Merger Advice and Retail Trading

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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Merger advice.

Well:

In 2015, the buyers in public-company deals valued at more than $1 billion didn’t use financial advisers in 70 instances, or 26% of the time, according to Dealogic. That is the second-highest total on record and far surpasses the 25 cases, or 13% share, in 2014.

In 2016, there have already been 23 examples, or 27% of deals in question. While merger volume has been surging, the rise in deals without a bank since 2014 is more pronounced.

One way to interpret this is that it is part of the generally declining belief in the value of financial advice. People used to go to brokers to tell them what stocks to buy, and companies went to investment bankers to tell them what other companies to buy and how to do it. But, you know, it's the usual story. Banking has gotten more mercenary; companies no longer have deep relationships with one or two bankers, but have commoditized relationships with dozens of faceless banks, none of whom feel like trusted advisers for an important acquisition. Academic research tends to find that, like active investment management, mergers and acquisitions often subtract value (especially from the acquirer). Stories of bank conflicts of interest and leaks undermine trust. And the fees are so high. You can see why experienced acquirers might want to ditch the bankers:

Corporate executives attribute the rise to a desire to keep transactions confidential, move quickly when needed and, of course, save money. There is also a view by some that all bankers don’t always have their best interests at heart.

I suppose there is an alternative interpretation, which is not that companies have become suspicious of finance and bankers, but rather that they have so completely embraced and internalized the bankers and their mentality that now there's no need to hire outside advisers. "Some of them now have large internal teams capable of developing deal strategy, building out financial models and executing transactions without bankers’ help," and "restrictions on compensation and other regulations at big banks have created a steady supply of seasoned advisers willing to go in-house." Why hire an outside bank for ad hoc help on a deal or two, when you can bring the bankers in-house and have them do all your deals?

Elsewhere in things that might keep M&A bankers from getting fees: "A federal judge on Tuesday blocked the planned merger of rivals Staples Inc. and Office Depot Inc. because of antitrust concerns, prompting the office-supply companies to say they would abandon the roughly $6 billion deal."

High-frequency trading and retail.

High-frequency trading is controversial! Some people think it makes markets better, some people think it makes them worse. Some people think that it tightens spreads and improves execution speeds; others think that it makes markets more flighty and those tight spreads harder to achieve. Let us just leave all of that alone for now, because the controversy is exhausting.

Let us instead talk about high-frequency trading and retail investors, meaning, specifically, individual investors who buy and sell individual stocks through brokerage firms. One might think -- I would think -- I do think -- that the rise of high-frequency trading was unambiguously good for those retail investors. In the olden days, you paid your broker a large commission, and she took your order to the stock exchange, and she tried to buy shares for you at the best offer price available, but it took a while and the price might move against you. Now, you pay your broker a negligible commission, and she routes your order electronically to a "wholesaler" like KCG or Citadel, and the wholesaler sells you the shares from its own account instantly and at either (1) the best offer price available nationally or (2) a slightly better (lower) price. And the wholesaler actually pays your broker for the privilege of filling your order, which reduces your broker's costs, which is what allows her to charge you that negligible commission instead of a big one. You get faster execution at better prices with lower commissions.

How can this work? Well, there is a classic market-microstructure answer, which is that retail order flow is not "informed" (is not predictive, does not tend to move stock prices in systematic ways), so wholesalers who know that they are interacting only with retail order flow -- for example, because they get it directly from retail brokers -- can make money at tighter spreads than those offered by public stock markets that are open to everyone. KCG and Citadel just make money trading the spread, buying at the bid and selling at the offer, and doing this with retail orders is so lucrative that they can afford both price improvement and payment for order flow. 

But there are also cynical answers, some of which are very récherché, but one of which has found widespread belief: the idea that wholesalers use direct feeds from the stock exchanges to know what the market price is, but rely on the slower "SIP" feed to guarantee retail investors prices, and make money by buying from and selling to retail investors at stale prices. The Financial Industry Regulatory Authority has worried about this one recently, opining that "a firm that regularly accesses proprietary data feeds, in addition to the consolidated SIP feed, for its proprietary trading, would be expected to also be using these data feeds to determine the best market under prevailing market conditions when handling customer orders to meet its best execution obligations." 

Anyway yesterday Reuters reported that "federal authorities are investigating the market-making arms of Citadel LLC and KCG Holdings Inc, looking into the possibility that the two giants of electronic trading are giving small investors a poor deal when executing stock transactions on their behalf." Again, this seems extremely unlikely to be true in the general case: Small investors get a good deal, by most apparent measures, when wholesalers execute stock trades on their behalf. But, you know, the SIP/direct feed/latency arbitrage thing, why not. From the Wall Street Journal:

The Justice Department inquiries appear to be focused in part on the way wholesalers used different data feeds to establish they had met requirements to achieve the best price and to actually complete the trades.

Honestly I have never quite understood how this arbitrage would work -- if the price has moved in the wholesaler's favor, it works, but if it's moved against the wholesaler, it still has to do the trade, no? -- but the belief in it is fervent and furious, so I'll be interested to see if the Justice Department comes up with anything.

