• Advantages of the individual investor:
  • No clients to answer to.
  • No short term performance updates to worry about.
  • No career risk — who’s gonna fire you?
  • Can pick the strategy they’re best able to stick with.
  • Can set the allocation that best fits their aversion to risk.
• “The main point is to have the right general principles and the character to stick to them.… The thing that I have been emphasizing in my own work for the last few years has been the group approach. To try to buy groups of stocks that meet some simple criterion for being undervalued—regardless of the industry and with very little attention to the individual company.… Imagine—there seems to be practically a foolproof way of getting good results out of common stock investment with a minimum of work. It seems too good to be true. But all I can tell you after 60 years of experience, it seems to stand up under any of the tests that I would make up.” — Benjamin Graham, from An Hour with Benjamin Graham

-------------------------------------------------

Source

https://novelinvestor.com/notes/the-big-secret-for-the-small-investor-by-joel-greenblatt/

Stocks of Interest

Stocks of Interest

At my age I've decided to tilt my retirement portfolio towards income stocks as the Canadian Government will soon force me to withdraw money from my RRSP on an annual basis. However I enjoy investing in the stock market so much that I like to keep my hand in the game so to speak. So here I've decided to list some stocks I find may make interesting growth opportunities in both the Canadian and the U.S. markets. Keep in mind the stocks listed below are not meant to be recommendations. You would have to do your own work there (value, fundamentals, etc...). It's just a way for me to keep track of things...

------------------------------------------

CAN

DSG

The Descartes Systems Group Inc. is a technology company. The Company provides on-demand, software-as-a-service solutions. Its solutions are cloud-based and are focused on the productivity, performance, and security of logistics-intensive businesses. Its software-as-a-service solutions are used by customers to route, schedule, track and measure delivery resources; plan, allocate and execute shipments; rate, audit, and pay transportation invoices; access global trade data; file customs and security documents for imports and exports; and complete numerous other logistics processes by participating in the collaborative multimodal logistics community. It provides solutions, such as business-to-business service connectivity and messaging, customs and regulatory compliance, broker and forwarder enterprise systems, global trade intelligence, e-commerce shipping, transportation management and routing. It also provides cloud-based final-mile carrier solutions and road safety compliance tools.

TSU

Trisura Group Ltd. is a Canada-based specialty insurance provider. The Company is engaged in operating in surety, risk solutions, corporate insurance, fronting, and reinsurance segments of the market. The Company, through its wholly owned subsidiaries, conducts insurance and reinsurance operations. The operations are primarily conducted in Canada (Trisura Canada), the United States (Trisura US) as well as Barbados (Trisura International). It operates through three segments. The operations of Trisura Canada consists of surety, risk solutions and corporate insurance products primarily underwritten in Canada. The operations of Trisura US provides specialty fronting insurance solutions underwritten in the United States. The operations of Trisura International comprises of the Company's international reinsurance operations. The main products offered by its surety business line are contract surety bonds, commercial surety bonds, developer surety bonds, and new home warranty insurance.

ATS

ATS Corporation (ATS), formerly ATS Automation Tooling Systems Inc., is a Canada-based automation solutions provider. ATS uses its knowledge base and global capabilities in custom automation, repeat automation, automation products and value-added services, including pre-automation and after-sales services, to address the sophisticated manufacturing automation systems. ATS also offers post automation services, including training, process optimization, preventative maintenance, emergency and on-call support, spare parts, retooling, retrofits and equipment relocation. It serves markets, including life sciences, which includes medical devices, pharmaceuticals, radiopharmaceuticals; food and beverage, which includes processing, packaging and filling for fresh produce and liquid food & beverage; energy, which includes oil and gas, in addition to nuclear, solar, and other green energy applications, and consumer products, which includes warehousing automation, cosmetics and others.

CJT

Cargojet Inc. is a Canada-based company, which is a provider of time-sensitive premium air cargo services to all major cities across North America. The Company also provides dedicated aircraft to customers on an aircraft, crew, maintenance and insurance (ACMI) basis, operating between points in Canada, the United States of America, Mexico, South America, Europe, and Asia. The Company operates scheduled international routes for multiple cargo customers between the United States of America and Bermuda, Canada, the United Kingdom, and Germany, and between Canada and Mexico. It offers ACMI, and international charter services and carries approximately 25,000,000 pounds of cargo weekly. It operates its network with its own fleet of 34 aircraft.

