On May 18, the DoD released its “Annual Report to Congress: Military and Security Developments Involving the People’s Republic of China.” We appreciate some investors’ views that there is no way the U.S. become directly tangled up in a military conflict with China but, regardless, China and the U.S are militarily competing against one another and this is shaping defense expenditures in the U.S. and Asia. Some takeaways from our reading of the report:

• The report notes that “Analysis of 2000-11 data indicates China’s officially disclosed military budget grew at an average of 11.8% per year in inflation-adjusted terms over the period.” DoD doesn’t reference this but, per the IMF, China’s GDP grew at 11.4% over this period.
• The appendix of the report has a fairly comprehensive discussion of major China defense modernization programs, but doesn’t place some of these in the context of annual build rates and future year procurement plans.
• The report underscores China’s defense focus on Taiwan but says little about South China Sea, the Korean peninsula, or other contingencies that are important to drivers of China’s defense modernization efforts.
• The Report states that, “One of the PRC’s stated national security objectives is to leverage legally and illegally acquired dual-use and military-related technologies to its advantage. China has a long history of cooperation between its civilian and military sectors and openly espouses the need to exploit civilian technologies for use in its military modernization. In this context, the cumulative effect of U.S. dual-use technology transfers to China could also make a substantial material contribution to its military capabilities. ” But that’s about it in terms of any reference to China’s technical and industrial development and how this impacts its future ability to generate military power. We strongly believe that a potential “surprise” for the U.S. defense in 2013-15 is that China successfully exploits it extensive cyber-espionage efforts and unveils new weapons systems that are on par with U.S. systems.
• There are references to a number of “self identified” limitations, particularly in China’s ground forces, but progress continues on correcting these.
• “Over the past two year, China has also conducted increasingly complex close proximity operations between satellites while offering little in the way of transparency or explanation.” But the report also notes challenges in systems reliability and problems with its standard launch platform.

At a minimum, now gone are hopes that the Federal Reserve Board might delay release or reproposal of regs implementing the Dodd Frank Act’s (DFA) ban on proprietary trading (aka the “Volcker Rule”) into late fall.  This has upended, virtually overnight, what had emerged as a positive story line in early spring.   Two competing takes had framed the envelope of thinking on Volcker, as an industry and even international pushback had gained momentum:  One top Wall Street analyst had written that the rule was “all but dead”; another that it not only wasn’t dead, but would ultimately emerge far  tougher than expected.  [CAP has been 40-yard line on the side of the latter.]  And, of course,  the prospect of a delay on finalization past November had even produced hope that a new Republican White House and/or Senate might exert body language or even threat of repeal, compelling the Fed and other regulators to materially soften the final rule even more.

To the extent that there was optimism toward banks and financials through early April, when fears of economic weakness and Euro-exposure returned, the fact that the sanguine take on Volcker was winning out among top institutional investors was at least part of the story.

Now, however, the situation is likely to prove different.  Regulators are under significant political pressure from Hill Democrats to post a hardened, not softened, set of proprietary trading curbs as close as possible to the July 21 Dodd-Frank deadline (that they’ve already telegraphed they will miss).   Veteran observers believe that this will make consensus even harder to reach among regulators, who will want to avoid issuing a significant final rule during the height of an election campaign in which the sitting president has made financial regulation one of his top issues.   As these conflicting forces play out, industry-friendly Republicans and likely GOP presidential nominee Mitt Romney will almost certainly be challenged to defend their previous attacks on the DFA.

Bank officials and lobbyists are now bracing for being villainized again, on the campaign trail if not on Capitol Hill.  Most notably, Massachusetts’ Democratic Senate candidate Elizabeth Warren has called not only for the stiffening of the Volcker Rule but restoration of Glass-Steagall and JPM Chairman Jamie Dimon’s firing from the board of the New York Fed.   [Amusingly, her negative reference to Dimon's participation in the Fed bank's bailout of AIG seemed to ignore that Treasury Secretary Tim Geithner had principally orchestrated the AIG fix as New York Fed head in 2008.]  Meanwhile, Sen. Carl  Levin (D-MI), who along with Sen. Jeff Merkley (D-OR) authored the amendment  attaching the Volcker curbs to Dodd-Frank in 2010, took several swings at hedging “gambles” by “too big to fail banks” that “added rather than reduced risks.”