Rich list.

Look I mean there is not a lot more to say on this issue, but still. DealBook: "The 25 best-paid hedge fund managers took home a collective $12.94 billion in income last year." The Financial Times: "The world’s 25 best paid hedge fund managers took home a combined $12.94bn." Reuters: "Together, the 25 best-paid hedge fund managers took home $13 billion." Vox: "The 25 highest-earning hedge fund managers in America brought home a collective $12.94 billion in 2015."

All of this is true only for very strange definitions of "best-paid," and of "took home." As we discuss every year, and as Institutional Investor's Alpha explains in its "Rich List," that "list counts the share each manager earns of his firm's fees as well as the gains on the capital he has personally invested in his funds." So the best way to get on the list is to have a lot of money, invest it in your fund, and then have your fund go up. If it goes up by a lot, that's even better, but starting with a lot of money is more important than having your fund go up a lot. As Cliff Asness wrote last year, "it’s mostly a lifetime achievement award given every year where the achievement (at least in The New York Times) is viewed in a somewhat negative light."

I should say that this seems to be less true this year than in the past. There are some newcomers on the list, including John Overdeck and David Siegel of Two Sigma, which suggests that they at least are not coasting on past wealth accumulation. On the other hand, "five managers qualified this year even though at least one of their funds fell in 2015," though that includes three Bridgewater managers whose large funds were up while a smaller fund was down. And Ken Griffin, tied at the top of the list with $1.7 billion in 2015 earnings, made about 14 percent in his main funds and is worth something like $7.5 billion, suggesting that at least half a billion dollars of his 2015 "income" came from Citadel's income, not returns on his own assets.

Meanwhile, there is no limit to fractal inequality. Jeff Bezos of Amazon -- like Overdeck and Siegel, a D.E. Shaw alumnus -- owns 82.9 million Amazon shares, which were up about $365 in 2015, making him more than $30 billion in what I guess you would call "take-home pay"? (I mean, I wouldn't.) Of course he had a great year -- the stock was up more than 100 percent -- but still, he made more than twice as much as the top 25 hedge fund managers combined. 

Elsewhere in hedge fund managers, Hillary Clinton's son-in-law's $25 million "Greece-focused fund is shutting down, after losing nearly 90 percent of its value," oops. Paul Singer says: Buy gold. And donors at the Robin Hood dinner will apparently get to see a private performance of "Hamilton," and there are cool sneakers. Also: 

Paul Tudor Jones, founder of Robin Hood, marched to the center of the room wearing a giant brain on his head, though his first words in the get-up weren’t rocket science. "This week I learned the number one thing women look for in a man is brains," he said.

Last week did he think it was money? 

Enforcement, etc.

Here is a charming profile of Iraj Parvizi, the "Mad Punter" who was acquitted of insider trading in London this week:

He cut a striking figure, cruising around in a Bentley in his adopted home of Romford, Essex, on the edge of London’s East End. He married a hairdresser and opened Giorgios, a boutique, beauty spa and restaurant whose clientele was made up of footballers and stockbrokers.

“It was fun,” Parvizi said with a grin, his chest puffed out on the witness stand. “You meet a lot of people, especially in Essex. Everyone wants to know who the guvnor is.”

"Jurors who had struggled to stay awake during discussions of contracts-for-difference and margin calls were rapt" during Parvizi's testimony, which seems about right. I have to say -- this is not legal advice -- but I am often confused when insider trading defendants in the U.S. don't testify in their own defense. It seems like such an important way to humanize yourself to the jury! I suppose it helps if you are charming and mad.

Elsewhere, authorities seem to be closing in on the hackers responsible for the Bangladesh central bank heist, and "the U.S. Federal Bureau of Investigation suspects an insider with access to the computers at the Bangladesh central bank played a role in the caper." And: "Intercontinental Exchange’s London futures market has been used as a front for Russian organised crime, according to police who have made two arrests for suspected money-laundering."

Food Stuff.

Money Stuff has spent the past couple of months chronicling the rise of the bowl here in these United States, so I am excited to report that the trend has crossed the pond to the U.K., and become somehow more overwrought. From the Telegraph:

Formal dining is out, casual eating is all the rage. In the same way that the cruet set has been replaced by a Maldon salt pig, so too the boring, old plate has been usurped by the bowl. Or coupe. 

And:

 When the archaeologists of the future dig up our era, there will be one artefact that will come to define the second decade of the 21st century above all: the coupe. 

And: "The coupe is merely the latest throe in the slow death of the plate." And: "It is easy to moan that the demise of the plate is linked to the death of civilisation itself." And: everything. Enjoy your quinoa bowls and smoothie bowls and fries in flower pots while you can, before our civilization collapses and nothing is left to tell future generations who we were and how we lived except our tableware.

There's a Pershing Square "Downfall" meme.

It is not good and I do not recommend it, but I know that some people will enjoy it, so here it is

People are worried about millennials.

