Hedge-Fund Compliance and Gloomy Banks
Programming note: Money Stuff will be off tomorrow and Friday for personal reasons. Sorry! Back Monday.
Here's a Bloomberg News examination of the downfall of Visium Asset Management, Jacob Gottlieb's health-care hedge fund that became a big multi-strategy fund and that then foundered on insider-trading and mismarking charges. I found myself a little charmed by this:
Initially, Visium was more of a family affair, with Gottlieb’s relatives pitching in. His father, an accountant, had an office at the firm’s New York headquarters until 2010 and occasionally helped on financial matters in an unofficial capacity, according to people with knowledge of the arrangement who asked not to be identified without authorization to discuss the firm’s internal affairs.
Lumiere was hired in 2007, two years after his sister Alexandra became engaged to Gottlieb.
As recently as 2009, Gottlieb’s brother Mark was the head of compliance.
There is a certain idea of a hedge fund that is very casual, just a couple of people, bouncing around ideas, everyone pitching in -- where the advantage comes from independent thinking, from not being too bound up in Wall Street formalities like, you know, hiring someone with a different last name to run compliance. This can actually work fine! Like, if there are just a few of you, and you know each other really well, and you sit next to each other all day, you can probably be reasonably confident that your colleague/brother is not mismarking bonds or insider trading. The problem is when you scale up -- Gottlieb "told Institutional Investor four years ago that he was committed to running a 'very high quality, high integrity firm' that would compete with large multi-strategy hedge funds," and "assets ballooned from $4 billion in 2013 to $8 billion this year" -- to become a big institution rather than just some guys trading some stocks. You can run a firm based on trusting your family members, and you can run a firm with a professional compliance department that carefully monitors the bunch of strangers who showed up to work for you, but those are pretty disjoint approaches, and it is hard to transition smoothly between them.
Meanwhile here is a negotiating strategy!
Gottlieb drove a hard bargain in his private life, too. A dispute over a prenuptial agreement held up his marriage to Alexandra Lumiere, Stefan’s sister, for more than a year and a half, through the birth of their first child and until she became pregnant with the second, according to New York court documents. On 12 occasions, court documents show, Gottlieb made an offer, Lumiere agreed, and Gottlieb countered -- with something less.
Imagine trading bonds that way. "I'll pay 90." "You're done." "No it's 88." "What? Fine." "Now it's 86." "Fine." I am bored just typing this after three times; imagine how she felt after twelve re-trades. At some point maybe you have to rethink that marriage. (She did, and they divorced in 2012.)
Meanwhile Goldman Sachs, which announced earnings yesterday, also "announced on Tuesday morning that it had slashed 1,700 positions in the past three months," which is "the firm’s largest quarterly reduction in headcount since the financial crisis." The fun, and the people, seem to be going out of banking. If you are a Goldman investment banker, the job cuts are bad, but it is somehow even more troubling that Goldman spent time on its conference call talking about the 20,000 new customers who signed up for savings accounts and certificates of deposit at its online retail bank. (Disclosure: I am a former Goldman investment banker, and also one of those 20,000 new online retail customers.) "It really speaks to the brand strength, which has been very nice to see," said Chief Financial Officer Harvey Schwartz. A Goldman that thinks about its brand strength among online retail customers is not the Goldman that I left.
On the other hand:
Goldman’s Mr. Schwartz also said on Tuesday’s conference call that the firm’s long-awaited foray in online lending would kick off in the fall with the launch of an unsecured consumer loan.
Aren't unsecured consumer loans weird? They basically don't exist as a product offered by banks, but there is a lot of demand for them, as witnessed by the rise of marketplace lending firms like LendingClub that make unsecured consumer loans and then securitize them in interesting ways. One way to read Goldman's entry into unsecured consumer lending is just, like, Goldman has built a friendly Main Street bank, it wants to make helpful loans to customers, and it sees that customers want unsecured loans and can't get them from other banks. The other way to read it is that marketplace lending is the cutting edge of securitization opportunities, what the mortgage market was a decade ago, and Goldman is going where the action is.
Elsewhere, it apparently costs Bank of America $1 billion per year "to shuffle papers around and transport money in armored trucks."
Blockchain blockchain blockchain.
Despite those armored trucks, the dollar, and the pound, and the euro, and so forth, are all basically electronic currencies. Mostly, if you own dollars, that means that a bank somewhere has a database, and in that database there's an entry with your name and a number of dollars next to it. And that bank itself has its own account at a central bank -- the Federal Reserve, for dollars -- that is also a database entry with a number of dollars next to its name. And if you want to give me some of your dollars, our banks, and the Fed, will just update their databases to change the numbers of dollars next to our names.