The President, himself (who not only used to host Dimon at the White House but we find out has a JPM bank account), was far more measured and restrained in his comments.  Obama referred to JPM as “one of the best managed banks” and largely refrained from any new bank-bashing, even while news reports suggested that his advisors are hastily reviewing whether additional steps might be needed to shore up confidence in the effectiveness of Dodd-Frank and his administration’s response to the financial crisis.

With the presidential race having tightened, one could read into this that Obama and his advisors might not only be mindful of how poorly bank-bashing worked for them during the 2010 election cycle, but also that: 1) they need banks to lend, not pull back, so as not to threaten the already-weak economy heading toward Election Day; and 2) POTUS is once again seeking campaign contributions from Wall Street.

Nevertheless, as sources recall with a shiver how the White House turned on a dime, and against the industry, within hours of Sen. Scott Brown’s (R-MA) surprise special election victory in January 2010, there is at least some fear that the “dark forces” could yet see Obama launch another round of fresh challenges and hostile rhetoric toward the industry, in an effort to cast Republicans as resistant and gin up his liberal base.

Ultimately, while the Fed will be exhorted to totally eliminate the “portfolio hedging” exemption allowed under Volcker’s prop trading ban, we believe the Board is more likely to impose additional restrictions or limitations instead.   [As a reminder, market-making will be allowed, although related profits and risk would be heavily monitored; hedging on individual positions would also be okay, although the breadth of "aggregate" position hedging is now heavily in question.]  Meanwhile, though there will be calls in Congress to enact even further restrictions, those will almost certainly go nowhere, as Republicans will resist and the White House might ultimately prove reticent  to admit shortcomings in the law it passed when Democrats controlled both sides of Capitol Hill.

An unheralded impact may be on the implementation of key derivatives provisions.  Without the prospect of legislation  to eliminate the Lincoln “push-out” amendment (forcing derivatives trading out of banks and perhaps into less-profitable holding company affiliates) or to limit the extraterritorial application of Volcker and new derivatives rules, regulators will have a harder time reaching a policy outcome that will ensure a level playing field for U.S. banks active in Europe and Asia.

Just as importantly, it will now be much harder for the OCC to update the list of permissible investments for a national bank, which is now the only way to reduce significantly the number of derivative classes of assets that must be spun-out of the bank.  This could cause complications for GS, BAC, and MS, who would otherwise have benefitted from allowing their derivatives positions to be based inside their bank structures.

America’s “Big Four” commercial banks and two remaining global investment banks need that like a hole in the head.

In any event, we now face inevitable House and Senate hearings.  And as we also await the next move from the White House and bank regulators, the debate over whether Volcker, fully implemented, would or would not have prevented JPM’s  delayed-fuse-but-now-exploding humiliation, thanks to the doubled-down bad CDS investments of its “London Whale” trader, might only be expected to make the banking group seem  un-investible over the near term.

1. Expected vs. Actual Loss Ratios: From 2000 to 2011, Assurant’s actual loss ratio was less than 25% (despite having filed expected loss ratios in the 50’s).  Lawsky indicated that NY should consider imposing a required minimum loss ratio (as is the case for health insurance).

He also mentioned the possibility of requiring refunds, but noted that would be more difficult in the case of FPI.

2. Affiliated relationships: Lawsky indicated that the normal market conditions do not appear to exist in the FPI marketplace because of:

unusual affiliated relationships where insurers send up to 75% of premiums back to the mortgage servicer (as in the case of JPM and Assurant) via commissions or other payments,

the incentives for competition appear to be “inverted,” due to a lack of competition in the marketplace, as AIZ and QBE have over 93% market share in NY.

3. FPI over-coverage and high premiums appear to have contributed to higher foreclosure rates and increased losses on RMBS.  FPI increased 256% from 2004 to 2010.

4. FPI Practices: Several of the first witnesses recounted problems with lack of sufficient notice and retroactive policies.  These seem to indicate that NY may consider certain minimum periods of time to provide written notice before allowing a forced-placement and more importantly, allow for prompt cessation of the FPI policy once the homeowner resumes payment (as opposed to retroactive or duplicative coverage).

5. Lawsky indicated that he intended to investigate these problems thoroughly (beyond the three scheduled days of hearings) before reaching any conclusions, but it was very apparent that he was likely to adopt policies to address high premiums (and coverages), affiliated relationships, and minimum loss ratios.

