Lawyers of the World Unite! You Have Nothing to Save but Your Jobs!

Posted on August 21, 2007 by Felix

Yves Smith of Naked Capitalism submits:

A Bloomberg story reports that large corporate law firms such as Kirkland & Ellis and Jones Day are facing not merely pressure, but explicit client demands, to send junior level work overseas.

This is a more troubling development than might appear obvious at first blush. This sort of behavior confirms Princeton economist Alan Blinder’s views (dismissed in some circles as unduly alarmist) that 30 to 40 million US jobs are vulnerable to offshoring.

We’ve taken issue with the view that things will get quite that bad (although we don’t dispute that Blinder is directionally correct). Companies and analysts fixate on the wage gap between the US and, say, India, when the total cost savings are considerably less (managing work at a remove involves considerable oversight and coordination, as well as greater possibility of screw-ups). And the majority of companies that have outsourced work say they are disappointed with the results. In addition, the further offshoring goes, the more the wage gap will diminish.

But as with second marriages, hope, and the prospect of those juicy savings, trumps experience.

Law firms in particular may be hoist on their own petard. For years, they were able to in essence re-sell the same standard form documents that were tweaked for the needs of a particular client. Edgar, the SEC’s database, leveled that playing field by making the deal documents produced by top firms public. A lawyer I know regularly debates the merits of various firms’ forms based on his Web trolling, much to the horror of other attorneys. His favorite employment agreement? Linda Wachner‘s, the most egregious.

That cushion (and the well founded suspicion among clients that they were paying for the same underlying product multiple times) may have led to inefficient practices and structures at law firms and has certainly led to client pushback on costs (although at least so far, the very top tier, such as Sullivan & Cromwell, Davis Polk, and Cravath, appear unaffected. However, my probably imperfect recollection is that Davis Polk has sent some work abroad, so perhaps astute proactive moves, along with their considerable prestige, has forestalled client demands).

Offshoring is also eroding the quality of the workforce in the US. There are now hardly any entry level IT jobs in the US. They go to Indian or Chinese software engineers. Similarly, the legal and investment banking tasks sent overseas are the yeoman’s work that historically enabled young people to learn the profession. Fortunately, many service firms aren’t of a scale where this sort of outsourcing is viable, but nevertheless, it reduces the number of domestic training positions. It’s a hollowing out of service industries. The fact that is is now happening at the very large firms that do the most sophisticated corporate work begs the question of where their next generation of partners will come from.

Since outsourcing threatens even high-level career paths, the commonly-invoked remedy of re-training displaced workers may not be all that helpful.

Posted in labor, law | Comments Off on Lawyers of the World Unite! You Have Nothing to Save but Your Jobs!

Dubious Factoid of the Day, Japan Edition

Posted on August 21, 2007 by Felix

In the era of the hyperlink, I’m increasingly mistrustful of bandied-around

statistics which don’t have an easily-accessible paper backing them up. Yves

heaps praise on one a piece of market research by Gartmore, for example, while

scorning

a similar piece by Javelin; I’m not likely to believe either of them, unless

and until I can see the actual market research, as opposed to a summary of conclusions.

Similarly, Tyler Cowen picks

up a statsitical factoid from Dana Thomas:

Analysts estimate that 20 percent of all luxury goods are sold in Japan and

another 30 percent to Japanese traveling abroad — meaning Japanese buy half

of all luxury goods. Today, approximately 40 percent of all Japanese own a

Vuitton product.

"Analysts estimate" is a classic red flag. Why are these "analysts"

nameless? And did more than one analyst really independently come up with exactly

the same estimate?

What’s more, the estimate doesn’t pass the smell test – certainly not

unless "all luxury goods" are defined carefully and narrowly so as

to only include the big international luxury brands so beloved in Japan. I mean,

Prada might be big there, but you’re not likely to see a Maserati as you walk

down the street. But in any case I see more Prada in Italy than in Japan. Color

me unconvinced.

Posted in statistics | Comments Off on Dubious Factoid of the Day, Japan Edition

The Attraction of 15 Central Park West

Posted on August 21, 2007 by Felix

What do hedge-fund manager Daniel Loeb, Citigroup creator

Sandy Weill, and Goldman Sachs CEO Lloyd Blankfein

have in common? They’ve all bought an apartment at 15 Central Park West –

a new development in New York where, as Paul Goldberger puts

it in the latest New Yorker, "the more spectacular units went

for prices that would make even a movie star blanch". (Denzel Washington

and Sting have apparently bought places on lower floors).

It’s the most successful residential development in New York history. So just

what is it that makes 15 CPW so different, so appealing?

One of the interesting things about 15 CPW is that it’s unabashedly retro.

"I have never seen anything quite like it," says Golberger. "Historical

pastiche is common enough in country houses or museums, but it’s rare

on the scale of a skyscraper."

Here’s another interesting thing about 15 CPW: "All the apartments were

sold before the building was finished, at prices that started at more than two

thousand dollars a square foot and were subsequently raised nineteen times."

And this is a big building: the apartments in it are worth roughly $2 billion.

If you added up all the trendy downtown starchitect developments, from Richard

Meier’s glass towers in the West Village through Jean Nouvel’s

glass block in Soho, to Charles Gwathmey’s glass tower in the

East Village, Bernard Tschumi’s glass tower on the Lower East

Side, and even Herzog and De Meuron’s glass building in Noho

and John Pawson’s minimalist temples in Gramercy Park, you’re

still not even close to $2 billion.

What’s going on here? New York’s ultrarich buy Cattelan, not Canaletto. They

flock to Thomas Keller, and abjure Alain Ducasse. If their lifestyles are so

modern, why would they want to live in a limestone tower with book-matched marble

in the bathrooms?

I think there’s a combination of factors at play here. One is that 15 CPW simply

feels solid. It has an excellent address and a timeless quality to

it: "the traditional-looking front wing blends into Central Park West as

if it had always been there," notes Goldberger, and there’s very little

chance that it will be seen as hopelessly dated in a decade or two. If any post-war

residential building in New York will ever achieve true long-term desirability,

this is probably the one.

Another factor is that 15 CPW’s arhitect, Robert A. M. Stern,

isn’t asking the residents of his building to change their lifestyle in order

to fulfill his vision. You want a living room and a dining room and walls to

hang art and elegantly-proportioned spaces and even bedrooms for the children

or houseguests? You’ve got it. You want to have stuff, rather than

an elegantly curated collection of mid-century modern architecture presented

in a white cube? No problem. You like to walk on carpet, and admire the view,

and not have your favorite leather armchair feel out of place? Walk right in.

When you buy something downtown and trendy, by contrast, you’re buying not

an apartment so much as a lifestyle. Which is maybe fine for a young trader

cashing a massive bonus check. But the real titans of the financial world already

have a lifestyle, thankyouverymuch, and they’re not about to trade

it in for a new one.