NXR.UN

Nexus Industrial REIT is a Canada-based real estate investment trust (REIT). The REIT is focused on increasing unitholder value through the acquisition of industrial properties located in primary and secondary markets in Canada and the United States, and the ownership and management of its portfolio of properties. Its owns a portfolio of approximately 109 properties comprising approximately 10.7 million square feet of gross leasable area. Its industrial properties include 5 Cuddy Boulevard, 11250-189 Street, 3501 Giffen Road North, 10774-42 Street SE and 261185 Wagon Wheel Way. Its office properties include 127-145 Rue Saint-Pierre, 360 Rue Notre-Dame West, 329 Rue De La Commune West and 353 Rue Saint Nicolas. Its retail properties include 401-571 Boulevard Jutras Est, 2000 Boulevard Louis-Frechette, 250 Boulevard Fiset and 240 Rue Victoria, 161-175 Route 230 Ouest and 8245 Boulevard Taschereau.

DFY

Discover Financial Services is a digital banking and payment services company. The Company is a bank holding company, as well as a financial holding company. The Company operates through two segments: Digital Banking and Payment Services. Its Digital Banking segment includes consumer banking and lending products, specifically Discover-branded credit cards issued to individuals on the Discover Network and other consumer banking products and services, including private student loans, personal loans, home loans and deposit products. Its Payment Services segment includes PULSE, Diners Club and its Network Partners business, which provides payment transaction processing and settlement services on the Discover Global Network. Its private student loans are primarily available to students attending eligible non-profit undergraduate and graduate schools. It also offers parent loans and certain post-graduate loans, including consolidation, bar study and residency loans.

AIF

Altus Group is a leading provider of asset and fund intelligence for commercial real estate. We deliver intelligence as a service to our global client base through a connected platform of industry-leading technology, advanced analytics, and advisory services. Trusted by the largest CRE leaders, our capabilities help commercial real estate investors, developers, proprietors, lenders, and advisors manage risks and improve performance returns throughout the asset and fund lifecycle. Altus Group is a global company headquartered in Toronto with approximately 2,900 employees across North America, EMEA and Asia Pacific. For more information about Altus (TSX: AIF) please visit altusgroup.com.

--------------------------------------

US

POWI

Power Integrations, Inc. designs, develops and markets analog and mixed-signal integrated circuits (ICs) and other electronic components and circuitry used in high-voltage power conversion. The Company's products are used in power converters that convert electricity from a high-voltage source to the type of power required for a specified downstream use. The Company's ICs used in alternating current (AC)-direct current (DC) power supply convert high-voltage AC from a wall outlet to the low-voltage DC required by electronic devices. The Company offers a range of products, such as TOPSwitch, TinySwitch, LinkSwitch and Hiper families. It also offers CapZero and SenZero families. The Company offers a range of high-voltage gate-driver products sold under the SCALE and SCALE-II product-family names. The BridgeSwitch family of products is a family of motor-driver ICs addressing brushless DC (BLDC) motor applications up to approximately 400 watts.

ALGN

Align Technology, Inc. is a medical device company. The Company is primarily engaged in the design, manufacture and marketing of Invisalign clear aligners for the treatment of malocclusions, or the misalignment of teeth, by orthodontists and general dental practitioners (GPs), Vivera retainers for retention, iTero intraoral scanners and services for dentistry, and exocad computer-aided design and computer-aided manufacturing (CAD/CAM) software. It operates through two segments: Clear Aligner and Imaging Systems and CAD/CAM Services (Systems and Services). Its Clear Aligner segment consists of Comprehensive Products, which includes Invisalign Comprehensive and Invisalign First; Non-Comprehensive Products, which includes Invisalign Moderate, Lite and Express packages and Invisalign Go, and Non-Case products, which include retention products, Invisalign training, adjusting tools used by dental professionals. Its Systems and Services segment consists of iTero intraoral scanning systems.