Lots of people dislike this system for a variety of more or less good reasons. For one thing, the actual process of reducing and increasing everyone's balances takes what is, in 2016, a ludicrously long time. Like, we all have computers, man! It should not take days to transfer money. For another thing, bank accounts need to be really safe, but banks themselves are risky, and it makes people nervous when banks make risky investments with safe deposits. Relatedly, banks, and the systems that they use to transfer money, seem to be susceptible to hacking. And relying on commercial banks to increase and decrease the money supply can also be inefficient for monetary policy.
And so you often see proposals that seek to solve one or more of these problems by replacing banks in their role of, like, keeping track of where all the money is. So there is bitcoin, which is a decentralized system of computers that manage a new currency. Another solution sometimes proposed by economists is for the central bank to just let -- or require -- people to keep bank accounts at the central bank, cutting down on the need for banks.
Here is another such proposal, from staff at the Bank of England, which focuses on "the macroeconomic consequences of a central bank granting universal, electronic, 24x7, national-currency-denominated and interest-bearing access to its balance sheet via the issuance, according to well-specified policy rules, of a central bank digital currency (CBDC)." But it is 2016, so there is of course a blockchain, or at least a distributed ledger. "The Central Bankers' Bold New Idea: Print Bitcoins," says the Wall Street Journal , though here are no bitcoins involved. The researchers explain:
We conceive of a world in which the majority of transaction balances would continue to be held as deposits with commercial banks and subject, where relevant, to existing deposit protection arrangements. Credit provision would remain the purview of existing intermediaries, and commercial banks would continue to be the creators of the marginal unit of money in the economy. In short, we imagine a world that implements Tobin’s (1987) proposal for “deposited currency accounts”.
From a macroeconomic perspective, the use of distributed ledgers is not strictly required for the operation of a CBDC system, but we contend that it would be necessary as a practical matter, in order to ensure the resiliency of a system that would clearly be of critical importance to the financial stability of the economy. There are several ways in which a such decentralised system could be implemented. A central bank could maintain all of the copies of the ledger itself, several public institutions could maintain copies for each other, or private sector agents could be involved in collaboration with the central bank. For this paper, we remain entirely agnostic about the technical implementation of any such system, beyond an assumption that it can be implemented without the explosive costs of existing cryptocurrencies.
I have bolded my favorite part. A distributed ledger maintained by a single trusted central party! Like, the Bank of England could give people access to its balance sheet by just writing down a list, in a notebook, of who has how many pounds. But blockchains and distributed ledgers are cool now, so even if your ledger is just literally the ledger of a single central currency-issuing institution, it needs to be distributed somehow.
Oh fine, that is not fair: The distributed ledger is a way to integrate the money held on the central bank's balance sheet with the rest of the money held elsewhere, and there are good arguments for why it's a good way to implement the plan, for security and ease-of-use and macroeconomic reasons. The researchers don't call for all money to be held in the form of central-bank accounts -- only some of it -- so it's not as simple as just keeping track of the Bank of England's own balance sheet. But you have to admit that it's a little weird to build a distributed ledger and keep all the copies in one place.
Anyway here's a related speech on the concept, from March, and an earlier more technical paper on "Centrally Banked Cryptocurrencies" that explains how the "decentralized blockchain-based transaction ledger" could work. Here is a "Britcoin" skeptic, who draws a distinction between "double-permissionless shared ledgers" (e.g., bitcoin) and "double-permissioned shared ledgers" (e.g., a central bank being in charge of a ledger that it shares with participants). And here is Antony Lewis with "So you want to use a blockchain for that?"
Mergers and acquisitions.
I have a general dumb model of antitrust enforcement that it just gets more noticeable later in a merger cycle, because at some point the last giant company left in an industry is buying the second-to-last, and the regulators just have to step in and tell them to stop. But the Anthem/Cigna and Aetna/Humana deals are particularly sensitive, and the Justice Department's plan to sue to stop those mergers is probably not just about sheer size:
The government’s concerns echo a broader sentiment within the Obama administration that competition must be protected among health insurers in order to deliver quality health care to Americans. This month, President Barack Obama and Health and Human Services Secretary Sylvia Mathews Burwell both cited the importance of competition in insurance markets.
