Posts in the topic "Finance"
Goldman = Cheesy 70′s Restaurant
Posted 22 Apr 10
Although the big picture is clear enough — Goldman Sachs deceived one client on behalf of another, leading to $000,000,000′s of losses — the whole Paulson-Abacus-ACA-etc deal is complicated. Other commentators have tried analogies to explain the mess. Here’s mine.
In high school, in central Missouri in the late 1970′s, I worked at a buffet-style restaurant right off the interstate (“Busses Welcome!” which tells you all you need to know). For a flat price you got all you could eat from a long food line. Naturally, the owners were most interested in minimizing how much people consumed — at least of the expensive items. The entire place was basically designed to encourage diners to fill up on bread and celery, then leave.
Thus the plates were unusually heavy and a little smaller than normal, and only available at the beginning of the food line. The line began with a huge bowl of iceberg lettuce, then an array of cheap vegetables, then some starch like rice “pilaf” and “buttered” noodles and bread pudding. (Never, never, ever eat bread pudding in a cheap restaurant! Think about where the stale bread comes from …) Finally, at the very end, a teenage lineboy (that would be me) sliced pieces of ham and roast beef, kept warm under heat lamps.
The name of the game was to give as little meat as possible to the customers. So the lineboys were taught to cut slices like gossamer. Thin enough to see through, almost.
But that wasn’t enough. Imagine a standing rib roast, or a full ham: there’s fat and gristle on them, too. Not so much, actually, but after a busy night, there might be a quart or two of trimmings left in the catchment pan. Eventually, the owners decided they wanted to see as little trimmings as possible. No more waste!
What they meant was, leave the fat, etc, on the edges of the slices, so the meat looked a little bigger. But bits of crud still fell off; the trimmings pan still filled up (albeit more slowly). I resolved to get down to zero.
And this is how: instead of allowing the trimmings to fall into the pan, I slipped them onto the cutting board. Then, after cutting some meat, I would slap the slice down on on top of the trimmings, slide the knife under both, and transfer everything to the unsuspecting diner’s plate. Done with flash and verve, the result would be a rather lumpy but thick-appearing serving. Only at his table would the mark discover that, under a paper-thin wisp of meat, he’d been given a bonus quarter-cup of gristle and rind.
You can see the metaphor. Goldman sliced and diced tranches of mortgage-backed securities into CDO’s they then sold to various suckers (who then sold many of them on to smaller customers, which is why school districts and municipalities in Europe and the US are now broke). Instead of even reasonably solid mortgages, however, they let John Paulson hand-pick the rottenest, rock-bottom worthless toxic waste available to package up — just like the inedible fragments of fat and gristle I served to customers, long ago.
Hey, it’s what my bosses told me they wanted. Which suggests other implications of the metaphor — about designing proper incentive systems.
Anyway, Paulson went on to bet against these CDOs (by buying credit-default swaps that paid off when the CDOs collapsed in value, as they’d been designed to do), which is where the metaphor runs out of steam. But you get the idea.
The restaurant had other tricks. We believed the decor was deliberately designed to minimize appetite (lots of browns and greens), for example, and that the piped-in music was selected to subtly nauseate people. (Of course, the latter may have just been a teenager’s typical reaction to the oldies-muzak programming; the cooks had much better music in the kitchen.)
The place went out of business more than twenty years ago. Wall Street shows no signs of a similar fate.
This post indexed as: Finance, Personal
Only luck beats the market
Posted 20 Jan 10
I know, I know, it’s been hammered to death (by study after study after study), but no one ever seems to listen. Actively managed funds — the kind the mutual fund companies want you to buy, the kind they advertise heavily, the kind you’re likely forced into thanks to a limited selection in your 401(k) — do not beat the market. You’re better off in an index fund.
The latest volley from academia comes via January’s Journal of Finance:
This paper develops a simple technique that controls for “false discoveries,” or mutual funds that exhibit significant alphas by luck alone. Our approach precisely separates funds into (1) unskilled, (2) zero-alpha, and (3) skilled funds, even with dependencies in cross-fund estimated alphas. We find that 75% of funds exhibit zero alpha (net of expenses), consistent with the Berk and Green equilibrium. Further, we find a significant proportion of skilled (positive alpha) funds prior to 1996, but almost none by 2006. We also show that controlling for false discoveries substantially improves the ability to find the few funds with persistent performance.