AA Gill famously toured

many of the new downtown buildings for Vanity Fair last year.

What they all seem to have in common are their vast expanses of glass. Over

in Europe, we’re all a bit fed up with the answer to every urban architectural

problem being a sheet of textured glass wrapped around steel. We’ve grown

cynical about the metaphor of transparency, openness, harmony, and light.

It’s not like floating in the sky. It’s like living in Pyrex. Like being the

ingredients in some glutinous civic fruitcake...

These apartments don’t have space for a family, or dogs with hair, or lives

that involve more than passive absorbing of electronic stimuli and e-mails…

No one will buy one of these gloomy spaces and say, "I want to have kids

here. I want to grow old and die here."

And there, in a nutshell, you have the attraction of 15 CPW. When you’re lying

on your fantasy deathbed, with your loving family gathered around you, you don’t

want floor-to-ceiling windows and sterile minimalism. You want to feel at home,

in a place of warmth and comfort.

Posted in architecture | Comments Off on The Attraction of 15 Central Park West

The Four Views of What the Fed Should Do

Posted on August 21, 2007 by Felix

Yves Smith of Naked Capitalism submits:

A gut-wrenching two weeks in the credit markets have been capped by unprecedented moves by central bankers. The ECB’s offer of an unlimited infusion to member banks the week before last was followed last Friday’ by the Fed’s discount rate cut, which included stern warnings that those who needed it better use it and a volte-face on its interest rate posture (a bias towards tightening suddenly became a promise that the Fed would provide more liquidity if conditions warranted). The Fed, ECB, and Bank of Japan are continuing to inject funds, albeit at a lower rate.

However, both the Financial Times and the Wall Street Journal report that the Fed’s actions have done little to stem chaos in the money markets, begging the question of whether the Fed should do more, and if so, what.

Opinion about the wisdom of the central bankers’ actions is coalescing into what we will characterize, broadly, as four views. Note that while some commentators may engage in nuanced fence-straddling, for the most part, the positions are well-defined.

For the purpose of simplicity, we’ll focus on the Fed, although these comments apply to some degree to other central bankers. {Notice: for those who have the time and interest, a more detailed version of this post appears here]

First is the group that thinks that central banks should do whatever it takes to keep the markets afloat. The most extreme and vocal advocate is Jim Cramer, followed closely by Don Luskin, but they have some intellectually respectable company, such as economist Thomas Palley (albeit with caveats that would set Cramer off):

In bad times, such as we are now experiencing, the Fed is obliged to come to the rescue of lenders for fear that if they stop lending the economy will tank….

The threat posed by the current crisis is such that the Fed should meet this demand. That means immediately cutting rates and continuing to judiciously provide emergency liquidity. However, once the storm passes Congress and the Fed must address the systemic problems and policy distortions that have been exposed by the current crisis.

The second group is the cold water Yankees who think that any liquidity infusion is a bad idea. They see the Fed and its buddies as having enabled massively underpriced credit, which has in turn led to asset bubbles. While they don’t deny that a refusing to mitigate the credit contraction will cause considerable pain, including a recession, they argue that lowering interest rates now will rescue the perpetrators as well as the victims, merely delaying the day of reckoning, and will set the stage for either even more massive bubbles and an eventual economic collapse, or serious inflation.

They are the true heirs of Puritan Jonathan Edwards, fond of fire, brimstone, and punishment of the guilty.

Despite the moralistic overtones, this group (members include Nouriel Roubini, Andy Xie, Michael Panzner, Marc Faber) has some logic behind its righteous-sounding views. Roubini’s critique is particularly sophisticated. He has pointed out that the credit contraction isn’t simply a liquidity crisis but also a solvency crisis. More credit can’t salvage insolvency and might well fuel more speculation. In addition, he points out the problem of uncertainty: intermediaries don’t know the risk exposures of their counterparties, which makes them reluctant to trade with them. No amount of liquidity will solve an information problem.

The third camp is the realists. They don’t disagree that too much cheap credit for too long has caused this mess, but they think a cold turkey approach creates too much collateral damage. Similarly, central bankers can’t sit around and let markets seize up. Their whole raison d’etre is to promote the soundness and safety of the banking system. It’s not acceptable for them to let major players go belly up on their watch.

This view is particularly strong at the Financial Times, where its well regarded economics editor Martin Wolf and commentator Martin de Grauwe have both takes a page from Walter Bagehot, who advocated that central bankers needed to create some pain even as they were alleviating a crisis. They should lend, but at penalty rates, and only against good collateral.

De Grauwe, using the Bagehot standard, criticized the ECB’s action as indiscriminate; it’s not clear what he would have thought of what the Fed did. Most observers think the discount rate cut was mainly symbolic; the more important move was the statement that signaled it was willing to inject more liquidity, which some regard as shrewd (reassurance may avert the need for action); others as unwise.

Willem Buiter (among other things, a member of the monetary policy committee at the Bank of England) and Anne Siber (advisor to the Committee for Economic and Monetary Affairs of the European Parliament) hew more tightly to the Bagehot line and, say quite bluntly at VoxEu that the Fed blew it:

The Fed’s 17-8-07 move was a missed opportunity. It should have effectively created a market by expanding the set of eligible collateral, charging an appropriate “haircut” or penalty interest rate, and expanding the set of eligible borrowers at the discount window to include any financial entity that is willing to accept appropriate prudential supervision and regulation.….

We believe that this cut in the discount rate was an inappropriate response to the financial turmoil.

The market failure that prompted this response was not that financial institutions are unable to pay 6.25 percent at the discount window and survive (given that they have eligible collateral). The problem is that banks and other financial institutions are holding a lot of assets which are suddenly illiquid and cannot be sold at any price. That is, there is no longer a market that matches willing buyers and sellers at a price reflecting economic fundamentals. Lowering the discount rate does not solve this problem; it just provides a 50 bps subsidy to any institution able and willing to borrow at the discount window.

What the Fed should have done

Instead of lowering the price at which financial institutions can borrow, provided they have suitable collateral, the Fed should have effectively created a market by expanding the set of eligible collateral and charging an appropriate “haircut” or penalty. Specifically, it should have included financial instruments for which there is no readily available market price to act as a benchmark for the valuation of the instrument for purposes of collateral.

There is no apparent legal impediment to doing this….

The fourth view comes from those who believe the problem needs to be reframed and that the solution isn’t simply a matter of interest rate policy but of the larger regulatory framework, which needs to acknowledge and manage the risk of asset bubbles. That likely means more regulation of investment to (at a minimum) limit speculation to those who can afford to take losses.

