Unsigned Deals and Roguish Bonds

Matt Levine is a Bloomberg View columnist. He was an editor of Dealbreaker, an investment banker at Goldman Sachs, a mergers and acquisitions lawyer at Wachtell, Lipton, Rosen & Katz and a clerk for the U.S. Court of Appeals for the Third Circuit.
Read More.
a | A

Argentina.

In almost any reasonable sense, Argentina's 15-year battle over its 2001 debt default ended last month when Argentina reached an agreement with its main holdout creditors and Judge Thomas Griesa agreed to lift the injunction preventing Argentina from paying its debts. But the saga continues, and just this week this insane thing happened:

Attorneys for Red Pines LLC, a unit of Varde Partners, say the investor entered into a settlement agreement with Argentina that was later cited by the nation as evidence of its progress with creditors, and reason to lift the injunction. Yet after the court agreed to do so -- the decision that’s currently under appeal -- Argentina changed its stance, Sabin Willett, a partner at Morgan, Lewis & Bockius LLP, said in an emergency motion filed last week. The government said in a March 21 filing that Red Pines was “mistakenly” submitted to the court in its list of settlements reached with creditors.

See, Argentina reached a number of agreements with its holdout creditors. It attached those agreements to a filing with Judge Griesa to argue: See, we are not mean to our creditors any more, we are reasonable and compromising and nice, you should lift the injunction and allow us to return to the capital markets. And he did. (Sort of: It's up on appeal, though the Justice Department supports him.) And then Argentina was like, hahaha no, just kidding, we don't actually have an agreement with Red Pines. Because -- this is true -- they never signed it. Yes, sure, they told the court that they had an agreement. And yes, sure, they filed that agreement with the court. But anyone who has watched enough television shows about lawyers would have been able to tell that it wasn't a real agreement, just by flipping to the last page:

Yoink! Argentina explains, in a footnote to its brief on appeal, that it "subsequently determined that the submitted agreement provided for payment with respect to claims that are time-barred" and so never signed it. The idea is that Red Pines, like several other bondholders, didn't get around to suing on its bonds before the statute of limitations expired, and so it doesn't have a valid claim to get paid -- and "Argentina can’t make payments that its lawyers have deemed unnecessary." Honestly that does not strike me as all that serious a concern? Just pay the guys, you know? Especially the ones you already have agreements with? (There are others, including two that Argentina did sign but then "asked those parties, in the interest of fairness, to amend the agreements to remove payments related to time-barred claims.") You can see why the main holdouts' agreement with Argentina includes intricate escrow mechanics for any fundraising that Argentina does before paying them off, and why the holdouts are opposed to just casually lifting the injunction without any further court protection. They may be paranoid, but Argentina really does seem to be out to get them.

Rogue trading bonds.

I have said some mean things about Credit Suisse over the last couple of days, but honestly it might be my favorite big bank, just for its dreamily artistic approach to capital and financing. The way bank capital regulation works is, basically, you have to quantify a bunch of risks, and then you need to have enough equity capital to protect you against those risks. And regulators are always finding new risks and demanding that banks quantify them and have capital against them. But meanwhile Credit Suisse is always finding new ways to sell those risks to someone else, so it doesn't need to hold as much capital. This led Credit Suisse to what might still be my favorite trade ever: Credit Suisse had some derivatives, and regulation required it to quantify and hold capital against the risk that its derivative counterparties wouldn't pay Credit Suisse what they owed. So Credit Suisse packaged that risk into securities, gave some of the securities to its own bankers as part of their bonuses (surprise!), hedged the rest of them by buying yet another derivative from yet another counterparty, and then agreed to fund any amounts that the counterparty owed under the derivative. Did you not follow that? It's okay if you didn't; it is a Möbius strip of derivatives, and anyone who does grasp it in its entirety, even for an instant, is immediately raptured. (Eventually regulators decided it was too beautiful to live, and nixed it.)