Okay, that was maybe a little abstruse, but the idea is simple enough: funds that beat the market mostly do it with plain luck — and the luck always runs out. (Generally right after they’ve advertised the last-five-year-average returns, and a whole bunch of suckers piled in.)
By the way, there is one way a fund manager do better than, say, VFINX (Vanguard’s cheap S&P 500 index): trade on insider knowledge. This strategy has its pitfalls, however.
Don’t let them earn those absurd bonuses on YOUR retirement. Find a low-expense-ratio index fund, rebalance now and then, and ignore the rest.
This post indexed as: Finance
CIA Enlists Private Tech to Spy on Interweb
Posted 15 Jan 10
The CIA just increased their investment in a private company whose mission is to eavesdrop on social-networking flow everywhere.
Visible Technologies, which trawls “media, video, images, blogs, Twitter, and any RSS feed in 12 languages” for corporate and government clients, just announced a $22m C round. The CIA’s venture capital arm, In-Q-Tel, is both an original investor and a current participant.
Should this bother you? The company’s position is that public statements are, well, public — no expectation of privacy exists. It’s no different than taking a photograph of someone on the street. Or secretly recording the behavior of people inside a supermarket. Or pointing a video camera at an political demonstration …
Legal, sure, until the collected information is used for political purposes. Like compiling dossiers on elderly peace activists: the police would never do that, would they? Oh, yeah, they would.
But that’s not the point of this post. More interesting to me are the quasi-public VC “firms” the government has set up. Besides In-Q-Tel, the Army has its own, OnPoint Technologies (not to be confused with NPR’s talk radio show), and the DOD has a larger initiative they call DeVenCi — Defense Venture Catalyst Initiative. The latter doesn’t invest directly, but facilitates “communications and mutual understanding between innovators and the DoD.” (The difference between funding, vs. guaranteeing large contract purchases in a way that supports the company, may matter less than results, which are likely to be similar.)
Set aside the politics for a moment. Even if the goals of these programs are worthwhile, we should ask, are they a good way to go about it? Remember: taxpayer dollars at work.
For one thing, the employees are well compensated. Furthermore, at In-Q-Tel a significant portion of their pay depends on the financial success of the investments — not the strategic objectives. Conflict-of-interest problems appear inevitable, as fiduciary responsibilities collide with national security concerns. Suppose Visible Technologies became an acquisition target for a Chinese internet company (which is not unheard of). Should In-Q-Tel partners oppose the sale, against their own (and the taxpayer’s) financial interest?
That’s not a hypothetical. Christopher Byron detailed stock shenanigans by In-Q-Tel a few years ago. In somewhat hyperbolic language,
This week there’s more to report on this fishy, six-year-old firm, which has been pouring a reported $35 million annually of taxpayer money into deals running the gamut from the shrewd to the idiotic. The one common feature of them all: if an investment proves profitable, much of the money flows into the pockets of In-Q-Tel’s own employees; if a deal proves a loser, the nation’s taxpayers get stuck with 100 percent of the loss.
Now, evidence is emerging that In-Q-Tel’s brand of “Heads I win, tails you lose” deal-making may go even further than that. A source familiar with In-Q-Tel’s inner workings claims that once an equity deal with a company is worked out, In-Q-Tel officials routinely begin talking the company up on Capitol Hill to help the new partner land lucrative government contracts. A Newsweek story in March of last year suggested much the same thing, reporting that In-Q-Tel helped one of its investment partners — a Nevada-based software firm called Systems Research and Development — obtain government business.
As usual, the fundamental problem is oversight. If the public, or even just a few competent senators and members of congress, were allowed to keep an eye on what In-Q-Tel and its brethren are up to, Byron would have to find other subjects.
By the way, I should mention that my novel Exit Strategy dealt with a government-intelligence VC operation gone rogue. But that was fiction.