Australia’s former Reserve Bank Governor Ian MacFarlane (who to our knowledge is the only central banker to successfully deflate an asset bubble) pointed out the dilemma central bankers now face, namely, the lack of a mandate to address asset inflation. Basically, asset bubbles appear to make everyone richer, so puncturing them is unpopular, since they not only create a reduction of asset values, but also slow the economy, thus creating real costs when the degree of danger is uncertain and unprovable. Stephen Roach of Morgan Stanley has more recently echoed some of MacFarlane’s views.

Similarly, Henry Kaufman worried last week about the failure of market discipline to produce healthy outcomes, which means that regulation is necessary.

But despite Kaufman’s belief that more regulation was unpopular and therefore not viable, there seems to be increasing recognition that it may indeed be necessary. Admittedly, the calls are coming first from the liberal end of the political spectrum (witness this piece, “End the Hedge Fund Casinos” by Robert Reich), but if the crisis deepens, these views will become more mainstream.

The balance that needs to be found is between healthy speculation that helps lubricate financial markets, and unhealthy speculation that sucks capital into dubious investments. Now there isn’t, and probably can never be, a precise definition of the difference between one and the other. Like pornography, however, most people will recognize it when they see it (taxi drivers and secretaries leveraging their paltry net worths are among the telltale signs).

However, even now it’s not hard to point to a few things that in retrospect might have put a damper on the recent speculative frenzy. One is that the old “prudent man” and “prudent investor” rules that used to guide fiduciaries’ behavior have gone out the window. If an institution used a fund consultant to invest in products it didn’t understand, it escapes liability.

The formal reimposition of some commonsensical standards that have gone by the wayside might go a considerable way towards addressing the problem. One would be to prohibit fiduciaries from investing in funds or vehicles that fail to disclose their holdings (meaning assets and liabilities) to them on at least a quarterly basis. Pension funds have no business making blind investments. A second would be find some way to put teeth back into the prudent man and prudent investor standards, say by requiring that fiduciaries understand their investments (ie, no outsourcing it). Third would be to increase the threshold for “qualified investors” which has remained static since the early 1980s despite the CPI more than doubling in that time period.

Now these are merely off the cuff suggestions, and some may regard even such relatively minor proposals as the investment equivalent of the unpopular Sarbanes-Oxley rules. But a former corporate general counsel points out that 85% of Sarbox’s requirements were already embodied in general corporate law but were being widely disregarded. Hence the need for seemingly new legislation to improve compliance.

An improved securities regulatory regime may similarly emphasize new respect for old rules that have been widely ignored to our collective peril.

Posted in bonds and loans, economics, regulation | Comments Off on The Four Views of What the Fed Should Do

Stretching Credulity on Identity Theft Costs

Posted on August 21, 2007 by Felix

Yves Smith of Naked Capitalism submits:

A solid article in ComputerWorld tells us that data theft is getting worse. In the ongoing struggle between the security mavens and the data thieves, the bad guys are gaining ground. They are getting more shrewd at targeting victims, even buying marketing lists to hone in on the affluent. They are also careful to avoid being caught. They will wait often a year before utilizing purloined information, and often use only parts of a stolen identity so as to keep the victim from canceling all his accounts. Furthermore, the popularity of social networking plays straight into the fraudsters’ hands, making it easy for them to gather information and distribute malware innocuously.

The figures cited are sobering: identity theft up 50% since 2003, 2.5 million credit card numbers stolen online, phising up 20% in the last year, more than 158 million records of US residents exposed, and according to Gartner, the costs of identity theft doubled last year.

Except for one. Despite evidence of growth on both axes – activity and per incident cost – a consulting firm, Javelin Strategy and Research, claims that:

….prevention and awareness by both consumers and businesses helped reduce the number of adult victims of identity fraud in the U.S. from 8.9 million in 2005 to 8.4 million in 2006, and the dollar amount of fraud dropped 12% from $55.7 billion to $49.3 billion.

Now how could anyone defend such a patently ridiculous finding? Simple. If you look at Javelin’s website, it serves the payments and financial services industry. Who has the most to lose from tougher legislation to prevent identity fraud and make insufficiently careful organizations liable for the losses? The payments and financial services industry.

Although this is a baldfaced example of garbage-in, garbage out, industry-serving PR dressed up as research, it’s far from the most extreme. My favorite was the study by the University of Maine that concluded that lobsters really didn’t mind being boiled alive.

Posted in banking, fraud, statistics, technology | Comments Off on Stretching Credulity on Identity Theft Costs

William Lauder Needs a Lesson on What It Means to Be Public

Posted on August 20, 2007 by Felix

Yves Smith of Naked Capitalism submits:

I’m a bit late to this item from today’s Wall Street Journal because I generally skip its softball CEO interviews. However, they do give corporate leaders the opportunity to make unwitting self revelations. Here, Estee Lauder CEO William Lauder demonstrates that he could use a primer on the basics of public ownership:

On the external side, it’s becoming more and more apparent that many of our outside shareholders are not oriented to the long term. Their definition of long term is a quarter, as opposed to a quarter century, which is our definition….We’ve spent a lot of time over the last three or four years changing our shareholder base, emphasizing long-term shareholders. I won’t be shy about saying that if you’re in it for the quarter, we’re not interested in you.

It’s one thing to declare that you aren’t managing for the quarter, and let investors sort that out for themselves, and quite another for you to pretend you can control who owns your shares when they trade in open markets. Guess this kind of confusion is easy when your last name is on the front door.

Posted in governance | Comments Off on William Lauder Needs a Lesson on What It Means to Be Public

Changing Motivations for Home Ownership

Posted on August 20, 2007 by Felix

Yves Smith at Naked Capitalism submits:

Courtesy Paul Kedrosky at Infectious Greed comes this chart that shows over time how renters’ reasons for taking the plunge into home ownership have changed. While this is a UK rather than US sample, given the similarities in the two cultures, and the runup in property values in both settings, it’s not hard to imagine that a US survey would yield broadly similar results.

Kedrosky highlighted the increased emphasis on housing as an investment. One would expect that motivation to be at least as strong in the US. By contrast, in 1977, far and away the biggest reason to buy a house was having gotten married. Homeownership was seen as part of growing up and putting down roots. How quaint.

Posted in housing | Comments Off on Changing Motivations for Home Ownership

Quel Surprise! Most Traders Would Cheat if They Could Get Away With It

Posted on August 20, 2007 by Felix

Yves Smith of Naked Capitalism submits:

Wall Street appears to come upon its dubious reputation for ethics honestly. A reader survey in Trader Monthly (free registration required; hat tip DealBook) determined that 58% of its 2,500+ respondents said they would trade on inside information if the payoff was $10 million and they had no chance of being arrested. If the odds of arrest rose to 10%, the proportion that was still game dropped to 28%, and if the odds of apprehension were 50%, 7% still thought it was worth doing.

Some guys clearly have a high appetite for risk.