6. During the balance of the hearing, Superintendent Lawsky will hear from FPI policy experts, consumer advocates, and from representatives of Assurant and QBE.  On Friday, the hearings will include witnesses from Chase Insurance Agency, Banc One Insurance, Bank of America, and Balboa Insurance Company.  On Monday, May 21, GMAC Mortgage, American Home Mortgage Servicing and AHSMI Insurance Agency will testify.

7. As we noted on May 1st, the NY hearings are just one of several policy processes that we believe will result in a secular decline for the FPI industry, as placement rates and premiums will decline and restrictions on practices and limitations on procedures will further depress profit margins.  Finally, the CFPB rules could even mandate continuation of the original policies, threatening the very existence of the FPI industry in most cases.

In this inaugural installation of Telecom Field Notes, we initiate distribution of brief memos distilling our observations and takeaways from Washington telecom events of interest to investors.

Highlights

• We attended a House Communications Subcommittee oversight hearing this morning for color on a recent NTIA directive for broadband stimulus recipients to suspend purchase of public safety LTE equipment pending establishment of the new federal public safety network program enacted this February (FirstNet).
• We see vendors still in flux as no testimony or comments at the hearing provided any new incremental information on how long the suspension might last, though we note there are certain near-term milestones this summer in the FirstNet process.
• Our view is that the long-dated nature of FirstNet’s ramp-up means that new greenfield spend might not happen until 2013 or 2014 at the earliest, leaving pending legacy projects in the lurch as new — and potentially conflicting — standards are created.

Discussion

We attended a House Communications Subcommittee oversight hearing this morning on broadband-related loans and grants from the 2009 stimulus program (witness list, prepared testimony, and more info here).

We previously thought the investment story related to broadband stimulus had long played out, but recent action out of the National Telecommunications and Information Administration (NTIA) to delay LTE spend on previously-approved stimulus projects for public safety networks has raised investor concern.

These seven projects total $382 million and are in the states of California (two), Colorado, Mississippi, New Jersey, New Mexico, and North Carolina.

The federal bureaucracy is slowly mobilizing to implement the $7 billion nationwide public safety network program enacted by Congress in February and integrate it with local projects previously approved by the FCC (through waiver) and/or funded by NTIA (from the stimulus).

The primary problem is that the new First Responder Network Authority (FirstNet) itself and related processes and standards have not yet been established — leaving FCC waiver jurisdictions and NTIA stimulus projects in flux pending the creation of the new organization.

We watched the hearing for more color on NTIA Assistant Secretary Larry Strickling’s order to suspend the purchase of LTE equipment and any near-term catalysts that might lift the suspension.

No testimony or comments at hearing gave us new incremental information on how long the suspension might last, though critical members suggested it could be 18-24 months. We suspect this is exaggeration, but our house view has been that the deadlines set up in the statute mean that money flowing to new greenfield FirstNet-related projects might not happen until 2013 or 2014.

Strickling testified that site preparation and acquisition as well as work on supporting network elements such as backhaul can still continue for the stimulus projects in spite of the LTE suspension.  The award participants have been given 45 days to propose a plan to proceed. He stated a primary concern that taxpayer-funded assets not become “stranded” by incompatible standards that may be created by FirstNet.

The NTIA is also working with the White House Office of Management and Budget to extend the deadline for stimulus spend from the statutorily-set date in September 2013.

He gave no indication as to what milestones must occur in the near term to lift the suspension, but we note increasing political pressure from members of Congress with projects in their districts.

We also note three important dates this summer that could inform NTIA decision-making, though comments from Strickling suggest they are incremental milestones in the long-dated FirstNet process that may not necessarily change NTIA decisions for the stimulus projects.

May 22: The FCC’s Technical Advisory Board (TAB) for First Responder Interoperability must submit minimum technical requirements (based on LTE) for nationwide interoperability

June 21: The FCC must approve these requirements as-is or with revisions

July 6: The TAB dissolves

Capital Alpha clients may download the May edition of the Capital Alpha Telecom Scorecard here and the latest telecom sector briefing deck here.

For password assistance, contact Rich Linville at richard.linville@capalphadc.comor Tom Butler at tom.butler@capalphadc.com.

Investment Thesis

Legislation enacted this February to give the 700 MHz D Block and dedicate up to $7 billion in spectrum auction revenue for a nationwide interoperable public safety broadband network is good news in absolute terms for the telecom infrastructure companies that build these systems, but we think $7 will not be enough to build out a nationwide footprint.

