Difficult choices in difficult times
12 May 2020
COVID-19 acted as a wrecking ball smashing through carefully constructed economies. Now, governments have the unenviable task of picking up the pieces. But, who should be saved?
Image: Shutterstock
There are countless examples of the conundrum where the challenge is to save everyone, but you have limited resources to achieve it. There are three people in a crashing plane but only two parachutes or a sinking ship without enough lifejackets. Or a global economy without enough cash.
The current crisis, brought about by the outbreak of a novel virus, has created almost unimaginable personal difficulties across the entire world, seemingly irrespective of education, wealth or location. These unprecedented problems have confronted the world’s politicians and leaders with issues they would not have dreamt of, perhaps even six months ago. The differences in responses and approaches across the world are stark, but one common thread may be apparent: when resources are finite, which parts of your economy do you save?
In the financial crisis of 2007 and the years that followed, the term GSIFI – or Global Systemically Important Financial Institution – was born. When the financial system was under threat of collapse, providing financial support for a handful of the central counterparties to halt the contagion threatening thousands of others seemed the right thing to do. When the world economy is at risk, and there is only so much assistance to go around, the choices may be more difficult.
Saving people’s homes from repossession would involve buying up mortgage-backed debt, guaranteeing loans and encouraging lenders to increase their capacity for debt forgiveness. This has been a characteristic of the financial responses from some governments and no doubt welcomed by millions of registered voters across the spectrum, and not just a few speculators who bought up risky debt only to then see it soar as the authorities stepped in. However, when it comes to industries to save, should the government support the independent coffee shop, or the global airline?
Airlines are a key example: the market demand for their service, whether it be for holidays or business travel, disappeared almost overnight. Thousands of planes stand idle and tens of thousands of staff are furloughed or laid off. The crisis has already claimed some casualties, with Flybe Group PLC in the UK among the first, although it was arguably already close to failure. Virgin Australia has opted for voluntary administration, having failed to win government backing to keep it flying, in the hope that the business can be resuscitated in the future.
As the pandemic unfolded, it was logical to take short positions in any security that was travel or hospitality related while taking long positions in home entertainment, streaming content or delivery services. Short sellers were quick to act, increasing their positions in airlines around the world. The graph below shows a sample of four airlines that were chosen, in part, due to their differing situations and outcomes. Delta Airlines has seen significantly less activity from short sellers, despite its share price collapsing almost two-thirds from the 12-month high of over $63 to a low of around $19 in mid-March. This was followed quickly by a spike to over $31 as a lifeline of $5.4 billion was announced as part of the $2.1 trillion US CARES Act. The boost did not last long, however, as the market digested the reality of how long the support may last. The shares fell back to around $22 the following week.
American Airlines share price dropped almost 75 percent from the 12-month peak of $34.99 to a low of just $9.09 and followed the same flight path as Delta, gaining over 50 percent on the announcement that the US government was going to grant them $4.1 billion, topped up with a low interest loan of $1.7 billion as part of the CARES Act. Again, it was a short respite only as the shares were back at around $10 apiece at the end of the following week.
Norwegian Airlines, the Oslo-based economy provider which had been expanding rapidly into a global player had already been the target of short sellers before the pandemic began. With its wings severely clipped, Norwegian has retreated to the Scandinavian short-haul market and grounded the majority of its fleet potentially until Q2 2021. Seeking a debt for equity swap of around $1.2 billion, the airline is trying to set itself up for government support in the future. The share price has suffered significant turbulence in the last year, collapsing from as high as $5.4 to closing at just $0.56 as of the week ending 24 April.
Finally, Virgin Australia, which has suffered the publicity hit from a double whammy of its association with a billionaire (part) owner and seeking government assistance to survive. Short interest activity jumped alongside that of the other airlines, both in this sample and across the wider industry, as the company took the option to enter administration, sacrificing short-term position for what it hopes will be long-term survival.
With significant programmes of financial support from governments, some industries will survive, perhaps not in the form they were, and many might argue that is not a bad thing regarding airlines looking up at the clear blue skies we have now. However, not everyone on the burning plane or sinking ship can be saved, and those in charge must choose between industries with the greatest employment capacity, most tax take, most important for national security, the production of food or medical services.
With government support inconsistent across the world, identifying industries that will be selected for support is hard; different political leanings will no doubt be behind some of the decisions taken so far and perhaps those in the future, and the differing treatment of airline companies illustrates that. The levels of short interest activity have provided some degree of consensus, but it has also proved just how hard it is to predict certain outcomes in very uncertain times. Perhaps “insert the buckle and adjust the strap tight” is the best option for all of us right now.