In keeping, the public figure they hated most was Eliot Spitzer (62%).

Posted in fraud | Comments Off on Quel Surprise! Most Traders Would Cheat if They Could Get Away With It

Municipalities May Suffer Subprime Fallout

Posted on August 20, 2007 by Felix

Yves Smith of Naked Capitalism submits:

Gillian Tett, in “Credit compass fails to work,” in the Financial Times (subscription required), uses the woes suffered by monoline insurers such as MBIA and Ambac to illustrate that in our current credit crunch, nobody is sure where the dead bodies lie, which makes everyone suspect.

Monoline insurers provide credit guarantees for securities. They have come under scrutiny recently because their products were one of several means used by underwriters of collateralized debt obligations to enhance the credit quality of the vehicle.

Oddly, Tett does not mention that the monoline insurers’ biggest business is guaranteeing municipal bonds. Thus, if they lose their AAA ratings due to subprime-related damage, it would make it more difficult and costly for municipalities to raise money. The subprime mess continues to reach into unexpected quarters.

However, the monoline insurers may be under a false cloud. They claim to have a mere, manageable 6% of their book exposed to subprime. And people I know who are close to Ambac tell me that the company was aggrieved to have lost market share in real estate securitization to more creative players. Unfortunately, they are now learning that their relatively conservative posture may not have been conservative enough.

Posted in bonds and loans, cities, housing | Comments Off on Municipalities May Suffer Subprime Fallout

Did Bernanke Make a “Rookie Mistake?”

Posted on August 19, 2007 by Felix

Yves Smith of Naked Capitalism submits:

A Bloomberg story, in what may be becoming conventional wisdom, charges Federal Reserve Chairman Ben Bernanke with making a novice’s error:

By lowering the discount rate and issuing a statement conceding threats to the economy, Federal Open Market Committee members effectively ripped up the economic-outlook statement from their Aug. 7 meeting. Some economists describe the about- face, coming after months of assurances that the subprime- mortgage rout was contained, as Chairman Ben S. Bernanke’s first serious error since taking office last year.

“It was a rookie mistake,” said Kenneth Thomas, a finance professor at the University of Pennsylvania’s Wharton School in Philadelphia. The Fed “underestimated liquidity needs” of investors and the fallout from the housing recession, he said, adding, “This demonstrates the difference between book-smart and street-smart.”

Note that the dig at Bernanke’s academic credentials may not simply be to contrast him with Greenspan. Arthur Burns, the last Fed chairman with a similarly illustrious scholarly pedigree, was considered to have been particularly ineffective.

But is this criticism fair? Now that Greenspan is out of power, commentators have become increasingly willing to blame him for overly cheap credit which is now being repriced with a vengeance. Indeed, veteran investor Jeremy Grantham went as far to declare the existence of the first worldwide bubble covering all asset classes.

So if you believe Grantham (and he has plenty of company, from uber-bears like Nouriel Roubini and Marc Faber to conservative types like Bill Gross at Pimco to opportunists like Jim Rogers), Bernanke inherited a huge mess.

The Fed wasn’t wrong to be worried about inflation. In fact, some economists and investment pros have taken issue with the Fed’s reliance on core inflation, rather than broader inflation measures which include more volatile and more rapidly rising food and energy costs. And others have argued that the methodology used for including housing in CPI measures understates housing cost increases.

But the Fed has very few tools at its disposal. Monetary policy is a blunt instrument, and it is very easy for the Fed to undershoot, or as Greenspan did, overshoot.

The Fed will be almost certainly be criticized heavily no matter what course of action it takes. Bernanke’s biggest error to date is not his decisions but his stage management. Greenspan’s impenetrable statements and his widely touted obsession with statistics shrouded him in a Wizard-of-Oz-like mantle. Bernanke, with his desire for greater transparency, opened the curtain at the worst possible moment.

Posted in fiscal and monetary policy, regulation | Comments Off on Did Bernanke Make a “Rookie Mistake?”

Beware of Consultants Bearing Data

Posted on August 18, 2007 by Felix

Yves Smith of Naked Capitalism submits:

Sometimes I wonder whether it is consultants or the Street who is more skilled in the creative presentation of information.

Deal Blogs tells us that the Boston Consulting Group has produced groundbreaking research, touted as the biggest non-academic study of M&A ever done, that “shatters” myths.

Although I will confess to having read only the press release, I’m far from convinced. There’s some slippery logic involved in the development of these supposedly novel conclusions:

Although 58.3 percent of deals between 1992 and 2006 destroyed value for acquirers, with a net loss of 1.2 percent for all transactions, the average deal produced a net gain to shareholders of 1.8 percent when returns of the targets are taken into account. Moreover, the majority of deals (56 percent) created value for the combined set of shareholders. In addition, acquirers in several industries, including automotive and retail, created value, on average, as did acquirers in the Asia-Pacific region.

First, this study broadly confirms the findings of every academic ever done, namely, that most deals fail (failure defined as destroying value for the acquirer). The failure rate is typically between 60% and 75%, so BCG’s 58.3% is barely outside the normal range, which might be due to the selection of a timeframe whose starting point just happens to be at the beginning of the 90s bull market.

Second, the inclusion of returns to the target shareholders is specious. And even if it wasn’t, a mere 1.8% gain (over what time frame? It has to be several years, and I suspect the figure is expressed as gross gain, rather than on an annual returns basis) is almost certain to be inadequate given the disruption, risks, and management effort involved.

And the report sets up straw men:

It’s commonly assumed that PE firms have gained an increasingly large share of the M&A market by using their huge reserves of capital to pay over the top for targets. But BCG’s analysis indicates that, on average, PE firms pay lower multiples and lower acquisition premiums than “strategic” buyers.

Commonly assumed by whom? Most people I know recognize that a strategic buyer will usually bid more aggressively than a financial buyer. The strategic buyer has whatever value he ascribes to synergies on top of the straightforward financial returns that a PE pro considers. The only time a PE firm can be expected to bid up a property beyond its stand alone economic value is in a consolidation play. Then it has considerations similar to a corporate buyer.

The reason corporate buyers have been comparatively quiet is that companies have become acutely risk averse. Cutting costs, outsourcing, and buying back stock have seemed more attractive than doing deals.

Of course, to learn all you really need to know about the study, consider this section of the press release:

“We are seeing a return to normalcy, which is healthy,” said Jeff Gell, a Chicago-based partner and coauthor of the report, upon its release. “Prices and leverage will come down slightly, but volumes will remain high as the strategic need for most deals is still present. Companies are still sitting on excess cash that they need to deploy, and private equity funds still have large war chests that they need to put to work.”

Interesting how one man’s normalcy is another’s twenty-five standard deviation event.

