Mr. Fun and Poison Short-Sellers
We have talked a couple of times before about how John Cryan, the chief executive officer of Deutsche Bank AG, is no fun: He has "the pale skin of a workaholic and a frequent flyer," a loathing of childhood, a penchant for memorizing Latin tree names, and a nickname among his colleagues of "Mr. Grumpy." But that's all changed now!
“The perception seems to be that I do all the cleanup and then never have the fun,” he says on this June afternoon as he sits in a conference room with panoramic views of Germany’s financial capital. “Now I’m spending half my time with clients. I just did a meeting this morning, and it was, ‘Right, we want to talk about the following five things.’ And it was all about their business. It’s more fun now.”
It is all relative I guess, but you'd probably rather talk about client business than endless litigation too. Cryan has led Deutsche Bank in raising capital and "strengthening its legal controls, rewiring its information technology systems, taming its trading culture, and rebalancing its customer base, all while trying to boost sales from a shrinking enterprise." The bank has also launched "a renewed commitment to Germany" -- "you've got to have your roots in good old Germany," says Supervisory Board Chairman Paul Achleitner -- that it calls Project Oaktree, though presumably Cryan wanted to call it Project Quercus robur.
The gist of Cryan's reforms for Deutsche Bank are that he wants to move it away from being a trading powerhouse -- a "flow monster" -- and back to more of a traditional corporate and investment bank.
Cryan plans to reverse this trend by pivoting toward corporate clients and away from institutional investors such as hedge funds. The idea is that catering to companies will bolster mergers advice and securities underwriting, which would offset diminishing trading income. So the bank is combining the global markets unit and the corporate finance teams again after splitting them up in 2015.
There are various flavors of skepticism about this -- Is it the right plan? Will they be able to implement it? -- but one leading complaint is that it is the right plan but too late:
Thomas Mayer, Deutsche Bank’s chief economist from 2010 to 2012, says the shift makes sense but should have been done long ago. “They have lost so much time,” he says.
If your view is that the post-crisis change in the banking industry is permanent, that the next 100 years of banking will be about a boring decline of trading businesses, then they have lost some time, but they're a big bank, and 100 years is a long time, and eventually Deutsche Bank will be attuned to the new world. If your view is that the change is cyclical -- that regulations are already being rolled back, animal spirits are already being unleashed, and the groundwork is already being laid for the return of profitable and aggressive trading businesses -- then Deutsche Bank's long period of uncertainty might have left it well positioned to be more flexible than its rivals. Or it might have left it out of sync with the cycle: Maybe Deutsche Bank will complete its pivot to sleepy regional banking just in time to miss out on all the benefits of being a flow monster.
Poison short sellers?
My Fifth Law of Insider Trading, which is of course not legal advice, is that you should not insider trade by planting bombs at a company and shorting its stock. Several people have criticized this law by saying "well that's not really insider trading, that's a different sort of illegal stock manipulation," but I do not want to hear it; it is insider trading enough for me. Anyway the Fifth Law is meant to be illustrative, and it applies to sabotage-based trading that goes beyond literal bombs. For example, Law 5B of Insider Trading would be, don't short a restaurant company's stock and then poison its food:
Aaron Allen, principal at Aaron Allen & Associates, a restaurant industry consultancy, posited in a LinkedIn post on Monday morning that the Chipotle illness might not just be a matter of luck. "A lot of things stacked up that made it suspicious," he told Bloomberg in an interview on Monday, "and when you look at it from a statistical point of view, even more suspicious."
Those things are basically that ... Chipotle had a lot of food-poisoning outbreaks?
"We're not saying this as a definitive," he said. "But if you were a short seller and you were looking for where there would be the most financial gain in the restaurant industry, the best way is a food safety scare, and the best stock would be Chipotle."
Chipotle "did not see any evidence to support" this theory, and I am not especially convinced. Still, I hope it is true. I hope some hedge fund with a big short position on Chipotle Mexican Grill is sending out analysts to sneeze on the food when no one's looking. Short sellers get a bad rap as "icky and un-American," always trying to bring down successful companies, but perhaps it is surprising that there are so few stories like this, of Fifth Law violations in which short sellers actually sabotage their targets. Muddy Waters claimed that St. Jude Medical devices could be hacked and lead to patient deaths, but it never went out and killed patients to prove its point. With enough money on the line, you might expect more short sellers to resort to sabotage, but it still seems vanishingly rare.
Is CDS bad?