Figure 1 Source: FIS Astec Analytics
Borrow volume for airlines, April 2018 to 2020
The current crisis, brought about by the outbreak of a novel virus, has created almost unimaginable personal difficulties across the entire world, seemingly irrespective of education, wealth or location. These unprecedented problems have confronted the world’s politicians and leaders with issues they would not have dreamt of, perhaps even six months ago. The differences in responses and approaches across the world are stark, but one common thread may be apparent: when resources are finite, which parts of your economy do you save?
In the financial crisis of 2007 and the years that followed, the term GSIFI – or Global Systemically Important Financial Institution – was born. When the financial system was under threat of collapse, providing financial support for a handful of the central counterparties to halt the contagion threatening thousands of others seemed the right thing to do. When the world economy is at risk, and there is only so much assistance to go around, the choices may be more difficult.
Saving people’s homes from repossession would involve buying up mortgage-backed debt, guaranteeing loans and encouraging lenders to increase their capacity for debt forgiveness. This has been a characteristic of the financial responses from some governments and no doubt welcomed by millions of registered voters across the spectrum, and not just a few speculators who bought up risky debt only to then see it soar as the authorities stepped in. However, when it comes to industries to save, should the government support the independent coffee shop, or the global airline?
Airlines are a key example: the market demand for their service, whether it be for holidays or business travel, disappeared almost overnight. Thousands of planes stand idle and tens of thousands of staff are furloughed or laid off. The crisis has already claimed some casualties, with Flybe Group PLC in the UK among the first, although it was arguably already close to failure. Virgin Australia has opted for voluntary administration, having failed to win government backing to keep it flying, in the hope that the business can be resuscitated in the future.
As the pandemic unfolded, it was logical to take short positions in any security that was travel or hospitality related while taking long positions in home entertainment, streaming content or delivery services. Short sellers were quick to act, increasing their positions in airlines around the world. The graph below shows a sample of four airlines that were chosen, in part, due to their differing situations and outcomes. Delta Airlines has seen significantly less activity from short sellers, despite its share price collapsing almost two-thirds from the 12-month high of over $63 to a low of around $19 in mid-March. This was followed quickly by a spike to over $31 as a lifeline of $5.4 billion was announced as part of the $2.1 trillion US CARES Act. The boost did not last long, however, as the market digested the reality of how long the support may last. The shares fell back to around $22 the following week.
American Airlines share price dropped almost 75 percent from the 12-month peak of $34.99 to a low of just $9.09 and followed the same flight path as Delta, gaining over 50 percent on the announcement that the US government was going to grant them $4.1 billion, topped up with a low interest loan of $1.7 billion as part of the CARES Act. Again, it was a short respite only as the shares were back at around $10 apiece at the end of the following week.
Norwegian Airlines, the Oslo-based economy provider which had been expanding rapidly into a global player had already been the target of short sellers before the pandemic began. With its wings severely clipped, Norwegian has retreated to the Scandinavian short-haul market and grounded the majority of its fleet potentially until Q2 2021. Seeking a debt for equity swap of around $1.2 billion, the airline is trying to set itself up for government support in the future. The share price has suffered significant turbulence in the last year, collapsing from as high as $5.4 to closing at just $0.56 as of the week ending 24 April.
Finally, Virgin Australia, which has suffered the publicity hit from a double whammy of its association with a billionaire (part) owner and seeking government assistance to survive. Short interest activity jumped alongside that of the other airlines, both in this sample and across the wider industry, as the company took the option to enter administration, sacrificing short-term position for what it hopes will be long-term survival.
With significant programmes of financial support from governments, some industries will survive, perhaps not in the form they were, and many might argue that is not a bad thing regarding airlines looking up at the clear blue skies we have now. However, not everyone on the burning plane or sinking ship can be saved, and those in charge must choose between industries with the greatest employment capacity, most tax take, most important for national security, the production of food or medical services.
With government support inconsistent across the world, identifying industries that will be selected for support is hard; different political leanings will no doubt be behind some of the decisions taken so far and perhaps those in the future, and the differing treatment of airline companies illustrates that. The levels of short interest activity have provided some degree of consensus, but it has also proved just how hard it is to predict certain outcomes in very uncertain times. Perhaps “insert the buckle and adjust the strap tight” is the best option for all of us right now.
Figure 1 Source: FIS Astec Analytics
Borrow volume for airlines, April 2018 to 2020
NO FEE, NO RISK
100% ON RETURNS If you invest in only one securities finance news source this year, make sure it is your free subscription to Securities Finance Times
100% ON RETURNS If you invest in only one securities finance news source this year, make sure it is your free subscription to Securities Finance Times
