Hedge-Fund Chats and Foreign Mergers

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.
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The SAC network.

Once upon a time there was a hedge fund called SAC Capital that was shut down by the government because its network of current and former employees kept insider trading with each other. So SAC was transformed into a family office called Point72, it hired bushels of former prosecutors and FBI agents to help clean up its act, and some of its innocent employees left for greener and less troubled pastures. One of them was Nicholas O'Grady, who went to BlueCrest, and who was fired six months later for "sharing information with Point72 Asset Management’s David J. Blanc, 38, in instant messages that BlueCrest deemed inappropriate." Guys! Come on! Maybe take a break from IM for a while? Oh: "After O’Grady was fired from BlueCrest, Point72 barred some analysts and money managers from using instant messaging to communicate with outsiders," though it was apparently unrelated. Also:

“After reviewing every IM exchange between Mr. O’Grady and Mr. Blanc, we know Mr. Blanc did not tell Mr. O’Grady of trades he intended to execute before he put on the positions,” Jonathan Gasthalter, a spokesman for Point72 at Sard Verbinnen & Co., said in an e-mailed statement, referring to instant messages. “There is nothing improper about communicating about trading positions after they have occurred.”

"Unless of course you made those trades based on inside information," he did not find it necessary to add. 

One story you might tell about SAC is that its employees and alumni were surprisingly chatty: A lot of what they did was just talk to each other, bounce ideas off each other, share analyses, and get a sense of where the market was going. So Analyst A at Firm X would get an idea to buy Stock Q, and he'd buy it, and then tell his buddy Analyst B at Firm Y, who'd tell his buddy Analyst C at Firm Z, etc. If Analyst A's original idea was based on an insider tip from Company Q, they all went to jail. But even if it wasn't, that network could be useful: They're all smart guys, for one thing, so if they pool their ideas they might end up with better ideas. (Though, of course: less differentiated ideas.) Also, stocks go up because people buy them, and so if you know all your buddies are buying the same stocks then that might itself be a reason to buy them. And if much of your value came from networking with other similar hedge funds, you can see why it would be hard to stop, even if, you know, you left your old hedge fund because it was shut down for rampant insider trading.

Also here's a story about how there's lots of insider trading on spinoffs that doesn't get prosecuted.

Foreign takeovers.

Lots of foreign countries charge their companies lower taxes than the U.S. does. Some U.S. companies reacted to that system by becoming pretend foreign companies through fairly transparent tax inversions. This made U.S. authorities mad, because transparent flouting of authority is the sort of thing that enrages authority. So they restricted those fairly transparent tax inversions. So now real foreign companies are buying more U.S. companies, because the foreign companies have tax advantages in bidding for the U.S. companies, and U.S. companies can no longer negate those advantages by inverting themselves. (And because we live in a world where lots of mergers are now tax-driven.) This is in some obvious ways worse for the U.S. -- unlike in an inversion, more jobs, etc., are likely to move abroad -- but it has one important benefit, which is that U.S. legislators and tax authorities don't feel insulted. Unlike in inversions, the real foreign companies aren't obviously thumbing their noses at the U.S. tax code. They're actual foreign companies buying companies for business reasons; they mean no disrespect. A possible moral here is that feelings and international corporate tax policy don't mix.

Meanwhile, here is Ronald Barusch praising the dealmaking acumen of one of those foreign companies, Valeant, which moved very quickly to buy Salix. I am cheating a little in calling Valeant a foreign company: It became Canadian only in 2010, via an inversion merger. But the policy of cracking down on new inversions makes its tax advantage over other U.S.-ish companies permanent.

And elsewhere in tax, here is a story about how drugstore chains are getting their property tax assessments assessments cut in half:

They argue, sometimes successfully, that the rent they pay their commercial landlords doesn’t accurately reflect property values. When they win, they get their tax bills slashed.

Bonds.

We talked yesterday about some of the considerations involved in U.S. companies issuing bonds in Europe to take advantage of low interest rates there. Here is a story about how bond investors would prefer to buy bonds in the U.S., because of the low interest rates in Europe. Their considerations, I suppose, are precisely the opposite of the issuers': If euro interest rates really are so low as to offer issuers a free lunch, then no one should be buying euro bonds. I suppose this is the sort of thing that price equilibrates. 

Elsewhere in bond markets, at some point won't there be more hedge funds raising money to buy risky energy bonds than there are risky energy companies? Magnetar is one. And Rothschild is trying to organize a group of holders of Ukrainian bonds to participate in restructuring talks, though apparently Franklin Templeton, the biggest holder of Ukraine bonds, is not involved. And bond mutual fund managers are having trouble finding mortgage-backed securities to match the Barclays U.S. Aggregate Index, because the Fed owns so many of them.

More Espírito Santo problems.

The basic deal of a bank is that it issues short-term debt that everyone agrees to treat as risk-free, and in exchange it is subject to regulation about what it can do in order to ensure that that debt is in fact tolerably low-risk. But since everyone knows about that deal, then the bank may be able to issue debt that sort of looks like its short-term risk-free debt, but that is not subject to that regulation. And that's a potential source of profit and disaster. Here's a story about how Banco Espírito Santo sold its clients commercial paper issued by an arm of the Espírito Santo  group that was not the bank, though that was not entirely clear:

The bank offered an average 3% interest rate on the commercial paper, with maturities ranging from nine months to a year, according to a marketing document reviewed by The Wall Street Journal. The document said investors’ capital and interest were guaranteed at expiration. Bank employees visited their customers, sometimes toting bottles of Champagne, to try to sell them the debt, according to a group representing the investors.

And now the bank doesn't want to pay it, and the question is: Are the people who bought that debt like bank depositors, who deserve protection, or like creditors of risky non-banks, who don't? As always, this is not so much a question of legal structures as it is one of political sympathies.

You get what you pay for.

Here's a takedown of Schwab Intelligent Portfolios, the new "free" investment service from Charles Schwab "for consumers who crave low-cost personalized advice but do not have a lot of money to invest," that I find sort of exhausting. The point is that "robo-advisers" are disrupting the likes of Schwab by providing generic financial advice for low fees, and Schwab is competing by providing generic financial advice for zero fees, and hiding its economics in the usual places (payments from some of the exchange-traded funds it recommends, payments for order flow, and over-allocating to cash and using the deposits to generate revenue like a bank would). This is the same story as the 401(k) fiduciary duty fight, and it's kind of the same story as the FX fix: "Free" is just a particularly exciting price to charge for something. The marketing value of "free" is such that you can probably charge customers more for a "free" thing than you could for the equivalent thing with an explicit price. The interesting question is whether this is nonetheless socially beneficial: Even assuming that Schwab's free product costs investors more than its robo-adviser competitors' paid product, will it draw in customers who would never have used a paid product and who'll be better off with some ("free") investment advice than none?

Things happen.

Former Merrill Lynch trainees are suing for overtime pay. Treasury does not want to recapitalize Fannie Mae and Freddie Mac. European companies are getting into stock buybacks. A power struggle at Wynn Resorts. Apple Pay is a good way to use stolen credit cards. "A Florida man put his dead neighbor in the bed of his pickup and drove to his lawyer’s office." "Tokyo looks at legalising noisy children."

This column does not necessarily reflect the opinion of Bloomberg View's editorial board or Bloomberg LP, its owners and investors.

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

To contact the editor on this story:
Zara Kessler at zkessler@bloomberg.net