But Credit Suisse keeps finding innovative new ways to package and sell its risks to someone else. The latest is beautifully timed. From Global Capital:

Credit Suisse is marketing an insurance-linked security to hedge its operational risk, a class of losses which usually include rogue traders, fraud, and IT failures, at the same time as it announced an unauthorised build-up of positions in its illiquid and distressed trading businesses. 

Also, I would add, at the same time as it is fighting a lawsuit over alleged rogue trading in its wealth management business. Would you like to buy Credit Suisse's rogue-trading risk? There sure is a lot of it! Artemis has more on the structure:

Credit Suisse will buy a CHF700m (approx $690m) operational risk insurance policy from insurer Zurich. Zurich will retain 10% of the risk of this operational risk insurance policy, while the remaining CHF630m (approx $620m) will be securitised and issued by Operational Re in now two tranches of notes to the deal’s investors.

The two tranche structure enables investors to select where to allocate capital, on a risk and return appetite basis, with the junior offering a higher coupon than the senior.

The insurance policy covers Credit Suisse’s operational risk losses above CHF3.5 billion, before which any losses are retained by the investment banking group.

What is most conceptually wonderful about this trade is that Credit Suisse is selling investors the risk that Credit Suisse is committing fraud. But what if Credit Suisse is committing fraud when it sells the bonds? Can the bondholders sue Credit Suisse for fraud? If they win, do they have to pay Credit Suisse back? It is a Möbius strip of liability, a Klein bottle of derivatives, a mathematical object that exists solely to prove that any formally complete system of capital regulation is inconsistent, or at least weird. Credit Suisse really is the best bank.

Client lists.

Speaking of mathematical objects, what even are numbers? Citigroup has a "secret list" of "a handful of hedge-fund giants, the 'Focus Five,' that bring in big money for Citigroup: Millennium, Citadel, Surveyor Capital, Point72 and Carlson Capital."  I count ... three hedge-fund giants on the Focus Five? Surveyor is a unit of Citadel, while Point72 is rather famously not a hedge fund. But "Focus Five" has a nice ring to it. Meanwhile I feel like this means that Stifel tried to come up with a list of its top 20 clients but had a tie, and made a virtue, or at least a mild joke, out of necessity: 

Even smaller banks have come up with their own client lists targeting a select number of investment firms, with Stifel Financial Corp. dubbing a roster of 21 top-tier targets as its “Blackjack” list. Chief Executive Officer Ronald Kruszewski, whose firm bills itself as the biggest provider of equity research in the U.S., said in an interview that his equity sales unit had compiled such a list about three years ago, but that it’s currently not in use.

“I would be surprised at any firm that is trying to sell a product that didn’t have a list,” Kruszewski said.

In any case, the fives and 21s and so forth represent "a growing trend on Wall Street where the most-lucrative clients get the best service: the top trade ideas, hours-long calls with analysts, intimate soirees with executives, bespoke trading models, on and on." If you remember that the financial services business is a business, and makes money selling services to customers, then this makes complete sense and is very normal and obvious. But the weird thing about the financial services business is that, for all that it is perhaps the most businessy and money-focused of all businesses, people do keep forgetting that it is a business. So for instance if your model of sell-side research is that a bank's research analysts are supposed to figure out what stocks will go up, and then tell all of the bank's customers to Buy those stocks, then letting some clients have "hours-long calls with analysts" while other clients get only the research reports might seem to create a conflict of interest. (Surely the analysts are saying something on those calls that isn't in the reports?) It doesn't, really -- "providing the top-paying funds with the best service is well within the rules," as it is in basically every business -- but for some reason it bothers people.

How's Pershing Square doing?

The upside of Bill Ackman's permanent-capital vehicle, Pershing Square Holdings, Ltd., is, you know, permanent capital. The downside is it's a public company with a public annual report, which is more of a downside in years that Pershing Square would prefer not to talk about. Here's the 2015 annual report:

After a year of poor performance, it is necessary to analyse what went wrong, and what lessons can be learned. In the 2015 letter to shareholders, Bill Ackman discussed where errors were made, and also how the challenging financial markets caused share prices to fall even though companies were for the most part producing strong financial results. The Investment Manager is also reviewing its Valeant investment in order to identify where mistakes may have been made and how to avoid them in the future.