Obviously the role of the antitrust enforcers is to protect competition, but competition in some markets is more salient than in others. Anyway it's sort of sobering news for M&A generally:
If both deals are withdrawn, 2015 would no longer be the largest year ever for mergers and acquisitions globally, according to Dealogic, a data provider. Instead, 2016 would be on pace to break records for the scope of withdrawn deals, with $723 billion of deals being abandoned so far this year.
"Most withdrawn deals ever" seems like an appropriate superlative for 2016.
Bill Ackman's crusade against Herbalife has focused on the claim that Herbalife distributors don't really sell products to consumers; they just try to get paid for recruiting. And, to an outside observer, it does seem odd that Herbalife has so much trouble demonstrating that it makes actual retail sales. But it's not actually odd; that's how the whole multi-level marketing industry works. Fortune's Roger Parloff explains that MLMs are allowed "so long as they followed certain rules—known as the Amway rules, because of the case that established the precedent—that were supposed to ensure that when MLM distributors bought product from the company they were really consuming or reselling that inventory," but that the Amway rules don't really do much to ensure that. But "the consent decree Herbalife signed Friday replaces the weak, difficult-to-enforce Amway rules with robust, verifiable proof that products are reaching good-faith consumers." And while that decree doesn't directly apply to any other multilevel marketers, Herbalife is probably not wrong when it "anticipates these agreed upon procedures will now provide direction for the entire direct selling and multi-level marketing industry." Parloff: "While the decree’s terms may be strong medicine even for Herbalife, they would likely cripple, if not kill off, many of its competitors in what’s known as the direct selling, or multi-level marketing, industry."
Another claim that Ackman has sometimes made -- including after last week's settlement -- is that tighter regulation will kill Herbalife, because (as he put it last week) "these fundamental structural changes will cause the pyramid to collapse as top distributors and others take their downlines elsewhere or otherwise quit the business." The theory is that if multi-level marketing is just about being rewarded for recruiting, the biggest and most successful recruiters don't actually care whether they're selling diet shakes or cosmetics or whatever, and will leave Herbalife for another MLM if Herbalife becomes too restrictive. But that theory only works if the other MLMs don't become similarly restrictive. If Herbalife's new rules become the industry standard, then where will distributors go?
People are worried about unicorns.
I can rarely resist a story about Slack, the meta-unicorn that is so good at the core unicorn business of raising money at high valuations that it can turn around and give the money to other startups. So: "On Tuesday the company announced 11 new investments in businesses including Abacus, a data and behavioral analysis platform that automates expense reports, and Konsus, a service that connects with on-demand freelancers." Why not? "Slack’s ability to raise funds quickly has positioned them to use investing as another source of revenue." It's also an interesting proposition for venture capitalists: If you invest in Slack, you're also getting access to a bunch of smaller, earlier-stage companies hand-picked for you by Slack in its free time. It's like a unicorn-of-unicorns.
Elsewhere, after Hyperloop One was sued by a group of former employees led by co-founder Brogan BamBrogan, it sued them right back, accusing BamBrogan and friends "of trying to start a competing venture and to poach employees to do so." Delightfully, the competing venture was called Hyperloop Two, though it also registered the domain name for "Hyperloop Too." Brogan BamBrogan: a fan of repetition in naming.
The original lawsuit claimed a variety of mismanagement and harassment at Hyperloop One, but the response claims that the problem was actually BamBrogan:
“BamBrogan had become increasingly disruptive to the Company with his profane, erratic, sexist, and inebriated outbursts toward management, fellow employees, and outside consultants including screaming in the face of a co-worker for no rational reason, punching a wall, and breaking a beer bottle.”
I hope when he punched a wall or broke a beer bottle he'd shout "Wall BamWall!" or "Beerbottle BamBeerbottle!" His name is just so onomatopoeic.
People are worried about bond market liquidity.
But there's good news in single-name credit default swaps:
Intercontinental Exchange Inc. is making it easier for investors looking to hedge default risks to bypass the Wall Street banks that have long been the gatekeepers in the $12 trillion credit derivatives market.
The Atlanta-based exchange owner last week debuted a new way to buy and sell contracts tied to the borrowings of individual companies, mimicking how stocks and futures are traded, according to people with knowledge of the matter. ICE is able to cut out the dealers that created the swaps market by allowing investment firms to transact with each other on the platform with a clearinghouse sitting in the middle of every trade, the people said, asking not to be identified as they are not authorized to speak publicly.
One day maybe there will be 100 electronic platforms for all-to-all CDS trading.
I wrote about insider trading.
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