EW

Edwards Lifesciences Corporation is a manufacturer of heart valve systems and repair products used to replace or repair a patient's diseased or defective heart valve. The Company's products and technologies are categorized into four main areas: Transcatheter Aortic Valve Replacement, Transcatheter Mitral and Tricuspid Therapies, Surgical Structural Heart, and Critical Care. It also develops hemodynamic and noninvasive brain and tissue oxygenation monitoring systems that are used to measure a patient's cardiovascular function in the hospital setting. The Edwards SAPIEN family of valves, including the Edwards SAPIEN XT, the Edwards SAPIEN 3, and the Edwards SAPIEN 3 Ultra transcatheter aortic heart valves are used to treat heart valve disease. It conducts operations worldwide and is managed in various geographical regions, including the United States, Europe, Japan, and the Rest of the World. It sells products that are used to treat advanced cardiovascular disease in all regions.

VNT

Vontier Corporation is a global industrial technology company. The Company is engaged in mobility and multi-energy technologies and solutions to meet the needs of a mobility ecosystem. Its Mobility Technologies businesses focus on integrated fueling solutions, retail solutions, alternative energy solutions, data-driven fleet and mobile asset management, and smart city infrastructure. Its Diagnostics and Repair Technologies business manufactures and distributes vehicle repair tools, toolboxes and automotive diagnostic equipment and software, and a full line of wheel-service equipment. The Company’s brands include driivz, DRB, Gilbarco Veeder-Root, Hennessy Industries, Matco Tools, Sparkion, and Teletrac Navman. Gilbarco Veeder-Root is engaged in providing integrated retail and commercial fueling solutions. Matco Tools manufactures, distributes, and services quality professional automotive repair and maintenance tools and equipment.

------------------------------------------------------------

Andrew Pink's Top Picks: July 6, 2023

Andrew Pink's Top Picks: July 6, 2023

BNN Bloomberg

 Andrew Pink's Top Picks

MARKET OUTLOOK:

We expect equity markets to remain volatile. There will be sector rotation and narrow markets until the U.S. Federal Reserve sees a path to its target inflation rate and stops increasing interest rates. When rates plateau and certainty is restored, there will be a basis for the yield curve to resume a more normal shape.

We believe equities will move higher once interest rate visibility is restored, and some of the $5 trillion parked on the sidelines will come out of GICs and short-term ETFs and back into equities.

Also helpful would be an improvement to global growth forecasts perhaps driven by stimulus in China. Until inflation is contained, there is a risk of a hard landing for markets if central banks raise rates so high that consumer spending is dramatically reduced. China has just begun cutting interest rates. Equity markets will react favourably if the rest of the world were to follow suit over the next 12-18 months.

 TOP PICKS:

Exchange Income (EIF TSX)

Exchange Income is a Winnipeg-based diversified industrial company focused on the acquisition and development of profitable and well-established companies in Aviation Services, Aerospace and Specialty Manufacturing. The company pays a healthy dividend and has a disciplined approach to acquisition valuation and financing. Establishing long-term partnerships with mature businesses has generated consistent free cash flow growth. This has fueled a five per cent annualized dividend CAGR for the past 19 years and has resulted in an average annual share price total return of more than 20 per cent. 

Nexus Industrial REIT (NXR.UN TSX)

Nexus is a diversified REIT that owns industrial, office and retail properties across Canada. The company has recently increased its ownership in the growth-oriented industrials segment, which now makes up more than 90 per cent of net operating income. Its seasoned management team has secured a strategic relationship with RFA Capital which we expect to underpin its ambitious growth strategy over time. We believe Nexus is undervalued and should command a multiple consistent with its peers considering its high-quality assets, key geographic footprint, and opportunities for growth in its core markets.