Here is a Wharton blog post about an undergraduate business student's experience of investment banking recruiting, which quickly goes to a very dark place:

As the day of the Barclays final-round interview drew closer (colloquially known as a “Super Day”), I spent an increasing amount of time on the phone with the company’s analysts. My friends mocked me a little; of the bulge bracket investment banks, Barclays didn’t seem to be as respected. “Why are you spending so much time on Barclays?”

“What’s wrong with it? I would rather get an offer for the summer than no offer. Besides, the people are really nice.”

Elsewhere, there's a millennials exchange-traded fund, the Global X Millennials Thematic ETF (ticker: MILN), which "seeks to invest in companies that have a high likelihood of benefitting" oh hang on someone is Snapchatting me, and anyway I don't think that finishing this sentence will provide me with personal fulfillment or help save the world, guess I will just move back into my parents' basement and eat some things out of bowls, 100 emoji.

People are worried about unicorns.

Chris Douvos of Venture Investment Associates is worried about unicorns, specifically about how the lack of initial public offerings is hurting the venture-capital ecosystem:

“There’s this huge exit sphincter,” Douvos said. “So we’re pushing this capital out and we’re kind of feeding the snake, LPs give money to GPs, GPs give to startups, startups get liquid and it comes back to LPs and the cycle starts over again. When you’ve got this exit sphincter and the snake is getting packed fuller and fuller, it reminds me …"

I am going to cut him off there, because the metaphor actually becomes even more unpleasant, and you might quite reasonably prefer not to know what it reminds him of. I wish I didn't. The point is, he thinks it's tough to be a limited partner in a venture capital fund these days. 

But there is some good news. Uber, the Ubercorn, will be establishing a unioncorn in New York. A unioncorn (not its official name, though it should be) is like a union except that it is not at all a union; it's "an association for drivers in New York that would establish a forum for regular dialogue and afford them some limited benefits and protections — but that would stop short of unionization." 

Hyperloop Technologies, the Extremely Fast Flying Unicorn Except It Flies Through a Long Windowless Tube, which is not as romantic as a pegasus but what are you going to do, "raised $80m in a second round, taking the total so far to more than $100m, with the backing of investors including GE Ventures, a unit of General Electric, and SNCF, the French national railway." (Also it is "changing its name to Hyperloop One.") I don't know the valuation, so perhaps Hyperloop is not strictly a unicorn, but given that Elon Musk came up with the idea I assume it is; the man is a champion breeder of unicorns.

Oh and: "Kickstarter Could Have Been A Unicorn — Here's Why It Said 'No Thanks!'" (It's about being a public benefit corporation.)

People are worried about bond market liquidity.

Here (via Alexandra Scaggs) is a record of a meeting of the Federal Reserve's Federal Advisory Council and Board of Governors last week in which they discussed everyone's favorite topic. "While most market participants believe that market liquidity has deteriorated, available data do not indicate conclusively that decreasing liquidity poses a systemic risk to the financial system." And:

Until the market is stress-tested by a period of significant and sustained outflows, the precise nature of the adequacy and resiliency of corporate bond market liquidity will remain unknown. When interest rates begin to increase and the value of corporate bonds decreases, the net flows into bond portfolios, supplied by primary debt issuance, will change to outflows into the secondary market. In addition, the record amount of corporate debt issuance will, by simple math, turn into record amounts of corporate bond maturities in the coming years. If this debt needs to be refinanced, it could add to a stressed liquidity scenario.

Elsewhere in bonds: "A red-hot market for higher-quality corporate debt is enticing Dell Inc. to begin marketing the investment-grade-bond portion of its debt package backing its acquisition of EMC Corp." And: "Spain is becoming the latest euro-region sovereign to offer investors 50-year bonds this year, as countries take advantage of historically low interest rates with ultra-long debt sales." But: "More than $1tn in US corporate debt has been downgraded this year as defaults climb to post-crisis highs, underlining investor fears that the credit cycle has entered its final innings."

Things happen.

How Bill Gates Became Embroiled in a Swiss Shareholder Fight. Puerto Rico’s Fiscal Fiasco Is a Harbinger of Mainland Woes. Chinese Acquisitions of Foreign Firms Already at Full-Year Record. ‘Contract for Deed’ Lending Gets Federal Scrutiny. Jeremy Grantham on commodity prices. Former broker who had affair with client challenges firing. "Extreme events and outcomes are getting more common, in part because systems are getting more complex." Germany’s School for Central Bankers Draws Risk-Averse Crowd. Morgan Stanley commodities group moving to Times Square after 15 years in suburbia. Freeport to Pay Noble Corp. $540 Million to Not Use Oil Rigs. "I think we need people from all walks of life as prosecutors, not just rich kids." Luxury Condo Boom Is Ending in Manhattan. Little Petunia lawsuit. Pu-238 shortage. Extra-terrestrials. Good fonts. Basement Rembrandt. Hot Wheels Homer. Hot-mic Queen. Dog loves bananas.

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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