This post indexed as: Crime, Finance, Intelligence, Military, Technology
Speed Racer on the Virtual Trading Floor
Posted 08 Jan 10
Some doomsday reporting last fall on “high velocity trading,” where massively powered computers running PhD-designed algorithms buy and sell stocks in fractions of a second. Technology Review has a great article on the topic this month (if you don’t subcribe, or aren’t an MIT alum, another copy may be found here).
The technology is amazing; one hedge fund is quoted saying they have computing power equivalent to Lawrence Livermore National Laboratory’s. High-velocity quant funds, as they’re known, will trade millions of shares every hour, with notional values of hundreds of millions of dollars — in and out in seconds, arbitraging the tiniest differences in prices across markets.
Critics claim these guys threaten to crater the market again, like 1987′s Black Monday, only on vastly larger scale and over in micro-seconds. The funds argue they’re merely providing liquidity, and their positions are net market-neutral, but they would say that, right? They’re making money faster than the mint can print it.
I don’t know who’s right. But it is obvious that the incredible ingenuity, effort and investment spent on devising these systems could have gone elsewhere: curing malaria? developing better solar cells? eliminating E.coli from children’s school lunches? NOT canceling the manned space-flight program?
Still, the technology is fascinating — and surely provides framework for someone’s next financial thriller.
This post indexed as: Finance, Technology
Online banking, like it or not
Posted 07 Jan 10
Via Ezra Klein, from Felix Salmon, the brave golden new world of online banking.
Call me paranoid (many have) but the takeaway line is this one:
[Yodlee] built up an enormous dataset over the years — $3 trillion of transactions from 23 million users have been cleaned up and put into a huge database by 500 employees — and it’s now going to open up that database to software developers around the world.
Um, that would seem to raise a few questions about privacy. Like, who owns that data? Given the constant drizzle of data breach reports, basic security appears to remain a huge issue. And more broadly, do you really WANT profit-seeking private firms knowing so much about you and your financial life?
As it happens, I encountered Yodlee more than ten years ago, when they were just starting out as a personal-financial-information aggregator. The idea was, you’d register and then give them all your logins and passwords — banks, credit cards, investment accounts, frequent flyer miles, whatever — and they’d compile it all into a simple, consolidated view. From there you could do all your transactions, and see your total balance sheet, on one platform.
Neat, huh? I thought so, and I wanted to introduce them to the large financial firm I was working for. So I went to sign up, just to try it out. I got through the initial registration screens, up to the point where they asked for my bank account number . . .
and I stopped. Just couldn’t do it. Sure, they had the most bulletproof firewalls and encryption and privacy policies in the world — or so they claimed — but that wasn’t enough. Not for me.
Now, it has to be said: I’m old. Older than the teens and 20-somethings who are likely to use these services in the future, cheerfully and without fear. And Yodlee has never experienced a data breach (that we know of).
That’s not good enough for the FBI, as it turns out, which last week recommended using only sterile computers for online banking. Is it good enough for you?
This post indexed as: Finance, Technology
The Laundries
Posted 16 Nov 09
At some point, if you write “big” thrillers, somebody is going to have to deal with millions and millions of illicit dollars. For all its supposed complexity, money laundering really isn’t that hard — mostly because intermediaries all along the way get a cut. Since these intermediaries include large, politically powerful banks in the US and Europe, regulatory intereference is scant. Basically you just keep transferring the money through shell companies in pliant jurisdictions until the trail is muddy.
Particularly useful are the so-called tax havens: countries with extremely lax rules about everything except privacy, which they guard zealously. Switzerland is no longer a desirable location, not since UBS rolled over and gave up details on hundreds of their tax-evading American clients. But there are plenty of others willing to step up.
An article in the current New York Review of Books provides a nice summary of current options. (Behind a firewall, though, so you have to cough up three bucks or, better yet, go buy a copy on the newsstand.)  Russian oligarchs prefer Cyprus, for example. Australians like Vanuatu. And Chinese criminals flow much of their black money through the British Virgin Islands.
The author is pessimistic about anti-laundering efforts. That is bad for developing countries and the world economy generally, but possibly good for your plot.
This post indexed as: Crime, Finance