Based on lead times to set up the new governance authority and related advisory boards, establish the state/local grant program, and develop/execute RFPs, we don’t see money flowing to telecom infrastructure companies until 2013 2014 at the earliest.

We do not see any more money on the horizon.  We think public safety advocates may have worn out their welcome on Capitol Hill and the near-term fiscal situation is tight enough as to prevent Democrats or Republicans from writing any more large checks.

Spring 2012 Telecom Perspectives

In any event, such a response might also help to insulate DeMarco from further attacks on Capitol Hill, where debate has moved on to discussion of three bills introduced by Democratic Sens. Robert Menendez (D-NJ), Diane Feinstein (D-VA), and Jeff Merkley (D-OR). Those bills deal respectively with further HARP streamlining, a proposed new FHA/mass-refi program for borrowers with non-government-backed loans, and down-payment assistance for those who would refi into 20-year mortgages.

While only the Menendez bill to further streamline HARP refi’s is seen as having a chance of enactment, the National Association of Realtors’ (NAR) soft pitch on the issue during this week’s mid-year lobbying drive (to us) suggests mixed prospects for success. Specifically, the 9,000 agents descending on Washington are working off Talking Points that hardly mention the need for Hill action to expedite refinancing. Instead the Realtors’ bigger focus is on extension of the Flood Insurance program and expiring tax relief — and in opposing FHA-premium or G-fee increases, which the Feinstein bill would rely on for funding . Even their call for Congressional Action under the banner “Secure the Future of Homeownership” mostly avoids mentioning the thrust of the three Democratic bills. Meanwhile, however, the NAR does list “Lift Regulatory Burdens so Mortgage Financing is Available for Qualified Homebuyers” as the last bullet in their “Recovery” ad placed in Politico this week.

CAP’s bottom line: We suspect that the Democratic majority may try to bring up the Menendez bill on the Senate floor in coming weeks, if not the other two measures, which were also endorsed by the White House ). Despite at least some chance that it (Menendez) may gain a measure of bipartisan support, however, we doubt Senate passage and suspect that House adoption would be even more difficult. We nevertheless believe that sponsors may demonstrate enough support for key elements of the bill that it may ultimately help to spawn additional administrative changes (i.e., a “HARP 2.1″ enhancement) via the FHFA. In our view, these theoretically could include changes to increase competition (and reduce margins) among servicers, compel subordination of second liens, allow participation by low LTV borrowers with Freddie-backed loans, and reduce the need for new appraisals — but would likely not result in expanded overall HARP eligibility (and roiling effect among MBS investors) via a shift to a June 2010 rather than 2009 cutoff date.

This primary, taken together with other Republican nominating contests, likely means the Senate GOP caucus will be more conservative — meaning fewer moderates to band together over the historically nonpartisan issue of transportation funding.  Likewise, on April 22, Democrats in Pennsylvania tossed out two veteran congressmen perceived as the more moderate in each of their contests. But certainly, most of the fireworks right now are on the GOP side.

We have long thought that a true Highway Bill reauthorization in the 4-6 year range would happen in late 2013 or early 2014. We now wonder whether a status-quo election result – President Obama reelected with a Republican House and a closely-divided Senate – with fewer moderates could produce yet another two years of extensions. This would be highly problematic for companies hoping for federal clarity on highway funding. It also heightens the importance of the ongoing Highway Bill conference committee, since an agreement would likely fix policies in place for 3-4 years instead of only 15 months.

Discussion

Following on the surprisingly wide margin of victory by State Treasurer Richard Mourdock over Sen. Dick Lugar last week, conservative candidates outdrew the establishment 59-36.

We don’t know that Fischer would have voted for the DeMint amendment on partial devolution that drew 30 GOP votes in the Senate in March, but with conservative GOP Senate candidates outdrawing establishment candidates by wide margins the last two weeks, it’s a safe bet that the DeMint amendment’s surprisingly strong showing could be even stronger in 2013.

Perhaps the most direct impact could be in the House, however: We rate House Transportation and Infrastructure Chairman John Mica (R-FL) as a slight underdog in his own August primary. In the GOP Senate primary in Texas, we also expect attorney Ted Cruz to defeat Lieut. Gov. David Dewhurst, and longtime Senate veteran Orrin Hatch is barely hanging on against State Sen. Dan Liljenquist.