Posted in M&A | Comments Off on Beware of Consultants Bearing Data

More on AT&T/iPhone (and Now BlackBerry) Woes

Posted on August 17, 2007 by Felix

Yves Smith of Naked Capitalism submits:

Can AT&T do anything right? First, they botch the iPhone launch by having widespread, and terribly painful-to-resolve activation problems. Then they upset customers and environmentalists by sending never-witnessed-before-in-the-history-of man tree-killingly long monthly bills (the unveiling of one 300 page bill has achieved YouTube fame). Then Felix told us about the frightening international phone charges (a friend racked up a $5,000 bill for a mere two weeks in the UK) and later informed us of a second sap who racked up a similarly huge bill.

Now in a particularly bizarre episode of corporate illogic, Blackberrycool.com informs us that AT&T has locked down GPS functionality in Blackberry’s soon-to-be-released 8820. Why? So it won’t outclass the iPhone. But the BlackBerry is an enterprise device. It isn’t supposed to compete with the iPhone.

So AT&T seems, whether by design or mere incompetence, out to alienate its customers. Everyone I know who has an iPhone (a decent sample, since I hang with some Apple fanatics) hates the AT&T service: lousy coverage and lots of dropped calls even in Manhattan. If you can’t get it right in the most densely populated city in the US, how much worse is it elsewhere?

And to return to Felix’s thread about the iPhone’s heart-attack-inducing roaming charges: it isn’t just that AT&T has high (well, really high) overseas phone charges. The few people who don’t know that making or taking phone calls from overseas is pricey inevitably get a rude awakening. It just happens to be particularly rude with the iPhone.

But iPhone users who try to be prudent and limit their roaming use to data still get killed. And the data roaming charges are not only punitive, but also not easy to find.

A buddy made inquiries and somehow couldn’t get a clear answer as to what the data charges for roaming were, until it was spelled out in nauseating detail on his bill. Only then did he learn the charges were a vertiginous 2 cents per kb. The damage after a couple of weeks in London of not-heavy text and occasional map-checking use?

$900.

But fear not, he doesn’t get the prize. It turns out the chump that racked up the second $5,000 bill did it on data charges only, no calls at all. His comments:

Well as you may have guessed by now these are all charges for using the edge network while roaming internationally (in England). No phone calls mind you just data. According to AT&T that’s at a rate of $2 cents per K! WTF? Why don’t you rape me and my whole family while you’re at it? From all you can use for $20 bucks a month to $2 cents per K?! $20 per web-page? Are you INSANE?

That’s like charging you $2 cents per molecule of gas for you car!

Posted in technology | Comments Off on More on AT&T/iPhone (and Now BlackBerry) Woes

Rate Cut Linkfest

Posted on August 17, 2007 by Felix

Yves Smith of Naked Capitalism submits:

I was planning to pen a nice meaty piece on what the Fed should do, and now they have gone ahead and done it, which means I have to write something very substantive. I will get to that later, but in the meantime, here is a roundup of some good posts:

Cassandra depicts the credit crunch as a horror movie, with the audience wondering whether another reel is coming.

Russ Winter fulminates that throwing cash at Ponzi finance won’t prevent the inevitable day of reckoning.

Long or Short Capital is predictably irreverent.

And not as predictably, so is Minyanville.

And the serious types weigh in too:

FT Alphaville quotes analysts who, on the whole, are not impressed.

Andrew Russ Sorkin at the New York Times’ Dealbook wonders whether the Fed blinked.

Posted in fiscal and monetary policy | Comments Off on Rate Cut Linkfest

The Fed Kills the Shorts?

Posted on August 17, 2007 by Felix

Yves Smith of Naked Capitalism submits:

Given how extraordinary the Fed’s half point (not mere quarter point) discount rate cut of this morning was, and how the markets had been clamoring for it, you’d think we’d see more of a bounce in the Dow than the mere 160 ish points it is up as of this writing (that has come to constitute mere daily noise).

Of course, a discount rate cut is not a Fed Funds cut, but perhaps most important was the information content of this move. Bernanke has signaled that he is the true heir of “Greenspan put” Al. And in keeping, the language in the Fed’s statement shifted away from the threat of inflation, saying the risks to growth had risen “appreciably.”

The underwhelming response in the stock market is surprising given that this is an options expiration day and traders bet heavily on the short side. Per Toro at Seeking Alpha, who wrote this before the rate cut:

So the question is do we buy here?

If you are a trader, I think the answer is “yes.” I expect the market to rally, maybe hard, today and into next week. We are very oversold.

The technicals say we are. By almost every indicator I look at, we are at extreme levels. Also, as I understand it, today’s options expiration is leaning heavily to the puts, which will force market participants to buy stock to cover.

Perhaps the rumors of high put levels were overdone, or perhaps we’ll see a big move in the last hour of the trading day.

Posted in banking, fiscal and monetary policy, regulation, stocks | Comments Off on The Fed Kills the Shorts?

Paul Krugman Does a Hail Mary Pass

Posted on August 17, 2007 by Felix

Yves Smith of Naked Capitalism submits:

The estimable Paul Krugman, in his regular New York Times op-ed column, tells us (subscription required) that mortgage borrowers in the US are feeling a world of hurt. The pain is moving up the food chain beyond stressed subprime borrowers into the Alt-A pool (which truth be told, never was much stronger than the subprime cohort, so this development was anticipated). And he argues that “widespread malfeasance” was a big part of the problem, depicting the rating agencies as enablers, much as the major accounting firms were in the Enron and World Com scandals.

So far, fair enough. But then we get to this:

Yet our desire to avoid letting bad actors off the hook shouldn’t prevent us from doing the right thing, both morally and in economic terms, for borrowers who were victims of the bubble……Consider a borrower who…. is facing foreclosure. In the past,….the bank that made the loan would often have been willing to offer a workout…..

Today, however, the….mortgage was bundled with others and sold to investment banks, who in turn sliced and diced the claims to produce artificial assets….. And the result is that there’s nobody to deal with.

This looks to me like a clear case for government intervention: there’s a serious market failure….The federal government shouldn’t be providing bailouts, but it should be helping to arrange workouts….

The mechanics of a domestic version would need a lot of work, from lawyers as well as financial experts. My guess is that it would involve federal agencies buying mortgages — not the securities conjured up from these mortgages, but the original loans — at a steep discount, then renegotiating the terms. But I’m happy to listen to better ideas.

Lordie. First, I have to differ with Krugman’s premise. Borrowers should NOT be rescued wholesale from having participated in a real estate bubble. That is no different that being rescued from participating in a stock market bubble (oh wait, we did sort of do that, via Greenspan dropping interest rates to 1%. But events of last week have shown that wasn’t such a hot idea after all). Yes, there was fraud perpetrated by both lenders and borrowers. And when the lenders defrauded borrowers via inadequate or misleading disclosure, I’m all for ways to rescue the borrower and make the perps pay.