TD Bank (TD TSX)

The second largest Canadian bank by market capitalization, TD has done a commendable job establishing a significant U.S. retail banking franchise that we expect will generate out-sized returns compared to its domestic peers over time. Despite its best efforts, TD was unsuccessful in its most recent acquisition attempt for First Horizon North, a large U.S. regional banking peer. Although not the desired outcome, with $16 billion in excess capital, the highest reserve capital of the Canadian banks, TD is well positioned to pursue other U.S. acquisitions, invest for organic growth, buy back stock and/or increase the dividend.  Typically trading at a mid-single-digit premium to domestic peers, uncertainty related to this acquisition has created a rare opportunity to invest in this high-quality bank at a meaningful discount.     

 

DISCLOSURE	PERSONAL	FAMILY	PORTFOLIO/FUND
EIF TSX	Y	Y	Y
NXR.UN TSX	Y	Y	Y
TD TSX	Y	Y	Y

 --------------------------------------------------------------

Source

https://www.bnnbloomberg.ca/andrew-pink-s-top-picks-july-6-2023-1.1942329

Banks Create Money out of Thin Air. What Could Possibly Go Wrong?

Banks Create Money out of Thin Air. What Could Possibly Go Wrong?

Tags Booms and BustsThe FedInflationMoney and BanksMoney and Banking

• Lee esto en Español

You might rightfully wonder: How can a bank, like the neighborhood bank down the street, “create money out of thin air”?

To answer that question, we must enter the magical kingdom of “fractional-reserve banking,” where deposits are turned into loans, loans are turned into money, and so on. For every old dollar that goes in, nine new dollars come out, created with the stroke of a pen or the click of a mouse. As you may be aware, general deposits are loans by the bank depositor to the bank. However, banks can spin new loans out of old loans, creating a wheel of fortune by lending the same dollar to nine different customers—a feat that, to the uninitiated, is equally quite amazing and frightening!

This financial alchemy is perfectly legal and is in fact carried out with the aid and assistance of central banks everywhere, including our own Federal Reserve. If this wheel of fortune should hit a bump in the road and suddenly fall off its axle, causing the bank to crash, don’t worry because a central bank can do what no one else can legally do: counterfeit new money to set things right, a feat that “all the king’s horses and all the king’s men” cannot do!

Let’s take a closer look at how fractional-reserve banking works. Customer A deposits $10,000 in a checking account at First Bank. First Bank records the cash in its books and credits customer A’s account. The cash is an asset of the bank (a credit), which is offset by the liability to customer A (a debit). First Bank now has cash to lend, subject to government reserve requirements. Reserve requirements, which are established by the Fed, specify the amount (expressed as a percentage of deposits) that a lending institution must hold in reserve, either as vault cash or on deposit with a Federal Reserve bank, in order to guarantee payment of customers’ deposits. The reserve requirement for “reservable” deposits greater than $36.1 million (as of January 3, 2023) at any lending institution has been traditionally 10 percent. As a result, First Bank is free to lend $9,000 of the deposited money, keeping $1,000 in reserve.

Customer B comes into First Bank seeking a car loan. First Bank agrees to lend customer B $9,000. First Bank credits customer B’s checking account for $9,000 and debits an asset account called “loans receivable.” As you will recall, bank loans to customers are “investments” and, therefore, are assets—not liabilities.

At the completion of these two transactions, First Bank’s statement of financial condition would look like this (for simplicity, I have assumed no other transactions).

Table 1: Statement of financial condition of First Bank, December 31, 2022

	Assets (Credits)	Liabilities and equity (Debits)
Cash	$10,000
Loans receivable	$9,000
Deposit liabilities		$19,000
Reserves	$1,000
Bank equity		$1,000
Totals	$20,000	$20,000

Notice that the bank has deposit liabilities of $19,000 and cash on hand of $10,000. Let’s assume that the loan to customer B is for three years, payable with interest in monthly installments. The demand deposits (checking account balances) include the original deposit of $10,000 from customer A plus the proceeds of the loan to customer B of $9,000. Presumably, customer B will spend the loan money on a car in the next few days. Where did the loan money credited to customer B’s checking account come from? Out of thin air!

The wheel turns again when the car dealer deposits the $9,000 proceeds in his bank, Second Bank. Now Second Bank, like First Bank, is free to make loans, subject to the 10 percent reserve requirement. When the wheel finally stops turning, loans of $90,000 have been created on a cash base of just $10,000. As we have seen, that cash is itself a chimera—nothing more than debt wrapped inside more debt.