Épater les Schwabs.

"Even TD Ameritrade refused to answer my questions about art projects," writes Felix Salmon, perfectly, about Sarah Meyohas, the financial artist who manipulated some micro-cap stocks (but for Art!) and then painted the resulting price charts. Imagine calling up your TD Ameritrade broker to ask about, like, Velazquez's brushwork, or the influence of Neo-Platonism on Leonardo, or the viability of representational art in an age of electronic reproduction. Why would you expect a discount brokerage to answer questions about art projects? That's more of a private-banking thing.

Anyway Meyohas did most of the trading for her art project in an account with TD Ameritrade, which despite its current aesthetic agnosticism nonetheless considers it "an honor" to represent her. But she did trade one stock, Paradise Inc., in an account at Charles Schwab, resulting in this painting (which, disclosure, I begged Meyohas to sell me, to no avail):

And Schwab then canceled her account, for reasons that it also won't discuss with Salmon. Now, if her trading really had resulted in that chart -- if Paradise's stock price had wandered back and forth in time for a while -- then you could see why Schwab would want to cancel her account. Time-traveling traders seem like a liability risk! But the weird loopy bit is a technical glitch, or, you know, artistic license; Bloomberg's rendering of the same events is, at least, a function:

So presumably Schwab's concern is more about her manipulation of the stock, which is honestly pretty philistine of them. The manipulation was, you know, for Art, man. For her next project I hope that Meyohas will structure capital securities for Credit Suisse. 

People are worried about unicorns.

The problem with private markets being the new public markets is that public-market investors invest in private companies hoping to make multiples of their investment when those companies finally offer their shares to the public. But then those investors are sad when they realize that those companies have already offered their shares to the public, and that they were that public. Anyway hedge funds are fed up with private technology companies:

“We’ve completely stopped investing in private tech,” said Jeremy Abelson, a portfolio manager at Irving Investors, a small hedge fund based in New York. “I’m done with intangible valuations, unknown exits, unknown liquidity, and I want something that if I put my money into it now, I’m not going to hit a grand slam, but I’m going to get something that’s immediately yielding.”

People are worried about bond market liquidity.

It is Good Friday, the bond market is closed, I am going to go ahead and declare bond market liquidity worrying closed too. See you on Monday, when we'll catch up on a long weekend's worth of bond market liquidity worrying.

Things happen.

Starboard Value Seeks to Oust Yahoo’s Board. There Isn't Much Left of Marissa Mayer's Yahoo Golden Parachute. The wolves of Tel Aviv: Israel’s vast, amoral binary options scam exposed. Lunch with the FT: Yanis Varoufakis. The Decline of Dissent at the Fed. Plan to Rescue Puerto Rico Advances, Led by House Republicans. Noah Feldman and Stephen Lubben on Puerto Rico's Supreme Court case. Playboy Enterprises Explores Sale. A defense of activism from SpringOwl. Square’s Newest Offering: Bank Loans. "Bad loans are likely to outnumber good ones soon in the U.S. oil patch." Blackstone Mutual Fund Loses Half Its Assets. Goldman Expands Job-Cutting Plan in Filing to Include 109 People. Izzy Kaminska defaulted on an OTC oil forward with Tracy Alloway. Millennials don't like paying taxes. Law Graduate Who Sued Her School Loses at Trial. Trump's hedge fund investments didn't do so well last year. Economic literacy. Where to put your enemies list. "On Monday, the whole routine starts over again — the 7am blow-dries, the Net-a-porter desk deliveries, the crack-of-dawn workouts." We are all Patrick Bateman. Bro-metrics. "That's not a good play." Microsoft deletes 'teen girl' AI after it became a Hitler-loving sex robot within 24 hours.

If you'd like to get Money Stuff in handy e-mail form, right in your inbox, please subscribe at this link. Thanks! 

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

To contact the author of this story:
Matt Levine at mlevine51@bloomberg.net

To contact the editor responsible for this story:
James Greiff at jgreiff@bloomberg.net