But Krugman is talking about a massive rescue, of the hapless, the greedy, and even the fraudsters. And he airly waves his magic wand and says the government should step in and buy mortgages and arrange workouts.

This is a Herculean task. It wouldn’t simply require a massive rewriting of lots of rules. To cut through the Gordian knot of the complexity of the disposition of mortgage paper (much of it went into collateralized debt obligations, which were resecuritized and sold in tranches, which then sometimes would up as constituents of yet other instruments, such as “CDO squared” (CDOs of CDOs) or “CDO cubed” (CDOs of CDOs of CDOs) or synthetic CDOs (the cashflows from writing protection via credit default swaps on CDOs would be aggregated, tranched, and sold as a new CDO) is impossibly difficult to achieve via modification of specific deals, or rules around particular deals. (And I’m not going to get into what it would take to create a new Federal effort to renegotiate the loans it acquired. Remember the Resolution Trust Corporation of the S&L crisis? All they did was buy bad bank assets and sell them wholesale at the best price they could get. That was still a very big undertaking, but Krugman’s effort would require large scale hiring of banker types to negotiate loans individually.)

You’d need an expropriation of assets. And that would constitute such a major violation of property rights and contractual law as to call into question the viability of the US as a place to sell securities.

But to his credit, Krugman’s proposal would have the salutary side effect of scaring an entire generation of financiers away from designing and selling funky paper.

Posted in banking, housing, regulation | 1 Comment

The MySpace-WSJ Barbell

Posted on August 17, 2007 by Felix

WSJ.com had 4.5 million unique visitors in

July. That’s less than the LA Times, and less than a third of what nytimes.com

gets. Even a second-tier blog like consumerist.com can boast

over 2 million uniques. Remember that nytimes.com competes with hundreds of

general-news sites globally. WSJ.com competes with a mere handful of financial-news

websites, some of which (like Bloomberg.com) are barely trying. If and when

Rupert Murdoch makes WSJ.com free, expect its site stats to

go through the roof. Between MySpace and WSJ.com, he’ll have a nice barbell

strategy going.

Posted in Media, publishing | Comments Off on The MySpace-WSJ Barbell

Pearlstein Looks for a Fed Bailout

Posted on August 17, 2007 by Felix

If financial markets are frothy for a while and then revert to sensible levels

– but don’t overshoot – then does that constitute a fully-blown

financial crisis? Steven Pearlstein certainly

thinks so, in this morning’s Washington Post.

The gist of his argument is that policymakers should step in, now, to rescue

the markets from themselves. And if the markets really are having a devastating

effect on the economy, then maybe that’s the right thing to do. (He sounds a

bit like Jim Cramer: no, I don’t want to bail out my sell-side

buddies, I just want to help poor homeowners.) But I didn’t hear Pearlstein

calling on the Fed to raise the discount rate when markets were going up. And

in general central banks have a heard enough time managing inflation; asking

them to manage something as unpredictable and irrational as the financial markets

is asking far too much.

The beginning of Pearlstein’s column is a recitation of financial-sector activity

in recent weeks: stock markets going down, the yen going up, that sort of thing.

Now I don’t think anybody would say that stocks are undervalued at present levels,

or that the yen is overvalued. This is only a financial crisis if you assume

that everybody bought at the top of the market and has therefore lost a lot

of money. But the S&P opened the year at 1,1418; it now stands at 1,411.

Long-term investors are still sleeping quite well at night.

To be sure, there are other indicators which are a long way from normal, mainly

at the ultrashort end of the yield curve. The money-market and commercial paper

markets have seized up in a very worrying way – but global central banks,

with their large liquidity operations, seem to be responding to that in textbook

fashion.

But don’t you know that this credit crunch is having real effects on the real

economy?

It’s to the point that, according to the Financial Times, Goldman Sachs and

Deutsche Bank have withdrawn their offer to raise $1 billion for MGM studios

to finance production of films including "The Hobbit" and the next

"Terminator" and James Bond movies.

Er no, it really isn’t to the point at all. Goldman Sachs and Deutsche

Bank are not the kind of entities which should be involved in the business of

film production, and the fact that they were getting involved was just another

sign of the bubble. The fact that they’re now having second thoughts is a sign

of the real economy moving back to "rational" from "silly".

Pearlstein tells us that "financial markets now drive the real economy

every bit as much as economic factors drive financial markets", which is

true, I guess, if only because economic factors don’t drive financial markets

very much at all. Global financial markets have in recent years been driven

much more by liquidity than by fundamentals, so it makes sense that if and when

that liquidity dries up, then the markets will fall. In the real world, however,

which is increasingly dominated by services rather than goods, I fail to see

that rising credit spreads will have any effect whatsoever on soaring passenger-miles

in the airline industry, say, or Americans’ seemingly insatiable appetite for

nail salons.

That said, I agree

with Pearlstein on the Fannie and Freddie front – yes, they should be

allowed to buy more mortgages and thereby help out on the mortgage-liquidity

front. And I also agree

with Pearlstein that it would make sense for the Fed to cut its discount rate.

But I don’t think it’s the job of the Fed or anybody else to buy yen in an

attempt to bail out speculators losing money on their carry trades. (Update:

As tinbox points out in the comments, this doesn’t even make

sense. If the Fed wanted to bail out speculators, it would have to sell

yen, not buy yen.) And I don’t even think it’s right for US and European central

banks to hint at future rate cuts if that’s not genuinely on their agenda. Pearlstein

says that doing so

would reassure uneasy businesses and consumers that economic policymakers

are not so intent on "punishing" investors and lenders for their

bad bets that they are willing to force billions of innocent bystanders to

suffer as well.

But policymakers aren’t intent on "punishing" anybody – they’re

just saying that speculators who gain from asset prices rising should also occasionally

lose from asset prices falling. And right now, I see no indication that "billions

of innocent bystanders" are really suffering at all.

Posted in economics, fiscal and monetary policy | Comments Off on Pearlstein Looks for a Fed Bailout

Bear Got a Sugar Daddy?

Posted on August 16, 2007 by Felix

Yves Smith of Naked Capitalism submits:

Bloomberg tells us that Bear Stearns’ shares rose 13% on an analyst’s comments that the firm “may” have secured an equity investment.

Now events may prove me wrong, but Bear has been out looking for a partner for some time, and rumor was that the logical chumps, the Chinese, had wised up after the Blackstone IPO investment. And the wording of this supposed tidbit is awfully conditional.

No sensible investor would make a straight equity contribution (you’d want a preferred return, a board seat or two, vetos on certain matters), and Bear would therefore restrict his right to resell. Having an illiquid minority investment in any firm, much the less a securities firm, is not a pretty place to be.