We attended BA’s investor conference on May 14-15. Defense is a tertiary issue at Boeing, as far as investors are concerned, but there were a number of perspectives and data points that are relevant to an investment thesis on BA and read-throughs to other defense contractors. Here’s what we learned:

• Management is planning for sequestration, though we found some inconsistent views on this subject. Core messages were that the company is focused on a cost structure that could allow it to sustain margins and remain competitive in a DoD budget that is cut under sequestration. Maybe it was just us, but we didn’t think, however, that there were clear answers as to how a reduction in budget authority would translate into outlays and sales impacts and our view remains that if sequestration occurs, the DoD would submit a massive reprogramming request in early 2013 entailing that cuts are not evenly spread over all budget categories and programs.
• Management is not seeing uniform customer behavior in front of CR and sequestration risks. Their view is consistent with our view that DoD program managers are not behaving consistently. Some are attempting to spend unobligated funds as soon as possible and others are holding back.
• International sales at BDS are 25% of total sector sales, and this is anticipated to rise to 30% in coming years. International sales are critical for production line extensions of the C-17, which currently has a backlog of production through Q3 2014, and for the F/A-18, which currently has a backlog of production through mid-2015. Given supplier lead and production cycle times, Boeing will need to make line decisions approximately 2 years before current production ends, if no additional orders are found. So, this implies that more orders are needed for the C-17 by Q3 2012 and for the F/A-18 by mid-2013. India may buy another 6 C-17s and Saudi Arabia a bit more and there are other opportunities for 1-2 buys each by individual customers. Timing of these orders is a watch-issue. Brazil might make a decision on its fighter buy as early as this June but the current U.S. Navy backlog of aircraft suggests there is a window where this decision could slip. Management was more optimistic about potential Navy demand for additional F/A-18s but we are less confident of this based on adequate numbers of aircraft to SLEP and a conceivable decline of a carrier in another round of budget cuts.
• Management noted the benefit of having related defense AND commercial businesses and this should be appreciated by investors. As BDS employment levels decline, Boeing has been able to offer employees who otherwise would be made redundant positions at BCA. We suppose that at some point, this workforce flow could work in reverse. Boeing continues to cross-pollinate technology and manufacturing between commercial and defense. Global commercial aircraft support networks and practices offer the company a cost-effective advantage in supporting military derivative platforms based on the 767 and 737. A final aspect of a diversified business portfolio is that compared to pure defense companies, Boeing may be better able to establish “company-to-country relationships” through aerospace and defense cooperation.
• Management mentioned a CRVS flight simulator that is one-tenth the cost of current flight simulators. We understand this cost reduction is achieved by software that entails much lower need for image projectors. It will be worth considering the implication of this product for business segments at CAE CN, COL, and LLL.
• BDS is spending independent r&d on a number of “Plan B” programs that could materialize in a more austere budget environment. We’ve written about a number of these including the F/A-18 International Roadmap but Phantom Works also has some unique platforms that can compete against the NOC Global Hawk and other manned aircraft platforms.
• Virtually nothing was said about the Long-Range Strike Bomber program, though we believe there will be a down-select among the current field of competitors and our impression was that management was confident in its current position on this program.

The KC-46 successfully completed its preliminary design review last week and management appeared very satisfied with progress on the program.

1. Any hope of bipartisan legislation to tweak Dodd-Frank is dead for the year (that goes for the Hoenig rule as well, which never had buy-in from key Republicans in the first place).
2. Banking and market regulators are now under pressure to eliminate the “portfolio hedging” exemption to the ban on prop trading, but we believe it is more likely that some restrictions or limitations will be imposed instead.
3. The most important impact may be on the implementation of key derivatives provisions.  Without the prospect of legislation  to eliminate the Lincoln “push-out” amendment or to limit the extraterritorial application of Volcker and new derivatives rules, regulators will have a harder time reaching a policy outcome that will ensure a level playing field for U.S. banks active in Europe and Asia.
4. Politically, the JPM losses provide a convenient moment for the Obama re-elect and many congressional Democratic campaigns to begin the expected onslaught of campaign ads attacking Wall Street, congressional Republicans and Governor Romney for wanting to change the Dodd-Frank Act.
5. Finally, this episode marks a turning point in the rise of hedge funds as an increasingly important market (and political) force. In the new market reality, they can compete with and outmaneuver even the largest banks.