Table 2: Fractional-reserve banking

Bank	Deposits	Reserves (10 percent)	Loans
First	$10,000	$1,000	$9,000
Second	$9,000	$900	$8,100
Third	$8,100	$810	$7,290
Fourth	$7,290	$729	$6,561
Fifth	$6,561	$656	$5,905
Remaining banks	$59,049	$5,905	$53,144
Totals	$100,000	$10,000	$90,000

The table above demonstrates that banks can expand the money supply by a factor of ten when the reserve requirement is 10 percent. Historically, the United States reserve requirement has been 10 percent on transaction deposits, such as checking and negotiable order of withdrawal accounts (M1) deposits, and 0 percent on time deposits, such as deposits into savings accounts and certificates of deposit. The 0 percent reserve requirement on time deposits enables banks to expand the money supply by more than a factor of ten.

Some would argue that banks are not really “insolvent,” just at times illiquid—not always having ready cash when needed. However, that’s true only if we consider just one or a few banks at a time. Any bank having a temporary shortage of cash could always borrow the needed funds to make up for the temporary cash shortage. The problem, however, is that all banks are illiquid and, when pricked by some general financial shock, can easily slip into insolvency.

When the reserve ratio is 10 percent, total deposits are reduced by ten dollars for every dollar withdrawn from the banking system. Banks then have to call in loans or sell securities to cover their depositor’s demands for money. This “liquidity crisis” is the reason behind most financial “panics,” bank runs, and similar economic disturbances. It’s “debt on the way down,” but this time on a grand scale!

Effective March 26, 2020, the Federal Reserve reduced bank reserve requirements, get this, to zero! Even prior to this change, reserve requirements only applied to transaction accounts, nonpersonal time deposits, and Eurocurrency liabilities. Everything else was “jokers are wild.” Thus, banks could create as much funny money as the traffic would bear. When reserve requirements are zero, the ability to create money is infinite!

The Fed’s money manipulation is the root cause of our economic problems. Bubbles in housing prices, United States Treasury notes and bonds, and cryptocurrencies—to give but a few examples—and the recent failures of the Silicon Valley, Republic, and Signature banks can all be traced to our monetary policies.

The fundamental issue for most banks is that they are forced to invest “long” but borrow “short,” something no prudent finance manager would ever do. Checking and other demand deposits are short-term liabilities of the bank. Bank loans, such as car loans, are intermediate-term investments. Mortgage loans are long-term investments. Banks also invest in government securities to balance their investment loan portfolio. Investing “long,” however, subjects the bank to interest-rate risks because the value of their investment loan portfolio is inversely related to changes in interest rates. A thirty-year mortgage loan yielding 2 percent is only worth a fraction of a similar loan yielding 6 percent. To be more precise, a $100,000 investment in such an instrument would be worth only $44,280 if interest rates were to rise to 6 percent. If interest rates rise to 8 percent, the value would fall to $31,768, according to the bond price calculator.

Therein lies the trap that Silicon Valley Bank (SVB) fell into—with disastrous results. It’s the trap set by the very nature of fractional-reserve banking:

Over a period of just two days in March 2023, the bank went from solvent to broke as depositors rushed to SVB to withdraw their funds, resulting in federal regulators closing the bank for good on March 10, 2023.

SVB’s collapse marked the second largest bank failure in U.S. history after Washington Mutual’s in 2008.

That money created out of thin air should one day evaporate before our eyes should surprise no one, except perhaps Paul Krugman and his fellow court jesters at the New York Times. The endless cycles of boom and bust are a direct result of government manipulation of the money supply. It’s really that profound and that simple.

Stephen Apolito

Stephen Apolito is a CPA living in Bronxville, New York. A veteran of the US Air Force, Apolito is a graduate of Washington and Lee University and has taught in the New York City public schools.

June 22, 2023

---------------------------------------------------------

Source

https://mises.org/wire/banks-create-money-out-thin-air-what-could-possibly-go-wrong