Things need to get considerably worse for this sort of paper to be priced cheaply enough to be worth the risk. But those blood-in-the-street moments present opportunities galore for the brave, and I’m not sure where Bear would be on the list at that juncture.

Posted in investing | Comments Off on Bear Got a Sugar Daddy?

Carry Trade Unwinding? It Looks Real This Time

Posted on August 16, 2007 by Felix

Yves Smith of Naked Capitalism submits:

We hate to focus on bad news, but it’s that sort of day.

And of the bad news out there, the most troubling is the unwinding of the carry trade.

For those of you not familiar with this phenomenon, it consists of borrowing in currencies that have low interest rates and then investing the proceeds in countries and assets that offer higher returns. It’s been compared to picking up nickels in front of a steamroller, because if the currency you are borrowing in appreciates, you have to pay back more than you borrowed, which can wipe out any profits on your clever investment strategy.

The currency at the center of the carry trade is the yen due to its near zero interest rates. Many observers (yours truly included) incorrectly expected the carry trade to unravel during the volatile markets of early March. The yen started to appreciate, and if the hedge funds, who had been active in the carry trade, started to cover their positions, it would fuel a further rise. It’s the currency version of a short squeeze.

But lo and behold, Japanese retail investors turned out to be even bigger players than the hedge funds. And when the yen went up, that meant it had even more buying power in foreign currency terms. So they’d sell yen, driving the currency back down.

This situation led to considerable handwringing. The carry trade has become so massive that it had become a considerable source of global liquidity (even the retail traders are leveraged, using margin accounts to hold down positions considerably in excess of the capital they have put at risk). Yet the Japanese authorities were unwilling to intervene, because the strategy was, until recently, profitable and popular.

While we haven’t yet heard from Mrs. Wantanabe (the prototypical Japanese retail currency trader), it appears that Japanese investors are dumping their foreign positions due to the market turmoil (New Zealand and Australia were particularly popular, but the US was on the list as well). As Bloomberg tells us:

The yen advanced the most against the dollar since 1998 as a global rout of stocks and credit markets pushed investors to sell riskier assets funded by loans in Japan.

The yen is the strongest most-actively traded currency today as the carry trades unwound. Global stocks tumbled and companies from Australia to Canada sought emergency funds as they were unable to refinance debt. The last time the carry trade crashed was in 1998 after Russia’s debt default in August. The yen gained 20 percent in less than two months.

“The market is in panic mode,” said Michael Woolfolk, senior currency strategist at the Bank of New York Mellon in New York, the world’s largest custodian bank with over $20 trillion in assets under administration. “It is a full-blown unwinding of the carry trade. This is just the beginning.”

The currency was up to as high as 112 yen against the dollar, It wasn’t that long ago that it was stuck in the 122-123 range. This is a serious move and is likely to lead to new-found caution in Japan.

And how bad could it get? Tim Lee, an economist, gave a very grim view in a comment in the Financial Times

Ultimately there must be a sharp convergence of exchange rates with fair values, inflicting heavy losses on carry trades. The size of the global carry trade is at least $1,500bn and losses from a convergence of currencies with fair values could total about $550bn with most of these losses accruing to leveraged speculators……

For the US, this is confirmed in the ratio of personal sector net worth to GDP. Prior to 1995, this ratio tended to fluctuate at about an average of 3.4. Now, despite the paucity of savings in the US economy, the ratio stands at 4.1. A return to the long-run average would imply a fall in US personal net worth of approximately $10,000bn. With similar trends mirrored across much of the world, total global losses from the coming financial meltdown could easily reach $25,000bn to $30,000bn.

Central banks are likely to attempt to ratify current inflated asset values by inflating prices and incomes to avoid a deflationary economic collapse. Unfortunately, sharp reductions in interest rates in the US, UK and the euro area will lead to a rapid unwinding of the global carry trade, perversely threatening to worsen problems in the credit markets.

Ouch.

Posted in foreign exchange | Comments Off on Carry Trade Unwinding? It Looks Real This Time

Our Fragile Financial System

Posted on August 16, 2007 by Felix

Yves Smith of Naked Capitalism submits:

Fragility seems to be the word on everyone’s lips today. As reported in the Financial Times, UBS market strategist William O’Donnell said that the commercial paper markets had dried up and, “Now the buyers are only interested in Treasury bills.”

Overnight, Rams, an Australian home lender that, while not exposed to US subprime, had been making no-down-payment mortgages in Australia, was unable to extend $5 billion of commercial paper and had to seek emergency funding. Similarly, in Canada, ten financial institutions are orchestrating a bail-out of certain commercial paper trusts to alleviate a seize-up in its $37 billion CP market.

No wonder we have comments like this. From economist Thomas Palley:

As recently as ten days ago Fed policy was focused on containing inflation. Now, within the blink of an eye, the evaporation of confidence among Wall Street lenders has created conditions warranting an emergency rate cut to save the economy. This power of financial markets is rooted in a new business cycle that emerged in the 1980s and which has made the economy increasingly dependent on debt to fuel expansions. The creation of debt in turn relies on highly leveraged financial intermediaries that package and re-package loans while promising liquidity they are unable to deliver. As a result, the system has become fragile.

Similarly, from Harvard’s Dani Rodrik:

But financial fragility surely has implications for the real economy. Is this the necessary downside of a sophisticated financial system? Or can we do better with an improved regulatory and prudential structure?

Now when the dust settles, we are sure to see a rewriting of recent financial history and in particular, some tough questions put to regulatory who gave cheery assurance that everything was for the best in this best of all possible worlds of financial innovation.

The sad thing is that it will be Timothy Geithner, president of the New York Fed, who had in general been forthcoming, who is likely to get a lot of heat. He was put in the no-win position of being asked to lead oversight of derivatives and other new products, when he suffered the double disadvantage of not having any real regulatory authority and being given that role in a Fed philosophically opposed to meaningful supervision.

Nevertheless, it’s not clear whether Geithner drank the Kool-Aid or simply felt constrained to make only anodyne comments. From a March speech:

In systems where credit is more market-based and more credit risk is in leveraged financial institutions outside the banking system, a sharp rise in asset-price volatility and the concomitant reduction in market liquidity, can potentially have greater negative effects on credit markets. If losses in these institutions force them to withdraw from credit markets, credit availability will decline, unless or until other institutions in a stronger financial position are willing to step in. The greater connection between asset-price volatility, market liquidity and the credit mechanism is the necessary consequence of a system in which credit risk is dispersed outside the banking system, including among leveraged funds. This does not make the system less stable, though, only different. For if risk is spread more broadly, shocks should be absorbed with less trauma. Moreover, the system as a whole may be less vulnerable to distortions introduced by the moral hazard associated with the access that banks have to the safety net.

A second issue we need to consider stems from the complexity of the new credit instruments, the challenges they present in terms of valuation and risk measurement and their short history of experience in times of stress.