Impact on Legislation

The House Agriculture Committee’s decision to indefinitely suspending a mark-up of three relatively technical (but consequential) Dodd-Frank tweaks is the latest casualty of the Wall Street bashing that has reappeared in the wake of the JPM losses.   The most important of these for the banks was H.R. 3283, the Swap Jurisdiction Certainty Act.  That bill would allow bank clients conducting derivative transactions outside of the U.S. to contract with foreign affiliates of U.S. banks using the same rules as foreign banks and foreign firms conducting similar activities. The bill would also clarify that U.S. bank’s foreign affiliates that are registered swap dealers would be subject to the capital regime of their home country as long as that country is a Basel signatory. In the absence of legislative pressure, it will now be harder for the regulatory agencies to work out the extraterritorial implications of the new derivatives rules (as well as the Volcker Rule).

H.R. 1838, the Swaps Bailout Prevention Act would have repealed the Lincoln “Push-out” amendment, but now is on indefinite hold.  While this bill was going to have a hard time being passed in the Senate, that possibility is now off the table for the balance of the year.  Just as importantly, it will now be much harder for the OCC to update the list of permissible investments for a national bank, which is now the only way to reduce significantly the number of derivative classes of assets that must be spun-out of the bank.  This could cause complications for GS, BAC, and MS, who would otherwise have benefitted from allowing their derivatives positions to be based inside their bank structures.

Should Romney succeed in becoming President, there is a significant chance that Congress would be presented with some alternative approaches to resolve the Too-Big-To-Fail problem.  And while something similar to (but likely very different in key details from) the Hoenig rule might be considered by a Romney administration as part of a package of reforms to the Dodd-Frank Act–that would only be in context of an effort to repeal the Volcker Rule, the Lincoln Push-out provision, and the other excessive or overly complex elements of the Dodd-Frank Act (most of which have not been adopted by any other developed country). But it is way too early for any such legislation to be considered, let alone have any decent prospect of passing.  And thanks to the JPM trading losses precipitating the beginning of election politics in the financial policy sector, the prospects for progress on the Hoenig rule or any other serious attempt to modify Dodd-Frank is now dead in this Congress.

Impact on the Volcker Rule

As we have noted previously, the most immediate concern is that regulators will now feel pressure to eliminate portfolio or aggregate hedging from the definition of what constitutes a permissible exemption to the Volcker Rule.  We also think this will make it harder for regulators to find a reasonable balance between the need for banks to protect against losses and the non profit-making mandate imposed by the Volcker Rule.  In the end, we believe regulators will find a way to allow portfolio hedging to continue, but more reporting or other requirements will likely be imposed to ensure the positions are hedging the actual risks of the bank’s positions as a whole.

Derivatives

In the absence of legislative direction to allow U.S. banks to be able to trade derivatives in London, Frankfurt, or elsewhere abroad under the same rules as their foreign competitors, it is not clear what the CFTC, SEC and Fed may come up with as an alternative.  On the one-hand, if U.S. regulators impose higher margins (as well as the new business conduct, reporting, and other rules) for uncleared swaps on American firms competing abroad, in the absence of comparable rules on European banks, most of the business would quickly shift to EU banks.  On the other hand, EU banks would have a very hard time complying with many of the new derivatives rules now being imposed on U.S. domiciled transactions, so they may exit that line of business in the U.S.

It should also be pointed out that had the JPMorgan positions been centrally cleared and exchange trading, they likely could have exited them and avoided any hard to bear termination fees.  It is ironic that had the central clearing/exchange trading mandate been in place (which is largely being adopted in the EU as well), then JPM would likely have avoided the amount of risk that it is now exposed to with little recourse to get out without significant losses.

Election Politics

Unfortunately, the timing of the JPM losses has allowed the Obama re-elect team to remind people of the financial crisis.  And we expect to see a flood of negative TV ads and other attacks on the Romney campaign and congressional Republicans who oppose the Dodd-Frank Act.  It is this political imperative that makes it impossible to find bipartisan agreement on almost any financial regulatory issue in Washington DC.  Only after we get past the November elections will the more bipartisan minded members of Congress feel able to resume efforts to mitigate the excesses of Dodd-Frank or even to fix what all can agree were unintended consequences (other than perhaps very minor and technical issues).

