Cyprus Quote Of The Day – Andrew Ross Sorkin – And Why He’s Wrong

From Sorkin’s NY Times Column:

“…By the way, if you’re wondering why investors left so much money in troubled Cypriot banks, here’s a trivia question: Would you have been better off leaving your money in a bank in the United States or in Cyprus over the last five years?

The answer: You would have been better off in Cyprus, even after the bailout, when your money was “confiscated.” If you had 100,000 euros in a Cypriot bank account over the last five years, where the interest rate has averaged about 5 percent, you would have about 127,600 euros today. Even after the bailout, which would require you to give up 10 percent of your deposit — 12,760 euros — you would be left with 114,840 euros. The American bank? The $100,000 you deposited at Bank of America five years ago is about $105,100, at the going rate of about 1 percent interest a year.”

This is important because it gets back to the issue of if investors/depositors were expecting higher returns without the risk that accompanies those higher returns.   Where have we heard that before… *thinking*… oh yes – the U.S. Financial crisis where those higher yielding AAA rated piles of synthetic crap turned out to be not-so-AAA after all….

EDITbut wait – can you spot Sorkin’s error?   hint: he compared 5 year returns of EUR accounts to 5 year returns of USD accounts, but didn’t take into account the change in FX rates!  5 years ago the EUR was worth $1.55.  Today, it’s worth $1.29…. He probably could have done the same example with German Euro-deposit rates instead of Bank of America USD-deposits and gotten the math to work out in accordance with the principal of “higher return = higher risk.”

Math:  5 years ago, $ 100K USD bought 64,516 EUR.   Multiply that by Sorkin’s calculated 1.1484 cumulative post-haircut return, and you have 74,090 EUR.  At today’s exchange rate of 1.29, that’s worth $95,576.  So no, you’re not better off if you were in Cypriot accounts instead of USD deposits.

Sorkin’s point (at least what I think his point was:  risk/return)  could have been made by comparing Cypriot deposit accounts to other lower yielding EUR deposit accounts like German ones.  Then he would have avoided the phony comparison of apples to oranges math (or in his case: EUR to USD), and the risk-free-return fallacy would have been highlighted.

New Follow Up PostApples and Oranges Math For 5th Graders


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