Even the most sophisticated participants in the markets for these instruments find the risk management challenges associated with these instruments daunting. This raises the prospect of unanticipated losses. Default rates are harder to predict where there has been a substantial change in the financial attributes of borrowers. The prices of instruments may not respond as expected to a given change in losses or in the value of the assets underlying these instruments. Hedging strategies may prove to be less effective than expected. Similarly rated instruments can behave very differently in stress events….

A third issue relates to the dynamics of failure and the infrastructure that supports these markets. The dramatic growth in the volume of over-the-counter derivatives and the growth in the number and size of leveraged funds inevitably complicate the resolution of the failure of a large financial institution that is active in these markets. The sheer number of financial contracts that would have to be unraveled in the context of a default, the challenge that a former colleague of mine likes to refer to as “unscrambling the eggs,” could exacerbate and prolong uncertainty, and complicate the process of resolution…

All these challenges merit attention. They describe some of the risks that have accompanied the substantial benefits of credit market innovation. And they help illustrate why these broad changes in financial markets may have contributed to a system where the probability of a major crisis seems likely to be lower, but the losses associated with such a crisis may be greater or harder to mitigate….

It seems that Geithner, like the quants, underestimated tail risk.

Posted in banking, derivatives, regulation | Comments Off on Our Fragile Financial System

How Hedge Fund Managers Apologize

Posted on August 16, 2007 by Felix

I know I’m meant to be on holiday, but this is just genius and I had to share

it: Paul Kedrosky has shoved 3,085 words of hedge fund manager

non-apology apologies into Microsoft Word’s Auto-Summarize feature and boiled

them down to two sentences.

To that end, we’ve already seen increased client demand for our aggressive

market-neutral equity fund. From speaking with our colleagues and large allocators

in the market-neutral space, we understand that many market-neutral funds

have suffered 5-to-15% losses so far in August.

It’s hedgies in a nutshell. There’s no such thing as a meltdown, just a buying

opportunity! And it’s not us, it’s everyone!

Has any hedge fund manager, ever, written a letter to investors simply saying

"I’m sorry, I got it wrong, and I lost your money"?

Posted in hedge funds | Comments Off on How Hedge Fund Managers Apologize

Moody’s: An LTCM Type Failure Possible

Posted on August 16, 2007 by Felix

Yves Smith of Naked Capitalism submits:

According to Bloomberg, Moody’s has alerted investors to the possibility of a repeat of the 1998 Long Term Capital Management hedge fund crisis.

We should be so lucky. As we have said before, the LTCM crisis has been widely, and in our opinion, mistakenly seen as a vindication of the workings of the financial system. The perps suffered, the markets were saved.

Reality is more complicated. It was lucky indeed that the risks, however great they were, were confined to one massive player. This enabled the powers that be to understand the situation (LTCM had to go over all its positions with its counterparties) and devise a bail-out.

If you read any of the books that covered this event, such as Roger Lowenstein’s “When Genius Failed,” you will see how this exercise consumed a tremendous amount of senior management attention at all the top Wall Street firms, and also required a lot of legal horsepower. It’s hard to imagine Wall Street having the managerial capacity to run several operations like that in parallel.

What happens if you have several large firms coming unglued at more or less the same time? In a calmer market, you might have the same result as with the Amaranth failure: some good news copy, a bit of schaudenfreude, and then back to business as usual. But as with the subprime mess and seize up in the commercial paper market, given how opaque hedge fund holdings are, any fund trading in a similar style to a hedge fund that got in trouble would be at risk of having its credit facilities cut, which would lead to forced selling, which would deepen the crisis (the alternative is that the funds would have to go expose their positions to their prime brokers to prove their solvency, something they have refused to do).

So all things considered, we should be glad if all we have is an LTCM-style problem.

Posted in Portfolio | Comments Off on Moody’s: An LTCM Type Failure Possible

A Wee Introduction

Posted on August 16, 2007 by Felix

Yves Smith of Naked Capitalism submits:

As you may know, Felix Salmon has been so kind as to give me the keys to the castle while he is away on holiday for the next few weeks. It’s particularly sporting of him, given that we have disagreed a few times (as you will see, I am a bit of a curmudgeon, while Felix is a more upbeat sort).

He will be posting from time to time while he is away, but in the interim, I hope you enjoy having a different perspective! Any comments very much appreciated.

Posted in Announcements | Comments Off on A Wee Introduction

Yves Smith, Market Mover

Posted on August 15, 2007 by Felix

OK, that’s enough, I’m taking the rest of the week off. In fact, I’m going

to spend the next three and a half weeks in Europe. I should be blogging pretty

frequently for much of that time. But in any event, I’m very excited to say,

the inestimable Yves Smith, of Naked

Capitalism fame, is going to step in here and give you some genuinely knowledgable

analysis rather than the knee-jerk reactions you’re used to from me. Don’t get

too spoiled, now!

Posted in Announcements | Comments Off on Yves Smith, Market Mover

When Dynastic Control Fails

Posted on August 15, 2007 by Felix

Equity Private says that dual-class share structures don’t

do what they’re designed to do:

If there ever was a nightmare that Dow Jones’ elaborate dual class structure

was designed to avert, it was certainly Murdoch’s News Corp.

But then again, she also says that WSJ journalists "are among the lowest

paid" in the industry, which I think just means that she has no idea what

they pay over at the FT.

EP does say, quite rightly, that "one cannot decouple the pressures of

financial accountability from the management oversight process and expect no

long-term governance effect". But she also says that such a decoupling

is "the very explicit and stated purposes of most media dual class structures,

including that of Dow Jones," which I think is wrong.

A dual-class structure exists to allow a founding family to continue to control

a company even when they don’t own the majority of the stock. Now if that family

is Sulzbergers or Murdochs, the controlling family actually has day-to-day responsibility

for running the company, and the dual-class structure works likes it’s meant

to.

EP is quite right that Murdoch won his takeover battle largely because of "the

complete lack of cohesiveness of the Bancroft clan" – but I think

that lack of cohesiveness has less to do with the sheer number of Bancrofts,

as EP suggests, than it has to do with the fact that no Bancroft has had an

executive role within Dow Jones in living memory.

EP puts forward a Law of Dynastic Deterioration:

"On a long enough timeline the effectiveness of any dynastic control

mechanism drops to zero."

I think this is a bit like saying "too much X is bad for you" –

it’s basically tautological. On a long enough timeline, anything will

happen. Let me try my own law:

"The effectiveness of any dynastic control mechanism is directly proportional

to the degree of executive involvement of the dynasty in question."

Families can control companies only if they run them. When they give up running

the company, they’ll inevitably lose control sooner or later.

Posted in Media, publishing, stocks | Comments Off on When Dynastic Control Fails