Rise of the Hedge Funds

When a group of London-based hedge funds decided to go to the media to fix a losing arb trading position, their success brought to the forefront of media attention an important market shift—namely, the rise of the hedge fund both in terms of market power and political might.  This evolution is partly the result of Dodd-Frank and partly due to the natural development of hedge funds as they grow in size, complexity. and capability. In today’s markets, the long-term future looks increasingly bright for hedge funds (despite the challenges presented by a lack of growth in developed countries) as they, and other large asset managers, are gaining new ground as they develop new products, such as increasingly complicated ETFs, new trading or matching services, and of course take on a greater market role as the large banks must exit from pure prop trading.   What Bruno Iksil, and apparently even Jamie Dimon did not realize, is that they were being out-maneuvered in the markets and the media.  The political hit taken by all banks, and the market gains by the funds betting against the London Whale, demonstrates how far hedge funds have come in terms of their ability to compete with–and beat–even the largest banks.

• New FCC Commissioners On Display Wednesday
• Public Safety Communications: Broadband Stimulus Hearing Wednesday
• Satellite/Wireless — LightSquared: We Hardly Knew Ye…But We May Meet Again
• Link to Download the Latest Capital Alpha Telecom Scorecard
• Links to Recent Memos

New FCC Commissioners On Display Wednesday

The Senate Commerce Committee holds an FCC oversight hearing tomorrow at 2:00 PM ET (webcast and more information here) with its primary purpose being the first official public appearance of new commissioners Jessica Rosenworcel (herself a former Senate Commerce aide) and Ajit Pai.  We expect a generally friendly hearing welcoming the new commissioners, with members trying to scope out where they stand on the issues du jour including spectrum availability, M&A, and rural telecom subsidies.

As we have written before,  the new commissioners are seen as serious telecom attorneys and highly qualified individuals, but the Chairman runs the agenda and we do not see any net change in the FCC’s regulatory posture as a result of the confirmations.

Public Safety Communications: Broadband Stimulus Hearing Wednesday

The House Communications subcommittee holds a hearing at 10:00 AM ET (webcast and more information here) on broadband loans and grants, featuring NTIA Administrator Larry Strickling, Rural Utilities Service Administrator Jonathan Adelstein and inspectors general from the respective agencies. The hearing is expected to cover the status of broadband projects funded by the 2009 stimulus program, with a critical eye on “overbuilds” in already-served areas. Also in focus will be the NTIA’s halting of LTE public safety projects in anticipation of new standards and processes to be set by FirstNet.

Satellite/Wireless — LightSquared: We Hardly Knew Ye…But We May Meet Again

We wrote a brief remembrance for LightSquared on Monday morning but in the spirit of Capital Alpha Telecom Tuesday, we offer some final thoughts as the company prepares to enter bankruptcy. That the company filed for Chapter 11 yesterday was not a surprise – Harbinger Capital Partners long previewed (nay, threatened) the move this year to keep control of the company away from distressed debt buzzards circling above.

The company’s hiring in March of prominent conservative litigators Ted Olson (of Bush v. Gore fame) and Eugene Scalia received media attention for the suggestion that LightSquared is gearing up for a court fight. Conservative activists including former Bush Deputy Chief of Staff Karl Rove have also penned op-eds in support of the company.

But we ask, who would LightSquared sue? The FCC? NTIA? Defense Department? Any number of GPS manufacturers? Does a spectrum license granted (for free) to LightSquared’s predecessor entity constitute a property right? What would a settlement strategy be? Can LightSquared afford the legal bill? At what point is a sunk cost a sunk cost?

Regardless, comments out of LightSquared suggest that they do not think the story is over yet and some think that they could engage in a spectrum swap with incumbent federal users situated further away from GPS.  As we have written before, we think the company would have a difficult time extracting cooperation from its primary antagonists within the federal defense apparatus.

Download the Capital Alpha Telecom Scorecard Today

The Telecom Scorecard is our monthly “at-a-glance” update on Washington telecom policy issues, released at the beginning of each month.  High-impact investment stories we are watch in this edition include Verizon-SpectrumCo/Cox, DISH, and public safety communications. We track these and six other issues in the Capital Alpha Telecom Scorecard.

You can download the May 2012 edition of the Capital Alpha Telecom Scorecard here.

Recent Memos

Satellite/Wireless: Obituary for LightSquared,Capital Alpha Outlook, May 14

VZ/SpectrumCo: Beggar Thy Carrier, May 10

Flash — T-Mobile/MetroPCS: If At First You Don’t Succeed…, May 9

Capital Alpha Telecom Outlook: VZ/SpectrumCo, FCC Commissioners, Telecom Scorecard, May 7