Here is a story about how credit default swaps sometimes don't work quite as intended: They may not pay out 100 cents on the dollar on Banco Popular Espanol SA's defaulted capital instruments because those instruments may still have legal claims available, or contracts on Matalan may be left "orphaned" if CDS sellers recapitalize the company. This is all broadly correct: CDS is not simply a bet on whether an issuer will or won't default; it is a specific derivative contract with a specific set of provisions, and much of the joy in its use is in figuring out how to make money by reading those provisions more cleverly than everyone else does. I think that is rather lovely but others disagree:
Some market practitioners fear that these attempts to exploit contractual quirks have undermined liquidity in the so-called single-name CDS market, where investors buy insurance on a single company, rather than a broad basket of companies through an index.
“All the legal complexities of CDS create a nice playground for hedgies, but we need to have more and more investors involved,” said Jochen Felsenheimer, a managing director at XAIA Investment. “Real-money investors are happy using the indices, but as long as they see tricky goings on in single-name CDS, they simply won’t touch it.”
Look. There is already a great product for real-money investors. It is called "bonds." If you are a real-money investor, you can take your real money use it to buy bonds -- actual investments of actual money in actual companies -- rather than CDS, a purely synthetic derivative product. Similarly, if you are a real-money investor who owns some bonds of a company, and you want to hedge your exposure, you can just sell some of the bonds.
I like that CDS is weird. It teaches a useful lesson, that getting a thematic call right, or predicting which companies will or won't default, isn't enough. You still have to read the documents, and think about corner cases, and be prepared for surprises. Bonds, after all, are complicated. Defaults are complicated. It is tempting to think that CDS should be easy, and should abstract away from those complexities by being binary contracts that pay out at 100 cents on the dollar on any default:
“It’s the biggest problem in CDS and it’d be much neater if you always had a payout at 100 [per cent],” said an analyst at a credit hedge fund. “You just don’t know what you’re going to get back in the auction. It’s needlessly complex, but it suits a load of different people, unfortunately.”
But then it wouldn't be a good hedge for actual bonds, would it? After all, bonds can default and have a higher-than-zero recovery; you want your CDS prices to reflect the actual risk in bonds, not just an isolated probability of default. CDS suits loads of different people because it is complicated, because it tries -- imperfectly -- to mirror the complication of the rest of the world.
NYSE Group Inc. opened its new "NYSE American" exchange on Monday, which copies IEX Group Inc.'s use of a 350-microsecond "speed bump" to protect dark orders from crumbling prices:
NYSE American marks something of a reversal. NYSE Group Inc., its parent, was among a group of exchanges and trading firms that spent months railing against IEX’s proposal to become an official stock exchange with an intentional delay on orders. Now, less than a year since IEX began operating as one, NYSE reversed course by creating a venue that employs the same strategy, while charging less for some trades.
Look, you can't really criticize them too much for that. Presumably NYSE genuinely believed that intentional delays should be illegal, but once the Securities and Exchange Commission decided that they were legal, then NYSE is as free to use them as anyone else. If IEX is making money by doing something that NYSE thinks is bad, then NYSE's first choice was to try to stop it, but when that failed the perfectly reasonable second choice was to jump in and try to take some of that money for itself. They are running a business here. Still I would like it a lot more if they had just named the new exchange "NYSE Cynical." It's not like anyone is routing orders to NYSE American because they get a warm patriotic glow from the name.
Blockchain blockchain blockchain.
Oh come on, the Financial Times's Alphaville blog beat me to doing an initial coin offering. Theirs is called Alphachain, and here is the obligatory short and nonsensical white paper, which starts with a quote from Wittgenstein. (The ICO blog post starts with a quote from me.) I feel that it is very unfair that they will be raising money to "retire young(ish)" with this ICO, and I won't, simply because they got their act together to actually do one while I have just been making dumb jokes about it here. Not that theirs is much more than some dumb jokes about doing an ICO, but it is more in one critical respect, which is that they include bitcoin and ether addresses to which you can send your money. I have not yet gotten around to doing that. You could just Venmo me I guess? Anyway in the future everyone will have their own parody cryptocurrency. I should do an ICO for a token that lets you set up your own parody cryptocurrency, though technically that is ether.
TenX is pitching its debit card as an instant converter of multiple digital currencies into fiat money: the dollars, yen and euros that power most everyday commerce. The company said it takes a 2 percent cut from each transaction and has received orders for more than 10,000 cards. While transactions are capped at $2,000 a year, users can apply to increase the limit if they undergo identity verification procedures.
And: "Avoiding blockchain for blockchain’s sake: Three real use case criteria."
People are worried about the debt ceiling.
"Wall Street Braces for Debt-Ceiling Showdown," reads this perennially recurring headline, though this one is from yesterday. And: "Investors Shy Away From T-Bill Auction With Debt Ceiling Looming." One thing that I sometimes think about all these "People are worried about ____" sections is that you shouldn't worry too much about them: Once something gets enough media worrying to become a recurring Money Stuff section, that means that we're prepared for it; the real crisis will be caused by something that we weren't all worrying about. But that is a very efficient-markets view of worry, and I am not sure that it applies to manufactured political crises. The debt ceiling is a purely elective crisis: Congress could just decide not to have a crisis, and we wouldn't have a crisis. There are no tradeoffs or hard compromises or tricky issues to solve; Congress is just handed the question "would you like the U.S. to default on its debt, or not?" How confident can you be that it will continue to choose "not"?
People are worried that people aren't worried enough.
If you think that people aren't worried enough, why not put some money on that position? Here's someone who did:
About 1 million options contracts changed hands on a bet that the CBOE volatility gauge, called VIX, will rise to 25 by October. That’s a level the VIX hasn’t reached since June 2016, when the U.K. surprised global markets by voting to exit from the European Union.
If he or she is correct, Friday’s investor could see a payout of about $265 million, according to Stefan Wintner, vice president who covers volatility strategies at the commodity trading adviser Dunn Capital Management, which is based in Florida.
There is a payout graph. The trader loses with a VIX below 12 or above about 35, and you'd hate to bet that people aren't worried enough, turn out to be right, and then lose money anyway because people ended up even more worried than you'd thought they'd be.
People are worried about unicorns.
We talk sometimes around here about the theory that common ownership of multiple public companies in the same industry by the same group of large institutional shareholders -- often index funds and quasi-indexers -- might reduce competition in that industry. The weirdest laboratory for that theory, though, may be the ride-sharing industry, which is dominated by large private companies, none of which are owned by index funds, but all of which seem to have a lot of cross-ownership.
The latest is that SoftBank Group Corp., which already owns stakes in Didi Chuxing and other ride-sharing companies, and which was once described as "the biggest challenger to Uber," has approached Uber Technologies Inc. "about taking a multibillion-dollar stake in the San Francisco company." "SoftBank’s talks with Uber are described as preliminary and one-sided," which is an unusual way to describe talks; presumably SoftBank called Uber's CEO and the call went to voicemail until Uber actually appoints one. "We're a little busy here guys," Uber could reasonably have replied. But a big SoftBank/Uber stake would further cement the ride-sharing business as a sort of global keiretsu in which everyone owns a little bit of everyone else. Why swoop in and undercut your competitor when your shareholders are also its shareholders, and also you are its shareholder, and also it is your shareholder?
Also: What price would they pay? Uber's most recent valuation in a fundraising round was something like $68 billion, but since then Uber has had some unpleasantness, and lost its CEO, and apparently traded down in the secondary market. An approach from SoftBank to do a large down-round financing wouldn't sound all that attractive; an approach to do a financing at a premium to Uber's last round would be ... rather generous on SoftBank's part? This is never really an issue with public companies: If they want to raise money, they raise it around where their stock is currently trading, without wasting too much time on nostalgia over where their stock was trading two years ago. With tech unicorns, though, that nostalgia can be paralyzing.
People are worried about bond market liquidity.
Good news for bond market liquidity: Tradeweb Markets LLC's electronic bond trading platform now handles about 1 percent of corporate volume.
While Tradeweb’s 1 percent market share is tiny, it shows the firm is gaining traction, a rare accomplishment for startups trying to upend the status quo. Several firms have tried to popularize bond trading over computers, including Goldman Sachs, BlackRock Inc., MarketAxess Holdings Inc. and a slew of bank-led consortiums with code names like Oasis and Neptune. Many of those efforts flopped, partly because dealers were worried they’d weaken a lucrative segment of their business if trading changed too much.
We talked last week about how the real liquidity providers in bond markets are value investors, not dealers: Dealers move bonds from one investor to another, but if a lot of investors are selling, there needs to be an ultimate buyer, and that's not going to be a dealer. It's going to be an investor (a fund or pension or insurance company) with long-term funding and appetite to buy beaten-down bonds. So in a world where dealers are retreating from making markets, why shouldn't investors step up to do it? And in fact they are:
Tradeweb is also seeing investors increasingly willing to create prices for bond deals, traditionally the role of sell side banks. “That is going to continue to evolve, you will see more price providers come into the market, and it’s not just all from the buyside,” Olesky said. “As we’ve moved into the world of all-to-all, it’s a wider universe of liquidity.”
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